NEW YORK--(BUSINESS WIRE)--Fitch Ratings assigns an 'AA+' rating to the following Boston Water and Sewer Commission, MA (BWSC, or the commission) revenue bonds:
--$100 million general revenue bonds, 2014 series A.
The bonds are expected to sell via competition the week of July 21. Bond proceeds will be used to finance certain capital improvements previously financed with outstanding commercial paper, fund additional capital improvements of the commission, make a deposit to the debt service reserve fund, and pay issuance costs.
In addition, Fitch affirms the 'AA+' rating on the commission's outstanding general revenue bonds.
The Rating Outlook is Stable.
The bonds are secured by a first lien pledge of the net revenues of the commission's combined water and sewer. Additionally, the bonds carry cash-funded debt service reserve funds.
KEY RATING DRIVERS
ESSENTIAL SERVICE PROVIDER: The commission provides an essential service to a large and diverse area. Boston remains the economic anchor for the region, providing residents with diverse employment opportunities and high-paying jobs. The mostly residential customer base remains stable and lacks concentration.
INDEPENDENT RATE-SETTING: Rates are set by the board, independent of any regulatory or other governmental oversight.
STRONG MANAGEMENT TEAM AND GOVERNANCE: Financial operations and capital planning efforts are guided by a strong and tenured management team. Governance is provided by a three-member board appointed by the city's mayor.
LARGE WHOLESALE CUSTOMER: As a large customer of the Massachusetts Water Resource Authority (MWRA), the commission's operations are limited to potable water distribution and sewer collection only. However, the commission remains somewhat vulnerable to MWRA cost increases and capital needs.
LIMITED OPERATIONS MITIGATE LOWER FINANCIAL METRICS: Financial results are somewhat lower compared to similarly-rated systems, although the limited operations partially offset the need for more robust margins and liquidity. In addition, bondholders are afforded a lien on revenues that is prior to any payments made to MWRA.
MANAGEABLE CAPITAL PLAN: Needs are manageable and extend ongoing renewal and replacement of the system, sewer and storm separation projects, and inflow and infiltration mitigation. A 2012 consent decree will not materially impact the capital plan.
SLOWLY RISING DEBT: The issuance of the 2014 bonds coupled with the anticipated issuance of additional debt in 2017 increases the pro forma debt burden. However, debt ratios are moderate when compared to other large urban systems, and currently low debt carrying costs and fairly rapid amortization provide the commission with flexibility, and somewhat offsets the rising debt burden.
RATING STABILITY EXPECTED: The rating is sensitive to fluctuations in various credit fundamentals including financial and operating performance, capital needs and debt levels. The Stable Outlook reflects such changes are not anticipated at this time.
LARGE ESSENTIAL SERVICE PROVIDER, DIVERSE CUSTOMER BASE
The BWSC is an independent water distribution and sewer collection provider serving the residents of the city of Boston, MA (general obligation bonds rated 'AAA', a Stable Outlook by Fitch). The commission serves a population of approximately 630,000 residents and a customer base of close to 88,000 retail water and sewer accounts in fiscal 2013. Finished water supply and wastewater treatment is provided by MWRA (general revenue bonds rated 'AA+', Stable Outlook).
Population and customer account growth over the past decade have been limited, averaging about 1% annually. No revenue or usage concentration exists among the commission's customer base, the vast majority of which is residential. The system's 10 largest users include the following stable entities: the city of Boston, the Boston Housing Authority, the Massachusetts Port Authority, and Boston University, and account for a moderate 14% of total revenues.
LONG-TENURED MANAGEMENT AND GOVERNING BOARD
The commission's strong and consistent management is a key rating consideration. Governance is provided by a three-member board of commissioners, appointed by the mayor and subject to city council approval. Board members serve four-year staggered terms and may be reappointed as terms expire. Two of three board members have served for multiple terms. The current board chair, while in his first term with the commission, is a practicing attorney with extensive experience in the utility sector. Day-to-day operations are managed by an experienced and tenured staff, many of whom have been employed by the commission for several decades. Fitch views the working relationship between senior personnel and the board as strong.
ROBUST SERVICE AREA CHARACTERISTICS
Boston remains an economic anchor for the region and a center for life sciences, finance, business and professional services, with a favorable concentration of hospital and higher education institutions. Unemployment in the greater Boston-Cambridge-Quincy metropolitan area remained relatively low at 5.0% in April 2014, below the April 2014 unemployment rates for the commonwealth and the nation of 5.9% and 6.3%, respectively.
Median household income and per capita income levels are about even with national figures but rank well below the surrounding county and state. The commission's collection rates remain consistently at or close to 100%, aided by rigorous enforcement provisions and careful oversight. Bad debt write-offs are typically negligible.
INDEPENDENT RATE-SETTING, RATES TO RISE
The commission is empowered to independently set rates and charges for water and sewer services. Management typically takes a measured approach to raising rates with annual increases that are projected to be sufficient to fund required reserves, necessary capital projects and keep pace with rising MWRA assessments (which approximate 61% of annual commission expenditures).
The commission has consistently passed manageable rate increases, which is viewed positively. However, while rates are currently affordable, additional increases are necessary to meet a projected rise in wholesale service costs and ongoing capital needs. As a result, rates are projected to rise above Fitch's affordability threshold of 2% of median household income (MHI) by fiscal 2016.
Rate hikes levied by MWRA have trended downward in recent years as capital needs decline; however, rates are still projected to rise. MWRA boosted rates on average a moderate 3.6% annually over the past five years and expects 4.6% annual increases through 2019. In turn, the commission anticipates increasing its rates by an average of about 5.1% over that period, raising the currently affordable monthly residential bill of $76 to approximately $97 by fiscal 2019, or 2.3% of MHI.
Fitch is less concerned about rate affordability related to the commission given the smooth implementation of rate increases to date and the relative competitiveness of existing rates for the region However, rates will need to rise consistently over the intermediate term to provide enough funding to adequately maintain system assets, meet various policies for maintaining reserves, and to offset the increasing charges from MWRA.
SOUND FINANCIAL PROFILE, STABLE RESULTS EXPECTED TO CONTINUE
The commission's financial operations are well-managed and stable, resulting in satisfactory annual debt service coverage (DSC) and sound reserves. Most financial ratios are below average for the rating, although lower metrics are somewhat offset by the commission's limited operating profile and strong fiscal oversight. Of some concern is the commission's low margins and free cash flow (FCF) ratio, which has averaged 64% of depreciation for the past five years. The low FCF ratio indicates the commission does not generate enough excess cash (after operating expenses and debt service have been paid) to replace system assets from existing rates, leading to additional borrowings and/or further rate increases.
Fiscal 2013 results were slightly lower than the two prior fiscal years with a rise in operating expense leading to a drop in DSC on the senior bonds to 1.6x from 1.8x the year prior. Coverage of all-in debt service including state loans was just satisfactory at 1.3x, resembling results recorded by the commission over the last several years. Unrestricted cash, investments and reserves totaled approximately $113 million in fiscal 2013, equal to a solid 159 days cash on hand; DCOH has also remained relatively unchanged in recent years.
Pro forma financial results provided by the commission show a decline in DSC on senior lien bonds to about 1.3x by fiscal 2019 and 1.2x all-in, although the commission has typically outperformed its financial forecast. The forecast includes the debt service from the 2014 bonds, anticipated additional debt, and the proposed annual rate increases (roughly 5%).
MIXED DEBT PROFILE
At the end of fiscal 2013, the commission had $490 million in total debt outstanding. About $387 million, or 80% of the total, was comprised of parity general revenue bonds, with the remainder consisting of state loans, MWRA financial assistance programs (also low-interest loans) and short-term commercial paper (CP). The commission has just one series of variable-rate bonds outstanding (series 1994), which accounts for a modest 7% of the total debt portfolio. The series 1994 bonds are backed by a letter of credit from State Street Bank (rated 'A+', Positive Outlook) that expires in 2015. A portion of the series 2014 bond proceeds will be used to redeem outstanding CP totaling approximately $60 million.
Debt levels are somewhat mixed overall. Some ratios are elevated compared to similarly rated systems, although moderate when compared to large urban systems that typically have high capital maintenance needs. Debt per customer was roughly $2,800 in 2013, which is somewhat high. However, debt carrying costs comprised a manageable 15% of gross revenues and debt-to-net plant (42%) continues to approximate the median for similarly rated utilities. The commission is planning to issue an additional $100 million to fund capital needs in fiscal 2017, which will keep debt ratios relatively unchanged for the intermediate term.
CAPITAL NEEDS ADDRESS SYSTEM RENEWAL; CSO PROJECTS NEARING COMPLETION
The commission's three-year capital improvement plan (CIP) totals $207 million through fiscal 2016, which is manageable for a large urban system. The plan is updated annually and is similar in size and scope to previous capital programs. The CIP continues the commission's actions to address existing infrastructure needs. More specifically, the largest component of the water system's capital plan furthers the commission's platform of replacing aged, undersized or structurally deteriorated pipe. Sewer system capital needs consist of sewer separation and storm drainage projects, ongoing renewal and replacement of pipes, and inflow/infiltration mitigation.
With just one sewer separation project left, the commission is nearing completion of its combined sewer overflow (CSO) remediation program. The commission benefits from MWRA's financial assistance program, in the form of grants and low-interest loans, related to CSO mitigation. Fitch notes the commission is well ahead of many large urban systems with respect to CSO mitigation, both in terms of total costs (most of which was borne by MWRA) as well as the timing of project implementation.
The commission entered into a consent decree with the U.S. Environmental Protection Agency related to unpermitted sewer discharges. Fitch does not expect the consent decree to materially impact the commission's operating profile or capital plan given many of the agreed upon projects were already in the commission's intermediate- and longer-term CIP. However, the timing of the completion of the projects has been shortened to seven years from the commission's previous anticipated 15 year spending horizon. Fitch expects the commission will meet all requirements for capital spending and project implementation according to the updated timeframe, and remain in compliance with the consent decree.
The commission is directly affected by MWRA's most recent $790 billion multi-year CIP, as its largest customer. MWRA's CIP is funded almost entirely through assessments to its member providers. Favorably, MWRA's capital needs are substantially lower than in the previous decade when Boston Harbor cleanup efforts necessitated double-digit annual assessment increases. Fitch expects the commission's required capital investment to remain manageable due to its limited role as a distribution and collection system and MWRA's declining CIP, but potentially elevated as it incorporates consent decree projects and ongoing renewal and replacement requirements, likely leading to additional rate increases beyond those already forecast.
Additional information is available at 'www.fitchratings.com'.
In addition to the sources of information identified in Fitch's U.S. Municipal Revenue-Supported Rating Criteria, this action was additionally informed by information from Creditscope.
Applicable Criteria and Related Research:
--'Revenue-Supported Rating Criteria' (June 2014);
--'U.S. Water and Sewer Revenue Bond Rating Criteria' (July 2013);
--'2014 Water and Sewer Medians' (December 2013);
--'2014 Outlook: Water and Sewer' (December 2013).
Applicable Criteria and Related Research:
2014 Outlook: Water and Sewer Sector
2014 Water and Sewer Medians
U.S. Water and Sewer Revenue Bond Rating Criteria
Revenue-Supported Rating Criteria