SAN FRANCISCO--(BUSINESS WIRE)--Fitch Ratings affirms its ratings on the following Riverside, CA (the city) bonds:
--$143.1 million water system revenue bonds, series 2008B, 2009A and 2009B at 'AA+';
--$55.7 million variable rate refunding water system revenue bonds, series 2011A at 'AA+/F1+'.
The Rating Outlook for all bonds is Stable.
SECURITY
Bonds are payable from net revenues of the city's water system (the system).
KEY RATING DRIVERS
STRONG FINANCIAL METRICS: Debt service coverage (DSC) levels are strong and should continue to perform at or near historical levels. Liquidity is high. Even as some unrestricted cash may be spent down on capital, reserves are expected to remain strong at over 365 days operations.
ADVANTAGEOUS GROUNDWATER SUPPLY: Plentiful groundwater supply provides Riverside with a competitive advantage in the region. Local water supply costs are lower than that of the imported water supplies relied on by much of southern California.
COMPETITIVE RATES: Following a period of consistent rate increases during the last decade, rates still remain competitive and affordable. Additional rate increases by surrounding utilities continue to improve Riverside's rate advantage.
DEBT FUNDED CAPITAL INVESTMENTS: Riverside made significant investments in its water supply reliability and delivery infrastructure over the last decade, which is reflected in its higher debt levels. Future capital needs are more modest, although the city continues to rely primarily on debt financing.
INDEX MODE BONDS: The 'AA+/F1+' rating on the SIFMA index mode bonds reflects the market access implied by the system's long-term credit quality.
RATING SENSITIVITIES
PRESSURE FROM STATEWIDE DROUGHT: Pressure on financial margins could occur if water sales fall below assumed levels if severe multi-year water rationing were to be implemented. Fitch's Stable Outlook reflects Riverside's substantial rate flexibility that could offset the impacts of such a scenario.
CREDIT PROFILE
The city provides retail water service to approximately 315,000 people residing in the city and a small portion of unincorporated Riverside County. The city is located 60 miles east of Los Angeles and about 90 miles north of San Diego. The water customer base has been relatively stable with average annual growth of less than 1% over the past five years. Customer concentration is modest with the top 10 customers accounting for only 8.8% of revenues in fiscal 2014.
Water sales declined between fiscals 2007 and 2011 - consistent with other regional utilities - as a result of the economic recession, conservation efforts, and wet weather conditions in 2010 and 2011. Sales increased slightly in the years 2012-2014, reflecting drier conditions. With the current drought and aggressive turf replacement programs, Riverside estimates that its retail water sales in 2015 will decline by around 10% to 52.6 million gallons per day (mgd) from 2014 levels (58.8 mgd).
LOCAL GROUNDWATER IS COMPETITIVE STRENGTH
The city's plentiful and local groundwater supply remains a key credit strength. Riverside has had sufficient groundwater supplies to provide 100% of its demand since 2008. The low-cost water supply requires minimal treatment and is a competitive advantage within southern California as many of the surrounding communities have experienced a higher degree of water supply uncertainty given their reliance on imported water. Imported water supply costs in the region have experienced significant cost escalation, increasing the rate differential between Riverside and surrounding communities. Future water supply investments are likely to occur to fund incremental recharge opportunities in the existing groundwater basins and to develop recycled water supplies.
CAPITAL DRIVEN BY REINVESTMENT AND REHABILITATION; DEBT FUNDED
In the last decade, Riverside invested heavily in its water supply and infrastructure in order to improve reliability, comply with regulations, reduce its dependence on imported water to an emergency back-up basis, and replace infrastructure. As a result, debt is above average at $3,342 per customer although debt to plant is average at 49%. The five-year capital plan is estimated at $82 million with most of the projects consisting of replacement and rehabilitation. The city plans to fund most of its capital needs through an anticipated bond issue of around $60 million, representing a continued reliance on debt funding.
Additional debt may be used to fund the recycled water project. The estimated $39 million project would reuse treated effluent produced at the regional wastewater treatment plant for irrigation and non-potable demands across the city. About $15 million in project costs were financed in connection with the wastewater treatment plant improvements in 2011. The remaining $24 million will likely be partially funded from a recent settlement of $10 million to be paid from the city's general fund to the water utility over fiscals 2014-2016 (related to Prop 218 litigation over the water utility transfer).
STRONG FINANCIAL METRICS SHOULD CONTINUE
All-in debt service coverage (DSC) has been consistently strong over the past five years at over 2.0x. After transfers to the city's general fund (equal to 11.5% of prior year gross revenues), DSC was still over 1.7x. Voters recently approved the continuation of the general fund transfer in 2013 (Measure A). While the city is in the process of reviewing its financial and debt policies in 2015 and completing a cost of service study, management does not anticipate a dilution of its minimum policy of rate setting to achieve 2.0x DSC and therefore strong margins for bondholders are expected to continue. DSC includes connection fees but the fees are modest.
Despite the strong coverage levels, free cash flow to depreciation has hovered at or below 100%, reflecting a use of debt in lieu of ongoing rate revenue to fund annual system reinvestment. However, growing cash reserves and continued strong margins may improve this ratio and reduce the city's proportional use of debt funding in the upcoming financial forecast.
Liquidity has grown in the last four years as a result of a large property sale in fiscal 2011 and improving water sales in more recent years. Unrestricted cash reserves totaled $86.1 million at the end of fiscal 2014 (816 days operations). This amount includes $26 million from a property sale in 2011 that management intends to reserve for investment in another long-lived asset and $3.3 million paid from the general fund in fiscal 2014, which is earmarked for the recycled water project.
WEAK LEGAL COVENANTS
Legal covenants for bondholders become weak with springing covenants that were introduced in 2009 (which only take effect after the series 2008 bonds are no longer outstanding). Springing covenants include a permissive 1.25x rate covenant that allows the inclusion of unrestricted cash reserves and no reserve funds for bonds issued in 2009 and thereafter. The Master Resolution includes a bankruptcy by the city as an event of default and allows for acceleration of the water revenue bonds in such an event.
Additional information is available at 'www.fitchratings.com'.
Applicable Criteria and Related Research:
--'Revenue-Supported Rating Criteria' (June 12, 2013);
--'U.S. Water and Sewer Revenue Bond Rating Guidelines' (July 31, 2013).
Applicable Criteria and Related Research:
Revenue-Supported Rating Criteria
http://www.fitchratings.com/creditdesk/reports/report_frame.cfm?rpt_id=750012
U.S. Water and Sewer Revenue Bond Rating Criteria
http://www.fitchratings.com/creditdesk/reports/report_frame.cfm?rpt_id=715275
Additional Disclosure
Solicitation Status
http://www.fitchratings.com/gws/en/disclosure/solicitation?pr_id=982355
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