AUSTIN, Texas--(BUSINESS WIRE)--Fitch Ratings assigns an 'AA-' rating to the following power system revenue debt issued by the Los Angeles Department of Water and Power, CA (LADWP):
--Approximately $300 million power system revenue bonds, series 2015B.
Proceeds of the series 2015B bonds will refund the maturing series 2012C term bond and refinance the debt as a three-year term bond. The 2015B bonds are expected to price during the week of Sept. 14, 2015.
In addition, Fitch affirms the 'AA-' rating on the following outstanding parity debt:
--$7.75 billion power system revenue bonds;
--Commercial paper loan notes (bank note);
--Series 2001B and 2002A (bank bonds).
The Rating Outlook is Stable.
SECURITY
The bonds are special obligations of LADWP payable solely from power system revenues.
KEY RATING DRIVERS
LARGE DIVERSE SERVICE AREA: LADWP's greater Los Angeles service territory is broad, mature, and diverse, with stable customer growth. Steady load growth of around 1% annually is expected to be offset by investments in energy efficiency.
FAVORABLE RATE STRUCTURE ELEMENTS: Automatic cost recovery rate mechanisms that account for around 45% of revenues partially mitigate Fitch's concerns regarding the lengthy and politically charged rate environment. LADWP introduced a five-year rate proposal in July 2015 that should provide greater revenue certainty and funding for planned capital investment, if approved.
STRONG FINANCIAL MARGINS: Financial margins for bondholders are consistently strong with over 2.3x debt service coverage of revenue bonds. Remaining cash flow after debt payment provides capacity to support the 8% transfer of a portion of the system's large capital needs. Liquidity is healthy with 203 days operating cash.
EVOLVING POWER SUPPLY: California legislation adopted over the past decade requires costly changes to the state's power supply mix. LADWP continues to modernize its generation fleet and acquire renewable resources as required and is well positioned to comply with the state's environmental goals.
STRONG CAPITAL INVESTMENT: Capital investment in the system has been robust in recent years. LADWP projects high levels of investment will continue to be funded with a strong pay-as-you-go contribution from revenues.
ABOVE-AVERAGE DEBT LEVELS: LADWP's anticipated debt issuance to fund its very large $8 billion capital plan is significant at $4.7 billion over the next five years. The planned debt will increase leverage from already above-average levels.
RATING SENSITIVITIES
GREATER REVENUE STABILITY: The Los Angeles Department of Water and Power's proposed five-year rate package and enhanced protections for revenue stability could improve long-term revenue stability and financial margin consistency. Greater revenue stability and a stable funding source for capital investment could be positive for the rating as it would offer more consistent cost recovery and could mitigate rate sensitivities that arise during periods of economic weakness.
CREDIT PROFILE
STRONG SERVICE AREA
Los Angeles is the commercial and cultural center of a very large, diverse economy. LADWP provides retail electric service in the city of Los Angeles to 1.5 million customers, or a population of 3.9 million. The system had a peak of 6,396 megawatts (MW) in September 2014. The customer base is extremely diverse, with a strong commercial presence. However, retail sales have been flat in the past five years with the weak economy, conservation efforts, and energy efficiency investments. Energy sales are projected to continue to be flat through 2020 with planned additional investment in energy efficiency programs scheduled to offset projected load growth.
RATE ACTION PROPOSED
LADWP released a rate proposal in July that requests a five-year rate package. The rate proposal includes annual increases averaging 3% for residential customers and 4.5% for commercial customers. Importantly, the proposal also includes revenue stability features that would enhance the consistency of cost recovery, given flat energy sales expectations.
LADWP's last power system base rate case occurred in the fall of 2012, when it received approval to increase power rates in the remaining months of fiscal 2013 (4.9%) and fiscal 2014 (6%). Implementation difficulties with a new billing system in fiscal 2014 delayed the next rate request until now. The current rate proposal will proceed through reviews by neighborhood councils, the city's rate-payer advocate, the LADWP Board of Commissioners and finally the Los Angeles City Council. A final decision regarding the rate proposal is expected by the end of calendar 2015.
LADWP's current rates include cost-adjustment factors that account for 45% of electric revenues and fluctuate automatically to recover variable costs. Fitch views the use of the adjustment factors as mitigating potential delays in the consideration of rate requests, as have occurred in LADWP's past. The base rate revenue requirement feature (first used for a two-year period in fiscals 2013 and 2014) would further improve consistency in revenues by decoupling cost recovery from fluctuations in energy sales that can occur with changing weather or economic conditions.
POWER SUPPLY REFORMATION REQUIRED; LADWP MAKING PROGRESS
LADWP has spent the last decade making long-term changes to its power supply portfolio which are required in order to meet California's legislative environmental agenda. LADWP's coal-fired resources include the Intermountain Power Project located in Utah (LADWP's share is 1,116 MW) and the Navajo Generating Station in Arizona (477 MW). LADWP is pursuing strategies to mitigate the carbon impacts of both resources in order to comply with state legislation, including the planned sale of its share of Navajo in 2016.
In addition, LADWP reached its 20% renewable target beginning in 2010 and increased renewable energy sources to 23% of its power supply in calendar 2013. LADWP is well positioned to meet the state-mandated goal of 33% by 2020 if investments in solar, geothermal and energy efficiency continue to proceed as outlined in the integrated resource plan.
STRONG FINANCIAL PERFORMANCE
Fitch calculated debt service coverage in fiscal 2014 was 2.58x, and 2x after factoring in the transfer equal to 8% of utility revenues to the city's general fund. Fiscal 2014 results were consistent with historical financial performance at the utility, but bolstered by debt restructurings in recent years that provided upfront savings and debt service relief. Financial margins benefitted from relatively level expenditures, the 6% base rate increase in fiscal 2014, and cost-recovery adjustments in the rate structure.
Management expects fiscal 2015 results will be similar to fiscal 2014, or slightly stronger, based on preliminary year-end indications.
Liquidity at the end of fiscal 2014 was healthy, with $1.27 billion (or 203 days of operations) in unrestricted cash, including $497 million in the debt reduction fund. Liquidity as of May 31, 2015 increased to $1.79 billion in unrestricted cash, including $500 million in the debt reduction fund.
Debt service is anticipated to grow to over $600 million by fiscal 2019 from $436 million in fiscal 2014, but should remain a manageable 20% of operating expenditures. LADWP's financial policies include a debt service coverage target of 2.25x (before transfer), a fixed-charge debt service target of 1.7x, a minimum unrestricted cash reserve equal to 170 days cash, and debt-to-capitalization of less than 68%. Fitch views the policies as an evolving indication of LADWP's goals for rate setting.
SIGNIFICANT CAPITAL NEEDS AND ABOVE-AVERAGE DEBT LEVELS
LADWP's sizable $8 billion five-year capital plan is being driven by reinvestment in infrastructure to preserve reliability and generation development. LADWP estimates it will issue an additional $4.7 billion in debt to fund a portion of the plan. The utility's increasing debt needs could constrain financial flexibility. However, Fitch views LADWP's maintenance of a healthy portion of revenue-supported capital spending (currently at 41%) as a key component of the utility's financial flexibility.
Additional information is available on www.fitchratings.com
Applicable Criteria
Revenue-Supported Rating Criteria (pub. 16 Jun 2014)
https://www.fitchratings.com/creditdesk/reports/report_frame.cfm?rpt_id=750012
U.S. Public Power Rating Criteria (pub. 18 May 2015)
https://www.fitchratings.com/creditdesk/reports/report_frame.cfm?rpt_id=864007
Additional Disclosures
Dodd-Frank Rating Information Disclosure Form
https://www.fitchratings.com/creditdesk/press_releases/content/ridf_frame.cfm?pr_id=990090
Solicitation Status
https://www.fitchratings.com/gws/en/disclosure/solicitation?pr_id=990090
Endorsement Policy
https://www.fitchratings.com/jsp/creditdesk/PolicyRegulation.faces?context=2&detail=31
ALL FITCH CREDIT RATINGS ARE SUBJECT TO CERTAIN LIMITATIONS AND DISCLAIMERS. PLEASE READ THESE LIMITATIONS AND DISCLAIMERS BY FOLLOWING THIS LINK: HTTP://FITCHRATINGS.COM/UNDERSTANDINGCREDITRATINGS. IN ADDITION, RATING DEFINITIONS AND THE TERMS OF USE OF SUCH RATINGS ARE AVAILABLE ON THE AGENCY'S PUBLIC WEBSITE 'WWW.FITCHRATINGS.COM'. PUBLISHED RATINGS, CRITERIA AND METHODOLOGIES ARE AVAILABLE FROM THIS SITE AT ALL TIMES. FITCH'S CODE OF CONDUCT, CONFIDENTIALITY, CONFLICTS OF INTEREST, AFFILIATE FIREWALL, COMPLIANCE AND OTHER RELEVANT POLICIES AND PROCEDURES ARE ALSO AVAILABLE FROM THE 'CODE OF CONDUCT' SECTION OF THIS SITE. FITCH MAY HAVE PROVIDED ANOTHER PERMISSIBLE SERVICE TO THE RATED ENTITY OR ITS RELATED THIRD PARTIES. DETAILS OF THIS SERVICE FOR RATINGS FOR WHICH THE LEAD ANALYST IS BASED IN AN EU-REGISTERED ENTITY CAN BE FOUND ON THE ENTITY SUMMARY PAGE FOR THIS ISSUER ON THE FITCH WEBSITE.