Fitch Rates District of Columbia Water & Sewer Auth's Senior Lien Revs 'AA'; Outlook Stable
NEW YORK--(BUSINESS WIRE)--Fitch Ratings has assigned an 'AA' rating to the following District of Columbia Water and Sewer Authority (DC Water or the authority) revenue bonds:
--Approximately $300 million public utility senior lien revenue bonds, series 2014A (Federally Taxable).
The series 2014A bonds are scheduled for negotiated sale the week of July 14 and will have a final maturity that occurs in 2114 (100 years). Bond proceeds will provide funds for DC Water's Clean Rivers Project.
In addition, Fitch affirms the following ratings:
--$487 million public utility senior lien revenue bonds at 'AA';
--$1.6 billion public utility subordinate lien revenue bonds at 'AA-'.
The Rating Outlook is Stable.
The series 2014A bonds are secured by a first lien on net revenues of DC Water. The series 2014A bonds will not carry a debt service reserve. Outstanding subordinate lien bonds are also secured by net revenue, after provision for the senior lien bonds. A default on the subordinate lien obligations would not trigger a default on the senior lien bonds.
KEY RATING DRIVERS
REGIONAL PROVIDER OF ESSENTIAL SERVICE: DC Water provides an essential service to a large service territory that includes the nation's capital and a highly diverse and mostly affluent customer base.
SOUND FINANCIAL METRICS: The authority continues to generate strong coverage of senior-lien debt service while maintaining satisfactory reserves and adequate coverage of subordinate-lien obligations. DC Water's conservatively projected 1.4x all-in debt service coverage (DSC) through the current forecast period is slightly below Fitch Ratings' 'AA' rating category median but is satisfactory relative to the system's overall risk profile.
LARGE CAPITAL PROGRAM: The authority's sizable capital program will rely significantly on debt issuance over the next several years and increase leverage from an already high level. The exceptionally long life of the series 2014A bonds is a departure from DC Water's historically conservative approach to debt issuance that Fitch views with some concern.
STRONG MANAGEMENT: The authority's operations and large capital program are guided by an effective financial management team that ensures regulatory compliance and consistently healthy financial performance.
LOW RATES: Affordable user charges and management's ability to raise rates independent of outside oversight provides considerable flexibility to contend with planned borrowings and mounting debt service obligations. Manageable annual rate increases included in the authority's financial forecast should keep user charges at an affordable level.
AMPLE CAPACITY: The combined system benefits from an abundant water supply and ample water and sewer treatment capacity.
GROWTH IN CAPITAL NEEDS: Increases to the size and scope of DC Water's current capital program and debt financing plans beyond what is currently projected would exert downward pressure on the current ratings.
PROLIFERATION OF ELONGATED DEBT: Escalation in the use of long-dated debt, particularly as a means to avoid increasing rates when needed, would likely lead to negative rating action.
DEVIATION FROM FINANCIAL FORECAST: Weaker than currently projected operating results, while not anticipated, would be viewed negatively.
CHANGE IN CAPITAL STRUCTURE
The 100-year life of the 2014A bonds is more than twice the average duration of DC Water's existing obligations and could ultimately limit the flexibility of future governing bodies of the authority. Once issued, the bonds will account for approximately 12% of the authority's total debt portfolio.
While Fitch recognizes DC Water's stated goals of securing low cost capital and aligning the life of the series 2014A bonds with the useful life of the asset being financed, the exceptionally long life of the debt will dramatically slow the authority's already weak pace of total principal amortization to a level that is inconsistent with the current rating category. Just 43% of total principal will be amortized over the next 20 years following the issuance of the series 2014A bonds, compared to Fitch's 'AA' rating category median of 77%.
SOUND FINANCIAL RESULTS EXPECTED TO CONTINUE
Coverage of senior lien annual debt service, despite a nearly 6% decline in water demand, remained strong in fiscal 2013 at 4.4x. All-in debt service coverage also declined in fiscal 2013, but remained healthy at 1.7x. Despite the slight decline in debt service coverage, operating results in fiscal 2013 exceeded prior year projections, continuing a positive trend of outperforming financial projections.
The authority maintains sound reserves well in excess of board-imposed and indenture-required amounts, but slightly below Fitch's rating category median of almost 400 days cash on hand. Fiscal 2013 ended with about 290 days cash, inclusive of the authority's rate stabilization fund (RSF). Board policy prudently requires any operating surplus after satisfying reserve requirements to be applied to funding pay-as-you-go capital expenditures.
The authority's current financial forecast shows senior lien debt service coverage staying comfortably above 3.0x through fiscal 2018 while all-in coverage falls to a narrower but still adequate 1.4x through the forecast period. Liquidity is projected to remain at its current level. Fitch considers the assumptions incorporated into the forecast to be reasonable and notes that DC Water typically outperforms its financial projections.
DC Water's rates are still considered to be very affordable for the vast majority of the rate base and should continue to provide an adequate amount of flexibility needed to support the authority's growing debt burden. Retail rates consist primarily of a fixed charge and a volumetric rate. The authority also levies an impervious charge designed to recover mandated capital costs associated with its combined sewers and decouple rates from consumption. Positively, an estimated 30% of revenue is derived from the authority's fixed charges, which exceeds that of most water and sewer utilities and somewhat offsets the impact of a declining sales environment.
LARGE CAPITAL PROGRAM DRIVEN BY ENVIRONMENTAL MANDATES
The latest CIP covers fiscal years 2014 - 2023 and remains significant with an estimated cost of $3.8 billion. Mandated capital projects now account for approximately 41% of the overall CIP, compared to a more onerous 52% as recently as 2008. Fitch expects this percentage will continue declining through the current planning period, which should ultimately provide the authority with greater flexibility.
Of the nearly $3.8 billion in planned spending, approximately $670.5 million will be funded from capital contributions derived from wholesale customers. Almost 60% of the CIP will be debt financed, about 5% will come from state and federal grants while the remaining 17% will be funded from excess cash flow and existing reserves. Projected cash flows through fiscal 2018 demonstrate the sufficiency of excess revenues needed to meet targeted pay-go amounts.
RISING DEBT LEVELS
Debt levels are high relative to Fitch's 'AA' category retail medians, and the size of planned borrowings programmed into the current CIP will continue to be well in excess of scheduled amortization of existing debt, leaving the system highly leveraged for the foreseeable future.
Annual capital spending has averaged a robust 536% of annual depreciation over the past six years, demonstrating the high cost of complying with regulatory requirements as well as the authority's commitment to proactively maintaining system assets. Consequently, total debt outstanding has more than doubled over that span, pushing debt/net plant and debt to equity to 50% and 16.0x, respectively. Fitch's rating category medians for both ratios are 47% and 3.4x, respectively.
All-in debt service, despite the ongoing rise in leverage, consumed a manageable 24% of gross revenues in fiscal 2013. However, by 2018 all-in debt service will consume an above average 35% of gross revenues, compared to the current rating category median of 22%.
STABLE SERVICE TERRITORY BOASTS STRONG ECONOMY
DC Water provides retail water and wastewater service to the District of Columbia and wholesale wastewater service to Fairfax and Loudon Counties in Virginia (Fitch rates the general obligation bonds [GO] of both counties 'AAA' with a Stable outlook), Montgomery and Prince George's Counties in Maryland (GOs rated 'AAA' with a Stable Outlook) and Washington Suburban Sanitary Commission (also rated 'AAA' with a Stable Outlook by Fitch).
DC Water's retail base is highly diverse with the 10 largest commercial and governmental customers typically accounting for just 3% and 8% of gross revenues, respectively. The district is the heart of the service area, and its residents, including the federal government, account for more than three quarters of operating revenue. Wholesale users account for the balance.
The strength and stability of DC Water's service territory remains a key rating factor. High wealth levels throughout much of the service area coupled with a regional unemployment rate that remains below 6% have helped keep delinquent retail account balances below a nominal 1.5% over the prior five years.
Additional information is available at 'www.fitchratings.com'.
In addition to the sources of information identified in Fitch's Revenue-Supported Rating Criteria, this action was additionally informed by information from Creditscope.
Applicable Criteria and Related Research:
--'Revenue-Supported Rating Criteria' (June 16, 2014);
--'U.S. Water and Sewer Revenue Bond Rating Criteria' (July 31, 2013);
--'2014 Water and Sewer Medians' (Dec. 12, 2013);
--'2014 Outlook: Water and Sewer Sector' (Dec. 12, 2013).
Applicable Criteria and Related Research:
Revenue-Supported Rating Criteria
U.S. Water and Sewer Revenue Bond Rating Criteria
2014 Water and Sewer Medians
2014 Outlook: Water and Sewer Sector