Fitch Affirms Anchorage, AK's Sewer Revs at 'AA'; Outlook Stable
SAN FRANCISCO--(BUSINESS WIRE)--Fitch Ratings affirms the following Municipality of Anchorage, Alaska wastewater revenue bonds at 'AA':
--$63.8 million series 2007 and 2004.
The Rating Outlook is Stable.
The bonds are backed by net sewer revenues before the enterprise's payments in lieu of taxes (locally called a municipal utility service agreement or MUSA payment). The bonds are senior to the state revolving fund loan payments.
KEY RATING DRIVERS
SOLID FINANCIAL PERFORMANCE: Senior debt service coverage (DSC) averaged a very strong 6.8x debt service over the three years ended 2013. Senior DSC is expected drop significantly but remain above 2.0x with significant additional leveraging over the next five years. Liquidity was healthy with days cash rising to 297 days in 2013.
REGULATED RATES: Rates are low, although rate flexibility is tempered by the regulation of the utility's rates by the Regulatory Commission of Alaska (RCA). The utility has a solid record of securing regulatory approval of needed rate increases.
SIGNIFICANT DEBT BURDEN: Debt levels are high at $2,475 per customer and will more than double with $200 million of additional debt planned over the next five years. The utility's ongoing heavy reliance on debt financing for ongoing repair and replacement capital needs is a weakness, potentially reducing future debt capacity that may be needed to address elevated regulatory capital requirements.
ENVIRONMENTAL REGULATORY CONCERNS: The utility's main treatment plant treats wastewater to primary standards, which is decreasingly common among rated utilities and requires ongoing approval of the secondary treatment waivers from the Environmental Protection Agency (EPA). Capital needs and debt levels would rise significantly if the EPA required the utility to upgrade to full secondary treatment, which could put downward pressure on the rating.
SOLID SERVICE AREA: The utility is the monopoly provider of essential waste water services to 95% the Municipality of Anchorage, the economic center of the state of Alaska.
DEBT PRESSURES RATING: The rating could come under downward pressure if the utility's continued leveraging pushes all-in DSC down to the low end of forecast results or debt ratios rise by the full amount currently forecast by the utility.
Anchorage provides wastewater services to 56,400 customers, which includes most of the Anchorage Bowl, and two small outlying communities.
STRONG FINANCIAL PERFORMANCE TO MODERATE
Financial performance is quite strong for the rating category, but likely to moderate with additional leveraging. Fitch calculated DSC of the senior revenue bonds was very strong at 7.5x in 2012 and 7.6x in 2013. All-in DSC after MUSA/PILOT payments has historically been quite solid, averaging 2.1x over the past three years. Both senior and all-in DSC will decline with the issuance of additional debt over the next five years. The utility's conservative financial forecast shows senior DSC remaining strong at above 2.0x over the forecast horizon, but the utility forecasts all-in DSC to dip to very narrow levels for a brief period (as low as 1.1x in 2018) as the utility adjusts to new debt.
Fitch expects the utility to beat the conservative forecast, which assumes no connection fee revenues, demand growth below historical averages, and no new state grants for capital. The utility has a strong history of outperforming such forecasts. The rating would come under downward pressure if actual results do not continue to meet this expectation. Fitch believes the utility can sustain a short period of somewhat narrow all-in coverage at the current rating level due to its very stable revenues (about 70% from fixed residential charges), its solid reserve position and strong history of raising rates as necessary.
Liquidity improved significantly since the last review. Unrestricted cash and investments rose to $19.7 million, or a healthy 297 days cash, in 2013 from just 140 days cash two years ago.
DEBT CONTINUES TO CLIMB
The utility's debt burden is already above average with $139.7 million, or $2,475 per customer, outstanding as of Dec. 31, 2013. Median debt per customer for 'AA' category water and sewer utilities is $1,812. Debt is projected to rise to $5,503 per capita by 2018 if the utility issues the full $200 million expected in its current long-range financial forecast. The municipality may issue less due to grants, timing of capital projects and outperformance of the conservative financial forecast, but the debt burden is likely to rise and remain the utility's most significant credit weakness for the foreseeable future. Amortization is rapid with 51% of debt repaid in 10 years and 87% repaid in 20.
The utility's $170.6 million 2014-18 capital improvement plan (CIP) is primarily related to the repair and replacement of existing infrastructure. The utility's forecast shows a higher amount of debt during the period because bond proceeds will be used for projects outside the current CIP. Adjusted for the timing mismatch, the utility will pay for about 80% of the CIP with debt. This represents an unusually high degree of debt financing and could position the utility poorly to absorb possible increases in debt related to environmental regulatory requirements if they arise in the near to mid-term.
The utility currently operates its largest wastewater treatment plant (the John M. Asplund Wastewater Treatment Plant; 58 million gallons per day capacity) under an expired 301(h) waiver of the federal Clean Water Act, allowing the facility to treat waste to advanced primary standards rather than the typical secondary treatment standards. The utility submitted its application for a five-year waiver in 2005. It continues to await a decision from the EPA. The utility discharges to the Cook Inlet, and the Cook Inlet beluga whale was listed an endangered species in 2009. The utility has completed an environmental impact study and does not believe that its discharges have harmed the endangered species.
The potential loss of the waiver could require the facility to upgrade to full secondary treatment, albeit likely over an extended timeframe (assumed to be up to 20-30 years). While no indication exists that the utility will not receive a waiver, Fitch is concerned about the potential additional debt burden and will continue to monitor regulatory developments and required timelines to assess the possible impact they could have on the system's credit profile.
REGULATED, AFFORDABLE RATES
The wastewater utility has exhibited solid rate discipline, raising rates as necessary to provide healthy financial performance. It raised rates by an average 7.9% in the five years ended 2013 and expects to continue to raise rates by about 5% annually to cover increasing debt service over the next five years. Despite the increases, rates remain very affordable at just 0.6% of median household income.
The rates are subject to final approval by the RCA through a rate case process. This is unusual for municipal water and wastewater utilities and has created timing delays and forced occasional rate refunds in past years. Relations between Anchorage and its rate overseers appear to have improved in recent years with rates being approved as requested in a timely manner. However, Fitch continues to view rate flexibility as somewhat limited due to the regulated rate environment.
SOLID SERVICE AREA
The utility serves diverse, stable customer base in an economically sound region. Account growth is modest at about 0.3% annually. The customer base is largely residential with the top 10 customers providing just 3.7% of revenues and no individual customer providing more than 1% of revenues.
The service area is the economic and population center of the state of Alaska (general obligation bonds rated 'AAA'/Outlook Stable by Fitch). Anchorage's economy outperformed the nation during the recent recession with unemployment rising much less than the national average as the state's oil dominated economy benefited from a period of high energy prices. The municipality also largely avoided the boom and bust that affected the broader U.S. housing market. Anchorage's unemployment rate remained low at 4.9% in May 2014. Median household income is strong at 143% of the U.S. level.
Additional information is available at 'www.fitchratings.com'.
In addition to the sources of information identified in the Revenue-Supported Rating Criteria, this action was informed by information from CreditScope.
Applicable Criteria and Related Research:
--'Revenue-Supported Rating Criteria' (June 3, 2013);
--'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