Fitch Rates Tucson, AZ's $20.7 MM Water Revs 'AA'; Outlook Stable

AUSTIN, Texas--()--Fitch Ratings assigns an 'AA' rating to the following bonds issued by the city of Tucson, AZ (the city):

--Approximately $20.7 million water system revenue obligations, series 2015.

Proceeds will be used for acquiring improvements and extensions to the city's water system (the system) and to pay for the cost of issuance. The obligations are tentatively scheduled to sell via negotiation on June 3.

The Rating Outlook is Stable.

SECURITY

The bonds and obligations are payable from a first lien pledge on the net revenues of the system on parity with the outstanding water revenue bonds and obligations.

KEY RATING DRIVERS

ADEQUATE FINANCIAL PROFILE: The financial profile of the system has improved since 2009. Management's forecasts anticipate that these improvements should be sustained.

AFFORDABLE RATES: At about 0.8% of median household income (MHI), system rates are considered affordable by Fitch.

ELEVATED DEBT PROFILE: Sizeable debt plans will keep the system's debt profile high over the next five years despite rapid amortization.

SUFFICIENT WATER SUPPLIES: Extensive planning has resulted in sufficient water supply for long-term needs.

RATING SENSTIVITIES

MAINTENANCE OF FINANCIAL PROFILE: Failure to maintain all-in debt service coverage (DSC) and liquidity near the minimum forecast levels may result in a rating downgrade.

INCREASED DEBT BURDEN: Increased debt beyond current levels could pressure the rating given the already below-average debt profile.

CREDIT PROFILE

Tucson, located in south central Arizona, is the second largest city in the state. Tucson's water system provides potable water to about 713,000 area residents via 230,000 metered connections, or 85% of the population within the metropolitan area. Potable water supplies are derived from both groundwater and Colorado River water delivered via the Central Arizona Project (CAP).

SATISFACTORY FINANCIAL PROFILE

The system continues to regain its financial footing after recessionary pressures and high capital costs in 2008 through 2010, which resulted in below-average DSC and liquidity. Fiscal 2014 financial results finished with senior and all-in DSC at satisfactory levels of 2.0x and 1.8x, respectively. Liquidity, measured by the number of days that unrestricted cash can cover operational expenses, finished at 155 days (up from 145 in fiscal 2013). Fiscal 2014 DSC and liquidity were at six-year highs while still slightly below Fitch's median levels for the rating category.

Previous rate increases and surcharges are contributing to improved revenue but operational costs are also increasing due to the rising cost of water purchased from the CAP. Management's forecast shows a 7.1% annual rate increase in each of the next five years with resulting minimum DSC of 1.9x on a senior-lien and 1.7x on a junior-lien basis. Over the same period, the city is targeting liquidity balances at a minimum of 100 days of cash on hand. These forecasts are mostly in-line with forecasts provided to Fitch last year. Fitch notes that the city has a policy of maintaining a minimum of 1.75x senior-lien DSC calculated on a cash basis, in accordance with the master indenture.

RATES TO REMAIN AFFORDABLE

The city adopted a slightly higher rate increase for fiscal 2016 (7.3%) and plans to implement similar increases annually over the next five years. The system will need to implement the planned rate increases to maintain adequate DSC and liquidity, since further declines in water consumption are anticipated and capital expenditures are expected to remain high. Nevertheless, at 0.8% of MHI, current rates are low for the area and are below Fitch's affordability threshold of 1% of MHI. Fitch expects rates to remain affordable over the intermediate term.

MANAGEABLE DEBT BURDEN

The system's capital improvement program (CIP) for fiscal years 2016-2020 totals $332 million, up slightly from the prior year due to fiscal 2015 projects deferred to this CIP, but generally consistent with plans for the previous three years. The primary focus of the CIP is on repair and rehabilitation of existing facilities. Funding for the CIP is expected to be split between surplus cash (60%) and debt (40%). Debt per customer is somewhat elevated at $2,454, but amortization is fairly quick at 66% in 10 years and 100% in 20. Partial cash funding of capital should result in the system's debt profile slightly improving over the next five years.

SUFFICIENT WATER SUPPLY

The large majority of the city's potable water supply is derived from Tucson's Clearwater Renewable Resource Facility, which diverts all of the city's purchased CAP water to recharge basins and then recovers a blend of CAP and native groundwater for treatment and distribution. The city also maintains sizable recycled water distribution capabilities.

The city is currently purchasing its maximum annual allotment (145,000 acre-feet) of CAP water and using surplus amounts, which amounted to about 45,000 acre feet in 2014, to replenish groundwater that has been depleted over many decades. Additionally, nationally-recognized conservation efforts have resulted in a net decrease in per capita water utilization over the last decade. Proactive water supply management practices such as these should keep water supply sufficient over the long term.

MIXED ECONOMIC PROFILE

At 5.9% in February 2015, the city's unemployment rate was better than the state average (6.2%) but slightly above the national average (5.8%). City wealth levels are below state and national averages and poverty rates are elevated. However, the economy is fairly diverse, anchored by government (including military), higher education, medical, and tourism enterprises.

Additional information is available at 'www.fitchratings.com'.

Applicable Criteria and Related Research:

--'Revenue-Supported Rating Criteria' (June 2014);

--'U.S. Water and Sewer Revenue Bond Rating Criteria' (July 2013);

--'2015 Water and Sewer Medians' (December 2014);

--'2015 Outlook: Water and Sewer Sector' (December 2014).

Applicable Criteria and Related Research:

2015 Outlook: Water and Sewer Sector

http://www.fitchratings.com/creditdesk/reports/report_frame.cfm?rpt_id=818410

2015 Water and Sewer Medians

http://www.fitchratings.com/creditdesk/reports/report_frame.cfm?rpt_id=818409

U.S. Water and Sewer Revenue Bond Rating Criteria

http://www.fitchratings.com/creditdesk/reports/report_frame.cfm?rpt_id=715275

Revenue-Supported Rating Criteria

http://www.fitchratings.com/creditdesk/reports/report_frame.cfm?rpt_id=750012

Additional Disclosure

Solicitation Status

http://www.fitchratings.com/gws/en/disclosure/solicitation?pr_id=985059

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Contacts

Fitch Ratings
Primary Analyst
Gabriela Gutierrez, CPA
Director
+1-512-215-3731
Fitch Ratings, Inc.
111 Congress Avenue
Austin, TX 78701
or
Secondary Analyst
Steve Murray
Senior Director
+1-512-215-3729
or
Committee Chairperson
Adrienne Booker
Senior Director
+1-312-368-5471
or
Media Relations:
Elizabeth Fogerty, New York, +1 212-908-0526
Email: elizabeth.fogerty@fitchratings.com

Contacts

Fitch Ratings
Primary Analyst
Gabriela Gutierrez, CPA
Director
+1-512-215-3731
Fitch Ratings, Inc.
111 Congress Avenue
Austin, TX 78701
or
Secondary Analyst
Steve Murray
Senior Director
+1-512-215-3729
or
Committee Chairperson
Adrienne Booker
Senior Director
+1-312-368-5471
or
Media Relations:
Elizabeth Fogerty, New York, +1 212-908-0526
Email: elizabeth.fogerty@fitchratings.com