Fitch Affirms Los Angeles County Sanitation District No. 20, CA's Revs at 'AA-'; Outlook Stable

SAN FRANCISCO--()--Fitch Ratings affirms an 'AA-' rating on the following Los Angeles County Sanitation District's (LACSD) Financing Authority (District No. 20), California sewer revenue bonds:

--$151.6 million subordinate revenue bonds series 2005A and 2007A.

The Rating Outlook is Stable.

SECURITY

The bonds are backed by net wastewater revenues including connection fees.

KEY RATING DRIVERS

ADEQUATE FINANCIAL PERFORMANCE: The district's financial performance has weakened due to an increase in debt service related to construction of a new sewer treatment plant. Very solid reserves are likely to allow the district to withstand a period of debt service coverage (DSC) that is below average for the current rating level.

DISCIPLINED RATE SETTING: The district's board has approved a series of rate increases that should provide a more comfortable coverage cushion over the next five years.

STRONG, CENTRALIZED MANGEMENT: The district is managed by the Los Angeles County Sanitation Districts' centralized staff, which oversees 24 sewer agencies providing services to more than 5 million Los Angeles County residents, giving the district access to significant financial and operational management expertise.

VERY HIGH DEBT BURDEN: The debt burden is very high but likely to slowly decrease as the district has no further debt issuance plans and minimal capital needs after its recent treatment plant upgrades.

WEAK SERVICE AREA: The district provides essential wholesale wastewater treatment services to an economically weak service area in northern Los Angeles County. The economy suffers chronically elevated unemployment and below average incomes, and a single military base dominates local economic activity.

RATING SENSITIVITIES

COVERAGE WEAKNESS: Fitch is likely to downgrade the rating if the district's debt service coverage does not improve gradually or the district's strong liquidity position weakens significantly.

DEBT PRECLUDES UPGRADE: The rating is unlikely to move higher due to very high debt levels.

CREDIT PROFILE

The district serves a diverse residential, commercial and industrial customer base centered on the city of Palmdale in northern Los Angeles County. The district owns the area's treatment plant and sewer trunk lines; local governments own the wastewater collection system and are responsible for the significant capital spending required to maintain it. The district has recently completed a major sewerage treatment plant upgrade that will provide a very high level of treatment and provide adequate capacity for growth.

WEAKENING FINANCIAL PROFILE

The district is just growing into the debt service burden incurred to upgrade its treatment plant. All-in DSC excluding rate stabilization fund transfers dropped to a minimally adequate 1.1x in fiscal 2014 in the first year of full debt service. Coverage rose slightly to 1.2x based on unaudited fiscal 2015 results, well below the 1.8x median (net of transfers) for 'AA' category water and sewer utilities.

Fitch expects the all-in DSC ratio to rise gradually over the next five years, improving to levels that don't pressure the rating. The district's conservative financial forecast shows coverage rising slightly, and Fitch expects the utility to outperform the forecast somewhat. The forecast assumes property tax revenues at about half their recent level and assumes connection fee revenues remain near recessionary lows at about a quarter of the average over the past five years. The forecast does not assume new revenues from recycled water sales that are likely to begin in the next few years.

The rating is likely to come under downward pressure if the utility does not outperform this forecast, raising coverage to over 1.25x. Fitch believes the district needs less excess margin than other utilities because revenues are more stable than the typical credit (primarily based on fixed per household sewer fees) and because the utility has minimal need for additional capital spending with its primary asset recently rebuilt.

The district's liquidity position is very strong with unrestricted cash and investments near the 'AA' median at 416 days. Ample reserves allow a period of lean coverage as the utility grows into its new debt service, but would be insufficient to support the rating at the current level without gradual improvement in coverage.

SOLID RATE DISCIPLINE

The district has raised rates in a disciplined manner to prepare for increased debt service for the new treatment plant, and the rates necessary to improve coverage to a more comfortable range have already been approved by the district's board. Rates have more than doubled in recent years, and they are slightly above average at 0.9% of median household income (MHI) in fiscal 2015. Sewer fees are collected on local property tax bills, providing a high degree of compliance. Rate increases have been approved through fiscal 2019.

ELEVATED DEBT BURDEN

The debt burden related to the recent treatment plant improvements has pushed debt ratios to a very high level. Debt per customer is about three and one half-times the median for rated water and sewer utilities at $6,529. Debt to net plant assets is also very high at more than 85%. While debt levels weigh on the rating, the recent capital improvements provide a solid basis for future operations and growth, and the district has implemented adequate rate increases to afford the new debt service. Completion of the treatment plant upgrades will leave the district with very manageable future capital needs and no further debt issuance plans. Average age of plant is extremely low at 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

Revenue-Supported Rating Criteria (pub. 16 Jun 2014)

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

U.S. Water and Sewer Revenue Bond Rating Criteria (pub. 03 Sep 2015)

https://www.fitchratings.com/creditdesk/reports/report_frame.cfm?rpt_id=869223

Additional Disclosures

Dodd-Frank Rating Information Disclosure Form

https://www.fitchratings.com/creditdesk/press_releases/content/ridf_frame.cfm?pr_id=995306

Solicitation Status

https://www.fitchratings.com/gws/en/disclosure/solicitation?pr_id=995306

Endorsement Policy

https://www.fitchratings.com/jsp/creditdesk/PolicyRegulation.faces?context=2&detail=31

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Contacts

Fitch Ratings
Primary Analyst
Andrew Ward
Director
+1-415-732-5617
Fitch Ratings, Inc.
650 California Street
San Francisco, CA 94103
or
Secondary Analyst
Gabriela Gutierrez
Director
+1-512-215-3731
or
Committee Chairperson
Michael Rinaldi
Senior Director
+1-212-908-0833
or
Media Relations
Sandro Scenga, New York, +1-212-908-0278
sandro.scenga@fitchratings.com

Contacts

Fitch Ratings
Primary Analyst
Andrew Ward
Director
+1-415-732-5617
Fitch Ratings, Inc.
650 California Street
San Francisco, CA 94103
or
Secondary Analyst
Gabriela Gutierrez
Director
+1-512-215-3731
or
Committee Chairperson
Michael Rinaldi
Senior Director
+1-212-908-0833
or
Media Relations
Sandro Scenga, New York, +1-212-908-0278
sandro.scenga@fitchratings.com