Fitch Affirms Lake County, Illinois' Water and Sewer Revs at 'AAA'; Outlook Stable

AUSTIN, Texas--()--Fitch Ratings has affirmed the ratings on the following Lake County, Illinois (the county) revenue bonds:

--$35.3 million senior lien water and sewer system revenue bonds at 'AAA';

--$1.8 million subordinate lien water and sewer system revenue bonds at 'AA+'.

The Rating Outlook is Stable.

SECURITY

Outstanding senior lien bonds are secured by a first lien on net revenues of the county's combined water and sewer system (the system), while outstanding subordinate lien bonds are backed by a junior lien on net revenues.

KEY RATING DRIVERS

SOLID FINANCIAL PERFORMANCE: Both senior and all-in debt service coverage (DSC) and liquidity levels remained strong in fiscal 2015. The county's financial projections reflect all-in DSC declines below historical levels over the five-year forecast period. However, Fitch recognizes that the projections are based on conservative assumptions and expects that actual results will outperform the current issuer forecast.

MANAGEABLE CAPITAL NEEDS: The system's capital improvement plan (CIP) remains moderate despite an upgrade in progress to the county's largest water reclamation facility (WRF).

FAVORABLE DEBT PROFILE: Leverage ratios are very low and are projected to remain low for the foreseeable future despite the expected issuance of additional third-lien debt to fund the WRF upgrades. Beyond completion of the plant upgrade, the entire CIP will be funded by existing restricted reserves and recurring revenues from user and connection fees.

AUTOMATIC RATE ADJUSTMENT: Fitch views positively the county's policy requiring a periodic adjustment of rates to ensure full cost recovery of purchased water and wastewater treatment expenses.

LARGE AND DIVERSE ECONOMY: The county's utility system serves a large, economically diverse service area in northeast Illinois with high wealth levels and an estimated population of 705,000.

RATING SENSITIVITIES

MAINTENANCE OF STRONG CREDIT PROFILE: The rating is sensitive to shifts in fundamental credit characteristics including the county system's strong financial, debt, and operational management. The Stable Outlook reflects Fitch's expectation that such shifts are unlikely.

CREDIT PROFILE

SOUND FINANCIAL PROFILE

The county's financial metrics remained strong in fiscal 2015. Net revenues available for debt service yielded solid DSC of both senior and all-in debt, ending the year with 1.9x and 1.8x coverage when excluding connection charges, respectively. Debt carrying costs are very reasonable, as total annual debt service comprised a modest 12% of gross revenues, well below the 'AAA' median level. Liquidity is also very strong, with unrestricted cash and investments totaling $30.3 million in fiscal 2015, equal to 367 days' cash on hand.

In addition to the unrestricted liquidity, the county prudently maintains a restricted depreciation, extension, and improvement reserve (DEI) dedicated to capital construction funding. At the close of fiscal 2015, the DEI reserve balance was $24.6 million.

The county's financial projections reflect a decline in all-in DSC in fiscal 2017, but Fitch notes that the forecast conservatively assumes annual debt service requirements for a loan which will not begin to amortize until fiscal 2018.

LARGE CUSTOMER BASE, AFFORDABLE RATES

The widely dispersed system provides potable water service for about 25,000 directly-billed retail customers and approximately 100,000 wholesale customer equivalents throughout Lake County. Sewer service is provided on both a retail and wholesale basis to roughly 100,000 customers (more than 40% of the county's population) in the southeast part of the county.

The majority of sewer services are provided by a number of long-term, exclusive-use wholesale contracts in incorporated areas of the county, and the remainder of services are provided on a retail basis to unincorporated communities. The system's revenue base is bolstered by the county's strict bulk contract terms and a county ordinance that mandates sewer connections of all occupied residences where sewers are available.

The system's direct combined water and sewer retail customer charges represent approximately 1.5% of median household income (MHI), providing more than sufficient rate flexibility. The county obtains roughly 80% of its water from Lake Michigan via the Central Lake County Joint Action Water Agency, and purchases roughly 55% of sewer treatment services from a number of regional treatment providers. The county prudently passes through every rate increase from each of its bulk service providers directly to individual county retail customers. Rates are typically adjusted annually.

MANAGEABLE CAPITAL PLAN

In 2015, the system began a multi-phase upgrade of the Des Plaines River WRF, the system's largest wastewater treatment plant. This project will complete facility modifications that will ensure compliance with the more stringent nutrient reduction regulations by the Illinois Environmental Protection Agency (IEPA), necessary for the WRF's permit renewal. Funding for this project is being provided by a low-interest state revolving fund loan from the IEPA (up to $32 million authorized) secured with a third lien on system revenues. While the loan is taken down in increments as the project is completed, the system projections assumed issuance of $30 million in fiscal 2015.

As of the end of fiscal 2015, only $4.3 million was borrowed against the total IEPA authorizations of $38.3 million (which also included a $6.3 million authorization for sewer improvement projects started in 2014). IEPA defers loan amortization until the project is completed (expected December 2017). However, the issuer conservatively assumes the entire loan is taken down in 2015 and begins amortizing in 2016 in its forecast.

The updated and most current five-year CIP (2016-2020) totals a very manageable $61.6 million. The plan is divided into preservation projects (65%), modernization and compliance (32%) and expansion (3%). Funding for the entire plan is from user and connection fees (70%) and 30% from reserve funds.

LOW DEBT LEVELS

Fitch projects that currently strong debt metrics will remain well below the 'AAA' category medians even with the addition of the combined third-lien IEPA loans. Leverage ratios for the system in fiscal 2015 were very low, with outstanding debt per capita at just $59 and debt-to-plant assets at 17%. Including all the IEPA loans authorized, projected debt per capita is forecast to remain very low. The system's financial forecasts incorporate the additional debt issuances and predict that debt metrics stay below the 'AAA' medians over the next five years.

SOUND MANAGEMENT PRACTICES

Management practices are sound--marked by frequently updated and comprehensive long-term financial and capital planning, as well as a commitment to maintaining strong liquidity levels. Unrestricted cash reserves continue to grow, as the system's DEI fund is replenished annually, well in excess of covenanted minimum quarterly $150,000 deposits. The DEI reserves are set aside and restricted for capital improvements to the system, but are available to meet debt service payments or make up reserve fund deficiencies if needed.

SYSTEM AND SERVICE AREA

The county is located in the northeast corner of Illinois and is home to about 70 companies, the largest of which include Abbott Laboratories, Baxter International Inc., Coleman Cable, Inc., W.W. Grainger, Inc., Walgreen Company, and Takeda Pharmaceuticals International, Inc. The unemployment rate at 5% as of May 2016 was below the state (5.6%) but higher than the national (4.5%) average for the month. Wealth levels are high, equaling roughly 136% and 146% above state and national MHI levels, respectively.

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=1008631

Solicitation Status

https://www.fitchratings.com/gws/en/disclosure/solicitation?pr_id=1008631

Endorsement Policy

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

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Contacts

Fitch Ratings
Primary Analyst
Gabriela Gutierrez, CPA
Director
+1-512-215-3731
Fitch Ratings, Inc.
111 Congress Avenue, Suite 2010
Austin, TX 78701
or
Secondary Analyst
Andrew DeStefano
Director
+1-212-908-0284
or
Committee Chairperson
Doug Scott
Managing Director
+1-512-215-3725
or
Media Relations:
Elizabeth Fogerty, +1 212-908-0526
elizabeth.fogerty@fitchratings.com

Contacts

Fitch Ratings
Primary Analyst
Gabriela Gutierrez, CPA
Director
+1-512-215-3731
Fitch Ratings, Inc.
111 Congress Avenue, Suite 2010
Austin, TX 78701
or
Secondary Analyst
Andrew DeStefano
Director
+1-212-908-0284
or
Committee Chairperson
Doug Scott
Managing Director
+1-512-215-3725
or
Media Relations:
Elizabeth Fogerty, +1 212-908-0526
elizabeth.fogerty@fitchratings.com