AUSTIN, Texas--(BUSINESS WIRE)--Fitch Ratings downgrades the rating on the following South Bayside System Authority, California (SBSA, or the authority) outstanding obligations:
--$63.4 million wastewater revenue bonds to 'A+' from 'AA-'.
The Rating Outlook is Stable.
SECURITY
Pursuant to the participating member financing agreements, SBSA bond payments are secured by a senior lien of net revenues of the respective member wastewater systems.
KEY RATING DRIVERS
ESCALATING DEBT DRIVES DOWNGRADE: The downgrade to 'A+' reflects the significant projected weakening of SBSA's debt profile from anticipated borrowings and the corresponding burden this will have to contributing members. The authority's multi-year capital needs are substantial and have risen in recent years to include nutrient removal treatment requirements.
SBSA RATING TIED TO MEMBERS: The rating on the authority's bonds is closely linked to the credit quality of the contributing members - the Cities of Redwood City and San Carlos and the West Bay Sanitary District (WBSD) - given each member is only required to pay its proportional share of SBSA debt service. This effectively creates a weakest link approach to determining SBSA's credit rating; all members have similar credit quality.
REDUCED DEBT SERVICE COVERAGE: Due to anticipated increased debt service costs, debt service coverage (DSC) margins for the authority and all three of the participating member agencies are projected to lower over the next five years even with planned annual rate increases.
SOUND LEGAL PROVISIONS: Legal provisions are adequate, with member payments consisting of a senior lien of net revenues of their respective systems. There is also a common debt service reserve fund.
SOLID PAYMENT HISTORY: There are no step-up provisions in the event of non-payment by a delinquent member; however, no delinquencies have ever occurred.
STRONG SERVICE AREA: Wealth levels within the service territory are high, providing some rate flexibility to deal with projected member rate hikes.
RATING SENSITIVITIES
MEMBER CREDIT PROFILES: Deterioration of the credit quality of one of the members almost certainly would have negative credit implications for SBSA's bonds.
ADDITIONAL REGULATORY REQUIREMENTS: Enhanced nutrient removal treatment requirements likely would necessitate additional borrowing beyond amounts currently contemplated, which would add further pressure to member agencies'. Depending on the scope of any such increases, this could place downward pressure on the authority's bonds.
CREDIT PROFILE
The authority operates as a joint exercise of powers authority, providing wastewater collection, treatment, and discharge service to over 200,000 people in San Mateo County to its four member agencies - the Cities of Redwood City, San Carlos, Belmont, and WBSD; the City of Belmont is not a party to repayment of SBSA's bonds, having elected to fund the initial portion of the authority's capital improvement program (CIP) on its own.
SOUND LEGAL PROVISIONS
Pursuant to the participating member financing agreements, SBSA bond payments are secured by a senior lien of net revenues of the respective member wastewater systems for the proportional amount of SBSA debt service attributable to each member. Participating members have covenanted to generate net revenues on their senior lien obligations in an amount equal to at least 1.2x annual debt service (ADS) requirements, including the use of unencumbered fund balances; the rate covenant in the financing agreements also requires net revenues of at least 1.0x ADS excluding unencumbered balances.
There is a common debt service reserve for the authority's bonds funded at maximum ADS, which is held by the trustee and which is wholly available to make up any participating member SBSA bond payment deficiency. Any draw on the debt service reserve would be replenished from receipt of subsequent monies from the delinquent member(s) which led to the draw.
INCREASING DEBT LOAD
Most of the authority's infrastructure currently in operation is nearing the end of its useful life and is in need of repair. As a result, SBSA capital spending over the next five years focuses on rehabilitation and repair of the authority's entire system. Capital needs total approximately $350 million, an increase of approximately $41 million since Fitch's last review.
Given the magnitude of expected capital costs, attributable SBSA debt obligations to members is projected to more than triple and exceed even the category 'A' rating medians by over 2x in the next five years. Debt per customer for Redwood City, WBSD and San Carlos is projected to be in the neighborhood of $10,000, $5,000 and $4,900, respectively in five years. The capital cost allocation amongst the members, is as follows: Redwood City (49% of total costs); WBSD (27%); San Carlos (15%); and Belmont (9%).
Also, Fitch notes that costs do not include an additional $72 million for a future nutrient removal project. While the bulk of the nutrient removal project costs are slotted for fiscal 2019-2022, a planned debt financing for the additional project is anticipated to drive debt ratios even higher.
LOWER MEMBER FINANCIAL METRICS
Financial performance for all participating members has been good but DSC is expected to weaken over the next few years as fixed costs rise. DSC for each member is anticipated to range from a high of 4.6x in fiscal 2013 to a low of 1.3x in the latter years of the projections as additional SBSA bonds are issued.
Liquidity ratios are somewhat mixed among the participating members, but all members have sufficient reserves given the limited operations of the respective systems and each is projecting to increase their fund balances through the forecast period. While the internal system capital needs of each member is manageable and expected to be funded primarily from surplus revenues of each respective system, all members are anticipating sizeable rate hikes to fund the debt associated with the authority's CIP. This is expected to nearly double the average monthly residential bills of each member by fiscal 2020. Nevertheless, wealth levels among all participating members are well above the national average, which should preserve some rate flexibility.
THE AUTHORITY
The authority is governed by a four-member commission with each member appointing a commissioner and each commissioner's vote weighted proportional to that member's ownership interest in the authority's system. SBSA bills members monthly for operations and maintenance costs and semi-annually for capital and debt service payments, including the SBSA bond payments. While the authority maintains certain reserves which are allocable to its members, these funds are not pledged to bondholders.
Additional information is available at 'www.fitchratings.com'
In addition to the sources of information identified in the U.S. Municipal Revenue-Supported Rating Criteria, this action was additionally informed by information from Creditscope.
Applicable Criteria and Related Research:
--'Revenue-Supported Rating Criteria' (June 12, 2012);
--'U.S. Water and Sewer Revenue Bond Rating Criteria' (Aug. 3, 2012);
--'2013 Water and Sewer Medians' (Dec. 5, 2012);
--'2013 Outlook: Water and Sewer Sector' (Dec. 5, 2012).
Applicable Criteria and Related Research:
Revenue-Supported Rating Criteria
http://www.fitchratings.com/creditdesk/reports/report_frame.cfm?rpt_id=681015
2013 Water and Sewer Medians
http://www.fitchratings.com/creditdesk/reports/report_frame.cfm?rpt_id=695756
2013 Outlook: Water and Sewer Sector
http://www.fitchratings.com/creditdesk/reports/report_frame.cfm?rpt_id=695755
U.S. Water and Sewer Revenue Bond Rating Criteria
http://www.fitchratings.com/creditdesk/reports/report_frame.cfm?rpt_id=684901
Additional Disclosure
Solicitation Status
http://www.fitchratings.com/gws/en/disclosure/solicitation?pr_id=792517
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