AUSTIN, Texas--(BUSINESS WIRE)--Fitch Ratings takes the following rating action on the New Orleans, LA utility system revenue bonds and drainage special tax bonds (issued on behalf of the New Orleans Sewerage and Water Board [the board]) as part of its continuous surveillance effort:
--Approximately $172.8 million sewer system revenue bonds downgraded to 'BBB-' from 'BBB+';
--Approximately $34.6 million water system revenue bonds upgraded to 'BBB-' from 'B';
--Approximately $21.5 million drainage special tax bonds upgraded to 'A-' from 'BBB+'.
The Rating Outlook for all three securities is Stable.
RATING RATIONALE:
--The upgrade of the water revenue bond rating to 'BBB-' from 'B' reflects the improved financial profile of the water system, due to a series of rate increases, a recent FEMA reimbursement for prior years' expenditures, and re-allocation of administrative costs between the board's three systems.
--Conversely, the sewer system has weakened financially over the past two fiscal years due in part to various accounting and reporting changes that have contributed to sizable increases in operating costs; the downgrade to 'BBB-' from 'BBB+' is based on this weakened position, which has resulted in the sewer system violating its rate covenant.
--The upgrade of the drainage special tax bond rating to 'A-' from 'BBB+' reflects continued stable property tax collections, and moderate, steady growth in the tax base.
--A portion of the board's community disaster loan (CDL) principal was forgiven by the federal government in November 2010, and board officials are hopeful the remainder will be cancelled.
--The recent addition of two new senior staff members with extensive utility experience in other cities strengthens the caliber of board staff.
--Recessionary pressures continue to hinder the post-Katrina economic recovery in New Orleans; while employment totals have been increasing modestly in recent months as residents and businesses return to the city, the city's unemployment rate has climbed to levels higher than the state and U.S. averages.
--Significant amounts of money are still coming into New Orleans for various infrastructure projects; many are still in design stage, and the transition to construction should provide some positive economic momentum.
KEY RATING DRIVERS:
--Anticipated additional water and sewer rate increases are critical to finance operations, comply with rate covenants, and begin to address massive capital needs; however, affordability likely will become a credit concern if rates climb substantially.
--As the area continues to recover - albeit at an uneven pace - Fitch anticipates that further population gains will help restore customer counts and needed cash flow to the board's operations.
--Capital needs for all three systems are extremely large, and the task of funding needed improvements will remain daunting for an extended period.
SECURITY: The sewer revenue bonds are secured by a net pledge of revenues of the board's sewer utility system; the water revenue bonds are secured by a net pledge of revenues of the board's water utility system; the drainage special tax bonds are payable from and secured by the proceeds of a limited ad valorem tax.
CREDIT SUMMARY:
The financial positions of the water fund and sewer fund have shifted over the past 24 months, due to a number of factors. First, water system revenues continue to increase as a steady return of customers is augmented by a series of annual rate increases that has increased the average residential bill by nearly 50% since 2007. On the expenditure side, ongoing cost control measures have been accompanied by a recent FEMA reimbursement of nearly $17 million. These factors, along with a shift in administrative costs between the water, sewer and drainage funds that has reduced water system outlays, have improved both liquidity and debt service coverage for the water system; preliminary results for 2010 suggest coverage of roughly 1.50 times (x), a marked improvement from recent years. (This coverage calculation, along with sewer system coverage calculations, excludes the forgiveness of a portion of the board's CDL that is being booked in 2010 as an operating grant.) Projected cash and investments at 2010 year-end total $12.9 million, or roughly 90 days of expenditures. This improved financial performance has occurred despite an increase in the provision for doubtful accounts for 2010 to nearly $4 million (details below). Fiscal 2010 coverage excluding the one-time spike in the provision for doubtful accounts and an additional non-cash item for OPEB accrual would be in excess of 3.0x.
Conversely, the financial profile of the sewer system has weakened markedly as a result of the additional expenses for OPEB accrual, the increased provision for doubtful accounts, and the shift in administrative costs that have combined to apply upward pressure on expenses. The non-cash OPEB accrual and provision for doubtful accounts expenses combined total roughly $10 million for 2010, which significantly affects projected debt service coverage. Coverage (again excluding the CDL loan forgiveness revenue entry) is projected to be slightly below 1.0x for 2010, well below the system's 1.30x rate covenant minimum. According to staff, the spike in provision for doubtful accounts is a one-time write-off of receivables from accounts closed in 2007 (accounts that had been kept open in late 2005 and 2006 following Katrina). They anticipate this expense will return to a more typical amount - the sewer loss provision had averaged less than $1 million annually prior to 2005 - which should improve operating results and coverage levels. Coverage for 2010 excluding this increased loss provision and the OPEB accrual would be roughly 1.35x. Sewer system liquidity also has weakened, which Fitch notes is a factor in this rating action. Projected cash and investments at 2010 year-end total only $2.3 million, or 16 days of spending.
The financial profile of the drainage system is satisfactory, and has benefited from steady increases in taxable value and a return of property tax collections to pre-2005 levels. Taxable assessed value (TAV) for 2010 was $2.76 billion, up 3% from the prior year; this increase was consistent with gains in 2008 and 2009. Likewise, property tax collections have climbed steadily since 2005 and at more than 85% current collections are consistent with historical levels. Outstanding drainage tax bonds are secured by one of three taxes levied by the board for drainage purposes, and 2010 revenues from this millage levy totaled $16.6 million, well in excess of annual debt service of $2.2 million.
Going forward, management recognizes the need to align recurring sewer and water utility revenues with expenses, build up liquidity, and generate funds for capital projects. Toward that end, the board selected an outside consultant to conduct a comprehensive financial plan and rate study for the water, sewer and drainage systems; initial results from the project are expected in spring 2011. Although Fitch believes that a combination of rate hikes and a steady increase in customer count will eventually further stabilize operations for both the water and sewer systems, utility charge affordability likely will be a concern given the relatively low wealth levels in the city.
All three systems have large future capital needs, which result from a combination of storm damage and aging infrastructure. Estimated capital costs for the water system through 2015 total roughly $300 million, while costs for the sewer and drainage systems total $445 million and $2.18 billion, respectively. Funding for drainage projects will be financed in part with federal monies - currently projected at more than $1.2 billion for this period. Fitch notes that none of the systems are generating surplus revenues sufficient to make a significant contribution towards the sizable capital needs of each system. As capital needs are deferred, the potential for service interruptions and increased costs in the future climbs. The sewer system's debt level is relatively high at roughly $1,975 per customer, while the water and drainage systems debt loads are fairly modest. The debt total for all systems includes $77.5 million in debt service assistance that was provided by the state as authorized by the Gulf Opportunity Zone Act of 2005. The New Orleans Board of Liquidation serves as debt service custodian for all board debt, as well as the authorizing agency on all bond issuances, while contributing an advisory and oversight role on rate matters.
Recessionary forces have affected News Orleans' tourism business and retail activity, dampening the positive effect of ongoing reconstruction activity in the city. Also, the 2010 gulf oil spill has affected offshore drilling activity and commercial fishing and seafood processing. Despite the weakened economic climate, the city is registering employment gains and numerous large-scale infrastructure projects are either in design or under construction. Fitch believes that the large amount of recovery and rebuilding money flowing into the city and surrounding area over the near term will provide a certain level of support to economic activity and will establish a solid foundation for future economic growth. Notable projects include the new LSU-VA medical complex under construction, a recently announced steel and iron plant in nearby St. James Parish, and the scheduled re-opening of the Hyatt Regency downtown hotel in fall 2011. Meanwhile, state and local officials are working to locate a new buyer/user for the Avondale Shipyard; the area's largest employer with more than 4,000 workers, this facility is scheduled for closure by Northrop Grumman in 2013. While progress on various fronts continues, Fitch notes that much work remains to be done in the critical areas of housing, healthcare, education and public infrastructure; the city still faces years of recovery ahead.
The most recent estimates put the city's population at roughly 355,000, or roughly 75% of the pre-storm total. Employment registered some moderate improvement in recent months, and October 2010 totals indicate a 2.5% increase in employment over the same period in 2009. Despite the recent gains, employment in the metro area remains about 15% below pre-Katrina levels. The latest city unemployment rate of 9.8% (October 2010) was up from last year and higher than the national (9.0%) average for the month. The current utility customer base of more than 120,000 has shown steady growth since June 2008 when a program to aggressively pursue and close inactive accounts peaked, and the customer count now is approximately 87% of the pre-Katrina total of more than 140,000.
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 additionally informed by information from Creditscope, University Financial Associates, LoanPerformance, Inc., and IHS Global Insight.
Applicable Criteria and Related Research:
'Revenue-Supported Rating Criteria', dated 8 Oct 2010.
'Water and Sewer Revenue Bond Rating Criteria', dated 6 Aug 2008.
For information on Build America Bonds, visit www.fitchratings.com/BABs.
Applicable Criteria and Related Research:
Revenue-Supported Rating Criteria
http://www.fitchratings.com/creditdesk/reports/report_frame.cfm?rpt_id=564565
Water and Sewer Revenue Bond Rating Guidelines
http://www.fitchratings.com/creditdesk/reports/report_frame.cfm?rpt_id=395918
ALL FITCH CREDIT RATINGS ARE SUBJECT TO CERTAIN LIMITATIONS AND DISCLAIMERS. PLEASE READ THESE LIMITATIONS AND DISCLAIMERS BY FOLLOWING THIS LINK: HTTP://FITCHRATINGS.COM/UNDERSTANDINGCREDITRATINGS. IN ADDITION, RATING DEFINITIONS AND THE TERMS OF USE OF SUCH RATINGS ARE AVAILABLE ON THE AGENCY'S PUBLIC WEBSITE 'WWW.FITCHRATINGS.COM'. PUBLISHED RATINGS, CRITERIA AND METHODOLOGIES ARE AVAILABLE FROM THIS SITE AT ALL TIMES. FITCH'S CODE OF CONDUCT, CONFIDENTIALITY, CONFLICTS OF INTEREST, AFFILIATE FIREWALL, COMPLIANCE AND OTHER RELEVANT POLICIES AND PROCEDURES ARE ALSO AVAILABLE FROM THE 'CODE OF CONDUCT' SECTION OF THIS SITE.