SAN FRANCISCO--(BUSINESS WIRE)--Fitch Ratings has affirmed the 'AA-' rating on the following Redwood City Public Financing Authority, California water revenue bonds:
--$22 million series 2006A;
--$13.2 million series 2007A.
In addition, Fitch Ratings has withdrawn its ratings for the following Redwood City (CA) bond due to prerefunding activity:
--Redwood City Public Financing Authority (CA) water revenue bonds series 2005A (all maturities).
The Rating Outlook is Stable.
SECURITY
The bonds are secured by net revenues of the Redwood City water enterprise after payment of operations and maintenance expenses.
KEY RATING DRIVERS
VERY STRONG SERVICE AREA: The utility is the monopoly provider of essential water services to a high-income service area about halfway between San Francisco and San Jose. The city is home to major technology companies such as Oracle Corp. and Electronic Arts Inc., yet the utility's customer base is diverse and primarily residential.
ADEQUATE FINANCIAL PERFORMANCE: All-in debt service coverage averaged an adequate 1.6x over the past three fiscal years ended June 30, 2013. Liquidity remained healthy across the period and finished fiscal 2013 at a robust 264 days.
DISCIPLINED RATE SETTING: The City Council has adopted rate increases as necessary to maintain adequate financial performance, and rates remain affordable at 0.9% of median household income. Sizable rate increases are approved through 2016.
HIGH DEBT BURDEN: Debt per capita is high at $2,658 per customer and $803 per capita due to aggressive investments in water recycling and system maintenance. Debt is forecast to decline gradually with no further borrowing planned over the next five years.
JUST ADEQUATE WATER SUPPLIES: The city has access to an adequate, but limited, supply of water via long-term supply contracts with the San Francisco Public Utility Commission (SFPUC). Imported water costs are rising rapidly due to major improvements in the SFPUC water system.
RATING SENSITIVITIES
FINANCIAL PERFORMANCE: The rating is most sensitive to changes in financial performance. The Stable Outlook means that Fitch does not expect such changes over the next two years.
CREDIT PROFILE
The 'AA-' rating is one notch below average for Fitch-rated water and sewer revenue bonds. The rating reflects significant credit strengths, including a very strong service area, a well maintained system, forward-looking financial and capital planning, a willingness to raise rates when necessary and investments to improve the utility's water supply position through water recycling. These strengths are offset somewhat by a high debt burden, dependence on expensive imported water supplies, and financial performance that has been adequate but not strong.
ADEQUATE FINANCIAL PERFORMANCE
Financial performance is the main factor keeping the rating below the Fitch average. All-in debt service coverage averaged 1.6x over the three fiscal years ended June 30, 2013, below the median of 2.0x for 'AA-' rated utilities. Coverage has been volatile due to swings in water usage, variable connection fee revenues and unpredictable price increases from the SFPUC. The utility had $18.8 million of unrestricted cash and investments, or a healthy 264 days of operations, on hand at the end of fiscal 2013.
Coverage is likely to improve somewhat over the next four years as the utility implements approved rate increases to support increased pay-as-you-go funding of its capital program. The utility's forecast shows senior debt service coverage (before repayment of subordinate internal borrowing) rising to a robust average of 2.3x over the next five years. Such performance would probably put upward pressure on the rating, but Fitch is not yet confident that it will materialize. The utility's past performance has been inconsistent, missing prior forecasts. The city's current forecast may be overly in assuming no drop in water usage as the utility increases prices significantly.
SOLID RATE DISCIPLINE
Rate hikes have averaged 8.4% annually over the past five years, as the utility moved rates higher to accommodate increasing debt service and imported water costs. Similarly sized rate increases have been approved through fiscal 2016 without controversy. Rates are nearing a level that Fitch considers burdensome (above 1% of median household income for 7,500 gallons of water), but the utility's affluent rate payers have not yet objected to the level of rates. Rates remain competitive with other nearby agencies, most of which face the same cost pressures related to large SFPUC rate increases.
ELEVATED DEBT BURDEN
The utility's relatively narrow financial margins have required Redwood City to rely more heavily on debt to finance capital improvements than other rated utilities. Redwood City's per customer debt burden is 166% of the median for water and sewer utilities. The above average reliance on debt weighs somewhat on the rating, but the utility's investments in water recycling and system renewal are a credit positive. The system is well maintained with very low unaccounted for water loss, which should fall further with its current water meter replacement program. The current five year capital improvement program is modest at $23 million, or $982 per customer. It will require no further borrowing, allowing debt to decline to about $2,247 per customer and $664 per capita in five years. The projected debt figures are only slightly elevated relative to projected debt ratios for 'AA-' rated water and sewer utilities. Amortization is solid with 38% of principal repaid in 10 years and 90% in 20 years.
VERY STRONG SERVICE AREA
The utility's greatest strength is its service area. Redwood City is both home to major technology companies and a relatively affluent, highly educated populace. Median household income is very solid at 148% of the national level. The city's unemployment rate trended much lower than the state and national averages over the past decade. Redwood City's 5.1% unemployment rate in October was below the nation's 7% rate and well below California's 8.3%. The robust underlying economic fundamentals of the service area give the utility greater latitude to raise rates and the ability to make investments in the water system. Fitch believes this service area could support a higher rating if the utility's financial performance improves as forecast.
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 informed by information from CreditScope.
Applicable Criteria and Related Research:
--'Revenue-Supported Rating Criteria' (June 3, 2013);
--'U.S. Water and Sewer Revenue Bond Rating Criteria' (July 31, 2013);
--' 2013 Water and Sewer Medians' (Dec. 5, 2012);
--'2013 Outlook: Water and Sewer Sector' (Dec. 5, 2012).
Additional Disclosure
Solicitation Status
http://www.fitchratings.com/gws/en/disclosure/solicitation?pr_id=811852
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