AUSTIN, Texas--(BUSINESS WIRE)--Fitch Ratings has assigned an 'A+' rating to the following bonds issued by the Lower Colorado River Authority, TX (LCRA):
--Approximately $190 million transmission contract refunding revenue bonds, series 2016.
Proceeds will be used to refinance commercial paper, refund series 2006A bonds for savings and pay costs of issuance. Bonds are expected to price during the week of June 6.
In addition, Fitch has affirmed its 'A+' rating on the following parity LCRA bonds:
--$1.73 billion in outstanding transmission revenue bonds, series 2006A, 2008, 2009, 2010, 2011A&B, 2013, 2013A and 2015.
Fitch has withdrawn the 'A+' rating on the transmission contract revenue bonds, series 2013B as the bond did not sell.
The Rating Outlook on all bonds is Stable.
SECURITY
The bonds are issued by the Lower Colorado River Authority (LCRA), TX, on behalf of its wholly owned subsidiary, the Transmission Services Corporation (LCRA TSC). Bonds are secured by installment payments from LCRA TSC to LCRA. LCRA TSC makes the payments from net revenues of its transmission business. However, the installment payments to support the bonds are subordinate to contractual commitment payments made to LCRA, which support the $196.4 million remaining transmission-related debt held by LCRA (as of June 30, 2015), issued prior to 2002.
KEY RATING DRIVERS
TRANSMISSION BUSINESS: LCRA TSC is an LCRA transmission system-affiliated nonprofit corporation. Transmission is a regulated industry within the Electric Reliability Council of Texas (ERCOT) and revenues are paid by retail electric customers across the ERCOT system, which serves 90% of electric consumers in Texas.
STRONG REGULATORY SUPPORT: LCRA TSC is a regulated utility, subject to Public Utility Commission of Texas' (PUCT) rate approval. Timely rate approval and recovery, particularly through the interim capital addition rate process, is a positive credit factor.
STATEWIDE REVENUE COLLECTIONS: LCRA TSC benefits from the geographic diversity and essential nature of transmission services within ERCOT. Revenues are collected from 81 electric distribution service providers (DSPs) in the ERCOT market. The transmission rate must be paid to LCRA TSC, regardless of the energy supplier chosen by a retail user, which is permitted under the deregulated retail energy market within ERCOT.
CONSISTENT FINANCIAL PERFORMANCE: Debt service coverage is healthy and consistent, reflecting the regulated rate of return approved by PUCT. Coverage has been at or above 1.4x in the past five years. Liquidity is strong.
LCRA MANAGEMENT OVERSIGHT: There is operational and management oversight provided by LCRA (generation revenue bonds rated 'A' by Fitch), even though the revenue stream securing the transmission bonds is not paid from LCRA's other revenue sources (generation and water).
RATING SENSITIVITIES
DETERIORATION IN FINANCIALS OR REGULATORY SUPPORT: Consistently weaker financial margins driven by lower regulatory rates of return or cost recovery could result in downward pressure on LCRA Transmission Service Corporation's rating.
CREDIT PROFILE
STATEWIDE, REGULATED REVENUE STREAM
Statewide transmission costs are determined by the PUCT pursuant to rate cases filed by LCRA TSC and other transmission service providers (TSP). The transmission costs of each of the TSPs are added together to arrive at the statewide transmission rate that is charged to each retail utility or DSP according to load. ERCOT's overall transmission costs and related rate have increased substantially over the past five years due to the building of numerous transmission lines to interconnect substantial wind generation development. The statewide transmission rate is $50.48 per kw of peak usage in 2016, up from $28.11 per kW in 2011.
The DSPs are regulated by the PUCT and provide service within certificated service areas within ERCOT. Transmission services are not deregulated and are therefore not subject to competition within ERCOT.
LCRA TSC is a transmission service provider as defined by the PUCT. The TSPs are the traditional 'wires companies', whose primary business is the transmission of electricity. The PUCT determines the reasonableness of the transmission costs submitted by each TSP. Those collective costs are then summed and allocated to the DSPs. As a result, LCRA TSC's revenues are provided by all DSPs throughout ERCOT according to their four-month peak reached the prior year.
CONSISTENT CREDIT QUALITY OF DSPs
There is some concentration and credit risk related to the DSPs. The largest DSPs and payers of the transmission charges securing bondholders are Oncor Electric Delivery Company (Oncor, 36%; IDR rated 'BBB'/Stable Outlook), CenterPoint Energy Houston Electric, LLC (25%; IDR 'BBB+'/Stable Outlook), AEP (9%; IDR 'BBB+'/Stable Outlook), and San Antonio City Public Service (7%; revenue bonds 'AA+'/Stable Outlook).
The credit quality of Oncor is considered by Fitch to be effectively ring-fenced from Energy Future Holdings Company LLC, its indirect parent holding company that filed for bankruptcy on April 29, 2014. Fitch does not expect any material financial impact on Oncor as a result of the bankruptcy or its pending sale.
DSPs receive their revenue, in turn, from the Retail Electric Providers (REPs). In areas of ERCOT where customer choice is permitted, each retail customer selects a REP. REPs contract with power generation companies to receive power and bill the retail electric customers for that cost of power plus the distribution and transmission costs in one consolidated bill.
The DSPs consolidate payments from the REPs in their service area and remit payments monthly to the TSP, limiting the DSP counterparty risk from individual REPs. If a DSP does not receive payment from a REP, that DSP is still required to make the full payments to the TSPs. The process of 81 DSPs making monthly payments to each of the 49 TSPs is well established and not viewed as a material risk to LCRA TSC.
STRONG AND TIMELY REGULATORY RECORD
Timely rate recovery provided by the PUCT has been a positive credit factor since LCRA TSC began operations in 2002. There are two types of rate cases that provide timely relief to LCRA TSC. The full transmission cost of service (TCOS) rate case provides a full rate review in which all expenses and costs of capital are reviewed and adjusted. The PUCT permits recovery of 0.25x above LCRA TSC's own 1.25x rate covenant for debt service costs from transmission-related projects. A TCOS rate case can be filed as frequently as necessary. LCRA TSC's last TCOS was filed in November 2011 and became effective March 2012. LCRA TSC currently has no plans to file another TCOS rate case in the next few years.
The interim capital additions update (ICA) is a partial rate review in which rates are updated to reflect changes only in the cost of invested capital and taxes since the prior TCOS rate case. LCRA TSC has typically filed ICAs annually but is able to file up to two per year. The ICAs are typically implemented more quickly than TCOS rate cases. The ICA allows construction costs to be rolled into rates as soon as a project is in service, limiting the delay in rate recovery, to some degree, during a large capital program. Costs recoverable under the ICA are limited to invested capital with the previously approved rate of return, depreciation and taxes.
TSC has completed 11 ICA filings since it began operations, and has received the full amounts requested under those filings. The interim process provides an advantageous mechanism to recover capital carrying costs in a timely manner during construction, without requiring the utility to wait until construction is complete and the asset is placed into service.
STABLE FINANCIAL PERFORMANCE
As a regulated utility, debt service coverage is a result of the regulated rate of return permitted by the PUCT of 1.5x debt-related expenses for capital projects. Fitch's calculated debt service coverage for LCRA TSC has ranged between 1.4x and 1.7x over the past five years. Coverage can be lower than the approved 1.5x rate of return by the PUCT due to capital spending and some regulatory lag in the ICA process LCRA TSC's 2017 business plan conservatively projects coverage will remain between 1.3x and 1.4x as LCRA TSC plans to move into a period of stronger capital spending.
FINANCIAL OBLIGATIONS TO LCRA
In 2014, the LCRA Board of Directors approved two new revenue transfers from LCRA TSC to LCRA. The first is a new transfer to LCRA's resource development fund that will equal 2% of LCRA TSC's revenues, or $7.4 million in fiscal 2015 and $7.7 million in fiscal 2016. This payment is made as a non-operating expense of LCRA TSC and occurs prior to payment of debt service. Fitch calculated debt service coverage in fiscal 2015 was 1.54x before the payment of this amount. Including the payment, Fitch calculated coverage would have declined only modestly to 1.49x. However, if the transfer amounts are increased materially above the current expectation of 2%, credit concerns for LCRA TSC bondholders could arise.
The second new transfer is an increase in the contractual commitment payment to LCRA. LCRA has the right each year to request an additional equity transfer from LCRA TSC to support the remaining transmission debt held at LCRA. LCRA has historically only collected 1.0x coverage of the contractual commitment from LCRA TSC, but in fiscals 2014 through 2016 increased collection to 1.25x the contractual payment, which resulted in an additional $7.1 million payments annually.
A determination about the extraordinary payment amount must be made each year by the Board, if revenues and reserve targets are met, but it is LCRA's intent to make similar transfers in the future. The increased payments will not result in a transmission rate increase but will be funded from the existing margin (1.5x debt costs) already allowed in the existing rates. The current magnitude of this transfer is similar to the above payment to the resource development fund through 2021 when the contractual payments decline, although it is paid after debt service to bondholders.
SUBSTANTIAL CAPITAL SPENDING WILL BE DEBT FINANCED
LCRA TSC's business model focuses on developing transmission projects. LCRA TSC has $1.2 billion in capital projects in its 2017 five-year capital plan. The amount was increased from $918 million in the 2016 capital plan and $725 million in the 2015 business plan. The increases reflect continued electric load growth across Texas. LCRA TSC estimates the use of an additional $901 million in debt to finance the capital plan. Debt levels are consistent with the relatively low business risk of the transmission operations. Debt to funds available for debt service was 8.0x in fiscal 2015 and debt to capitalization was 80%.
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Applicable Criteria
Rating U.S. Public Finance Short-Term Debt (pub. 17 Nov 2015)
https://www.fitchratings.com/creditdesk/reports/report_frame.cfm?rpt_id=873508
Revenue-Supported Rating Criteria (pub. 16 Jun 2014)
https://www.fitchratings.com/creditdesk/reports/report_frame.cfm?rpt_id=750012
U.S. Public Power Rating Criteria (pub. 18 May 2015)
https://www.fitchratings.com/creditdesk/reports/report_frame.cfm?rpt_id=864007
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https://www.fitchratings.com/gws/en/disclosure/solicitation?pr_id=1005169
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