Fitch Rates Metro Water Dist of Southern California Revs 'AAA/F1+'; Outlook Stable
Source: Business Wire
--$133,000,000 series 2010A (variable-rate self liquidity bonds), rated 'AAA/F1+'.
The Rating Outlook is Stable.
The variable-rate bonds will be issued in the weekly mode and are expected to sell via negotiation on June 23, 2010. Proceeds will refund certain outstanding variable-rate demand bonds that currently have a liquidity facility providing liquidity.
At this time, Fitch also affirms the following ratings on the district's outstanding debt:
--$4.5 billion in outstanding water revenue and water revenue refunding bonds at 'AAA';
--$208.4 million in outstanding water revenue refunding bonds (Index Notes), 2009A-1 and 2009A-2 at 'F1+';
--$255.1 million in outstanding waterworks general obligation bonds at 'AAA'.
The Outlook on the long-term revenue bonds is revised to Stable from Negative. The Outlook on the general obligation bonds remains Stable.
The Outlook revision reflects stabilization of financial performance with recovery of debt service coverage levels projected in fiscal 2011 and resumption of sustainable capital spending supported from revenues. Financial recovery is supported by sizable rate actions adopted in the last two years, a decision to further cut expenditures in fiscal 2011 rather than the additional use of reserves, and Metropolitan's action to reduce regional water use in fiscal 2010 to lower the high cost of replacement water sources in light of reductions in its own supply.
RATING RATIONALE:
--The 'AAA/F1+' rating on the series 2010A self-liquidity bonds, issued in the weekly mode, reflects the liquidity provided by Metropolitan's sizable cash and investments.
--The 'F1+' rating on the 2009 series A-1 and A-2 notes reflects Metropolitan's long-term credit quality and implied market access to successfully remarket the bonds.
--As an essential service provider to a large and diverse regional area and as a wholesaler, Metropolitan has strong pricing and supply control, enhancing financial flexibility.
--Metropolitan responded to an unprecedented supply reduction with significant rate increases totaling 75% on a cumulative basis over six years through January 2012, and a deviation from its usual Jan. 1 schedule for rate changes. Although rates have not kept pace with actual cost increases in the past two years, these significant rate actions during an economic recession continue to indicate strong rate flexibility.
--While Metropolitan's current financial position is healthy, it has declined with a further reduction projected in fiscal 2010 as reserves and capital spending deferrals were used when rate increases were insufficient to balance operations. Recovery is projected in fiscal 2011 following approved rate increases and expenditure reductions.
--Metropolitan's general obligation (GO) rating of 'AAA' is based on its ability to levy unlimited ad valorem taxes on its sizable $2 trillion tax base, with the property tax revenues restricted to be used only for debt service on the GO bonds and capital costs related to the State Water Project (SWP).
KEY RATING DRIVERS:
--Continued ability to balance constrained water supplies and sales to members as the economy recovers and utilization rises.
--Recovery of financial performance to Board adopted minimum targets, as currently projected in fiscal 2011.
--Careful management and attention to increasingly complex debt portfolio.
--Participation in a long-term solution in the Bay-Delta, which will likely involve additional capital spending, paid for by Metropolitan's members.
SECURITY/STRUCTURE:
The water revenue bonds are secured by net operating revenues and other available funds of the district. The definition of revenues does not include transfers from the rate stabilization fund or subsidies from the federal government related to the build America bonds.
The GO bonds are secured by an unlimited ad valorem tax on all property within the district. GO bonds are not supported by water revenues.
The variable-rate self liquidity series 2010A bonds are expected to be issued as variable-rate demand bonds in the weekly mode. The bonds are considered 'self liquidity' and rely on Metropolitan's cash reserves in the event of a failed remarketing; no external liquidity facility is in place. Payment of scheduled principal and interest on the bonds is secured by net revenues on parity with Metropolitan's outstanding water revenue bonds. However, payment of the purchase price of a tender (either optional or mandatory) is secured solely by a subordinate pledge of net revenues. The failure to pay purchase price does not constitute an event of default under Metropolitan's master resolution governing its water revenues bonds, nor does it trigger an acceleration of the variable-rate demand bonds.
The SIFMA index notes 2009A-1 and 2009A-2 bonds are outstanding in the index mode. Bondholders have the opportunity to tender the bonds at the end of the 12-month tender period. Metropolitan may optionally call the bonds at any time after the initial call protection period of six months. Payment of scheduled principal and interest on the notes is secured by a net operating revenue pledge on parity with Metropolitan's outstanding water revenue bonds. However, payment of the purchase price of a tender (either optional or mandatory) is secured solely by a subordinate pledge of net revenues. The failure to pay purchase price does not constitute an event of default under Metropolitan's master resolution.
CREDIT SUMMARY:
Metropolitan provides between 40%-60% of Southern California's water, depending on water conditions, and is responsible for the development and acquisition of the long-term water supplies for the region. The service territory is vast, covering six counties and a population of 19 million people. Metropolitan consists of 26 member public agencies, including 14 cities, 11 municipal water districts, and one county water authority. Member agencies purchase water from Metropolitan to supplement local supplies and then resell it on a wholesale or retail basis to more than 300 cities and numerous unincorporated communities in the district's service area. Metropolitan's supply is derived from two principal sources: Northern California's San Francisco Bay/Sacramento-San Joaquin River Delta water via the State Water Project (SWP), which provided approximately 75% of its water supply in 2007, and the Colorado River via the Colorado River Aqueduct, which provided the remaining 25%. Since 2007, the SWP supply source dropped considerably, supplying just over 30% of Metropolitan's water sales in 2008 and 2009. The remaining water supply was provided by the use of stored water, water transfers, exchanges, and water banking agreements (19%).
In response to this supply reduction, Metropolitan approved a water allocation plan in 2008 that dictated exactly how water would be allocated among members in the event of an extreme water shortage. In July 2009, a regional water shortage was declared and Metropolitan implemented the allocation plan at a level that required a 10% water use reduction. In order to recover lost revenues from lower sales and to fund expected higher water purchase costs (from regional water transfers), Metropolitan implemented a sizable 20% rate increase effective September 2009. This followed a 14% increase effective January 2009. The result was a preservation of financial performance in fiscal 2010, albeit with some weakening in debt service coverage to levels that are below Metropolitan's own formal targets. While water supply for the upcoming water year (calendar 2010 and fiscal 2011) should be slightly improved due to better hydrology conditions, the water year is only considered a 'dry water year' instead of a 'critically dry water year'. As a result, Metropolitan has kept its water supply allocation plan (with the 10% mandatory reduction) in place through June 2011. Metropolitan continues to implement substantial rate increases that will become effective January 2011 (7.5%) and January 2012 (7.5%). These actions are expected to improve Metropolitan's financial performance in fiscal 2011 to levels more in line with its own targets and Fitch's expectations at the 'AAA' rating level.
Debt service coverage in fiscal 2009 (June 30 year-end) was a good 1.79 times (x). This is in line with debt service coverage in the past few years but below Metropolitan's historical norms of debt service coverage levels that exceeded Metropolitan's Board approved target of 2.0x. Metropolitan projects that debt service coverage could decline to 1.52x in fiscal 2010 but then recovers to 1.9x in fiscal 2011 and goes above 2.0x in fiscal 2012. More importantly, fixed charge coverage is projected to decline to below 1.1x in fiscal 2010 before recovering to levels above the Board policy of 1.2x in fiscal 2011. Fixed charge coverage includes amounts paid to California Department of Water Resources (DWR) for capital costs associated with the SWP. Fitch believes fixed charge coverage more accurately reflects true cash flow debt service coverage, since the capital costs paid to DWR come from annual revenues, albeit on a subordinate basis. Planned rate stabilization fund transfers to support operations are projected to bring rate stabilization fund balances down to $276 million at the end of fiscal 2010, which is above the Board's adopted minimum target of $232 million. Unrestricted reserves are slightly higher, around $400 million.
SELF LIQUIDITY VARIABLE-RATE BONDS:
The series 2010A bonds will be issued as variable-rate demand bonds in the weekly mode. While Metropolitan has a large $1.6 billion portfolio of variable-rate demand bonds outstanding, this is the first series issued as 'self liquidity' bonds. The bonds will rely solely on Metropolitan's reserves to provide liquidity in the event of a failed remarketing; no other liquidity facility is in place. Payment of the bonds is secured by a first lien on net revenues of the district and is on par with outstanding revenue bonds. However, the payment of the purchase price of any tender is secured only by a subordinate pledge of net revenues. Payment of a tender purchase price is not explicitly secured by a pledge of cash and investments. Furthermore, the failure to pay the purchase price of a tender is not a cross default under the Master Resolution governing Metropolitan's outstanding revenue bonds.
Fitch believes that Metropolitan's sizable cash and investment portfolio, typically around $1 billion including unrestricted and restricted assets, provides sufficient internal liquidity to meet unremarketed tenders. Approximately $545 million is invested in highly liquid assets such as treasury bonds or federal agencies. Fitch specifically views Metropolitan's rate stabilization funds as the primary source of liquidity to support the bonds. The rate stabilization funds are replenished from net revenues and remain above a Board approved minimum level. However, Metropolitan is legally permitted to invest and hold its own securities, without limit, for up to 90 days so that, if needed, it could use any of its reserves to purchase the bonds in the event of a failed remarketing.
Metropolitan intends to secure a revolving credit agreement to provide support to its own liquidity and enable issuance of additional self-liquidity bonds. The agreement is expected to stand behind Metropolitan in payment on the bonds and would be a dedicated facility, to be used for no other purpose, but it would not directly pay bondholders. The agreement is anticipated to be sized at $400 million to support a like amount of variable-rate demand bonds. Fitch does not view Metropolitan's cash and investments as having the ability to support additional issuance of variable-rate self liquidity bonds without the agreement.
Applicable criteria available on Fitch's website at 'www.fitchratings.com' include:
--'Criteria for Assigning Short-Term Ratings Based on Internal Liquidity', Dec. 29, 2009
--'Revenue-Supported Rating Criteria', dated Dec. 29, 2009.
--'Water and Sewer Revenue Bond Rating Guidelines', dated Aug. 6, 2008.
Additional information is available at 'www.fitchratings.com'.
Contact:
Fitch Ratings
Kathy Masterson, 415-732-5622, San Francisco
Doug Scott, 512-215-3725, Austin
or
Media Relations:
Cindy Stoller, 212-908-0526, New York
Email: cindy.stoller@fitchratings.com
