Fitch Affirms Ontario Airport (CA)'s Rev Bonds at 'A-'; Outlook Revised to Stable
The outlook revision reflects the stabilizing traffic performance following an extended period of measureable enplanement declines since the recession. ONT's financial profile continues to remain healthy with coverage levels currently over 1.6x while leverage is very low benefiting from modest debt levels and high unrestricted cash on the balance sheet.
The 'A-' rating reflects the airport's limited traffic activity with exposure to competition from larger airports serving the greater Los Angeles region. While ONT's traffic base is primarily origination and destination (O&D), an elevated cost per enplanement (CPE) may challenge its competitive position to attract new air services. Mitigating these concerns is the sound fiscal position of stable debt service coverage levels, very low debt balances, and solid cash balances. The rating reflects the current debt structure and arrangement for ONT's ownership and operation, and, does not reflect changes to the outstanding airport debt that is expected to take place once the airport's control is transferred to the OIAA later in 2016.
KEY RATING DRIVERS
Revenue Risk - Volume: Weaker
SECONDARY AIRPORT IN COMPETITIVE REGION: ONT is a secondary airport in the highly competitive southern California air service market, with a primary draw of passengers in the Inland Empire. The airport's traffic profile has shown considerable volatility and declines over the past decade; however, enplanements since fiscal 2015 have shown positive growth and enplaned passenger levels remain above 2.0 million. Airport nonstop services are focused mainly to western region markets and Southwest Airlines is the dominant carrier, accounting for approximately 57% of total enplanements.
Revenue Risk - Price: Midrange
STRONG AIRLINE AGREEMENT CONSTRAINED BY ELEVATED COSTS: The airport operates under a long-term residual use and lease agreement expiring in 2024, which provides the basis for strong cost recovery. All primary passenger and cargo airlines are participants to the agreement. Although the airport has the ability to pass costs on to the airlines, increasing its CPE above the already elevated $11 could put the airport at a competitive disadvantage to other airports in the region.
Infrastructure Development/ Renewal: Midrange
MANAGEABLE CAPITAL PLAN: ONT's infrastructure is in adequate condition with only routine maintenance appears to be needed. A multi-year capital budget is not clearly identified at this time and, upon airport transfer, OIAA's new management is expected to develop a forward-looking spending plan. Despite the limited overall needs, in Fitch's view, the new authority will have limited funding flexibility to defray capital projects as future PFC revenues will be encumbered until settlement payments to Los Angeles are fully paid. Receipt of future federal entitlement grants may also be more limited in light of the recent increase of the PFC rate to the maximum $4.50 level. Still, no additional debt is anticipated to fund the airport's near term capital needs, and debt borrowings may only be done at a subordinate lien level until all LA payments are fulfilled.
Debt Structure: Stronger
CONSERVATIVE DEBT STRUCTURE: The airport's outstanding debt profile consists of entirely fixed rate, fully amortizing bonds with final maturity in 2026. Its debt service schedule is relatively flat with annual debt service payments ranging from $7.0 million to $7.3 million. Covenants and reserve requirements are at levels similar to most U. S. airports.
LOW LEVERAGE, STRONG LIQUIDITY: The airport's debt service coverage ratio (DSCR) above 1.6x (including.25x coverage supported by airport fund transfers) provides adequate financial cushion. Unrestricted cash of $67 million in fiscal 2016 (unaudited), equivalent to about 550 days cash on hand, is greater than the amount of debt outstanding at that time, resulting in a negative net debt to cash flow available for debt service (CFADS) ratio.
PEERS: Comparable peers include Burbank and Long Beach (CA) airports with both rated in the 'A' category and are secondary airports in the Los Angeles air trade area. ONT is comparable to Burbank with negative overall leverage but has a higher CPE level. Long Beach has higher leverage (4.3x) but a similar 1.5x-1.6x DSCR range.
--Material Traffic Declines: A return to further traffic declines or elevated volatility resulting in a measurably lower enplanement base, further weakening the airport's franchise strength.
--Operating Cost Management: Inability to strategically manage costs resulting in increases to the already elevated CPE;
--Liquidity Balances: Significant erosion in the airport's strong liquidity position, beyond the planned payments to be made to Los Angeles, leading to an increase in net airport leverage.
--Unlikely at present given the current airport profile and the near term transitions associated with the expect ownership transfer.
SUMMARY OF CREDIT
OIAA is moving forward to assume ownership and operational control of ONT from Los Angeles, which may be completed by November 2016. The ONT settlement with Los Angeles includes a series of payments to Los Angeles but with these obligations, OIAA is still expected to maintain sound fund balances and low overall leverage. A new leadership team for OIAA as well as a staffing plan for ONT should be supportive for the initial transition; however, execution risks remain to manage costs and increase air services during the initial years of OIAA control. Also, formulation of capital spending plan under new management remain an uncertainty, including the size and funding sources.
The airport has recently been showing signs of positive operational activity since 2015 following a lengthy period of traffic declines as a result of a weak local economy and competition from nearby airports. Enplanements increased by 1.1% to 2.1 million in fiscal 2016, which followed a more robust 4.1% increase the prior year. ONT flights are primarily regional in nature and all services offered at ONT are also available from LAX, the primary airport in the region, and usually at higher frequencies and capacity. Measurable growth in future traffic remains unclear and Fitch believes the historical uneven enplanement performance and volatility could continue in future years, reflecting the economic and competition risks.
Capital needs at the airport are expected to remain modest, up to $50 million over the next five years, and no additional borrowings are anticipated to cover these costs. Still, subject to the transfer of the airport to OIAA, funding sources will be more limited as compared to most U. S. airports as PFC collections will be fully encumbered to cover future Los Angeles settlement payments ($120 million in total from PFC funds with the remainder from airport funds and City of Ontario payments) while entitlement grants will be reduced in future years in conjunction with ONT's recent increase to the maximum $4.50 PFC rate. ONT can pass on pay-go capital costs to the airlines but this approach may be difficult to implement as it will also directly increase airline costs. The PFC transfers to LA under the settlement funding plan is a mechanism of reimbursements for past LA contributions to the Ontario airport. Until all payments are completed, ONT cannot issue bonds at the senior lien level.
Estimated CPE for fiscal 2016 was $11.50, an increase from approximately $10 from the prior year but still within the average levels seen over the past five years. Prior cost containment actions were done in response to recent traffic declines, especially reductions in staffing levels. To the extent the airport transfer to OIAA is completed, further expense reductions could be implemented. Expenses in 2014 were 10.9% lower than 2013 and are currently 32% lower than expenses in 2008. Given the potential sensitivity of costs to airline services, Fitch will continue to monitor ONT's longer-term CPE management.
DSCR remained stable in recent years as noted by a healthy 1.66x coverage in 2016, which is above the historical DSCR 1.4x-1.5x range. Despite the full residual airline agreement, coverage ratios are sensitive to the level of capital spending passed on to carriers. ONT's strong liquidity position, evidenced by over $80 million of unrestricted cash and operating reserves, allows for airport leverage to remain in a negative level.
Fitch's base case scenario assumes slight traffic increases of 1% to 2.26 million enplanements by fiscal 2022. Operating revenues and expenses are assumed to increase at a 2.6% and 3.4% annual rate. Not taking into account additional pay-go capital spending charged to carriers, DSCR levels are expected to remain near the 1.5x level under such scenario while CPE remains in-line to the historical range of $10-$11 per enplanement.
The rating case assumes an 8% aggregate traffic reduction through 2018 followed by no recovery. Operating revenues and expenses are assumed to increase at a 2.5% and 3.2% annual rate taking into account the changes in traffic levels. DSCR levels are expected to remain at the same levels as the base case given the residual airline agreement while CPE does increase to a $14 per enplanement level. In both the base and rating cases, ONT should be able to maintain a negative net leverage position as preservation of strong cash reserves and amortization of outstanding or refunding debt should support this trend.