Fitch Rates Tacoma, WA's Sewer Revs 'AA+'; Outlook Stable
OREANDA-NEWS. Fitch Ratings has assigned an 'AA+' rating to the following Tacoma, Washington (the city) sewer revenue bonds:
--$41 million sewer revenue refunding bonds, 2016A and 2016B.
The bonds are scheduled to price via negotiated sale during the week of May 4. Proceeds will be used to refund $12.9 million outstanding sewer revenue and refunding bonds, series 2006, and $33.6 million outstanding lease revenue bonds, series 2009.
In addition, Fitch affirms its 'AA+' rating on the following outstanding debt:
--$159.2 million (pre-refunding) sewer revenue and refunding bonds, series 2006, 2011, and 2015.
The Rating Outlook is Stable.
The bonds are secured by net revenues of the city's sewer utility system, which consists of two separate utilities, the sewer utility and the surface water utility. The bonds are additionally secured by a debt service reserve fund sized to the standard three-prong test. The reserve will be funded with cash (about $10 million) and a surety (about $3 million).
KEY RATING DRIVERS
STRONG FINANCIAL PERFORMANCE: Senior lien and all-in debt service coverage are strong and projections show continued strength over the next five years.
REVENUE STABILITY: The utility's revenue stream has remained steady during a period of persistent economic weakness in the local economy. Roughly half of total combined revenues are provided by fixed fees and not subject to wastewater flow or usage, which Fitch views positively.
GOOD RATE DISCIPLINE: The city has kept pace with rising operating costs through annual moderate rate increases. Rates are high relative to incomes, but remain affordable compared to regional peers. The system appears to have capacity to absorb annual planned rate adjustments in a similar range.
SOLID BUT DECLINING LIQUIDITY: The system maintains high reserve levels. However, liquidity has steadily declined over the last several years, and management anticipates continued yet measured drawdowns moving forward. Fitch anticipates the system will retain liquidity at sufficient levels to support the 'AA+' rating.
ADEQUATE SYSTEM CAPACITY: Existing wastewater treatment plant capacity is ample to meet current and expected flow demands of the system. Some of the excess capacity is used to treat wastewater flows of wholesale customers.
ELEVATED DEBT BURDEN: Debt levels are above average and principal amortization is average. Management plans additional borrowing in fiscal 2019, but the resulting debt burden should remain acceptable for the current rating level.
STRONG MANAGEMENT, OPERATIONS: The rating is sensitive to shifts in fundamental credit characteristics including continued adherence to the system's prudent financial management practices, strong financial operations, and stable revenue framework. Fitch believes that material weakening in these factors is unlikely.
The wastewater and surface water systems serve nearly 75,000 customers in and around the city of Tacoma. The city is located about 33 miles south of Seattle in Pierce County and is the second largest city in the Puget Sound region.
STRONG FINANCIAL PERFORMANCE
The combined system generated strong senior annual debt service (ADS) coverage of 5.3 times (x) in fiscal 2014. All-in ADS coverage, including the subordinate lien state revolving fund loans and subordinate transfers to the city's general fund, was sound at 2.5x. Management's five-year forecast, which Fitch views as reasonable, shows all-in coverage (net of transfers) falling to a trough of 1.7x in fiscal 2016 due to rising debt service and improving to about 2.0x thereafter. The forecast assumes no customer growth and continued annual rate increases consistent with previous rate hikes.
Fiscal 2014 cash levels were strong at $49 million (297 DCOH), despite at least five consecutive years of draw-downs. In prior years the system had accumulated a sizeable cash cushion in anticipation of major pay-as-you-go outlays to expand the system's Central wastewater treatment plant. Instead, the system received a low cost state revolving fund loan to finance the expansion, and has been spending down the excess cash by accelerating its capital improvement plan. Management expects further draw-downs of operating cash but not below its informal policy of 120 DCOH.
SEGREGATED COLLECTION SYSTEMS
The city provides wastewater and surface water collection services to 75,732 and 70,611 customers, respectively. This includes the wastewater customers ultimately serviced through long-term wholesale agreements with the cities of Fife, Ruston, Fircrest, and portions of Pierce County. The collection systems are separate, which has benefited the city over time as increasing operational efficiencies and necessary treatment levels can be focused on the distinct needs of each system.
SUFFICIENT TREATMENT CAPACITY
The city has ample treatment capacity for its wastewater flows, such that additional investment will not be needed for some time. In recent years the city completed a large $100 million investment in its Central wastewater treatment plant. The plant is permitted to provide secondary treatment to up to 60 million gallons per day (mgd) in dry conditions and may treat up to 150 mgd in the peak wet season. Flows are currently well below such levels with an average flow of 22 mgd and peak flow of 96 mgd in wet weather.
REVENUE STABIILITY GIVEN RATE DISCIPLINE
Revenue stability is provided by the fixed nature of the surface water charges and a portion of wastewater charges and by City Council's adoption of regular annual rate increases. The Council adopted annual rate increases of 6% and 5.5% for the wastewater and surface water systems, respectively, in fiscal years 2015 and 2016. Rates are billed bi-monthly on a combined basis with power, water, and solid waste. Rates for both the wastewater and surface water utility are relatively high at 1.7% of median household incomes, but competitive with regional providers. Multi-year projections assume rate increases in line with historical levels.
ELEVATED DEBT BURDEN; FOCUS ON PIPE REPLACEMENT
The city has an extensive asset management program and has identified replacement of the aging collection systems as a priority. Approximately 43% of the $192.7 million five-year capital plan relates to repair and replacement of the system's aging collection system. About 37% of the needs will be funded on a pay-go basis, while 55% will be paid from remaining bond proceeds and additional borrowing. Management expects to issue $70 million of sewer revenue bonds in fiscal 2019, approximately $50 million related to wastewater needs and $20 million to surface water.
Debt levels of around $2,400 per customer are modestly above Fitch's medians, reflecting strong system investment in recent years but will rise to more than 50% above current medians in the five-year horizon. Outstanding debt to net plant is 33%, which is below Fitch's medians. Amortization of principal is average.