News Column

Fitch Upgrades Elsinore Valley Muni Water District, CA's COPs to 'AA'; Outlook to Stable

April 29, 2014

SAN FRANCISCO--(BUSINESS WIRE)-- Fitch Ratings upgrades the ratings on the following Elsinore Valley Municipal Water District, California (EVMWD or the district) debt to 'AA' from 'AA-':

--$232.6 million of water and sewer revenue certificates of participation (COPs);

--$75.3 million of bank certificates corresponding to series 2011A and 2008B variable rate COPs in the event they are converted to bank certificates in the future.

The Rating Outlook is revised to Stable from Positive.

SECURITY

The COPs are secured by payments made by the district in accordance with the installment purchase agreement. Installment payments are an absolute and unconditional obligation of the district and are backed by a pledge of net water and sewer revenues after payment of operating and maintenance expenses.

KEY RATING DRIVERS

UPGRADED ON STRONG FINANCIAL PERFORMANCE: Debt service coverage (DSC) has been consistently high relative to similarly rated peers, despite economic stress and variable weather conditions. Liquidity is extraordinarily strong.

CONNECTION FEE VOLATILITY: Revenues and DSC are more volatile than typical for a water-sewer utility due to significant connection fee revenue volatility. However, underlying water, sewer and property tax revenues provide a solid financial base even without connection fee revenues.

SUBURBAN RIVERSIDE SERVICE AREA: The district provides essential services to a sizeable suburban Riverside County service area that was very hard hit by the housing crisis. Incomes and population gains remain positive, despite lingering high unemployment.

SOLID RATE DISCIPLINE: The utility's board has approved rate increases as necessary to maintain sound financial performance. Moderate rate increases were approved for fiscal 2014 and 2015. Rates remain affordable despite these increases.

HIGH DEBT BURDEN: Debt levels are high, and expected to remain elevated over the near term as new borrowing offsets amortization.

NO DROUGHT RATIONING NEEDED: The district's local water supplies are limited, exposing it to the supply uncertainties related to imported supplies and weather variability. However, recent regional investments in storage have thus far insulated the region from the impact of the current severe California drought.

RATING SENSITIVITIES

SHIFT IN FUNDAMENTALS: The rating is sensitive to shifts in fundamental credit characteristics, particularly debt levels, rate-setting behavior and DSC. The Stable Outlook means that Fitch does not expect such shifts.

CREDIT PROFILE

EVMWD provides water and sewer services to about 150,000 residents of western Riverside County who live in and around the city of Lake Elsinore. The customer base is primarily residential. The payer mix is reasonably diverse with the top 10 customers providing 11% of revenues in fiscal 2013.

FINANCIAL PERFORMANCE REMAINS STRONG

The district has maintained strong financial performance despite periods of economic stress and drought. All-in DSC averaged a strong 2.4x annual debt service over the past three fiscal years ended June 30, 2013. Free cash-to-depreciation averaged a solid 108% over the period, providing ample funds to invest in the system after payment of both operating expenses and debt service. Development-related connection fee revenues vary with economic cycles, creating relatively wide swings in financial performance, but a stable base of water, sewer and property tax revenues provides adequate coverage even during periods of reduced development. Coverage excluding connection fees averaged a solid 1.8x over the past three fiscal years.

Liquidity remains extraordinarily strong with significant capital reserves providing a healthy cushion to withstand periods of decreased development activity. The district had $172.3 million of available cash and investments at the end of fiscal 2013, equivalent to 1,160 days of operating cash.

The district's board has a track record of solid rate discipline with water rate increases averaging 6.3% over the five years ended 2014 and sewer rate increases averaging a more modest 1%. Rates remain moderate at 1.7% of median household income under Fitch's affordability calculations, which assume water use of 7,500 gallons per month and considers combined bills of less than 2% of median household income (MHI) to be affordable. Fitch's standard demand assumption is below actual water use in this arid area, suggesting somewhat less rate flexibility. But rate flexibility is judged to be adequate with rates comparing favorably to other Southern California retailers of imported water.

SIGNIFICANT DEBT BURDEN

The district's main credit risk is an elevated debt burden. Debt was about twice the median for rated water and sewer systems at $3,354 per customer at the end of fiscal 2013. Debt-to-net plant assets (which relates the debt burden to the system's economic resources) was more typical at 42%, close to the 43% median for rated systems. Debt issuance (driven in part by renewed development) is likely to keep debt ratios fairly stable over the next five years. Debt amortization is typical with 36% of principal paid down in 10 years and 85% in 20 years. The district plans to issue as much as $64.3 million of debt over the next five years to fund its $132.3 million 2015 to 2019 capital improvement plan.

IMPORT DEPENDENT

The district is dependent on imported surface water, exposing it to supply curtailments in a prolonged or severe drought. EVMWD imports almost 60% of its water from the Metropolitan Water District of Southern California (Met Water; rated 'AA+' by Fitch) via the Western Municipal Water District (rated 'AA'). Met Water procures water from the Sacramento-San Joaquin River Delta via the California State Water Project (SWP) and from the Colorado River. Both river systems have been affected by drought in recent years, and the SWP has announced that it will only provide 5% of allocated water in 2014 due to the current drought.

Fitch generally views the district's reliance on imported water as a credit weakness that reduces supply security and increases the cost of water. However, Met Water's significant investments in water storage in recent years have paid dividends in the current drought, allowing Southern California and EVMWD to avoid rationing in the early stages of the drought. The district would have to curtail deliveries if the drought continued at its current, unusual severity, but the supply portfolio appears to be somewhat less vulnerable to typical droughts than previously expected. The district has also been working to increase local supplies, particularly by recycling waste water and expanding use of potable groundwater.

HOUSING DOWNTURN WEAKENS SERVICE AREA ECONOMY

The service area is solid, albeit still recovering from a deep economic downturn. The city of Lake Elsinore's development-driven economy came under intense economic stress as the national housing collapse buffeted Riverside County. The unemployment rate peaked at almost 15% in mid-2010 and has been falling since then. Lake Elsinore's unemployment rate has dropped 5.5 percentage points from its high and stood at a still-elevated 9.2% in February 2014. Job growth was healthy at 2.4% in 2013. MHI remains solid at about 121% of the national level. While the economy was clearly hard hit by the recession, it appears to have reasonable long-term prospects due to the availability of developable land within commuting distance of major Southern California employment centers, a continuing comparative advantage in trade and logistics industries, and continuing population gains.

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 and IHS Global Insights.

Applicable Criteria and Related Research:

--'Revenue-Supported Rating Criteria' (June 3, 2013);

--'U.S. Water and Sewer Revenue Bond Rating Criteria' (July 31, 2013);

--'2014 Water and Sewer Medians', Dec. 12, 2013;

--'2014 Outlook: Water and Sewer Sector', Dec. 12, 2013.

Applicable Criteria and Related Research:

2014 Outlook: Water and Sewer Sector

http://www.fitchratings.com/creditdesk/reports/report_frame.cfm?rpt_id=724357

2014 Water and Sewer Medians

http://www.fitchratings.com/creditdesk/reports/report_frame.cfm?rpt_id=724358

U.S. Water and Sewer Revenue Bond Rating Criteria

http://www.fitchratings.com/creditdesk/reports/report_frame.cfm?rpt_id=715275

Revenue-Supported Rating Criteria

http://www.fitchratings.com/creditdesk/reports/report_frame.cfm?rpt_id=709499

Additional Disclosure

Solicitation Status

https://www.fitchratings.com/creditdesk/press_releases/null/gws/en/disclosure/solicitation?pr_id=828140

ALL FITCH CREDIT RATINGS ARE SUBJECT TO CERTAIN LIMITATIONS AND DISCLAIMERS. PLEASE READ THESE LIMITATIONS AND DISCLAIMERS BY FOLLOWING THIS LINK: HTTP://FITCHRATINGS.COM/UNDERSTANDINGCREDITRATINGS. IN ADDITION, RATING DEFINITIONS AND THE TERMS OF USE OF SUCH RATINGS ARE AVAILABLE ON THE AGENCY'S PUBLIC WEBSITE 'WWW.FITCHRATINGS.COM'. PUBLISHED RATINGS, CRITERIA AND METHODOLOGIES ARE AVAILABLE FROM THIS SITE AT ALL TIMES. FITCH'S CODE OF CONDUCT, CONFIDENTIALITY, CONFLICTS OF INTEREST, AFFILIATE FIREWALL, COMPLIANCE AND OTHER RELEVANT POLICIES AND PROCEDURES ARE ALSO AVAILABLE FROM THE 'CODE OF CONDUCT' SECTION OF THIS SITE. FITCH MAY HAVE PROVIDED ANOTHER PERMISSIBLE SERVICE TO THE RATED ENTITY OR ITS RELATED THIRD PARTIES. DETAILS OF THIS SERVICE FOR RATINGS FOR WHICH THE LEAD ANALYST IS BASED IN AN EU-REGISTERED ENTITY CAN BE FOUND ON THE ENTITY SUMMARY PAGE FOR THIS ISSUER ON THE FITCH WEBSITE.



Fitch Ratings

Primary Analyst:

Andrew Ward, +1-415-732-5617

Director

Shannon Groff, +1-415-732-5628

Director

Committee Chairperson:

Karen Ribble, 1-415-732-5611

Senior Director

or

Media Relations:

Elizabeth Fogerty, New York, +1 212-908-0526

elizabeth.fogerty@fitchratings.com

Source: Fitch Ratings


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