San Francisco PUC in Large Water Revenue Refunding

hetch-hetchy.jpg

PHOENIX- San Francisco's water utility will issue almost $860 million of water revenue refunding bonds in a negotiated deal planned next week.

The Public Utilities Commission of the City and County of San Francisco will issue the bonds in two series over two days next week, according to an investor presentation.

A retail order period is planned for Wednesday, with institutional pricing the following day.

The proceeds of Series A, at about $732 million, will refund debt from 2009 and 2010. The proceeds of Series B, about $127 million, will refund bonds issued in 2006 and 2010.

JPMorgan is senior manager on the deal, and syndicate includes Citi, Siebert Cisneros Shank & Co., and US Bancorp. The bonds carry ratings of Aa3 from Moody's Investors Service and while a rating is still pending from S&P Global ratings, previous SFPUC water revenue bonds are rated AA-minus by that agency.

The SFPUC reports a $4.3 billion debt portfolio. The vast majority of that debt, 95%, is fixed rate bonds, with the remaining 5% being variable-rate commercial paper.

The PUC has no swap exposure. In its rating report, Moody's cited the SFPUC's "exceptionally large and diverse service area that includes a strong customer base," a point utility officials were also quick to make.

"We have an incredibly strong service area of retail customers and wholesale customers," Eric Sandler, SFPUC chief financial officer and assistant general manager said in the investor presentation.

The SFPUC provides retail water to the residents of the City of San Francisco and wholesale water to contractors in San Mateo, Santa Clara and Alameda counties. The majority of its water supply comes from the Hetch Hetchy watershed, which is fed by the Tuolumne River and its tributaries. The SFPUC's water enterprise provides service to roughly 2.6 million people.

California has been experiencing a historic drought that has significantly affected water providers in the state.

In April 2015 Gov. Jerry Brown issued an executive order implementing water use restrictions throughout the state, posing a significant potential challenge to issuers of water revenue bonds who would have to anticipate hits to the amount of waters their customers were using. In May of this year, Brown directed state water regulators to update the April 2015 water use restrictions for local water agencies with new restrictions tailored to each individual water agency's specific water supply circumstances and developed with their input.

Moody's said that step was favorable to water utility credits.

"As with most water agencies in California, the SFPUC has experienced reduced water sales over the past couple of years as a result of the calls for customers to conserve water," said SFPUC deputy CFO Charles Perl. The SFPUC has experienced about a 20% decline in water sales since 2012, he said, which led the commission to "retool" both its two-year budget and its 10-year capital plan.

"We cut operating costs, we rebalanced our capital spending assumptions, and of course we adjusted rates as needed," said Perl.

Perl said that San Francisco's water use is already among the lowest per capita in California and close to the minimum sanitary standards laid out by the U.S. Government, so it seems unlikely that retail water use could decline further.

The SFPUC has a fairly heavy issuance slate planned for the future, with rates on both retail and wholesale customers set to rise as well.

From 2017 to 2021, investor materials say, SFPUC plans to issue a little over $1.8 billion of debt. During that same timeframe, rates are projected to rise 50% for retail water customers and 40.3% for wholesale water customers. The assumptions assume 30-year revenue bonds at a 5% interest rate including three years of capitalized interest.

"The projected debt issuances use a conservative capital cost assumption," said Perl, "but of course we aim to do better than that."

Debt service projections predictably show a large increase along with the new issuance, rising from $241.5 million in 2016 to $362.6 million in 2021. The annual funds available for debt service are projected to rise from $393 million this year to $511.3 million in 2021, with the debt service coverage ratio falling from 1.63 to 1.41.

In rating the bonds, Moody's expressed the opinion that SFPUC's rate increases would successfully offset the drought effects and said that even though the SFPUC has had some issues with spending growth the commission's leadership has demonstrated its ability to rein in spending when necessary.

"Debt service coverage in fiscal 2016 was consistent with expectation and we anticipate stability over the next several years," the rating agency said. "That expectation is based in part on the SFPUC successfully limiting expenditure growth to 2%, a mark it has not consistently met the past several years. However, management has demonstrated an ability reduce costs as needed and a long track record of managing rates to generate a stable overall fiscal profile."

The SFPUC's $4.8 billion Water System Improvement Program is about 92% complete.

The series of more than 80 projects is aimed at providing an upgrade to regional and local water systems to make them more resilient to earth-shaking activity in the earthquake-prone Bay Area. The program is slated for completion in 2019.

"The real driver behind the program is seismic reliability," said SFPUC's Dan Wade, director of the WSIP.

The WSIP's last large remaining project is the Calaveras Dam replacement project, which began in 2011 and is now about 80% complete.

The capital plan will largely be funded by revenue bond issuance, with about 16% funded by cash, said SFPUC debt manager Richard Morales.

The commission's ambitious capital plan and its resulting debt will be a matter of close observation for analysts, Moody's said.

"Debt levels result in an exceptionally high debt to operating ratio of 10x, a figure that will remain elevated since the PUC is currently anticipating issuing additional revenue bonds in 2017 and 2018," said Moody's. "The timing and size of these future issuances will be a key rating consideration considering the already leveraged nature of the system and moderate debt service coverage."

The deal is expected to close Oct. 20.

For reprint and licensing requests for this article, click here.
California
MORE FROM BOND BUYER