Moody’s Investors Service last week downgraded the New Orleans Sewerage and Water Board’s revenue debt to Baa1 from A3 with a negative outlook. The move affects $172 million of outstanding sewer revenue bonds.

The Baa1 rating reflects the monopolistic system’s service area, which is still recovering from Hurricane Katrina, and a financial position characterized by uneven coverage levels, failure to meet the rate covenant in 2009, a negative cash position and negative net working capital, analyst Robyn Rosenblatt said.

“The negative outlook reflects the challenges Moody’s believes the system will have in the next two years to adjust financial operations to accommodate significant borrowing needs necessitated by the Environmental Protection Agency consent decree renegotiated in 2010, stabilizing financial margins and restoring satisfactory cash balances,” Rosenblatt said.

“Failure to implement an adequate rate structure to achieve markedly improved financial results could result in a multi-notch rating change.”

The rating also incorporates satisfactory legal provisions, including a gross revenue pledge with monthly deposits for the benefit of bondholders, a debt-service reserve fund and 1.30 times rate covenant.

It has been six years since Katrina, and the enterprise sewer system’s customer count is down 15% while consumption remains 34% off pre-storm levels.

Despite the declines, there has not been a commensurate drop in the system’s operating or debt service costs, nor have rate increases been sufficient to offset declining revenues, Rosenblatt said. Since Katrina, the system enacted one sewer rate increase of 14% in July 2006.

The system is expected to have increases in debt service and fixed costs to meet an EPA consent decree deadline in 2015. Costs are estimated at $242 million of which $233 million is expected to be debt. The system also is due to begin repaying $66 million of Gulf Coast tax-credit bonds in 2012.

Though the system failed to meet its rate covenant in fiscal 2009, bond counsel said a recently completed rate study was sufficient to avoid a technical default under the system’s resolution, Moody’s said. Fiscal 2010 resulted in coverage of 2.1 times.

The city hired an outside firm to conduct a rate study and perform multi-year forecasting of system capital and operating needs, which will be released in the next two months. Multi-year rate increases are expected to be recommended.

The system has 124,233 customers.

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