TEXT-Fitch cuts North Salt Lake City, revises outlook to negative
Nov 12 - Fitch Ratings downgrades the rating on the following bonds for North Salt Lake City, Utah (the city): --$7.3 million in outstanding water revenue bonds to 'A-' from 'A+'. The Rating Outlook is revised to Negative from Stable. SECURITY The bonds are secured by a first lien on and pledge of the net revenues of the city's complete water system (the system), including impact fees. KEY RATING DRIVERS FAILURE TO RESTORE LIQUIDITY: The downgrade of the water system revenue bonds reflects a failure to rebuild unrestricted cash balances and Fitch's expectation that those balances will not be restored in the near term. Fitch previously anticipated improvement to the system's liquidity levels which did not materialize. INTERMITENT RATE SUPPORT: The city successfully implemented a delayed and much-needed double digit rate hike late in fiscal 2010 that succeeded in restoring strong debt service coverage levels. However, the increase failed to rebuild liquidity as the system instead repaid a portion of funds it had borrowed from the city's capital improvement fund. Prior city councils were reluctant to increase rates to fund system improvement and expansion due to rapid growth and future rate increases are projected to be minimal. RELIANCE ON CONNECTION FEES: The city has been dependent on one-time connection fees to support operations and capital improvements. Annual debt service (ADS) coverage without connection fees was historically weak, falling below 1.0x. TRANSITIONAL MANAGEMENT: The city is currently without a financial director. Fitch is concerned that this leaves the city without financial leadership at a time when guidance appears needed to improve the system's liquidity position. AMPLE WATER AND TREATMENT CAPACITY: The city maintains ample water supply and treatment capacity. DIVERSE AND RAPIDLY GROWING ECONOMY: The city has seen rapid growth with population doubling in the last decade. Wealth levels are above the state and national averages and unemployment is favorable falling below the state and nation. The city also benefits from it close proximity to the Salt Lake City metropolitan statistical area (MSA). WHAT COULD TRIGGER RATING ACTION UNCERTAINITY OF FINANCIAL PLAN: Management's lack of a cohesive and effective plan to restore liquidity to levels consistent with an 'A' category rating could result in negative rating action. CREDIT PROFILE LIQUIDITY REMAINS LACKING The downgrade to 'A-' reflects the system's failure to increase unrestricted cash balances as had been previously expected and the lack of a plan to do so. Liquidity (reported as days cash on hand ) dropped sharply in 2008 to just 13 days and was depleted in fiscal 2010. Fiscal 2011 reported a small uptick to 26 DCOH, but unaudited results for fiscal 2012 point to another year-end with no unrestricted cash available. The system's liquidity position was depleted due to rapid capital investment and delayed rate adjustments. This resulted in the system relying on inter-fund loans from the city's capital improvement fund. Unaudited results for fiscal 2012 report the system owing the capital improvement funds over $700,000. While it was Fitch's expectation in past reviews that a significant rate increase would replenish unrestricted cash balances, this has not happened due to the system's rapid repayment of inter-fund loans. RATE INCREASE IMPROVES COVERAGE With a sharp decline in connection fee revenue, the need to maintain capital spending commitments, and a delay in implementing a planned rate hike, both debt service coverage and liquidity levels diminished significantly in fiscal years 2009 and 2010. Audited results for fiscal 2009 and 2010 reported ADS coverage of 1.09x, a violation of the 1.25x bond covenant. Following the 36% rate increase adopted in March 2010, coverage has rebounded to over 2.0x in fiscal 2011 and unaudited fiscal 2012 registers at 2.7x. DELAYED RATE ADJUSTMENTS While previous city councils had been reluctant to raise rates, the current council followed up the double digit rate increase with 3% and 1% hikes in fiscal years 2011 and 2012, respectively. Rates remain affordable given the areas above average wealth levels and register at 0.6% of median household income (MHI), well under Fitch's affordability threshold of 1% of MHI. LOW DEBT BURDEN Overall debt levels on a per capita basis register at $433, well under the $743 'A' rating category median level. Amortization is very rapid with 70% principal pay out in 10 years. The five year capital improvement plan totals over $11 million, or $2,169 per customer. Fiscal year 2012 and 2013 projects account for the majority ($9 million) of the plan and are to be funded with remaining bond proceeds and impact fees. AMPLE SUPPLY WITH SOME CONCENTRATION The system provides water service to almost 6,000 connections, with the majority of those being residential accounts. Water demand totals around 4,000 acre-feet annually with 2,705 acre-feet provided through a take-or-pay contract with Weber Basin Water Conservancy District (rated 'AA+' by Fitch with a Stable Outlook) and the remainder being supplied by city wells. While usage of Weber Basin water varies depending on weather conditions, only about 50% of it is typically utilized, which provides adequate supply, along with the city's wells, to accommodate future growth and development needs. There is some concentration with the largest users representing 15% of revenues in fiscal 2011, but all are reportedly stable customers. The city has sufficient water rights to both imported and local well water to meet its projected culinary water needs through build-out. RAPID POPULATION GROWTH, DIVERSE ECONOMY The city is a community of 16,600 residents located seven miles north of Salt Lake City (rated 'AAA' by Fitch with a Stable Outlook). Located in Davis County, the city of North Salt Lake is approximately seven miles north of Salt Lake City and is bordered by the Wasatch Mountains on the east and the Great Salt Lake on the west. The city's economy benefits from its location and participation in the greater Salt Lake City MSA. Wealth levels are above average at 124% and 137% of the state and national averages, respectively.
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