Fitch Downgrades Palo Pinto Co. Muni Water Dist No.1, TX Rev Rfdg Bnds to 'A+'; Outlook Stable
Fitch Ratings takes the following rating action on Palo Pinto County
Municipal Water District No. 1, Texas (the district):
--$4.4 million revenue refunding bonds, series 2011 downgraded to 'A+'
Fitch also downgrades its implied rating on the water and sewer system
of the city of Mineral Wells, Texas (the city) to 'A+' from 'AA-'.
The Rating Outlook on both is Stable.
The bonds are special obligations of the district and secured solely
from a first lien on net revenues from the district's waterworks system.
Pledged revenues specifically include payments received by the district
from the city. The city's implied rating assumes a net revenue pledge of
the city's water and sewer system.
KEY RATING DRIVERS
GROWING DEBT DRIVES DISTRICT DOWNGRADE: The downgrade of the district's
revenue bonds is due to significant planned leveraging on the part of
the district to finance the design, acquisitions and construction of a
new reservoir, along with associated softening of district financial
LONG-STANDING RELATIONSHIP WITH CITY: The district rating is closely
linked to the credit quality of the city's water and sewer system (the
system), which provides the majority (86%) of district revenues.
Long-term contracts between the district and the city provide strong
legal protection. The water charge from the city that covers district
debt service as well as operations is treated as an O&M expense, payable
prior to any of the city's water and sewer debt.
PRESSURED CITY'S FINANCES: As a result of weather-related pressures the
financial profile of the city's utility system has deteriorated
recently, resulting in the downgrade of the implied rating. Debt service
coverage (DSC) notably weakened in fiscal 2014, dropping to just 1x on
an all-in basis. Despite continued rate hikes, which included a 60%
drought rate increase, mandated water restrictions resulted in reduced
water demand. In the last three years the city has also experienced the
loss of its largest system user and its largest taxpayer.
AGREEMENT WITH BEPC: A contractual agreement with the Brazos Electric
Power Co-Operative (BEPC) is expected to provide significant support
(39%) for the district's new reservoir project. Failure to extend the
BEPC agreement past the current 2020 period would put significant
additional pressure on the district and city to fund the construction of
the reservoir and could result in further downward rating action.
EXTENSIVE CAPITAL PROJECT: The construction phase of the district's new
$95 million reservoir is anticipated to begin around fiscal 2020. The
reservoir is expected to provide water to the district and city
sufficient to meet needs beyond 2050.
DETERIORATION OF THE CITY OF MINERAL WELLS' FINANCIAL PROFILE:
Maintenance of adequate financial operations while balancing reduced
water demand and increasing contributions to Palo Pinto County Municipal
Water District No. 1 (the district) for the reservoir project will be of
paramount importance to maintaining the current ratings.
MANAGEMENT OF DISTRICT DEBT: Maintenance of adequate coverage levels and
a manageable debt load as the district begins construction of the
reservoir will be a key rating consideration. Further leveraging by the
district beyond what is currently expected or erosion of financial
margins beyond what is currently forecast could pressure the rating.
The district owns Lake Palo Pinto (the lake) and a diversion reservoir
with a combined capacity of approximately 27,500 acre-feet. The district
also owns the Hilltop Water Treatment Plant, which treats all water
provided to the city and has an operating capacity of 14 million gallons
The city's water utility provides retail service to more than 6,200 city
customer accounts and wholesale service to six rural water supply
corporations serving a total population of approximately 32,000. The
sewer utility provides collection, treatment, and disposal services to
approximately 5,800 customers within the city limits and certain areas
outside the city. The combined service area is stable, experiencing only
modest growth over the last several years.
PERSISTENT DROUGHT PRESSURES
The region was severely impacted by the prolonged state drought, with
Lake Palo Pinto levels dropping to less than 9% of capacity. The city
consistently implemented water restrictions, enacting stage 3
restrictions (one-day-a-week watering) in December 2012, followed by
stage 4 restrictions (no outdoor water) in October 2014. As a result of
these measures water demand contracted sharply, dropping 15% in fiscal
2012 and 14% in fiscal 2014. Favorably, a series of heavy rain events in
April and May of 2015 returned the lake to 100% capacity and the city
eased water restrictions effective May 1, 2015.
WEAKENED CITY FINANCES
Reduced water demand since fiscal 2012 resulted in weakened financial
metrics for the city's utility, despite rate increases to offset the
revenue shortfalls. The city boosted both water and sewer rates by 6% in
fiscal 2014, on top of the 4% increase adopted in fiscal 2013. To
counter the severe financial impact of the drought, council adopted a
60% drought rate on water bills as of Jan. 1, 2015. In addition, in July
of 2013 the state did not renew its contract with a private jail that
was the system's largest user, providing approximately 17% of system
Rates for the city have historically been high. For fiscal 2014 the
average residential bill (based on 5,000 gallons of usage) was $66 or
2.2% of median household income (MHI). Taking into account the drought
rate, user charges climb to $90 or 3.1% of MHI, well above Fitch's 2%
MHI affordability threshold. City council voted to remove the drought
rate increase effective Jan. 1, 2016.
For fiscal 2014, the city's DSC dropped to just 1x on the
system-supported certificates of obligation (COs), significantly weaker
than the 'AA' median of 2x. Cash balances also declined but remain sound
at $3.3 million or the equivalent of 172 days of cash on hand (DCOH); at
this level they fall short of the 'AA' median of 442 DCOH. A credit
positive is that the COs are the only system debt obligation beyond the
commitment to the district, and will fully mature in February 2016.
The water charge paid by the city to the district has been increasing
recently, further straining finances. The payment increased from $1.86
million in fiscal 2012 to $2.36 million by fiscal 2014. The city's
contribution was reduced to just over $2 million for fiscal 2015 in
response to the drought pressures. It is expected to return to $2.3
million as the district will require additional support for debt
scheduled in late 2015.
DISTRICT LEVERAGING GROWS: COVERAGE SOFTENS
Total costs associated with the new reservoir total $95 million. The
district issued $8 million in subordinate lien bonds and received a
grant from the Texas Water Development Board (TWDB) for planning and
design costs associated with the project. The district has been approved
by TWDB for an additional $17 million to finance the acquisition and
design phase, to be issued through the TWDB this fall.
District's financial performance has remained stable for the last three
fiscal years, with DSC averaging 1.8x over that time. However, forecasts
point to DSC declining to just 1.3x with the addition of the $17 million
Fiscal 2014 debt per capita is very low at $275 and currently
outstanding debt is fully amortized in 15 years; the district front
loaded repayment of its outstanding debt to add capacity that would be
needed for the new reservoir in future years. The addition of the $17
million in TWDB debt will boost debt per capita to $773, above the 'AA'
median of $520.
Cost estimates associated with the final construction phase of the
reservoir total $70 million. The district currently anticipates issuing
the debt through the TWDB around 2020 to complete the project; this plan
assumes continued participation from BEPC. The additional debt would
increase debt per capita levels to a very high $2,800, 5x higher than
the 'AA' median of $520.
AGREEMENT WITH BEPC CRUCIAL
The district has a contractual agreement BECP for a 39% option on water
from the new reservoir, which is currently set to expire in 2020. If
BECP elects not to renew the agreement, the district would need to
consider alternative financing options for the construction phase of the
project. District management stated they may also consider postponing
the project if BECP elects not to participate.
DISTRICT RELATIONSHIP WITH CITY
The district was created in 1961 to provide a source of water supply
within Palo Pinto and Parker Counties. Currently, the district provides
potable water to the city and two other entities as well as lake
residents. Revenues from the sale of water to the city are by far the
largest source of district income, accounting for over 80% of all water
revenues. The district is therefore highly dependent on the city's
continued financial health to maintain its credit quality.
Pursuant to a water purchase contract and an O&M contract between the
city and the district, the city operates and maintains all district
facilities. In addition, the city makes equal monthly payments to the
district as a water charge sufficient to pay its share of district O&M
costs, the annual debt service requirements on district revenue bonds,
and the annual requirements of the district's debt service reserve and
LIMITED, CONCENTRATED ECOMONY
Mineral Wells is the largest city and principal commercial center in
Palo Pinto County and is located in the Barnett Shale, the
second-largest producing on-shore natural gas field in the U.S. The
economic base is dominated by oil/gas interests, with the city's top 10
taxpayers making up over 20% of the total tax base. The single-largest
taxpayer is Baker Hughes Inc., an oilfield services company which makes
up 4% of the 2015 assessed value and has recently closed its facilities
in the city.
Population over the last decade has been flat and was estimated at about
16,900 in 2010. The city's unemployment rate for July 2015 totaled 5.2%
and is on par with the nation's 5.3% but slightly higher than the
state's 4.2%. Area wealth levels as measured by MHI are approximately
30% below the state and national averages.
Additional information is available at 'www.fitchratings.com'.
In addition to the sources of information identified in Fitch's
Revenue-Supported Rating Criteria, this action was additionally informed
by information from Creditscope and the Municipal Advisory Council of
Revenue-Supported Rating Criteria (pub. 16 Jun 2014)
U.S. Water and Sewer Revenue Bond Rating Criteria (pub. 03 Sep 2015)
Dodd-Frank Rating Information Disclosure Form
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