Fitch Rates Rochester Public Utilities, MN's Series 2015E Refunding Revs 'AA-'; Outlook Stable
Fitch Ratings has assigned an 'AA-' rating to Rochester, MN Public
Utilities' $38,030,000 electric utility revenue refunding bonds, series
2015E.
The bonds, together with other available funds of the city, will be used
to advance refund a portion of the electric utility revenue bonds,
series 2007C.
The Rating Outlook is Stable.
SECURITY
The bonds are special obligations of the city and are secured by a first
lien on and solely from net revenues of the electric utility.
KEY RATING DRIVERS
ROBUST SERVICE AREA: The city of Rochester, MN and the surrounding
service area is fundamentally sound, supported by a highly developed
medical infrastructure tied largely to the Mayo Clinic. Rochester's
unemployment rate, currently at 2.8%, is well below that of the state
and nation, per capita income is strong and an upturn in housing and
plans for a new downtown medical center and commercial/recreational
complex should be positive contributors to the area economy.
COMBINED UTILITY SYSTEM: Rochester Public Utilities (RPU) provides
electric and water service to a population of about 110,000. The bulk of
its electric power (peak demand was 259 megawatts [MW] in 2014) is met
through a take-and-pay contract (up to 216 MW) with Southern Minnesota
Municipal Power Agency (SMMPA) that extends to 2030. Future power supply
options are in an early stage of evaluation.
SOUND FINANCIAL METRICS: RPU's financial position remains sound. Fitch
calculated debt service coverage (DSC) for 2014 and 2013 were 3.20 times
(x) and 2.83x, respectively; coverage of full obligations (as adjusted
for purchased power and payment in lieu of taxes) were 1.27x and 1.18x,
respectively. RPU's financial forecast shows coverage trending higher
over the next several years, with DSC (prior to adjustments) exceeding
3.0x.
CONSERVATIVE BUDGETING: Management employs a conservative approach to
financial planning, including cost-of-service studies for the electric
and water systems, targeted rate increases and effective cost controls.
Significant changes to senior management occurred in 2014 with the
retirement of the CEO and CFO; but new management and an established
board appear well qualified.
SINGLE-UNIT RISK: RPU has exposure to the single-unit Sherco 3
coal-fired facility, SMMPA's principal asset. The risk is largely
mitigated by SMMPA's obligation to supply replacement power if required,
RPU's participation in Midwest Independent System Operator (MISO) and
sufficient, reasonable-cost power in the region.
RATING SENSITIVITIES
REDUCED SALES TO MAYO CLINIC: Rochester Public Utilities' largest
customer, the Mayo Clinic, accounts for approximately 16% of the
utility's total operating revenue. The loss or significant reduction of
this load, while highly unlikely, would have a detrimental effect on the
utility and service area.
FINANCIAL STRAIN: Weakened financial metrics resulting from wholesale
power cost increases and inadequate retail rate support from RPU would
be viewed negatively.
CREDIT PROFILE
RPU owns and operates an integrated utility system that supplies
electric power to 51,000 customers within Rochester corporate limits and
adjacent rural areas. The customer base has been relatively stable over
the past several years and growth is forecasted at around one percent
annually. Power supply strategy incorporates demand side management,
designed to achieve a 1.5% annual energy reduction. In 2014, electric
operating revenues were derived from residential sales (30%), commercial
and industrial sales (57%), steam sales (5%), wholesale sales (2%) and
other (6%).
RPU receives virtually all of its power under a take-and-pay partial
requirements contract with SMMPA, a joint-action agency providing
wholesale electricity to 18 municipal electric systems in Minnesota.
This is primarily through its 41% ownership in the 874 MW Sherco 3
coal-fired unit, pursuant to a contract that extends to 2030. RPU also
has working agreements with The Energy Authority, which acts as an agent
for Rochester to purchase power from MISO when necessary.
A new initiative, Destination Medical Center (DMC) is underway and
projected to have a major impact on future economic growth of the
community. In May 2013, the Minnesota legislature approved the financing
plan for DMC, allocating $585 million to the project. In addition, the
Mayo Clinic agreed to invest $3.5 billion of its own funds over the next
20 years. While two major users, Mayo and IBM, account for approximately
21% of total RPU energy sales, the high quality of these purchasers
significantly mitigates this risk.
UPDATED RESOURCE PLAN
RPU employs a number of resources and power supply agreements to meet
demand and energy requirements. The utility's future power resource
strategy is to rely increasingly on MISO capacity and energy market,
which provides a diversified fuel mix; build future natural-gas fired
generation; and continue to invest in renewables to meet the intent of
state renewable program. RPU updates its infrastructure plan every three
years, together with financing requirements.
RPU'S Silver Lake plant, a 105 MW coal-fired generating plant, was
decommissioned effective June 1, 2015, due to wholesale market factors
and forthcoming environmental regulations. Two of the boilers remain in
service, using natural gas to supply steam to the Mayo Clinic.
With the addition of new import transmission capabilities, RPU intends
to replace a portion of the Silver Lake capacity through the open
market. For planning purposes, this capacity will be limited to about 50
MW. As part of its infrastructure plan, RPU has begun preliminary
engineering for installation of approximately 50 MW of reciprocating
engine peaking generation at its West Side Energy Station, at an
estimated cost of $75 million, with an anticipated operational date in
2018 or 2019.
EXPANDED TRANSMISSION CAPABILITY
The electric system is involved in the development of the CapX2020
transmission project. RPU will have a 9% investment (approximately $46
million) based on its load ratio share, along with five other
participating utilities. The project includes a 345 KV transmission line
and two associated 161 KV lines. This will improve reliability and
increase RPU's import capability from 148 MW to about 370 MW. RPU
expects to earn an approximate 12% rate of return on its investment.
GOOD FINANCIAL POSITION
The RPU board employs a three-year rate track for its utility systems.
Despite rising fuel costs, Sherco's extended maintenance outage and a 4%
SMPPA rate increase in 2010, RPU was able to show no rate increases for
the years 2010 to 2013. A 3% electric rate increase was implemented in
2014, partly to cover the CapX2020 transmission project. For the years
2015 to 2017, assuming an annual inflation rate of 2% and a 4% and SMMPA
rate increase in 2016, RPU projected system electric rate increases of
3.5% effective Jan. 1, 2015 and 1.7% effective Jan. 1, 2016 and Jan. 1,
2017, respectively. The 2015 increase is sized to meet the utility's
operating income target and to bolster RPU's cash and liquidity
position. A power cost adjustment factor was also established in January
2015.
The utility's longer-term financial strategy is designed to i) achieve
stable net income; ii) hold adequate cash reserves; iii) maintain strong
DSC ratio and iv) minimize the impact of rate increases from SMMPA.
RPU's financial position remains sound, supported by healthy internal
policies, including a DSC target of at least 3.0x and a cash reserve
policy targeted at $48.5 million at year end 2017. As of Dec. 31, 2014,
unrestricted cash reserves were $38.7 million, around 120 days cash on
hand. RPU's five-year capital plan includes $75 million for additional
generation in the 2016-2017 timeframe, along with about $10 million for
transmission and other facilities. Debt financing for known projects is
estimated at about $87 million in 2016. City transfers remain stable,
averaging about $8.3 million per year.
For additional information see the press release 'Fitch Affirms
Rochester Public Utilities (MN) Revenue Bonds at 'AA-'; Outlook Stable'
dated May 7, 2015 and available on Fitch's website at www.fitchratings.com.
Date of Relevant Rating Committee: May 7, 2015
Additional information is available at 'www.fitchratings.com'.
Applicable Criteria
Revenue-Supported Rating Criteria (pub. 16 Jun 2014)
https://www.fitchratings.com/creditdesk/reports/report_frame.cfm?rpt_id=750012
U.S. Public Power Rating Criteria (pub. 18 May 2015)
https://www.fitchratings.com/creditdesk/reports/report_frame.cfm?rpt_id=864007
Additional Disclosures
Solicitation Status
https://www.fitchratings.com/gws/en/disclosure/solicitation?pr_id=992277
Endorsement Policy
https://www.fitchratings.com/jsp/creditdesk/PolicyRegulation.faces?context=2&detail=31
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