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Fitch Rates Arlington, Texas' Drainage Rev Bonds 'AAA'; Outlook Stable

Fitch Rates Arlington, Texas’ Drainage Rev Bonds ‘AAA’; Outlook Stable

May 25, 2021
Click here to view original web page at www.fitchratings.com

Fitch Ratings – Austin – 25 May 2021: Fitch Ratings has assigned a ‘AAA’ rating to the following city of Arlington, Texas (the city) bonds: –Approximately $8.3 million municipal drainage utility system revenue bonds series 2021. The bonds will be sold via competitive bid on June 16. Series 2021A […]

Click here to view original web page at www.fitchratings.com


Fitch Ratings - Austin - 25 May 2021: Fitch Ratings has assigned a 'AAA' rating to the following city of Arlington, Texas (the city) bonds:

--Approximately $8.3 million municipal drainage utility system revenue bonds series 2021.

The bonds will be sold via competitive bid on June 16. Series 2021A bond proceeds will be used to pay for improvements to the city's municipal drainage system (the system) and issuance costs. A debt service reserve will not be funded.

In addition, Fitch affirms the 'AAA' rating on the following bonds:

--$40.6 million in outstanding municipal drainage utility system revenue bonds, series 2017, 2018, 2019 2020A and 2020B

Fitch has assessed the system's standalone credit profile (SCP) at 'aaa'. The SCP represents the credit profile of the system on a stand-alone basis irrespective of its relationship with, and the credit quality of, the city of Arlington, TX (Issuer Default Rating AAA/Stable).

The Rating Outlook is Stable.

ANALYTICAL CONCLUSION

The 'AAA' bond rating and 'aaa' SCP reflect the system's very low leverage, as measured by net adjusted debt to adjusted funds available for debt service (FADS), within the framework of very strong revenue defensibility and very low operating cost burden assessments, both assessed at 'aa'. The low cost of maintenance of utility assets provides the system with a high degree of operating and financial flexibility. The revenue defensibility is supported by the very stable revenue in the form of a fixed rate charge. The final year of a seven-year stepped fee increase was implemented in fiscal 2021 and rates are currently expected to remain stable.

The most recent city Comprehensive Stormwater Plan (CSP) was completed in April 2021 and spending over the coming five-year period will be higher than the past five years. Fiscal 2020 leverage was 3x and Fitch expects system leverage to remain stable over the coming five years as the system progresses through the CSP to increase the city's resilience to flooding.

CREDIT PROFILE

The city established the system in 1990 to address damage to property caused by surface water overflows and surface water stagnation. The system serves over 100,000 accounts, which include residential, commercial and non-residential property within the city.

Fitch considers the system to be a related entity to the city for rating purposes given the city's oversight of the system, including the authority to establish rates and direct operations. The credit quality of the city does not currently constrain the bond rating. However, as a result of being a related entity, the issue ratings could become constrained by a material decline in the general credit quality of the city.

KEY RATING DRIVERS

Revenue Defensibility 'aa'

Very Strong Revenue Defensibility

Revenue defensibility is very strong, supported by the city's favorable service area characteristics, very affordable rates and 100% monopolistic business service. The drainage fee, which in nominal dollars is very low, is a fixed cost and provides a very stable revenue stream.

Operating Risks 'aa'

Low Operating Risk

The system generally has limited operations and lacks measured flows. Consequently, Fitch has assessed operating risk at 'aa'. Annual capital spending on stormwater projects has gradually increased as the city has been addressing priority projects outlined in the system's master plan.

Financial Profile 'aaa'

Strong Financial Profile; Low Leverage

Despite recent and planned debt issuances, system leverage is very favorable and is expected to remain stable.

ASYMMETRIC ADDITIVE RISK CONSIDERATIONS

No asymmetric additive risk considerations affected this rating determination.

RATING SENSITIVITIES

Factors that could, individually or collectively, lead to positive rating action/upgrade:

--Not applicable due to the 'AAA' rating.

Factors that could, individually or collectively, lead to negative rating action/downgrade:

--Sustained increase in leverage that exceeds 5x in Fitch's base and stress cases, assumed no change in revenue defensibility and operating risk assessments;

--Further escalation in capital spending without offsetting increases in revenues could weaken FADS.

BEST/WORST CASE RATING SCENARIO

International scale credit ratings of Sovereigns, Public Finance and Infrastructure issuers have a best-case rating upgrade scenario (defined as the 99th percentile of rating transitions, measured in a positive direction) of three notches over a three-year rating horizon; and a worst-case rating downgrade scenario (defined as the 99th percentile of rating transitions, measured in a negative direction) of three notches over three years. The complete span of best- and worst-case scenario credit ratings for all rating categories ranges from 'AAA' to 'D'. Best- and worst-case scenario credit ratings are based on historical performance. For more information about the methodology used to determine sector-specific best- and worst-case scenario credit ratings, visit https://www.fitchratings.com/site/re/10111579.

The bonds are secured by a first lien on the gross revenues of the system.

REVENUE DEFENSIBILITY

The system has a very stable and predictable revenue stream, with the system fee determined by equivalent residential unit and charged on the monthly combined utility bill. Nonpayment of any portion of the utility fees results in termination of water service. The assessment is also supported by a favorable service area with all revenue derived from a monopolistic business line.

Starting in fiscal 2014, rates have been adjusted annually to support planned capital spending. Rates, which are low in nominal terms and which Fitch considers affordable for the vast majority of the population (around 90%), peak in 2021 at $7.50. Revenues from fees are collected almost equally between residential and commercial customers and revenue concentration among customers is limited at just 4%.

OPERATING RISKS

As a stormwater system, the operating risk is assessed at 'aa' due to the limited operations and lack of measured flows. The system's CSP was most recently updated in April 2021 and projects focus on making the city more resilient to flooding. Since fiscal 2016, capital spending has seen steady increases to address flood and erosion mitigation but needs are considered manageable. The CSP points to annual capital spending of between $15 million-$18 million. The fiscal 2021-2025 capital improvement plan (CIP) totals $84 million, up from about $60 million identified in the prior plan. The current offering provides about half of the funding for the $19.8 million of planned fiscal 2021 capital spending.

FINANCIAL PROFILE

The system's historically very low leverage ratio has grown over the last several years as investment in capital funded by debt continues. Also impacting the increase to the leverage ratio was the reclassification of cash balances into restricted funds in fiscal 2018 to align accounting methodologies with the water and sewer utility system. Fiscal 2020 leverage increased to 3.0x from 2.4x the year prior. Based on expected capital spending, combined with planned debt, leverage will remain just above 3x over the next couple of years.

Liquidity is neutral to the assessment. Nevertheless, financial metrics are strong with fiscal 2020 coverage of full obligations of 3.7x and current days cash on hand of 230 days. Financial ratios and margins are very healthy as the fixed revenue stream and low maintenance cost of this type of utility provide the system with high degree of operational and financial flexibility. Continued financial strength is expected as management forecasts point to increasing revenues through fiscal 2021 from adopted rate increases to support fixed debt carrying costs and to address capital needs on a pay-go basis.

Fitch Analytical Stress Test (FAST)

The FAST considers the potential trend of key ratios in a base case and a stress case, with the stress case designed to impose capital costs 10% above expected levels and evaluate potential variability in projected key ratios. Fitch used management's provided forecast, CIP and expected debt issuance in formulating the FAST base case scenario. Fitch made additional reasonable assumptions surrounding expenditure growth at about 3% annually.

Factoring in these assumptions, fiscal 2021 leverage in the FAST base and stress cases is expected to grow to 3.3x and 3.5x, respectively. Thereafter, leverage is expected to gradually decline to 2.6x in the base case and 3.2x in the stress case by fiscal 2025, which is supportive of the assessment.

ASYMMETRIC ADDITIVE RISK CONSIDERATIONS

No asymmetric additive risk considerations affected this rating determination.

SOURCES OF INFORMATION

In addition to the sources of information identified in Fitch's applicable criteria specified below, this action was informed by information from Lumesis.

REFERENCES FOR SUBSTANTIALLY MATERIAL SOURCE CITED AS KEY DRIVER OF RATING

The principal sources of information used in the analysis are described in the Applicable Criteria.

ESG CONSIDERATIONS

Unless otherwise disclosed in this section, the highest level of ESG credit relevance is a score of '3'. This means ESG issues are credit-neutral or have only a minimal credit impact on the entity, either due to their nature or the way in which they are being managed by the entity. For more information on Fitch's ESG Relevance Scores, visit www.fitchratings.com/esg

VIEW ADDITIONAL RATING DETAILS

ADDITIONAL DISCLOSURES

ENDORSEMENT STATUS

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