OUTLOOK ON PRASA'S $1.38 BILLION RATED SENIOR LIEN REVENUE BONDS REVISED TO NEGATIVE
NEW YORK, Nov 9, 2010 -- Moody's Investors Service has affirmed the Baa1 rating assigned to the Puerto
Rico Aqueduct and Sewer Authority's (PRASA) senior lien Revenue Bonds. The
outlook has been revised to negative from stable.
The Baa1 rating incorporates PRASA's monopoly position as a provider
of essential water and sewer services and the experienced senior
management team's plans to improve the operational efficiency and effectiveness
of the system. It also incorporates the financial weaknesses of the authority,
which has received subsidies and loans from the commonwealth and the Government
Development Bank (GDB), and the difficulty PRASA has had reducing the amount of
water lost through leaks or for which no payment is received, currently at 63%
of total water produced. The rating also reflects the size and complexity of the
system, below-average wealth levels in the commonwealth, poor demographic trends
and a weak labor market. The negative outlook reflects PRASA's continued
reliance on GDB and the commonwealth (rated A3/Negative) for financial support,
as well as the operational challenges the authority faces to reduce the
significant amount of water lost through the system.
*Monopoly provider of an essential service in the Commonwealth of Puerto Rico
*Experienced senior management team
*Implementation of large rate increases in 2005-2006 improved system financial
*Adequate forecasted debt service coverage ratios
*Ability to adjust rates 4.5% per year (up to a combined 25%) without additional
*In compliance with environmental agreements with U.S. EPA and DOH
*Large and complex system
*Lack of rate adjustments in recent years, resulting in weak finances
*Large amount of undetermined water losses
*Reliance on funds from Government Development Bank (GDB) and commonwealth in
recent years to cover operations
*Future regulatory requirements could be costly
SYSTEM OVERVIEW, MANAGEMENT
PRASA is the sole source of essential water and wastewater utility services in
Puerto Rico. It covers 97% of the population; 57% of the population has a
combined water/sewer account, while 42% has a water account only. PRASA has
5,000 employees, 128 water treatment plants (down from 129 in 2008) treating 640
million gallons/day, 60 wastewater treatment plants (down from 62 in
2008), 1,567 pump stations, 1,266 tanks, and 8 dams. The authority plans to
reduce the number of plants and automate others.
PRASA was created in 1945 by the commonwealth, and since then has had a strong
link to the commonwealth, including regular subsidies from the central
government and the Government Development Bank (GDB). It is controlled by a
9-member Board of Directors appointed by the governor. Five of the directors are
private citizens, 4 are ex-officio (including the Executive Director of
PREPA, the President of the Planning Board, and representatives from
the Association of Mayors and Federation of Mayors). PRASA is run by Executive
President Jose Ortiz, who has been with PRASA for many years, and 6 executive
In the past it has been politically difficult for PRASA to raise rates. The
authority raised rates in 2005, which was the first time since 1986. Now, PRASA
can raise rates up to 4.5% per year (25% cumulative) without any public
hearings. To raise rates more than 4.5%, or after the 25% cap is reached, the
authority must go through a rate process which could take 60-90 days and
requires public hearings.
PRASA has over $3.6 billion outstanding. However, $344 million of debt is
related to the Superaqueduct, and is paid by commonwealth appropriations if
PRASA does not have sufficient funds; it is not a PRASA obligation. In addition,
about $1.6 billion is paid by PRASA's net revenues, after paying all expenses
and debt service on senior and senior subordinate bonds, but is guaranteed by
the commonwealth and paid by the commonwealth if the authority's net revenues
are not sufficient.
INTEREST RATE DERIVATIVES
PRASA has no outstanding variable rate debt or swaps.
The Revenue Bonds are secured by a senior lien on net system revenues (after
paying operating expenses). There is a rate covenant which states that rates
must be set sufficient to pay current expenses and annual debt service on all
indebtedness, including Commonwealth Guaranteed and Supported obligations: Net
Revenues must be set to equal or exceed 120% of annual debt service on senior
bonds and 110% of annual debt service on senior and senior subordinate bonds.
The additional bonds test is such that revenues in 12 consecutive months out of
the past 18 months must be 1.2 times maximum annual debt service (MADS) for all
senior bonds. Revenues in 12 consecutive months out of the past 18 months must
be 1.1 times MADS for all senior and senior subordinate bonds.
As specified in a supplemental agreement authorizing the bonds, there is a
reserve requirement at the lesser of MADS, 10% of bond proceeds, and 125% of
average annual debt service. The 2008 Senior Bonds Series A&B have Debt
Service Reserve Funds. Both reserves are funded with cash deposited since the
bond issuances in the Trustee accounts.
The master trust indenture specifies that 90 days of operating and
maintenance costs must be available in liquidity. At this time, PRASA has a $150
million revolving line of credit provided by GDB for this purpose. There was an
outstanding balance of $150 million on this line as of June 30, 2009. As of the
date of this report, there is no outstanding balance on this facility.
Net revenues available for debt service in 2009 were $126 million. This provided
coverage of 3.4 times on the outstanding senior revenue bonds (debt service was
$37 million). It also provides 1.3 times coverage of maximum annual debt service
(MADS) on the revenue bonds (which is $95 million). PRASA expects 2010 net
revenues to be approximately $202 million, which would provide 2.9 times
coverage of the $69 million due in debt service, and 2.1 times coverage of MADS.
RECENT CHANGES AND ACCOMPLISHMENTS
PRASA's current rate of "non-revenue water" (water lost through leaks
or through stolen (non-metered) pipes) is 63%. This compares to 62% in 2008.
PRASA's Revenue Increase Program, which was expected to bring in $48 million in
fiscal year 2010, brought in $67 million, an improvement over projections
of 40%. The program worked on service disconnections, enhanced collections,
meter replacement, etc. PRASA has plans in place to partner with the private
sector to enhance revenues through improving customer services operations,
improving technology, and improving the authority's customer database.
The authority has made efforts in recent years to cut spending and improve its
finances. PRASA collected $70 million from past years accounts receivables from
the central government, PRIFA, and others. Government payments are now all up to
date. The authority has reduced the number of employees by 840 since fiscal
year end 2008, which the authority expects saves more than $30 million per year.
Operationally, PRASA has improved services. The number of people without service
is down from 14,000 in 2005 to 6,000 today. Clients with intermittent service
are reportedly down from 70,000 to 5,000. The authority is also in full
compliance with environmental agreements signed with the Environmental
Protection Agency (EPA) and the Department of Health (DOH).
Finances in 2008 and 2009 were weaker than we expected when we looked at the
credit in 2008. We expected that PRASA would institute annual rate increases,
which hasn't happened. Instead, PRASA has continued to get by with GDB
assistance and commonwealth appropriations. Fiscal 2008 and 2009 audited
financials show revenues were weaker than projected at the beginning of 2008. On
the other hand, there has been some success in reducing O&M costs. Net
revenues have been sufficient to pay debt service on senior revenue bonds and on
the commonwealth guaranteed bonds.
Preliminary results from fiscal 2010 show lower revenues but also lower expenses
than expected. While the operational initiatives brought in more money than
expected, this was more than offset by lower service collections and no rate
adjustment. In addition, the commonwealth General Fund appropriated $27 million
for the operations of the Superaqueduct. Expenses were lower than
expected, largely due to cuts in payroll and benefits. Debt service was
also lower, due to a smaller line of credit from local banks.
LOCAL ECONOMY AND CUSTOMER BASE
Until the mid-2000s, Puerto Rico's growth direction tended to mirror that of the
U.S. In 2006, however, Puerto Rico entered recession when the rest of the
U.S. was still in full expansion mode. Since then, the commonwealth has remained
in recession. This presents a challenge to PRASA, as raising rates is
politically less feasible in a recessionary environment.
CAPITAL IMPROVEMENT PLAN AND REGULATORY COMPLIANCE
The revised CIP defers certain projects to reduce debt service without any
impact on operations. The CIP complies with all environmental regulations
requirements. The requirements are consolidated in 3 agreements with the
Department of Health (Water Consent Agreement), EPA (Wastewater Consent Decree),
and EPA (Sludge Treatment System Agreement).
The CIP for 2010 was $424 million, of which 68% was mandatory due to the above
requirements or safety requirements. The CIP for 2011 is $361 million, of which
52% is mandatory. Out of that, $260 million will be provided by a line of credit
from GDB, and $111 million will be provided by federal grants (principally ARRA
funds). The CIP for 2012 is $382 million, of which 43% is mandatory.
The outlook is negative based on the authority's continued weak finances and
operations, the continued reliance on GDB and the commonwealth for financial
support, and the significant challenges the authority will face to reduce the
amount of lost water.
WHAT COULD CHANGE THE RATING-UP
"Sustained financial self-sufficiency, without assistance from commonwealth
"Improvement in system operations and efficiency
"Demonstrated willingness to implement rate adjustments to maintain
"Upgrade in commonwealth's G.O. rating
WHAT COULD CHANGE THE RATING-DOWN
"Failure to implement needed rate adjustments in a timely manner
"Decline in coverage
"Downgrade in commonwealth's G.O. rating
"Failure to address lost water
The principal methodology used in this rating was Analytical Framework For Water
And Sewer System Ratings published in August 1999.
Information sources used to prepare the credit rating are the following: parties
involved in the ratings, parties not involved in the ratings and public
Moody's Investors Service considers the quality of information available on the
credit satisfactory for the purposes of maintaining a credit rating.
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Public Finance Group
Moody's Investors Service
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MOODY'S AFFIRMS Baa1 RATING ON PUERTO RICO AQUEDUCT AND SEWER AUTHORITY'S SENIOR LIEN REVENUE BONDS
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