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28 Aug 2019
New York, August 28, 2019 -- Moody's Investors Service has assigned a Baa2 rating to Pend Oreille County Public Utility District 1, WA's Box Canyon Production System Revenue Refunding Bonds, 2019 and its Electric Revenue Refunding Bonds, 2019. Concurrent with this rating assignment, Moody's has affirmed the Baa2 ratings on the utility's existing Box Canyon and Electric Revenue Bonds. The outlook has been revised to positive from stable.
Today's rating action reflects the progress that Pend Oreille County Public Utility District 1 (Pend Oreille PUD) has made in implementing an extensive risk mitigation strategy in response to the potential closure of its largest customer, a fiber mill and paper plant owned by Ponderay Newsprint Company, owing to structural declines in the newsprint industry. Pend Oreille PUD has successfully remarketed the Box Canyon power currently being consumed by Ponderay via a physical swap with Portland General Electric Company (A3 stable) through December 2020. The swap trades carbon-free hydro power from Pend Oreille PUD, plus a premium, in exchange for system power from Portland General, which Ponderay consumes. The contractual arrangements with Portland General enable Pend Oreille PUD to pass along the premium it receives to Ponderay Newsprint, reducing Ponderay's expenses. In a scenario where the Ponderay mill shuts down during the swap's tenor, Pend Oreille PUD would retain the premium, mitigating the shutdown's immediate impact on its financial performance.
The rating action also reflects the utility's agreement with the Kalispel Tribe and other local stakeholders to pursue alternative preservation measures in lieu of constructing three fish passages as contemplated under the Box Canyon dam's license from the Federal Energy Regulatory Commission (FERC). The utility's application to amend its license is subject to FERC approval, which should occur in the next six months, barring unforeseen issues. The agreement allows the utility to avoid $55 million of estimated capital costs to construct the fish passages, which would otherwise be debt-financed.
The rating action also acknowledges the utility's continuing improved financial performance, including a substantial liquidity position in excess of 329 days cash on hand, a pension-adjusted debt ratio of 58% and a debt service reserve coverage ratio of 1.85x in 2018.
Other key factors supporting Pend Oreille's credit quality include its strong management team with a track record of conservative risk management; ownership of or access to competitively priced hydro generation; low retail rates and a demonstrated willingness to raise rates. Pend Oreille PUD's access to carbon-free hydro generation is a core strength that is attractive within the wholesale markets and should facilitate its ability to resell power in the region.
The positive outlook acknowledges the efforts that Pend Oreille PUD has enacted to manage its customer concentration risk and lower its future capital requirements, while maintaining strong financial metrics and competitive electric rates. Pend Oreille PUD's ability to effectively implement elements of its stated strategy makes its strengthened credit profile more sustainable and could lead to a higher rating for the utility.
FACTORS THAT COULD LEAD TO AN UPGRADE
- An upgrade could occur if Pend Oreille PUD is able to execute on the remaining elements of its strategy such as securing FERC approval for its hydro license modifications and increasing clarity around its ability to extend the wholesale remarketing contracts in a credit supportive manner.
- Pend Oreille PUD were able to broaden its customer clientele such that Ponderay no longer represented an outsize threat to the utility's long term financial stability. The utility could also be upgraded if it is able to source a creditworthy replacement power purchaser on a long term basis for Box Canyon's output.
- Continued maintenance of strong financial metrics, including liquidity in excess of 300 days and an adjusted debt ratio below 60%
FACTORS THAT COULD LEAD TO A DOWNGRADE
- Ponderay shuts down leading to the utility experiencing a sustained deterioration of financial metrics.
- Pend Oreille's internal liquidity drops below 250 days cash on hand or if consolidated DSCR drops below 1.1 times on a sustained basis.
- The utility's willingness to raise rates as necessary weakens.
The 2019 issue along with the other Box Canyon bonds include a pledge of net revenues of the Box Canyon project, which is considered a resource obligation of the Electric System. As a resource obligation, the Electric System agrees to pay for Box Canyon's operating costs, non-debt financed capital expenditures and debt service payments irrespective of generation levels. Box Canyon revenue bonds have a debt service reserve requirement equal to the lesser of maximum annual debt service, 10% of bond proceeds or 125% of average annual debt service net of the federal subsidy on interest. The reserve is cash funded and is equal to around the annual debt service in most years. While there is no explicit minimum debt service coverage ratio, Box Canyon's additional bonds test effectively requires a 1.0x debt service coverage.
The Electric revenue bonds are secured by a first lien on the revenues of the utility's Electric System. The rate covenant and additional bonds test for the Electric Revenue bonds are 1.25x. The debt service reserve requirement is equal to the lesser of maximum annual debt service, 10% of bond proceeds or 125% of average annual debt service. The debt service reserve is backed by cash and is equal to around the annual debt service in most years.
USE OF PROCEEDS
The proceeds of 2019 Box Canyon Revenue Refunding bonds will be used to refund all or a portion of the 2010 Box Canyon bonds prior to their stated maturity dates. The proceeds of 2019 Electric Revenue Refunding Bonds will be used to refund all of the 2010 electric system bonds prior to their stated maturity dates with the proceeds of the 2019 electric system bonds and other available funds of the district.
Pend Oreille PUD operates a utility system that generates and delivers electricity to approximately 9,238 retail customers in Pend Oreille County, which is located in the northeastern part of Washington State. The district also provides other services such as water and wholesale fiber-optic, however, they are a small portion of revenues and assets.
The principal methodology used in these ratings was US Public Power Electric Utilities With Generation Ownership Exposure Methodology published in August 2019. Please see the Rating Methodologies page on www.moodys.com for a copy of this methodology.
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