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Fitch Affirms Rochester Public Utilities, MN’s Electric Utility Rev Bonds at ‘AA-‘

 Fitch Affirms Rochester Public Utilities, MN’s Electric Utility Rev Bonds at ‘AA-‘   Ratings
22 Mar 2010 10:19 AM (EDT)


Fitch Ratings-New York-22 March 2010: Fitch Ratings has taken the following rating action on Rochester Public Utilities (RPU), MN as part of its continuous surveillance effort:–Outstanding electric utility revenue bonds, affirmed at ‘AA-‘.

The Rating Outlooks is Stable.

RATING RATIONALE:

–RPU’s ‘AA-‘ rating is supported by a strong financial position with unaudited financials for fiscal 2009 showing a debt service coverage ratio of 3.93 times (x), 122 days cash on hand, and favorable leverage ratios when compared to the medians of similarly rated utilities.
–The affirmation reflects Fitch’s review of RPU’s financial forecast which shows weakened operating performance and losses through 2011 with a return to profitability in 2012. The return to profitability is largely driven by rate increases and improved wholesale sales margins.
–RPU’s management maintains conservative budgeting practices as evidenced by previous budgets and current forecast that incorporates both wholesale sales declines and difficult but necessary cuts to operating expenses in the form of employee furlough days and delaying of certain capital projects.
–Although RPU has above average customer concentration with the two largest customers accounting for 19.2% of RPU’s total retail revenue, it operates in a strong service area that is weathering the economic environment better than other areas of the country; although not immune from impact of recession.
–RPU is already compliant with Minnesota’s Renewable Portfolio Standard (RPS) and would not likely need additional renewable energy until 2025 given its current power supply make-up. Fitch views RPU’s compliance with the state’s RPS mandate as a credit strength as it limits the future cost uncertainty with integrating renewable sources into RPU’s power supply.
–RPU continues to be exposed to single-unit risk from Southern Minnesota Municipal Power Agency’s (SMMPA) Sherco 3 unit as it provides virtually all of the power supply for RPU. This risk is somewhat mitigated by contract terms where SMMPA must provide the contracted power (up to 216 megawatts) in the event the Sherco 3 unit unexpectedly goes off-line for a considerable amount of time. In such an event, power costs would be captured through a rate increase on participating members in subsequent years.

KEY RATING DRIVERS:

–The current rating and Stable Outlook are contingent upon RPU’s ability to weather the current economic environment while maintaining strong financial metrics comparable to its rating level.
–Should rate increases and profitability be less than forecasted, RPU could have trouble maintaining current coverage levels and cash position. A weakened financial profile along with less than needed rate increases and depressed demand could result in negative rating pressure.

SECURITY:

RPU’s electric utility revenue bonds are secured by a first lien on net revenues of the electric utility system and funds available in the designated electric system debt-service reserve account.

CREDIT SUMMARY:

RPU owns and operates an integrated electric utility system that supplies power to roughly 49,000 customers within a 48 square mile service territory that encompasses the city of Rochester, MN and surrounding areas. Revenues for 2008 electric sales are derived from residential (21.6%), commercial (42.1%) and industrial (20.2%) customers and have stayed pretty flat over the last five years. RPU receives virtually all of its power as a take-an-pay partial requirements member under contract (up to 216 megawatts) with SMMPA, a joint-action agency providing wholesale electricity to 18 municipal electric systems in Minnesota, primarily through its 41% ownership in the 874 MW (megawatt) Sherco 3 coal unit. The contract with SMMPA extends to 2030.

The financial forecast provided by RPU includes rate increases of 5%, 4%, 2%, and 2.5% in 2011, 2012, 2013, and 2014, respectively. At this point, it remains unclear whether RPU will be able to ensure passage of the increases by the city council as forecasted. RPU has stated that they keep the council abreast of key issues, why rate increases are necessary, and that the council understands these issues. It should be noted that prior to 2010, RPU has been successful in receiving rate increases at or close to budgeted levels.

Based on the fiscal 2008 audit and 2009 unaudited financials, RPU’s financial position remains strong. While RPU expects the audited financials for FY’09 to come in close to unaudited figures, projections for FY’10 show weakening in RPU’s operating performance which is largely attributed to a rate freeze in FY’10 and a 4% power supply cost increase with their contract with SMMPA. As a result of lower revenues and increased costs, RPU’s operating performance could be strained in the near-term. While RPU is budgeting a loss of $2.5 million in fiscal 2010, without an appropriate rate increase and in light of limited growth projections, the ability to absorb SMMPA power supply costs, along with limited growth, will impact the financials of RPU much more and could result in negative rating pressure.

RPU’s liquidity position has continued to improve since fiscal 2006 and remains very strong. Unaudited results for fiscal 2009 show RPU had 122 days cash on hand (DCOH), much improved from 58 DCOH at fiscal 2006, and in-line compared to other ‘AA-‘ retail systems where the median was 173 DCOH based on Fitch’s June 2009 Peer Study report. Leverage, as measured by the equity-to-capitalization ratio, has remained favorable given RPU’s 71% ratio at fiscal 2008.

While the city of Rochester and surrounding service area have traditionally exhibited stronger than average demographic profiles, they have not been completely immune to the national economic situation. The region has experienced slower than expected housing starts in the past year which is typical of the housing sector nationally. While unemployment has increased recently, the 2009 monthly average of 6.4% is still well below the state and national averages of 7.3% and 9.4%, respectively. Mayo Clinic and IBM still remain the areas’ largest employers, both of which are reported to be doing well and have not had any significant slowdown in terms of demand for energy.

Applicable criteria available on Fitch’s web site at ‘www.fitchratings.com’ include:

–‘Revenue-Supported Rating Criteria’ (Dec. 29, 2009)
–‘Public Power Rating Guidelines’ (June 11, 2009).

Contact: Eric V. Espino +1-212-908-0574 or Chris Jumper +1-212-908-0594, New York.

Media Relations: Cindy Stoller, New York, Tel: +1 212 908 0526, Email: cindy.stoller@fitchratings.com.

Additional information is available at ‘www.fitchratings.com’.

ALL FITCH CREDIT RATINGS ARE SUBJECT TO CERTAIN LIMITATIONS AND DISCLAIMERS. PLEASE READ THESE LIMITATIONS AND DISCLAIMERS BY FOLLOWING THIS LINK: HTTP://FITCHRATINGS.COM/UNDERSTANDINGCREDITRATINGS. IN ADDITION, RATING DEFINITIONS AND THE TERMS OF USE OF SUCH RATINGS ARE AVAILABLE ON THE AGENCY’S PUBLIC WEBSITE ‘WWW.FITCHRATINGS.COM’. PUBLISHED RATINGS, CRITERIA AND METHODOLOGIES ARE AVAILABLE FROM THIS SITE AT ALL TIMES. FITCH’S CODE OF CONDUCT, CONFIDENTIALITY, CONFLICTS OF INTEREST, AFFILIATE FIREWALL, COMPLIANCE AND OTHER RELEVANT POLICIES AND PROCEDURES ARE ALSO AVAILABLE FROM THE ‘CODE OF CONDUCT’ SECTION OF THIS SITE.

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