NEW YORK–(BUSINESS WIRE)–Fitch Ratings affirms the following ratings on outstanding Guam Power Authority (GPA) revenue bonds:
–$545.9 million senior revenue bonds, 2012 series A and 2010 series A, at ‘BBB-‘;
–$51.7 million subordinated revenue bonds, 2010 series A, at ‘BB+’.
In addition, Fitch has withdrawn the ‘BBB-‘ rating assigned on June 3, 2010 to GPA’s 2010 series B bonds as the bonds were never sold.
The Rating Outlook is Stable.
The outstanding senior revenue bonds are secured by net revenues of GPA. Outstanding subordinated revenue bonds are limited obligations of GPA secured by a lien on, and pledge of, net revenues, subject to the prior pledge of revenues securing the senior bonds. A default on the subordinated revenue bonds would not trigger a default on the senior revenue bonds.
KEY RATING DRIVERS
SOLE PROVIDER ISLAND SYSTEM: GPA benefits from its position as the sole provider of retail electricity to the nearly 160,000 residents of the island of Guam, the westernmost territory of the U.S. The significant presence of the U.S. Navy, which accounts for nearly 20% of GPA’s total annual revenue, provides stability to the island’s economy and the authority’s customer base.
SUBJECT TO RATE REGULATION: GPA’s electric rates are regulated by the local Public Utility Commission (PUC), which authorizes cost recovery through both base rates and a levelized energy adjustment clause (LEAC) for fuel and other related costs. The PUC’s responsiveness to requests for cost recovery in recent years is viewed positively by Fitch, but delays inherent in both the regulatory process and the recovery mechanism will continue to impair liquidity and limit overall financial flexibility.
WEAK FINANCIAL PROFILE: Weak operating margins continue to yield low debt service coverage (DSC) and minimal cash reserves. Fitch-calculated DSC declined to 0.98x in fiscal 2012 following multiple years of steady improvement closer to 1.2x. Fitch expects coverage to rise to a more acceptable 1.4x by fiscal 2015 based on GPA’s current financial forecast.
FUEL MIX AND ENVIRONMENTAL CHALLENGES: Generation resources on Guam are 100% fuel oil-based, resulting in high rates and continued exposure to market price volatility and procurement risk. Positively, plans to develop the infrastructure needed to utilize liquefied natural gas (LNG) could, over time, provide a more diversified fuel mix and help GPA comply with new environmental standards. However, the cost to do so will likely stress GPA’s financial and leverage metrics and could ultimately pressure the current ratings.
FRAGILE ECONOMY: The authority’s service area exhibits weak income levels and persistently high unemployment as a result of Guam’s largely tourism-based economy. Favorably, receivables have diminished to a more manageable level, and annual bad debt expenses remain low.
WEAKER THAN EXPECTED FINANCIAL PERFORMANCE: The current rating takes into account GPA’s weak balance sheet, marginal debt service coverage and rate regulation. However, failure to restore and maintain operating margins as a result of restrictive rate regulation or costly environmental compliance strategies could ultimately lead to negative rating action.
Guam is the westernmost territory of the U.S., located approximately 3,800 miles southwest of Honolulu, HI, and almost 1,600 miles southeast of Tokyo, Japan. The island’s population grew by a nominal 3% over the prior decade, reaching an estimated 159,350, according to the 2010 U.S. Census.
GPA provides electric generation, transmission, and distribution service on a retail basis to a largely residential service territory. Customers are served primarily through owned generation, and to a lesser extent through three energy agreements with independent power producers (IPPs). Owned generating resources of the authority totaling 357.4 MW consist of three oil-fired steam generating units, four combustion turbine units, and 14 diesel units. Total available capacity is twice the system’s record peak demand and well in excess of projected future demand.
REGULATORY DEADLINE APPROACHING
GPA’s most recent integrated resource plan (IRP) was completed in 2012 and is focused entirely on fuel diversification strategies and environmental compliance strategies. While the IRP includes plans to continue adding renewable resources, the largest initiative by far is the development of infrastructure needed to utilize LNG.
The expected cost is sizeable, estimated to be as much as $775 million, although the implementation of LNG would provide greater fuel diversification and effectively satisfy the U.S. Environmental Protection Agency’s (EPA) maximum achievable control technology (MACT) standards. GPA officials have reportedly released an invitation for bids for LNG solutions and requested the EPA enter into a consent decree in order to extend the approaching April 2015 deadline to comply with MACT standards.
Fitch views the authority’s plan to diversify its fuel resources positively but believes the additional leverage needed to satisfy the EPA’s requirements could pressure GPA’s overall credit profile over the near term. Fitch will continue to monitor the authority’s progress with satisfying its regulatory obligations and developing LNG infrastructure.
GPA is regulated by a seven-member PUC appointed to six-year terms by the governor of Guam, subject to legislative approval. Interactions between GPA and the PUC have reportedly been constructive and cooperative over the last several years, resulting in base rate adjustments in three out of the prior four years. However, the PUC’s unwillingness to approve the authority’s 2011 petition to increase the frequency of GPA’s LEAC mechanism to quarterly from semiannually and impose a payment in lieu of taxes (PILOT) surcharge underscores Fitch’s belief that the authority’s financial flexibility remains limited due to rate regulation.
WEAK FINANCIAL METRICS
The authority’s financial metrics remain satisfactory for the current ratings. Fitch-calculated DSC of senior and subordinate lien obligations, including annual lease payments, stabilized in fiscals 2010 and 2011, but a moderate increase in annual debt service coupled with a delayed rate increase and declining sales dropped debt service coverage to slightly below 1.0x in fiscal 2012.
Liquidity also declined, falling from 30 days of unrestricted cash on hand in fiscal 2011 to an even weaker 17 days by year-end. A surcharge embedded in the LEAC satisfies GPA’s indenture-required working capital fund and provides an additional 30 days cash if needed, although the fund would ultimately have to be replenished following any draws.
GPA’s financial forecast through fiscal 2016 shows annual DSC improving to an acceptable average of about 1.3x. The forecast assumes a continuation of historical growth in customers served, a pending 2.2% base rate increase and flat energy sales.
GPA filed its latest base rate petition to the PUC in August 2013 and expects to have the increase approved and implemented by the start of the 2014 fiscal year. Fitch believes the forecast is achievable, but notes that financial results beyond the current planning period will likely be pressured as a result of having to comply with MACT standards.
Additional information is available at ‘www.fitchratings.com‘.