California Municipal Finance Authority Anaheim Public Utilities Department Electric Revenue Bonds New Issue Report Public Power / U.S.A. Ratings New Issue $110,110,000 CFMA Qualified Obligation Refunding Bonds, Series 2014-A * AA- Outstanding Debt $498,445,000 APFA Qualified Obligation Bonds, Series 1999, 2003A, 2007A, 2009A, 2011A & 2012A AA- $108,440,000 APFA Second Qualified Obligation Bonds, Series 2004 AA- * The Series 2014-A bonds will refund a portion of the Qualified Obligation Bonds and the majority of the Second Qualified Obligation Bonds ** APFA Anaheim Public Financing Auth Rating Outlook Stable Key Utility Statistics Fiscal Year Ended (06/30/2013) System Type Retail Electric NERC Region WECC No. of Customers 115,418 Annual Revenues ($ Mil.) 452 Top User (% of energy sales) 11.8 Primary Fuel Source Coal Peak Demand (MW) 542 Energy Growth (%) 3.66 Debt Service Coverage (x) 2.06 Days Operating Cash 129 Equity/Capitalization (%) 32.1 New Issue Details Sale Information: $110,110,000 California Municipal Finance Authority, Revenue Refunding Bonds, Series 2014-A, expected to price on Sept 30, 2014. Security: The bonds are secured by a pledge of net revenues of Anaheim Public Utilities (APU). Qualified Obligation Bonds are subordinate to the senior lien, of which there are none outstanding. Purpose: Proceeds will be used to: i) refund the Series 2003-A Series 2004 Bonds, ii) fund the debt service reserve fund and pay cost of issuance. Final Maturity: June 30, 2035. Key Rating Drivers Mature Service Area, Some Growth: APU provides retail electric service to 115,674 customers within the city of Anaheim. Retail sales have grown in 2012 and 2013, reversing a three-year trend of decreases, reflecting improvements in the local economy and new industrial customers. Strong Rate Flexibility: Management maintains the authority to employ timely rate adjustments needed to adapt to unexpected cost pressures. In addition, there is a history of unanimous support for base rate increases at the city council level, when requested. Improved Financial Performance: Financial margins and debt service coverage (DSC) are much improved, due to base rate and automatic cost adjustment increases taking effect coupled with prudent management of expenses. DSC is still low compared to the rating category median, but is expected to remain within an acceptable range of 2.0x. Increasing Liquidity Balances: Unrestricted reserve levels have improved ahead of schedule, but are still below pre-recession levels,. Reserves declined substantially during the recession; however, stronger financial performance has bolstered reserves at fiscal year-end 2013. Related Research U.S. Public Power Peer Study -- June 2014, June 13, 2013 U.S. Public Power Peer Study Addendum June 2014, June 13, 2014 2014 Outlook: U.S. Public Power and Electric Cooperative Sector, Dec. 12, 2013 Analysts Stacey Mawson +1 212 908-0678 stacey.mawson@fitchratings.com Kathy Masterson +1 512 215-3730 kathy.masterson@fitchratings.com High Debt Levels: APU s debt levels are high as compared to similarly rated entities, especially after including off balance sheet debt issued by joint action agencies. While the utility is working to accelerate debt repayment, leverage is expected to remain at an elevated level due to APU s upcoming capital needs. Changing Power Supply: The state s renewable mandate and greenhouse legislation require APU to implement changes to its predominately coal-based power supply. The rating reflects Fitch s expectation that the cost of power supply transition will be absorbed by ratepayers and will not result in weaker financial metrics, disadvantaging bondholders. Rating Sensitivities Commitment to Base Rate Increases: Fitch will monitor APU s willingness to supplement use of rate stabilization adjustments (RSAs) and periodic base rate increases to cover rising costs in order to maintain the utility s improved financial profile and to continue to increase unrestricted fund balances. 1
Rating History Rating Action Outlook/ Watch Date AA- Affirmed Stable 9/19/14 AA- Affirmed Stable 7/18/12 AA- Affirmed Stable 4/13/11 AA- Affirmed Stable 5/20/10 AA- Affirmed Negative 10/21/09 AA- Affirmed Stable 2/10/09 AA- Affirmed Stable 11/14/08 AA- Affirmed Stable 6/16/08 AA- Affirmed Stable 12/20/06 AA- Upgrade Stable 8/24/06 A+ Affirmed Stable 5/28/04 A+ Assigned Stable 3/19/03 Credit Profile APU is an enterprise system of the city that provides both retail electric and water service within the city limits of Anaheim. Both systems are operated separately and not obligated to each other. APU has historically issued its debt through the Anaheim Public Finance Authority (APFA), but will be issuing the Series 2014-A qualified obligation bonds through CMFA. The refunding will provide savings as compared to the original issuances and also accelerate debt amortization. Fitch views APU s strategy to lessen its debt burden prior to anticipated capital plan funding as prudent. The electric utility system provides service to all of the electric customers within the city s borders, serving appproximately 115,000 residential, commercial and industrial customers, with power resource capacity totaling 789 MW. The system was noticeably affected by the recession, given the city s dependence on tourism and the utility s large amount of industrial and commercial customers. However, fiscal years 2012 and 2013 show strong signs of recovery, as evidenced by strengthening financial metrics and retail energy sales growth. APU serves its retail electric customers through a mix of owned generation and purchase power contracts. The majority of energy in 2013 was provided from coal-fired resources (50%), natural gas (17%) and renewable resources (17%). Combined generation capacity of 789 MW is more than sufficient to serve its system peak demand of 542 MW. The main component of APU s power supply is its participation in various joint power agencies (JPAs). APU s primariy JPA is for the Intermountain Power Project (IPP), a coal-fired generating plant, which accounted for 42% of 2013 energy supply. Additional energy resources include the Magnolia Power Project (10.7% of energy supply), a gas-fired combined cycle unit owned through Southern California Public Power Authority (SCPPA), and the San Juan generation station (8.8%), a coal-fired generating plant also owned through SCPPA. Governance and Management Strategy The APU water and electric systems are owned and operated by the city. Both systems, while operated separately and not obligated to each other, are managed by the public utilities general manager, under the direction of the council-appointed city manager. There has been recent turnover at the upper-management level, however, the new management team is strong and has extensive experience with APU and the municipal utility sector in general. The new management team seems to have a more conservative approach to financial planning and generation management, which Fitch views positively. Projections and load planning show that financial metrics should stabilize at a higher level than historical performance. Management discussed bringing down APU s debt load, accelerating repayment of debt and generally strengthening financial ratios, which is viewed favorably. Budgets, resource plans and base rates require the approval of the Anaheim city council. A seven member public utility board is responsible for making recommendations to city council on the operation of the electric and water systems, the capital plan, the annual budget, bond issuances and base rates. Members of the public utility board are appointed by city council and serve four-year terms, limited to serving two consecutive terms. City council ultimately makes any decisions in regards to the water and electric systems. Recent multi-year rate increases show council s support of APU s management and of meeting financial targets. 2
Financial Policies APU operates with a strategic plan that has been in place for a number of years. The plan includes specific financial targets, including: 1.6x debt service coverage minimum (with a new target to stay above 2.0x); Target rate stabilization adjustment (RSA) fund balance of $50 million; and Debt to assets ratio of less than 50%. The RSA target balance is sized to approximate the actual increase in purchased power costs experienced during the western energy crisis in 2001-2002. The RSA had a balance of $68 million at fiscal year-end 2013. Financial projections show the RSA will continue to increase through fiscal year-end 2015. Thereafter, management anticipates drawing on the RSA to mitigate the need for rate increases and bring the fund balance down to its targeted $50 million level. General Fund Transfer Policy APU has a relatively low required transfer to the general fund at 4% of gross revenues, which is capped by the city charter. In comparison with other utilities rated by Fitch most notably California issuers, APU s top-line Fitch-calculated debt service coverage has been low. Given the small size of APU s transfer, cash flow available after transfers is comparable to other systems that have higher starting DSC but higher transfers as well. Customer Profile and Service Area Located in Orange County 30 miles south of Los Angeles, the city is the most populous in Orange County and the 10 th most populous in the state. The city has benefited from consistent population growth, with a current population of approximately 346,000. Tourism is one of the city s leading industries, which includes Disneyland, a professional baseball team (the Los Angeles Angels), and a professional hockey team (the Anaheim Ducks). Economic growth has occurred and is expected to continue, which Fitch views favorably, given development in the platinum triangle and the Anaheim Regional Transportation Intermodal Center (ARTIC) that is currently underway. The platinum triangle is a mixed-use urban development zone in downtown Anaheim and is considered the fastest growing area in Orange County. It is an area that surrounds and includes Angle Stadium, Honda Center and The Grove. Development of condo and apartment complexes, restaurants and office space is ongoing. ARTIC will be a regional transportation hub and mixed-use activity center, scheduled for completion by calendar year end 2014. The center will connect freeways, bus routes and rail system. It is also able to accommodate high speed rail. The city s economy is largely dependent on tourism, primarily the Walt Disney Resort (Disney), and the area attracts over 20 million visitors per year. Disney, rated 'A' Stable by Fitch, is the city s largest employer, accounting for 14% of total city employment, and one of APU s largest customers. The Disneyland Resort in Anaheim includes 2 theme parks, 3 resort hotels and downtown Disney, which is a retail, dining and entertainment complex. Given Disney s current financial performance and its recent $1.1 billion investment in its Anaheim location, Fitch does not view the city s dependence on Disney as a credit concern. 3
Sales Information Prelim 2009 2010 2011 2012 2013 2014 Peak Demand 549 545 580 549 542 549 Total Electric Sales (MWh) 3,208,123 3,344,188 2,976,014 2,966,119 3,074,637 3,357,000 Sales Growth (%) 7.68 4.24-11.01-0.33 3.66 9.18 Total Retail Sales (MWh) 2,534,457 2,452,401 2,370,652 2,379,295 2,416,825 2,357,000 Retail Sales Growth (%) -2.41-3.24-3.33 0.36 1.58-2.48 Residential Sales (% of total) 19.67 18.54 19.30 19.51 19.61 16.98 Comm'l and Ind'l Sales (% of total) 59.34 54.79 60.36 60.71 58.99 53.23 Wholesale Sales (% of total) 21.00 26.67 20.34 19.78 21.39 29.79 System Load Factor 52.7 51.4 46.7 49.5 50.9 49.0 Total Customers 112,548 113,434 114,662 115,113 115,418 115,674 While residential customers make up the largest class, residential energy sales only accounted for approximately 25% of retail sales in 2013, with industrial and commercial sales accounting for approximately 45% and 30%, respectively of retail sales in fiscal 2013. The city and APU have seen consistent growth in the past two years, with new large customers taking up residence, record transient occupancy tax collections and assessed valuation reaching pre-recession levels. After the economic downturn, APU lost some of its largest industrial and commercial customers (Alstyle Apparel and Boeing) and saw a significant reduction in another large customer (AT&T). Patagonia took over Boeings vacant space two years ago and in 2013 all the lost industrial load has been replaced. The city s industrial vacancy rate is down to 4%, the lowest since the recession. Fiscal 2013 was the first year since the recession that industrial energy sales have seen positive growth. Residential sales have been increasing since 2012. Preliminary 2014 retail energy sales show a slight decline of 3%, which was primarily weather-related and was offset by increased wholesale sales. Assets and Operations APU operates and manages a resource mix that is made up of city-owned and jointly-owned resources, along with transmission and distribution facilities. The current resources are predominately coal-based, which accounted for 50% of energy supplied in 2013. Combined generation capacity of 789 MW is more than sufficient to serve APU s system peak demand of 549 MW. The addition of the Canyon Power Project in Sept 2011 (fiscal 2012) resulted in a power position in excess of the system s peak load and 15% reserve requirement (current and projected). Management has been focused on diversifying its resource mix since 2007, when APU sold its 70-MW interest in the San Onofre Nuclear Generating Station (SONGS). Diversification emphasis has been on increased generation from natural gas and various renewable resources. APU has added 31 MW of renewable power over the past two years and is creating a long-term plan to move away from its coal reliance. IPP is APU s largest source of power, accounting for almost 40% of fiscal 2014 s total energy supply, and a large source of carbon emission. The IPP agreement is set to expire in 2027, and California s SB 1368 prohibits agreement renewal if the resource continues to be coal-based. Discussion is underway to transition from coal to gas-based generation at the IPP site. APU is evaluating its options in regards to participation in the repowering. APU has started to pay down debt more rapidly in order to lessen the utility s debt burden prior to any debt issuance that may be needed to transition away from coal. 4
San Juan is APU s other largest source of carbon emissions. APU has direct ownership of 10% of generating unit 4 (50 MW) through a participation agreement that expires in 2022. San Juan is required to install emission controls by August 2016, which could have a potential cost impact to APU of approximately $26 million $30 million. There are ongoing negotiations and appeals between the EPA and the San Juan owners. APU plans to exit the San Juan participation agreement by 2018 (in advance of contract expiration), which could limit the utility s cost exposure in regard to emission controls. On June 26 a nonbinding term sheet was approved by the San Juan participants in regards to restructured ownership and a final decision is expected within a year. APU has accelerated its repayment of San Juan debt and the outstanding debt should be repaid in 2018. Source Fuel Type Contracted Party Contract Expiration Capacity (MW) Supplied (GWh) % 2014 Total Owned Generating Facilities: SONGS Nuclear Owned Owned 0 0 0.0% San Juan Coal Owned Owned 50 363 9.2% Combustion Turbine Natural Gas Owned Owned 46 80 2.0% Total 96 443 11.3% Contracted: Intermountain Power Project Coal IPA 2027 237 1,558 39.6% Magnolia Power Project Natural Gas SCPPA 2037 118 712 18.1% Hoover Project Hydro SCPPA 2018 40 44 1.1% Renewable Resources Various Misc Various 98 805 20.5% Canyon Power Project Natural Gas SCPPA 2040 200 89 2.3% Total 693 3,208 81.5% Purchased Power: Non-Firm Purchases Various N.A. - 285 12.5% Total 0 285 12.5% Total 789 3,936 100.0% Renewable Portfolio Standards (RPS) APU s RPS strategy has evolved from a wait and see approach to a more stable and conservative strategy. The wait and see strategy was prior to the RPS mandate being fully formalized and APU planned on slowly incorporating renewables by purchasing RECs and short-term renewable contracts. The updated strategy targets long-term, base load renewables. Management is trying to strengthen APU s current RPS position, in the event targets are increased in the future. Fitch views the progression of APU s RPS strategy favorably, in that it shows management s forward-thinking and long-term outlook, while also keeping in mind the cost impact to customers. APU s existing renewable portfolio is predominantly comprised of wind-based and short-term contracts. The utility is looking to diversify with a biomass contract that should come online in 2015/2016. Management wants to move away from short-term contracts, so that they have that option available in later years if the state increases the RPS above the 33% target in 2020. 5
Summary of Recent Rate Actions Date Type of Increase Residential Commercial/ Industrial Nov-2008 Base Rate 5% 5% Apr-2009 EMA $0.005/kWh Aug-2009 PCA $0.005/kWh $0.005/kWh Apr-2010 EMA $0.005/kWh $0.005/kWh Aug-2010 PCA $0.005/kWh $0.005/kWh Dec-2010 Base Rate 5% 5% Aug-2011 PCA $0.005/kWh $0.005/kWh Dec-2011 Base Rate 5% 5% Mar-2012 Aug-2012 Temporary PCA Temp PCA Removal $0.009/kWh ($0.004/kWh) $0.0045/kWh ($0.0045/kWh) Aug-2012 PCA $0.005/kWh $0.005/kWh Cumulative Increase 34% 40% EMA Env l mitigation adjustment. PCA Power cost adjustment Summary of Projected Rate Actions Date Type of Increase Residential Commercial/ Industrial Jan-2015 EMA $0.005/kWh $0.005/kWh Jan-2015 PCA $0.005/kWh $0.005/kWh Jan-2016 EMA $0.005/kWh $0.005/kWh Jan-2016 PCA $0.005/kWh $0.005/kWh Jan-2017 PCA $0.005/kWh $0.005/kWh Cumulative Increase 15% 16% Cost and Rate Structure Electric base rates are set by Anaheim s city council and are not subject to approval by any federal or state agency. In addition to base rates, APU has an RSA that provides management some discretion to respond to direct cost changes. In practice, cost increases are initially absorbed by the RSA annually and then periodically transitioned into permanent base rate increases. Fitch views APU s rate structure favorably, in that it provides management with the ability to adjust rates quickly to counter rising costs. The RSA has two components, the power cost adjustment (PCA) and the environmental mitigation adjustment (EMA). The PCA can be increased up to 0.5 cents per kwh in a 12-month period. It can be increased by an additional 1.0 cent per kwh above the limit (until all associated costs are collected) if power supply or fuel costs increase by more than 10% of budgeted amounts for 1 month or longer. The EMA is structured the same as the PCA and allows for recovery of environmental costs. Historically, the PCA and the EMA increases are then absorbed by a permanent base rate increase. This practice is important in that it gives APU management greater control over its rates and it frees up the adjustment mechanisms to work as intended, in that it absorbs escalating costs relatively quickly (within 12 months). APU increased the PCA 0.9 cents/kwh in March 2012 to recover increased costs from the IPA outage. This was the first time the PCA was increased above the 0.5 cents/kwh limit. The increase was removed in Aug. 2012, after the full cost of the outage was recouped, but was replaced with a permanent PCA increase. Even with the consistent rate increases shown to the left, APU maintains adequate rate flexibility. Residential rates are approximately 3% below average for the region, as compared to municipal and investor-owned utilities, and commercial and industrial rates are slightly above average. Financial Performance Financial performance strengthened in fiscal 2013 and is projected to remain at this level, given management s attention to metrics and planned focus on operating at a higher performance level. Fitch-calculated DSC was 2.06x in 2013, which is above APU s historic level of 1.60x and management s previous statement of staying close to 1.6x going forward. Updated projections show DSC staying at or above 2.0x through 2019. DSC dips slightly to 1.9x in 2015 and 2016, not including transfers out of the rate stabilization fund (above 2.0x inclusive). Transfers from the RSF are to offset rate increases and keep the RSF balance at or around $50 million. While stronger than historic levels, DSC is still somewhat below the rating category median of 2.35x, but much improved comparatively. Coverage of full obligations of 1.28x, which takes into account debt service and other fixed obligations, is closer to the median of 1.44x, given APU s relatively low transfer level. Unrestricted reserve levels have started to strengthen as well, with a fiscal year-end 2013 balance of $122 million, or 129 days. This is significant a improvement from APU s low of $59 million (71 days) at fiscal year-end 2011. Unrestricted reserves have increased more quickly than anticipated, as previous projections did not show any meaningful increase until fiscal years 2014-2015. 6
The utility has a sizeable debt burden both on and off balance sheet. Leverage, as calculated by debt to funds available for debt service (FADS), was 6.8x as compared to the rating category median of 5.1x. If JPA debt is included, APU s debt/fads increases to 9.2x. The utility is cognizant of its higher debt burden and is working to accelerate its debt repayment. The debt refunding is structured to front load repayment and provide debt service relief in later years. Two additional debt issuances are planned in 2015 and 2017 to fund a portion of APU s capital plan. After 2017, the utility does not plan to issue debt until around 2025, when transitioning away from coal generation. The five-year capital plan totals $232.7 million and includes undergrounding overhead lines and an additional, new substation to accommodate load growth and possible Disney expansion. Legal Provisions The common rating of AA on all of APU s bonds takes into account differences in security provisions among the two operating lien structures. Given APU s credit fundamentals, Fitch does not distinguish a material rating difference between the utility s ability to make debtservice payments on the different liens. Electric Revenue Bonds (Senior Lien Bonds) Senior lien bonds, of which there are none outstanding, could be issued but require voter approval. No additional debt is expected on this lien. Qualified Obligation Bonds APU s qualified obligation bonds are considered the working lien of the system. The bonds are secured by a second lien on net revenues of the electric system. Legal provisions include: (i) 1.25x rate covenant; (ii) 1.25x additional bonds test; and (iii) debt service reserve fund is generally required by each supplemental indenture equal to the lesser of 10% of par, 1.25x annual debt service (ADS) or 1.0x maximum annual debt service (MADS). However, the series 2009 bonds were issued without a debt service reserve fund. APU will cash fund a debt service reserve fund (DSR) for the new issue of bonds. The DSR fund will be the lesser of 10% of the sale proceeds of the bonds, 125% of average annual debt service on the bonds, or maximum annual debt service for the bonds. Second Qualified Obligation Bonds APU s second qualified obligation bonds are secured by a third lien on the net revenues of the electric system. The third lien was established in 2004 and includes more modernized provisions that provide less bondholder protection. Legal provisions include: (i) 1.1x rate covenant, (ii) 1.1 additional bonds test, and (iii) debt service reserve fund is required equal to the lesser of 10% par, 1.25x ADS or 1.0x MADS. 7
Financial Summary -- Anaheim Electric Utility Fund ($000s, Fiscal Years Ended June 30) 2009 2010 2011 2012 2013 Cash Flow (x) Debt Service Coverage 1.42 1.44 1.74 1.67 2.06 Adjusted Debt Service Coverage with Transfer 0.76 1.14 1.41 1.39 1.73 Coverage of Full Obligations 0.91 1.06 1.17 1.16 1.28 Liquidity Days Cash On Hand 141 116 71 108 129 Days Liquidity On Hand 141 116 71 108 173 Leverage Debt / Funds Available for Debt Service (x) 10.63 9.47 8.53 8.00 6.79 Net Debt / Net Capital Assets (x) 0.62 0.61 0.68 0.64 0.60 Equity / Capitalization (%) 32.45 33.21 31.36 32.21 32.06 Other (%) Operating Margin (%) 9.5 8.6 10.4 11.2 14.9 Transfer / Total Operating Revenues 7.9 3.7 4.2 3.8 3.9 Capex / Depreciation 1.6 1.3 1.5 1.0 1.1 Income Statement Total Operating Revenues 365,526 377,387 381,496 397,931 451,958 Total Operating Expenses 330,961 345,038 341,739 353,226 384,735 Operating Income 34,565 32,349 39,757 44,705 67,223 Adjustment to Operating Income for Debt Service Coverage 43,948 45,866 45,210 43,657 41,960 Funds Available for Debt Service 62,678 68,670 84,967 88,362 109,183 Total Annual Debt Service 44,215 47,835 48,731 52,859 52,875 Balance Sheet Unrestricted Funds 116,347 97,897 59,374 93,185 121,855 Restricted Funds 68,779 68,779 306,663 296,500 323,603 Total Debt 666,246 649,998 725,191 706,665 741,670 Net Assets 320,118 323,151 331,298 335,709 349,991 Source: APU audited financials 8