WASHINGTON --The Washington Suburban Sanitary District, a frequent and substantial issuer of tax-exempt bonds, is moving from a primarily market-driven capital improvements program to one driven also by debt and spending affordability requirements.
This shift and other factors, such as plenty of available capacity for water supply and sewage disposal, mean fewer bond issuances in the foreseeable future, said officials with the utility district, which serves Montgomery and Prince George's counties in Maryland and has $1.9 billion in outstanding debt.
The new emphasis on debt and spending affordability got teeth last year when the state General Assembly passed a law requiring the Washington Suburban Sanitary Commission, which runs the district, to reduce its debt service obligations as a percentage of total operating budget from its current 51% to 40% over five years.
The commission's fiscal 1994 budget to pay all debt holders was $213.5 million.
The legislators wanted to reduce customer rate increases, which were reaching double digits, and to transfer more costs from system users to developers. To accomplish the transfer, the law authorized imposition on developers of an impact fee, called a system development charge, during a three-year phase-in period beginning in fiscal 1994, which started July 1, 1993.
However, late last year, the commission issued a report saying reduction of debt service -- as defined by the legislature -- to 40% is unrealistic. This fall, the county councils will provide guidelines to the commission to take account of what spending and debt service levels it can afford, as well as economic growth, in planning capital projects.
The water and sewer district's credit standing remains good despite the injection of politics into utility operations, said Joseph Carrigan, director of investments and funding for the sanitary commission.
Analysts with both Standard & Poor's Corp. and Moody's Investors Service emphasized that they focus on the bottom line rather than politics to determine ratings. Standard & Poor's rates the utility AA, and Moody's assigns a rating of Aal.
'"It's a high-quality security," said Monique Jn-Marie, senior analyst in Moody's public finance division.
Standard & Poor's last June revised its three-year outlook for the utility from negative to stable because of the diverse economic base of the service area, which is adjacent to Washington, D,C., and high user income levels, strong management, and an ambitious capital plan.
The negative outlook had been assigned the previous year because of the utility's tight operating margins, a delay in restoring previous reserve levels, and projected high rate increases to support the capital budget, said analysts Robin Prunty and Veronica Vilardo of Standard & Poor's public finance division.
Standard & Poor's revision back to a stable outlook was based on a showing by Montgomery and Prince George's counties that they would maintain operating reserves, and on more moderate anticipated rate hikes and greater use of pay-as-you-go funding for capital needs.
A key factor in the high ratings is the utility's reliance on system revenues, rather than ad valorem taxes, to meet its obligations, Jn-Marie said. "That's important because although [the sanitary commission] has a general obligation pledge on the ad valorem taxes, they don't really use any of the taxes to support their operations," she said.
That reliance on revenue makes the utility's GO bonds effectively revenue bonds, said county and sanitary commission officials.
These officials contend that the ratio of debt service is actually closer to 40% than 50% and that debt service obligations are not really a problem. Water and sewer bonds are supported by variable user fees, while a general construction bond fund is supported by fixed front-foot benefit charges to property owners. The fixed charges are a function of the footage of pipe built on property boundaries fronting a street.
Changes in this charge do not affect water and sewer rates, so if the legislature's intent is to control user bills, the general bond debt service should be excluded from the ratio of debt service to total budget, the sanitary commission contended in its report to the General Assembly.
In recent fiscal years the utility averaged about $100 million annually in bond sales, but this figure probably will be more in the $50 million area in each of the next few years, Carrigan said. The commission alerted its bond buyers, mostly large mutual funds within and outside of the state, earlier this year, he said.
The district "certainly has been one of the premier names in terms of bond issuance in the state," said Sam Fales, vice president and co-manager of the Legg Mason Wood Walker Inc. municipal bond department in Baltimore. Legg Mason, a regional bond dealer and underwriter, has a lot of retail investor business, Fales said. The sanitary commission's decreased participation in the market "makes it that much more difficult for us to satisfy our customers."
What is happening with the commission is "a microcosm of what's happening nationally" in the municipal bond market, Fales said. Camgan takes the same view. "We're probably indicative of what's happening in the bond marketplace," he said.
"First of all, we went through really significant refundings in the past fiscal year" because of low interest rates, Carrigan said. About 40% of the utility's debt was refunded in two sales for $258 million and $435 million, he said. "We now have a total interest rate of 5.37% for all of the $1.9 billion of debt that we have outstanding, so we're positioned pretty well with respect to our interest costs. There's really not a whole lot of refunding opportunity for us in the future."
The refundings are in addition to the legislative shift on who pays for new facilities away from current users, Carrigan said. This means that "there will be less bonds sold because the developers will he making up the difference."
While the high debt service obligations may have provided the impetus for the increased emphasis on debt and spending affordability, "the effect of the movement now is lower bonds, probably lower [rate] increases to the general public and higher [costs] to the developer," Carrigan said. This means either developers' profits are going to be squeezed if the housing market is tight, or they will pass through costs in a good market, he said.
The utility district plans to come to market in November to sell about $50 million of 25-year general construction bonds, Carrigan said. The district last came to market in June with a $55 million sale of water and sewer bonds, he said, noting that the utility will continue holding competitive sales.
The district typically has two-stage financing in each fiscal year, Carrigan said, It sells notes at the beginning of each fiscal year and pays them off at the end of the year, at which time it sells long-term bonds with 19-year maturities.
"So we have effectively financed our construction over 20 years .... This year, the net effect of it is that we get a combined interest rate which looks more like a triple-A cost of financing than the double-A ... because we get that low interest rate in the first year," he said.
A major issue likely to surface during the next few years is a potential gap between the system development charge, set at $160 per plumbing fixture unit, and capital spending needs, said officials with Prince George's County and the utility. The utility estimates a potential gap of $115 million by the end of six years, but it does not plan to ask for a legislative increase in the impact fee next year while the phase-in period is still under way.
Whether the gap materializes depends on growth in the service area. and on other key factors such as decisions by the two county councils on rate increases, a Prince George's council official said.
Of special concern to the rating agencies as well as the utility is the success of the new impact fee. "I was expecting $7 million in fiscal 1994 and I only got $3.5 million," said Thomas Street, the sanitary commission's budget director.
The utility's capital improvements program projects collection of $122 million over a six-year period, but "I don't think we are going to collect that much," Street said.
Council and commission staffs still are working out details of implementing the charge.
The nature of the overall spending and debt affordability movement still "is somewhat ill-defined," said Street. Staff from the commission and the two county councils will begin meeting this fall to work out details of a new process endorsed earlier this year by the councils that involves tying spending and debt levels to decisions involving development growth.
The councils plan to give specific guidelines to the sanitary commission by the beginning of November, Street said.
Craig Price, deputy administrator of the Prince George's council, said the councils will look at "what additional debt service can we afford to take on, so what kind of bond sales can we do?" They also will look at wages, salaries, cost of living increases, work hours, maintenance schedules, "those kinds of things," he said.
