OREANDA-NEWS. Fitch Ratings has downgraded the ratings on the following U. S. Virgin Islands (USVI) Water and Power Authority (WAPA) revenue bonds:

--$131,850,000 electric system revenue bonds series 2012A, 2010A, 2010B, 2010C, 2003 to 'B+' from 'BB-';

--$96,800,000 electric system subordinated revenue bonds series 2007A, 2012B, 2012C to 'B' from 'B+'.

In addition, Fitch has removed the ratings from Rating Watch Negative and assigned a Negative Rating Outlook.

SECURITY

The electric system revenue bonds are secured by a pledge of net electric revenues and certain other funds established under the bond resolution. The electric system subordinated revenue bonds are secured by a pledge of net revenues that are subordinate to the pledge securing the electric system revenue bonds. A default on the subordinate lien bonds does not trigger a cross default on the senior revenue bonds.

KEY RATING DRIVERS

PERSISTENTLY STRAINED LIQUIDITY: The rating downgrade reflects WAPA's reduced capacity for timely repayment of outstanding debt service obligations as evidenced by a persistent strain on available liquidity. Liquidity pressures have been driven by consistently low unrestricted cash reserves balances, the continuation of high government receivables and high levels of borrowing under the authority's available lines of credit. Unrestricted cash has continued declining, falling from $10.9 million at fiscal year-end 2015 (fiscal year ended June 30, 2015) - to just $2.1 million (equal to just four days of cash on hand) through May 2016 based on interim financial results. Remaining borrowing capacity under the lines of credit totals just $2 million.

LIMITED MARGIN OF SAFETY REMAINS: The Negative Outlook reflects Fitch Ratings concern that capacity for continued payment is vulnerable to further deterioration. Exacerbating WAPA's operating pressure is a lawsuit initiated earlier this year by the authority's former fuel supplier alleging failure to pay almost $25 million in fuel delivery charges. Moreover, Fitch expects that, despite modest headway made recently in reducing receivables attributable the USVI government (Issuer Default Rating of 'B+'/Negative Outlook), additional progress is increasingly unlikely given the significant financial and economic pressures confronting the USVI.

POWER SUPPLY DIVERSIFICATION: Fitch believes the authority's ongoing efforts to diversify its power supply should ultimately have a stabilizing impact on electric rates and declining sales despite cost overruns and delays. WAPA is converting its oil-fired generating plants to tri-fueled capability with liquefied petroleum gas (LPG, or propane) as the primary fuel source initially. While the authority has already completed the conversion of two generating units on each island (St. Thomas and St. Croix) and begun burning propane, recent project cost increases and delays in project completion are a concern.

CONSTRAINED COST-RECOVERY MECHANISMS; RATE CASE PENDING: Electric rates are regulated by the Virgin Islands Public Service Commission (PSC), which has authorized cost recovery through both base rates and a levelized energy adjustment clause (LEAC) for fuel and other related costs. Delays inherent in both the regulatory process and the recovery mechanism impair liquidity and limit financial flexibility. Retail rates ($0.29/kwh) remain exceptionally high, despite some moderation over the prior year driven by lower fuel prices. A base rate increase requested in May 2016 that is currently pending could improve the authority's margin of safety, although there is no indication as to when the PSC will provide a definitive ruling on the filing.

CHALLENGED SERVICE TERRITORY: The authority serves a geographically and economically challenged territory largely dependent on tourism and government employment. Strains related to the USVI's narrow economy are compounded by the authority's exceptionally high electric rates, declining sales, and per capita personal income levels that approximate just half of the U. S. average.

RATING SENSITIVITIES

ADDITIONAL LIQUIDITY STRAINS: Any evidence of further reduced capacity for timely repayment or a potential restructuring of outstanding debt at the U. S. Virgin Islands Water and Power Authority could result in further negative rating actions.

RATING STABILITY: Improved liquidity, as evidenced by higher unrestricted cash balances and greater borrowing capacity under its lines of credit, more timely receipt of payment from the USVI government, base rate increases and the positive resolution of pending litigation could provide some additional cushion over the near-term and stabilize the current ratings.

CREDIT PROFILE

LIQUIDITY CONCERNS

WAPA's consistently low cash balances coupled with a persistent reliance on borrowings under its bank lines of credit to fund working capital remains a key credit concern for Fitch. The authority currently maintains bank lines of credit from Banco Popular of Puerto Rico (Long-Term Issuer Default Rating 'BB-') and FirstBank of Puerto Rico that mature on June 25, 2017. Approximately $18 million of the $20 million in total borrowing capacity has been drawn upon.

WAPA also maintains a $15 million overdraft facility with FirstBank as well as additional lines of credit to fund capital projects from both banks totaling $13 million. Approximately $21.2 million of the $28 million in available capacity under the additional lines has been tapped. The authority's ability to secure an extension of the lines of credit by one year is a departure from the three-year term secured in 2013.

LEGAL ACTION INITIATED

WAPA's prior fuel supplier, Trafigura Trading LLC (Trafigura), recently filed a complaint in district court alleging the authority failed to pay an outstanding balance of almost $25 million for prior fuel deliveries made during a portion of 2015.

WAPA changed fuel suppliers' midway through 2015 reportedly without satisfying any portion of the amount owed to Trafigura. The balance owed was a primary driver in a sizeable spike in accounts payable to $74.6 million from $38.9 million exhibited in the authority's preliminary unaudited financial results for fiscal 2015.

The authority's failure to satisfy the obligation is especially concerning given its current strains on liquidity and continued exposure to sizeable accounts receivables attributable to the USVI government. After peaking at nearly $43 million at the close of fiscal year-end 2015, periodic appropriations from the government reduced the balance owed to a still sizeable $27.9 million as of May 31, 2016. The USVI government's inability to further reduce the balance owed, despite its receipt of $220 million from the sale of the Hovensa oil refinery earlier this year, diminishes the likelihood that any additional progress toward reducing the receivable and paying Trafigura will result over the near-term.

WEAK FINANCIAL PERFORMANCE

The authority's financial profile has weakened further in recent years, reflecting the confluence of inadequate cost recovery, declining sales and the continued financial strain attributable to overdue receivables from the government. Total government receivables nearly doubled from $25.5 million in fiscal 2013 to $46.9 million through Dec. 31, 2015.

Fitch calculated all-in debt service coverage declined to 0.83x in fiscal year-end 2014, although with the inclusion of fuel tax revenues, which are statutorily restricted for capex and any future debt service related to new generation projects, coverage improves to just under 1.2x. Liquidity, not including lines of credit available for working capital, remained low with just 13 days cash on hand at the close of fiscal 2014. Including the available lines of credit, liquidity improved modestly but remained weak at 23 days of liquidity on hand.

Cash flow and liquidity metrics remained largely unchanged in fiscal 2015, despite the non-payment of nearly $25 million in fuel costs to Trafigura. Total borrowing capacity under all available lines, including one for overdraft protection, is almost completely exhausted, further straining the authority's access to liquidity. Cash flow after satisfying operating expenses and annual debt service obligations through May 2016 appears positive, although operating results are preliminary.

The authority recently (May 2016) submitted rate cases for both the electric and water utilities that would have taken effect at the start of fiscal 2016 if approved. However, the PSC voted in May 2016 to deny the rate case pending a review of the request by a PSC-appointed hearing examiner. No further update on the filing or a pending review of the filing has been made available.