OREANDA-NEWS. Fitch Ratings has assigned an 'AAA' rating to the following Raleigh, NC (the city) revenue bonds:

--$90.7 million combined enterprise system revenue bonds, series 2016A;

--$84.2 million combined enterprise system revenue refunding bonds, series 2016B.

The bonds are expected to sell via negotiation the week of Oct. 24. Proceeds of the series 2016A bonds will be used to finance certain improvements and upgrades to the combined enterprise system and pay issuance costs. Proceeds from the series 2016B bonds will be used to advance refund a portion of the outstanding series 2011 for interest savings and to pay issuance costs. Savings are expected to be taken annually and the maturity will match the refunded bonds.

In addition, Fitch affirms the following ratings:

--$617 million combined enterprise system revenue bonds (prior to the refunding), at 'AAA'.

The Rating Outlook is Stable.

SECURITY

The bonds are payable from net revenues of the city's water and sewer system (the system).

KEY RATING DRIVERS

SOLID FINANCIAL PROFILE: System net revenues have generated debt service coverage (DSC) above 2.0x on both senior lien and total annual debt service in each of the past three years. Ample liquidity and affordable rates lend substantial financial flexibility. The city's financial forecast indicates these strong trends will continue.

ELEVATED DEBT: The system's debt metrics have historically been elevated compared to other 'AAA'-rated water and sewer utilities rated by Fitch. Management continues to increase the cash-funded portion of its capital plan, tempering the size of future debt issuances. However, a slow pay-out rate of existing bonds and expectations for additional debt mean debt levels will stay comparatively high albeit stable for the foreseeable future.

SIGNIFICANT INFRASTRUCTURE INVESTMENT AND CAPACITY: The system benefits from an abundant water supply and treatment capacity, and continues to meet all environmental and regulatory requirements.

SOLID ECONOMIC SERVICE AREA: The city is located within the successful Research Triangle Park (RTP), a regional economic engine. Economic indicators are strong, including low unemployment, above-average income levels and a highly educated labor force.

RATING SENSITIVITIES

MAINTENANCE OF STRONG CREDIT FUNDAMENTALS: Fitch expects that the strong credit fundamentals supporting the city of Raleigh's combined enterprise system, including robust coverage and liquidity and a well-managed capital and debt program, will preserve rating stability.

CREDIT PROFILE

The city owns and operates a potable water distribution and wastewater collection, treatment and disposal system. The service territory includes the city of Raleigh (general obligation [GO] bonds rated 'AAA' by Fitch), several communities adjacent to the city, and portions of Wake County (also rated 'AAA'). The system's customer base is stable and 89% residential.

ROBUST ECONOMIC UNDERPINNINGS

Raleigh, the county seat of Wake County and the capital of North Carolina, is located in the north central part of the state adjacent to the successful RTP, which serves as an important economic engine to the region's 1.8 million residents.

The city's economy boasts a skilled labor force and an employment base concentrated in service sector jobs related to government, education, technology, health care, and other professional services. Employment growth trends following the recession have accelerated over the past several years resulting in an unemployment rate for the city of just 4.4% in June 2016. Wealth and income levels are consistently above the state average and approximate the national average.

WELL-MANAGED FINANCIAL PROFILE

The system's adherence to (and in most cases exceedance of) prudent financial policies has resulted in much-improved financial flexibility, including robust liquidity, strong coverage margins and a manageable debt burden. Examples of policies include a minimum 2.0x senior lien DSC requirement, a fund balance of no less than 50% of the operating expense budget, and a more equitable cash-versus-debt funded capital improvement program (CIP).

Improved system revenues driven by continued rate increases has resulted in solid senior lien DSC of above 2.0x since 2012. Fiscal 2015 Fitch-calculated DSC was 2.6x and is estimated to be 2.7x in fiscal 2016. Fitch calculated all-in DSC, including debt service for subordinate lien state revolving fund loans, GO-issued utility debt, etc., has also exceeded 2.0x since 2012 and ended fiscal 2015 at 2.2x. The city's financial forecast, prepared by a third party rate consultant, shows senior lien and all-in DSC of 2.7x and 2.3x, respectively, through fiscal 2021.

Unrestricted cash has also improved since 2012 to $235 million available in fiscal 2015, providing the equivalent of over two years' of days' cash on hand. Management indicates that as of fiscal 2016, cash levels have accumulated even further to an estimated $295 million, and will continued to grow despite the greater use of pay-go spending for the system's CIP.

AFFORDABLE RATES

Financial flexibility is further enhanced by an affordable rate structure and strategic capital planning. The system's adoption of a tiered rate system successfully has buffered the impact of a statewide water consumption decline, and the addition of system-wide fixed infrastructure investment charge produces additional revenue guaranteed to support routine but necessary asset renewal and replacement. Rates consist of fixed monthly service and infrastructure replacement fees, plus a variable inclining block volumetric charge. The current average customer pays about $53 per month for a combined water and sewer bill, 34% of which is a fixed cost. Management intends for the fixed proportion to reach 35% in the near term.

Rates have increased substantially since 2008 however customer bills remain objectively affordable relative to median household income. Management retains substantial rate-raising flexibility and with the consent of an amenable city council, intends to continue rate increases by about 4% annually through the five-year forecast.

ELEVATED DEBT BURDEN

Debt metrics compare somewhat higher than other Fitch 'AAA'-rated utility systems, due in part to debt issued over the past decade in order to keep pace with rapid growth and expansion. This concern is somewhat offset by adherence to internal policies that dictate additional leveraging and set limits on the amount of variable rate debt and the use of swaps. In fiscal 2015, debt equated to $2,021 per customer, down from $2,200 the prior year but still high compared to Fitch's 'AAA' median of $1,093. Debt to net plant is also relatively high at 57%, which is more than double the median for 'AAA'-rated systems. Total debt carrying costs (senior and subordinate lien annual debt service) approximate 24% of gross revenues and are expected to remain between 24% and 27% through the financial forecast ('AAA' median is 18%).

The system's overall leverage profile is expected to remain elevated compared to other Fitch 'AAA'-rated utilities. Additional debt of $290.6 million (including the current new money component) is projected to be issued over the next five years to support the system's $696.4 million CIP. This amount represents 23% less cumulative debt than prior assumptions, as cash resources (fund balance and infrastructure replacement and watershed protection fee income) now comprise roughly 58% of CIP funding (exceeding policy goals of 50%/50% cash-to-debt financing). Debt metrics based on this new debt are projected to increase moderately to $2,380 per customer by year five (fiscal 2021) yet still maintain an elevated debt burden relative to net fixed assets.

Currently, 20% of the system's total outstanding debt is issued as variable rate demand bonds (2008A and 2008B bonds). Fitch views this proportion as manageable and it falls below management's 25% policy level. Two fixed payor swaps with Citigroup and Wells Fargo are the counterparties have a total current mark-to-market valuation of negative $28 million, or about 12% of the system's strong fiscal 2015 balance sheet resources. Further, the bonds have stand-by bond purchase agreement (SBPA) with Bank of America (Fitch Issuer Default Rating 'A+') through late-2018. The SBPA's term-out provision stipulates a standard five year repayment schedule.

SIGNIFICANT CAPITAL INVESTMENT SUPPORTS STRONG SYSTEM CAPACITY

The system's CIP includes several large projects, including an upgrade of the biosolids treatment process at the Neuse River Resource Recovery Facility, the construction of the East Neuse Parallel Interceptor and Regional Pump Station, as well as a dedicated renewal and replacement program to address aging infrastructure and limit sanitary sewer overflows. The CIP is generally flexible, with project sequencing based on urgent project prioritization as well as funding availability.

The system benefits from an ample water supply derived primarily from Falls Lake, a multi-purpose reservoir owned by the Army Corps of Engineers (ACE) and to a lesser extent, Wheeler and Benson lakes. The three reservoirs are projected to sufficiently meet the city's needs through at least 2030, and perhaps longer as the city continues to focus on future resource development as part of its long-term strategic planning. Additional near-term supply options include use of reclaimed water and additional allocations from existing sources. The city has exclusive contract rights to purchase Falls Lake water from the ACE.

The system's two water treatment facilities have a combined capacity to treat up to 102 million gallons per day (mgd), nearly twice the average daily demand of 52 mgd and well in excess of typical peak usage. The city's wastewater treatment plants are capable of meeting current customer demands with expansion being added that will ensure capacity for the foreseeable future.