OREANDA-NEWS. Fitch Ratings has assigned an 'AA-' rating to the following power system revenue bonds issued by the Los Angeles Department of Water and Power, CA (LADWP):

--Approximately $275 million power system revenue bonds, series 2016A;
--Approximately $225 million power system revenue bonds, series 2016B.

Proceeds of the series 2016A and 2016B bonds will fund a portion of LADWP's power system capital program, refund outstanding debt for savings and pay costs of issuance. The 2016A bonds are expected to price on May 5, 2016 and the 2016B bonds are expected to price on June 9, 2016.

In addition, Fitch affirms the 'AA-' rating on the following outstanding parity bonds:

--$7.72 billion power system revenue bonds;
--Commercial paper loan notes (bank note);
--Series 2001B and 2002A (bank bonds).

The Rating Outlook on all bonds is revised to Positive from Stable.

SECURITY

The bonds are special obligations of LADWP payable solely from power system revenues.

KEY RATING DRIVERS

POSITIVE OUTLOOK: The Positive Outlook reflects longer-term revenue certainty provided by the five-year rate package adopted in March 2016 and funding for LADWP's planned increase in capital reinvestment. LADWP's ability to move into accelerated capital spending while preserving its strong financial margins is expected to result in a rating upgrade.

LARGE DIVERSE SERVICE AREA: LADWP's greater Los Angeles service territory is broad, mature, and diverse, with stable customer growth. Load growth is projected to be modest at less than 1% annually.

UNIQUE, ADJUSTABLE RATE STRUCTURE: A five-year rate package approved in March 2016 provides strong revenue recovery to LADWP and funding for planned capital investment. Adjustable rate mechanisms provide revenue protection from variable sales and costs. The adjustable rate components provide approximately 49% of power revenues.

STRONG FINANCIAL MARGINS: Financial margins for bondholders are consistently strong with over 2.2x debt service coverage of revenue bonds over the past five years. Cash flow after debt service payments provides capacity to support the 8% transfer to the general fund and to fund a robust portion of the system's large capital needs. Liquidity is healthy with 252 days operating cash at the end of fiscal 2015.

EVOLVING POWER SUPPLY: California legislation adopted over the past decade requires costly changes to the state's power supply mix, including the most recent increase in the renewable portfolio standard to 50% by 2030. LADWP continues to modernize its local generation fleet, divest coal-fired generation and acquire renewable resources. LADWP is well positioned to comply with the state's environmental goals.

STRONG CAPITAL INVESTMENT: Capital investment in the system has been increasing in recent years. LADWP projects a significant proportion of investment will continue to be funded with pay-as-you-go contributions from operating revenues.

ABOVE-AVERAGE DEBT LEVELS: LADWP's anticipated debt issuance to fund its very large $7.7 billion capital plan is significant at $3.9 billion over the next five years. The planned debt will increase leverage from already above-average levels.

RATING SENSITIVITIES

CONTINUED STRONG FINANCIAL PERFORMANCE: Los Angeles Department of Water and Power's (LADWP's) adopted five-year rate package is expected to fund increased capital spending and provide more consistent cost recovery that would persevere through periods of economic weakness . LADWP's ability to demonstrate continued strong financial margins during the ramp-up of increased capital spending in the next two years would likely result in a rating upgrade.

CREDIT PROFILE

STRONG SERVICE AREA

Los Angeles is the commercial and cultural center of a very large, diverse economy. LADWP provides retail electric service in the city of Los Angeles to 1.5 million customers, or a population of 4 million. The system had a maximum peak of 6,396 megawatts (MW) in September 2014.

The customer base is extremely diverse, with a strong commercial presence. However, retail sales have been flat over the past five years with the weak economy, conservation efforts, and energy efficiency investments. Energy sales growth is projected to continue to be below 1% through 2026 with planned additional investment in energy efficiency programs scheduled to offset a portion of projected load growth.

APPROVED RATE ACTION A FAVORABLE CREDIT DEVELOPMENT

LADWP released a five-year rate proposal in July 2015 that was approved by City Council in March 2016. The new rates were implemented in April 2016 through an incremental rate ordinance that adds rates on top of LADWP existing rate ordinance. The average rate increase for midrange power users will be 3% annually through fiscal 2020. The five-year rate plan (LADWP had previously adopted rates for two-year periods) is viewed as a credit positive given the lengthy rate-approval process that exists for LADWP and the large scope of planned capital spending.

The key developments that improve revenue security are three new adjustable rate components, in addition to the two that LADWP has used previously. The adjustable rate components are moved by the Board in response to movement of specific costs.

One of the new adjusters is a decoupling mechanism, similar to a base rate revenue mechanism that was put in place for electric rates in fiscals 2013 and 2014. This mechanism disassociates revenues from variable usage that can occur with changing weather, economic shifts or regulatory changes by allowing LADWP to recover or return revenues in the event that base rate revenues fall below or exceed budgeted amounts. The adjustable rate components recover an estimated 49% of all revenues, which mitigates concerns about potential delays in the consideration of rate requests, as have occurred in LADWP's past.

PROPOSED GOVERNANCE CHANGES

In January 2016, a charter amendment was proposed at City Council that, if approved by voters, would alter LADWP's governance. The intent of the amendment would streamline LADWP's governance by creating a full-time Board of Commissioners with expertise in relevant areas, no longer require City Council approval of certain Board actions, allow LADWP to implement its own hiring process and cap the annual transfer to the general fund. The likelihood of approval is uncertain but the intent of the changes appears to be neutral or potentially positive from a credit perspective.

POWER SUPPLY REFORMATION REQUIRED; LADWP MAKING PROGRESS

LADWP has spent the last decade making long-term changes to its power supply portfolio which are required in order to meet California's legislative environmental agenda. LADWP's coal-fired resources include the Intermountain Power Project located in Utah (LADWP's share is 1,116 MW) and the Navajo Generating Station in Arizona (477 MW). LADWP is pursuing strategies to mitigate the carbon impacts of both resources in order to comply with state legislation, including the planned sale of its share of Navajo in 2016, prior to the original contract expiration in 2019.

In addition, LADWP reached its 20% renewable target beginning in 2010 and has achieved this amount or higher since that time. LADWP is well positioned to meet the state-mandated goal of 33% by 2020 if investments in solar, geothermal and energy efficiency continue to proceed as outlined in the integrated resource plan. Additional planning and investment will be needed in order to meet the state's recently enacted additional goal of 50% renewables by 2030 for all retail utilities.

STRONG FINANCIAL PERFORMANCE

Fitch calculated debt service coverage was over 2.5x in the past three fiscal years, and over 1.9x after factoring in the transfer equal to 8% of utility revenues to the city's general fund. Coverage levels in fiscals 2014 and 2015 were strong due to relatively level expenditures, the 6% base rate increase in fiscal 2014 and cost-recovery adjusters, but were also bolstered by debt restructurings that provided debt service relief.

Liquidity at the end of fiscal 2015 was healthy, with $1.6 billion (or 252 days of operations) in unrestricted cash, including $500 million in the debt reduction fund. Actual balances could decline closer to LADWP's formal cash policy target of 170 days cash but would remain healthy even at this lower level. LADWP added a $300 million revolving credit agreement in December 2015 that can be used for any corporate purpose for either the power or water utility. While the intent is to use the revolver for interim construction financing, it provides an additional source of liquidity that can be used for any purpose.

With additional planned debt issuance, annual debt service costs are anticipated to grow to over $700 million by fiscal 2020 from $444 million in fiscal 2015, but should remain a manageable 20% of operating expenditures. LADWP's financial policies include a debt service coverage target of 2.25x (before the annual transfer), a fixed-charge debt service target of 1.7x, minimum unrestricted cash reserves equal to 170 days cash, and debt-to-capitalization of less than 68%. Fitch views the financial policies as an evolving indication of LADWP's goals for rate setting.

SIGNIFICANT CAPITAL NEEDS AND ABOVE-AVERAGE DEBT LEVELS

LADWP's current five-year capital plan is estimated at $7.7 billion for 2016-2020. The department's anticipated borrowing over the next five years is approximately $3.9 billion. The sizable capital plan is being driven by LADWP's reinvestment in infrastructure to preserve reliability and generation development. Capital spending has increased in four of the past five years, and should continue rising based on the current capital program.

Additional planned debt issuance at LADWP and off balance sheet to finance the Intermountain Power Project repowering will continue to pressure LADWP's leverage ratios. However, the capital plan has a robust pay-as-you-go component, with 49% of the expenditures projected to be supported by cash flow. Fitch views LADWP's maintenance of a healthy portion of revenue-supported capital spending as a key component of the utility's continued financial flexibility.