OREANDA-NEWS. July 28, 2015. Fitch Ratings has assigned an 'A-' rating to the Public Utility District No.1 of Klickitat County's (KPUD, or the district) series 2015 A (\\$45.75 million) and series 2015B (\\$34.55 million, federally taxable) electric system revenue and refunding bonds.

The bonds are scheduled to price the week of August 10th, with a final maturity of Dec. 1, 2036. Bond proceeds will fund certain capital expenditures; refund and restructure a portion of outstanding (series 2006B) debt; fund the debt service reserve account requirement; and pay costs of issuance.

In addition, Fitch affirms the following parity lien ratings:

--\\$129.4 million electric system revenue and refunding bonds at 'A-';

The Rating Outlook is Stable.

SECURITY

The bonds are secured by net revenues of the electric system, after the payment of operating expenses. The district's water and wastewater system is separately financed and secured.

KEY RATING DRIVERS

NONTRADITIONAL RETAIL UTILITY: KPUD predominantly provides its customers with retail electric service. The district's electric operating profile is somewhat unique, as it extends beyond the delivery of power to its native load, and incorporates wholesale power and transmission activities. Although these activities generate margins and help offset costs to customers, they also expose bondholders to added risk.

RENEWABLE AND CARBON-FREE POWER SUPPLY: The district's power supply is mostly purchased hydropower, with 88% contributed by the Bonneville Power Administration (BPA), along with wind and landfill (methane) gas-to-energy resources. Together, these provide a favorable mix of renewable and carbon-free resources.

RELIANCE ON WHOLESALE REVENUES: The current rating reflects KPUD's reliance on wholesale power revenues, which are largely derived from near-term and spot sales of excess power supply and are inherently volatile. Wholesale power revenues accounted for 23% of total operating revenues in fiscal 2014 and are projected to remain in the 22%-27% range through 2019. Although some improvement is forecast, low wholesale market prices will continue to challenge operating margins over the near term.

MODESTLY IMPROVED FINANCIAL PERFORMANCE: The District's financial performance has shown some improvement from its low point in FY2012 when significantly lower electricity market prices and step-up in debt service curtailed cash flow and debt service coverage (DSC) (1.03x consolidated). The district subsequently implemented three rate increases (totaling 21%), focused on its hedging strategy and recently increased its DSC target from 1.40x to 1.50x. More conservative Fitch calculated DSC equaled 1.15x and 1.17x, on a consolidated and electric-system only basis, respectively, for FY2014.

DEBT EXTENSION PLANNED: The proposed 2015 debt offering includes a four-year debt extension of a portion of outstanding debt (approximately \\$70 million) to 2035, to levelize debt amortization and alleviate an upcoming rise in debt service. Fitch views the debt extension as credit neutral, as it will provide members near-term rate relief, but continue to amortize debt in-line with the operating life of the generating asset.

RATING SENSITIVITIES

FAILURE TO ADEQUATELY MAINTAIN FINANCIAL TARGETS: Given Klickitat County Public Utility District's greater exposure to volatile wholesale electricity prices and sales and its high leverage, any failure to offset weaker margins through additional rate increases, meet projected performance or maintain solid liquidity would likely result in downward rating pressure.

CREDIT PROFILE

Klickitat County PUD No. 1 (KPUD, or the District) is located in the southcentral portion of Washington, along the Oregon border. The District's native load is small, but growing, with a retail base of 12,377 electric customers, 82% of which are residential. It is a combined utility system consisting of electric, water and wastewater services. The electric system accounts for the vast majority of consolidated system revenues, at 96.7% of 2014 total operating revenues. Each of the systems is financed and accounted for separately; and is individually self-supporting.

EXCESS POWER SUPPLY

The District meets the majority of its electric retail load requirements with power purchases from: Bonneville Power Administration ([BPA]; 88% of load); and the rest from its 50% ownership share in the McNary Dam hydroelectric project (5MW)and 3% share of the Packwood Lake hydroelectric project (1MW).

The district's also maintains additional renewable resources that are surplus to its needs, including a prepaid energy purchase equal to 13% of the energy and associated renewable energy credits from a local wind development (White Creek Wind 1, 204.7 MW project); and an investment in a local Landfill Gas-to-Energy (LGTE) facility (total capacity of 26 aMW).
The output from the LGTE project is presently fully hedged through 2016. The wind output is sold into the region's wholesale energy markets. Any unhedged wind and LGTE generation provide a physical hedge for the district's load in the event wholesale market prices were to escalate.

WHOLESALE ACTIVITY EXPOSURE

Off-system renewable power and contracted transmission sales accounted for 23.0% and 11.9%, respectively, of consolidated 2014 system revenues. Wholesale power related revenues are variable as they entail near term contracts and more volatile spot electricity market sales. The transmission revenues are more stable as they are based upon long-term, take-or-pay transmission sales agreements.

Over the past few years, the district has taken steps (rate increases, cost cutting, hedging strategy, higher DSC target) to bolster its operations and finances, given the reliance on more variable wholesale electricity sales. Management projects coverage to improve to more than 1.50x by 2016, including contributions in aid of construction and the Build America Bonds federal subsidy as available cash flow for debt service coverage. Fitch-calculated debt service coverage, which excludes non-operating earnings, should approximate 1.25x.

ADEQUATE FINANCIAL PERFORMANCE

The District's financial metrics are adequate for the rating level. While recent rate increases are helping to mitigate low wholesale electricity sales and margins, leverage remains high, as measured by debt-to-FADS of 10.8x for fiscal 2014, compared with Fitch retail median of 8.7x for 2014. Liquidity remains solid and supported by an external bank line, in aggregate providing 155 days operating liquidity for fiscal 2014.

The district's financial projections appear reasonable, with a 1.50x debt service coverage target. As noted, the district's calculation of debt service coverage is more liberal than the Fitch computation. Fitch calculated debt service coverage is projected at approximately 1.25x - 1.47x through 2019, sufficient for the 'A-' rating category.

DEBT EXTENSION AND RESTRUCTURING PLAN

Most of KPUD's 2015 debt offering includes a partial debt restructuring and extension. KPUD's existing annual debt service (\\$10.5 million) escalates in 2017 (to roughly \\$11.9 million) and again in 2020 (\\$12.5 million). This added cost equates to roughly a 3-4% rise in the retail revenue requirement, assuming wholesale electricity prices slightly improve but remain relatively low through 2019. KPUD is additionally anticipating wholesale rate increases from its main source of power supply, BPA.

The proposed debt restructuring plan will provide some rate relief over the next ten years in exchange for slightly higher rates towards the end of the debt life. Favorably, the agency's debt will be fully retired by 2036, in line with the expected operating life of the generating asset.