OREANDA-NEWS. Fitch Ratings assigns an 'AA-' rating to the following Floresville Electric Light and Power System (FELPS) bonds:

--Approximately \\$6.5 million revenue refunding bonds, series 2015.

The 2015 refunding bonds are expected to price on Sept. 9, 2015 via negotiated sale. Bond proceeds will refund outstanding parity bonds with level savings and no extension of bond maturity dates.

Fitch also affirms its 'AA-' rating on the following outstanding parity revenue bonds:

--\\$29 million improvement revenue bonds, series 2005, 2009, 2011 and 2014;
--\\$2 million junior lien revenue refunding bonds, series 2014.

The Rating Outlook is Negative.

SECURITY

The series 2015 bonds are payable from a first lien on the net revenues of the electric light and power system.

KEY RATING DRIVERS

SMALL YET GROWING DISTRIBUTION SYSTEM: FELPS is a small distribution system owned by three cities. Load growth in the service area is expected to remain healthy, around 1.5% annually, after some slowdown in the Eagle Ford Shale exploration adjacent to the service territory.

LOW RISK POWER CONTRACT: FELPS has a limited operating risk profile in that it meets customer load demand with an all-requirements contract with San Antonio's City Public Service (CPS Energy; rated 'AA+' with a Stable Outlook by Fitch) through 2020. Price increases are limited to the consumer price index rate and the embedded fuel cost, which will fluctuate, is tied to CPS Energy's diversified fuel portfolio.

DEBT RELIANCE TO DECLINE: Despite its role as a distribution only system, the utility's debt burden has continued to escalate. However, management's plan to increase revenue funding as a share of the capital plan over the next five years should limit future growth in leverage ratios.

REVENUE STABILITY EXPECTED: FELPS' rate restructuring in 2014, together with its purchased power pass-through mechanism, provide greater revenue stability in the event of weather-related demand fluctuations and lower than forecast growth.

STRENGTHENING OF UTILITY PRACTICES: Management's recent review of various internal practices, the completion of a cost of service study and investment in software upgrades are all viewed positively. The departure of the current general manager is not expected to alter the strategic direction of the utility.

RATING SENSITIVITIES

SUSTAINED LOWER COVERAGE: The Stable Outlook reflects potentially lower than historical debt service coverage levels for Floresville Electric Light and Power System resulting from increasing debt service costs. Debt service coverage at sustained lower levels than in the past, while still expected to be healthy, would likely be more consistent with an 'A+' rating.

CREDIT PROFILE

FELPS is an electric distribution system located 30 miles southeast of San Antonio. The system serves 15,085 electric retail customers in a large 600-square-mile growing region of Texas that includes the cities of Floresville, Poth, Stockdale, Falls City, and La Vernia, as well as unincorporated portions of Wilson County. Rapid growth in past years has begun to slow but remains steady at around 1.5%. The service area is almost entirely exclusively served by FELPS with two very small portions that are dual-certified with another provider.

DECREASING DEBT SERVICE COVERAGE

While revenues and expenditures have exhibited stability, increased leverage and higher debt service costs following the issuance of the series 2011 bonds led to lower debt service coverage. In fiscals 2013 and 2012, Fitch-calculated debt service coverage declined to 1.95x and 2.02x, respectively; levels below Fitch's median for the 'AA' rating category (2.4x). Coverage was 1.5x after the required earnings distributions to member cities. Prior to fiscal 2012, debt service coverage had consistently averaged 2.8x, or over 2.0x after earnings distributions.

Fitch-calculated debt service coverage improved in fiscal 2014 to 3.11x. However, part of the improvement was due to a change in the utility's billing cycle that brought forward around 20 days of sales into the 2014 fiscal year. The billing change is a positive step for the utility's cash flow; bills are sent throughout each month instead of all being sent on one date. However, fiscal 2015 will reflect a more typical 12 month period of sales with lower revenues than fiscal 2014.

Financial performance also improved due to a 2% system-wide rate increase in August 2014 (mid-year fiscal 2014). The full effect of the rate action will occur in fiscal 2015. The rate increase was accompanied by rate restructuring to improve revenue stability through higher fixed charges.

Management's financial forecast indicates debt service coverage in fiscal 2015 of around 2.0x, or 1.6x after earnings distributions. This is based on strong year-to-date energy sales. Comparable Fitch-calculated coverage in fiscal 2015 would be around 1.5x since Fitch excludes connection fees and non-operating revenues.

Ongoing debt service coverage at this lower level could pressure the rating. Management's forecast indicates revenues and debt service coverage should increase as a result of growth after fiscal 2015. Assumptions in the financial forecast appear reasonable and include additional assumed revenues related to modest load growth of 1.5% per year after 2015, no additional rate increases, pass-through of CPS variable fuel costs and approximately \\$10.5 million of additional debt in 2017.

Liquidity is healthy. Cash levels increased in fiscals 2013 and 2014 as a result of management initiatives and the billing change, as well as the appropriation of construction funds. Funds on hand totaled 155 days at the end of fiscal 2014. Management expects cash balances to end fiscal 2015 similar or better to fiscal 2014.

ADDITIONAL DEBT EXPECTED TO FUND CAPITAL

Historically, management has targeted a 25% to 35% debt-to-capitalization ratio as its guideline for debt issuance. Debt-to-capitalization was 43% at the end of fiscal 2014 with the addition of the series 2014 bonds. The level of projected debt issuance of around \\$10 million every three years outpaces the amortization of existing debt of around \\$1.5 million annually. Debt levels are therefore expected to continue to increase, although the trend should be more moderate as management intends to increase revenue funding of capital projects gradually to a level of 67% and 50% by the anticipated bond issuance in 2017 and 2020, respectively. This is in comparison to the historical practice of funding 75% of capital needs from debt. While growth in the system may require continued debt issuance, a share of the capital plan relates to the repair and reinvestment of the system.

LOW-RISK ALL-REQUIREMENTS POWER SUPPLY CONTRACT

Fitch views the all-requirements contract with CPS Energy as a positive credit attribute because of the stable and low-cost power supply CPS Energy provides. The contract expires on Dec. 31, 2020. Contract provisions include limitations on price increases, a fuel cost factor which adjusts annually and an energy-only rate with no demand charge. The fuel rate charged by CPS Energy to FELPs is a fleet-wide fuel rate based on CPS Energy's diverse generation mix of coal-fired, nuclear, natural gas and renewable generation assets. CPS Energy is well positioned to meet federal regulatory requirements regarding the Clean Air and Clean Water Acts.

IMPROVED UTILITY PRACTICES

Management has reviewed a number of its internal policies and practices over the past two years. Actions include completion in 2014 of a cost of service study (last done in 1987), system-wide GIS mapping and infrastructure inventory, compensation review, pole attachment survey, enforcement of shut-offs for nonpayment, divestiture of the internet business line and the implementation of a fleet management program. Management is in the process of reviewing its financial policies and evaluating the impact of rate restructuring done in 2014. Fitch views these achievements as management best practices and the periodic review of policies and procedures is a positive credit factor.