Fitch Rates $50MM San Luis & Delta Mendota Water Auth., California Revs A; Outlook Stable

Fitch Ratings has assigned an ‘A’ rating to San Luis & Delta Mendota Water Authority, California’s (authority) $50 million revenue notes (DHCCP Development Project), series 2009. The notes are secured by an unconditional contractual obligation from Westlands Water District, California (WWD). Fitch also affirms the ‘A’ rating on approximately $230 million outstanding revenue certificates of participation (COPs) of the WWD. The Rating Outlook is Stable.

Scheduled to sell on March 18, 2009 the notes will fund the Central Valley Project (CVP) federal contractor’s share of the Delta Habitat Conservation and Conveyance Program (DHCCP) development costs. The notes constitute a special obligation of the authority payable solely from contractual obligations of project participating members, including, but not limited to, WWD. However, WWD is contractually obligated to pay 100%of the principal of and interest on the notes should the authority not receive payments from other members. Approximately 95% of the authority members have filed a notice of intent to participate in the financing. The notes have a balloon maturity due on March 1, 2014 with semiannual interest payments due on each March 1 and Sept. 1. It is the intention of the authority to refinance the notes upon maturity.

The ‘A’ rating reflects the role of WWD as obligor and its underlying credit quality, including satisfactory financial operations marked by annual surpluses and solid liquidity. The WWD provides agricultural water services to a vast agricultural economy. The inherent value in the district’s extensive water entitlements through its role as the contractor with the federally owned CVP is a credit strength. Offsetting credit considerations are the risk of the availability of CVP water, its increasing costs, high revenue concentration resulting from the small number of customers/land owners of WWD, and future capital needs that are potentially substantial to secure future CVP water deliveries. Key rating drivers are the ability to remarket the notes upon maturity in 2014, WWD’s ability to levy and collect increased land assessments, and ultimate costs attributable to WWD and the authority associated with expected construction of the DHCCP.

The authority was established in January 1992 and consists of 32 water agencies representing approximately 2.1 million acres of federal and exchange water service contractors within the western San Joaquin Valley and in San Benito and Santa Clara counties. It was established to assume the operation and maintenance responsibilities of certain United States Bureau of Reclamation (USBR) CVP facilities. The WWD is one of 32 member participants of the authority and has water entitlements to around one-half of the total 2.9 million acre-feet (MAF) available to the authority.

WWD covers 617,700 acres in Fresno and Kings County on the west side of the San Joaquin Valley. It is the largest irrigation district in the U.S. by acreage. WWD’s CVP entitlement totals 1.15 MAF, although actual deliveries of CVP water averaged 802,000 acre-feet (68% of entitlement) from fiscal 2000-2008. A nine-member board elected by landowners governs WWD’s policies and operations. The board maintains full independent rate-setting authority as well as the ability to place a lien on property if water bills are unpaid, resulting in very low delinquencies.

There is concentration amongst WWD water purchasers. But offsetting this risk somewhat is the value of the cash crops farmed in the district (about $1.3 billion in fiscal 2008) and the absence of alternative/equivalent supplies or infrastructure to deliver water. In addition, WWD potentially has the ability to sell and transfer water rights outside the district should agriculture cease to be economic, as the demand for water in southern California and the San Francisco Bay area by users with connectivity to the CVP is very high.

WWD has multiple rates and charges designed to recoup its costs, including, among others, CVP contract rates, acreage charges, supplemental water charges, and power surcharge charges, as well as land based charges and assessments. Historical water enterprise financial operations are favorable, with positive annual results, good liquidity levels and designated reserves, and adequate debt service coverage. Annual debt service coverage ranged from 1.4 times (x) to 2.1x between fiscal years 2004-2008, and financial projections reflect similar coverage ratios through fiscal 2013. Liquidity levels as measured by days of cash on hand working capital is solid at 264 days and 166 days, respectively at the end of fiscal 2008.

WWD’s current capital needs appear manageable and are focused on acquiring additional water entitlements, possibly expanding the distribution system to a small area currently not served, and development of drainage facilities to address the saline subsurface water. However, capital costs related to WWD, as well as the authority, could escalate significantly in the near future as a result of construction costs related to the DHCCP.

The DHCCP is a program consisting of joint efforts by agencies of the federal government and the State of California and local agencies to fund and plan habitat conservation and water supply activities in the Sacramento San Joaquin River Delta/San Francisco Bay Estuary (the Bay Delta), including Bay Delta water conveyance options. Pursuant to a Memorandum of Agreement, the authority, the California Department of Water Resources (DWR), the USBR, the Santa Clara Valley Water District (SCVWD, a member of the authority), the State Water Project Contractors Authority (SWPCA), the Metropolitan Water District of Southern California (MWD) and the Kern County Water Agency (KCWA) (each a member of the SWPCA), and WWD have agreed to undertake the planning, the preliminary design and environmental compliance activities with respect to the DHCCP. The current DWR estimate cost of the preliminary phase of the DHCCP is $140 million. Also pursuant to the MOA, 50% of the DHCCP Development Costs are allocated to the authority (including WWD and SCVWD) (the Federal Share) with the remaining 50% of such costs being allocated to DWR (including SWPCA, MWD and KCWA).

The cost of the DHCCP project is currently uncertain but is expected to be substantial. Moreover, the ultimate source of funding for such a massive undertaking remains to be determined. Further leverage on the WWD and the authority could apply downward pressure on the ratings.

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