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HomeMy WebLinkAbout16. 2021 Debt Issuance-Finalize amount of paydown of CCCERA UAAL; authorize amendment to O&M Budget and receive other related information Page 1 of 11 Item 16. Algi CENTRAL SAN BOARD OF DIRECTORS POSITION PAPER MEETING DATE: JUNE 17, 2021 SUBJECT: 2021 DEBT ISSUANCE: CONSIDER PROPOSED OPTIONS TO FINALIZE THE PREFERRED PAY-DOWN AMOUNT OF UNFUNDED ACTUARIALLY ACCRUED LIABILITIES (UAAL) TO THE CONTRA COSTA COUNTY EMPLOYEES' RETIREMENTASSOCIATION (CCCERA); AUTHORIZE AN AMENDMENT TO THE FISCAL YEAR (FY) 2020-21 ADOPTED OPERATIONS AND MAINTENANCE (O&M) BUDGET INCREASING APPROPRIATIONS BYTHE UAAL PAYOFF AMOUNT; AND RECEIVE OTHER TRANSACTION RELATED INFORMATION SUBMITTED BY: INITIATING DEPARTMENT: KEVIN MIZUNO, FINANCE MANAGER ADMINISTRATION-FINANCE PHILIP LEIBER, DIRECTOR OF FINANCE AND ADMINISTRATION Roger S. Bailey General Manager ISSUE A decision to pay-off either all ora substantial portion of the UAAL with CCCERA is required. Authorization to for spending in excess of FY 2020-21 O&M Budget in order to make the UAAL payment to CCCERA is also required. BACKGROUND On June 16, 2021, pricing of the Certificates of Participation (COP) debt issuance transaction takes place. With the proceeds of the issuance available on the closing date of June 24, 2021, Central San can proceed with using the proceeds to pay for a portion of the District's FY 2020-21 and FY 2021-22 capital projects. These proceeds will make available Sewer Service Charge (SSC) revenues and other reserve funds that can be used to pay down a substantial portion of the CCCERA UAAL of $70.8 million. To fully pay off the $70.8 million UAAL, additional funds from the Pension Prefunding Trust (balance of $12.5 million as of April 2021)would also be used. June 17, 2021 Regular Board Meeting Agenda Packet- Page 125 of 168 Page 2 of 11 Apart from the issue of finalizing the UAAL paydown amount, the UAAL paydown will result in O&M expenditures above the budgeted level. Absent the paydown transaction, the UAAL would be recognized as an expense for each year it is assessed by CCCERA through the late 2020s. With the paydown, it would all be recognized in the year of the payment to CCCERA. Board Policy (BP) 037 (Delegation of Authority to the General Manager) allows the General Manager to expend monies up to the authorized O&M budget limit, which for FY 2020-21 is $90,666,338: 11. Contracts for Goods and Services: Limited by Annual Operating Budget: The General Manager and Purchasing and Materials Manager are authorized to award and enter into contracts and purchase orders for goods and services that are not"professional services"or `public works contracts,"such as utilities, maintenance services, equipment, chemicals and supplies so long as overall spending does not exceed the Board's annual adopted operating budget, provided purchasing policy and procedures are adhered to. As this paydown amount is in excess of the contemplated/budgeted amount for UAAL in FY 2020-21 ($13,376,016 comprised of $12,126,016 required UAAL payments and $1,250,000 of additional contributions), authorization to amend the O&M budget is required. Accordingly, the Board is requested to authorize an amendment to the FY 2020-21 O&M adopted budget of $90,666,338 by increasing authorized appropriates by an amount not to exceed the UAAL paydown to CCCERA of$70,800,000, for an amended O&M budget of $161,466,338. On a separate matter related to the debt issuance, attached to this position paper for information only is the ratings report of Standard and Poor's Global Ratings received on June 8. The Debt Management and Continuing Disclosure Policy (BP 029) specifies that the Board will be provided copies of rating reports received. Central San was assigned a 'AAA' long-term rating on the series 2021 wastewater revenue COPs, while the 'AAA' long-term rating on the District's existing parity obligations was also affirmed. Staff will also provide at the Board meeting a verbal update of the bond pricing results from June 16, when underwriters provide their bids for purchase of the Certificates of Participation. ALTERNATIVES/CONSIDERATIONS The following are the alternatives with respect to the amount of the UAAL to be paid off: 1. Fully-pay off the CCCERA liability of $70.8 million, using available funds on hand and by liquidating the Pension Pre-Funding Trust (balance of$12.5 million as of April 2021). Advantages • The UAAL is fully retired. The pension funding policy goal of achieving 100% pension funding is achieved. • No (or de-minimis) UAAL charges will be assessed to Central San in FY 2021-22. • The O&M budget will be reduced by the amount of the UAAL charges, and the debt service budget will be increased by the debt service on the COPs. The overall effect will be a net budget decrease. Disadvantages • With the Pension Pre-funding Trust liquidated, it would not be available for other uses, such as paying the "normal" cost of pensions if there was a need to do so in a budget constrained year. 2. Pay off about$58 million of the CCCERA liability of$70.8 million, using available funds on hand. Do not liquidate the Pension Pre-Funding Trust (balance of $12.5 million as of April 2021). June 17, 2021 Regular Board Meeting Agenda Packet- Page 126 of 168 Page 3 of 11 Advantages • Central San Board could maintain greater control over the nature of investments in the Pension Prefunding Trust. For example, if there were significant concerns about inflation, the investment manager could overweight investments that are more inflation protected (real assets, value stocks, inflation protected bonds, etc.) Disadvantages • Some UAAL charges will continue to be assessed to Central San in FY 2021-22. Accordingly, the overall "budget savings" affecting our of our four enterprise sub-funds (O&M, capital, self-insurance, debt service)would not be reported to the same extent as in Alternative 1. This would affect the budgets presented by Central San until the scheduled payoff of the CCCERA UAAL around FY 2027-28. That said, the earnings from the Pension Prefunding Trust should be roughly equivalent to what the earnings would be if the funds were invested with CCCERA, so from an economic standpoint, there should be little difference to Central San's overall economic condition. While interest earnings on the Pension Prefunding Trust are tracked in a separate fund from O&M for budgetary purposes, they are reported as restricted interest earnings in a single consolidated enterprise fund in the comprehensive annual financial report pursuant to generally accepted accounting standards. 3. A paydown amount between Alternative 1 and 2--pay off something more than $58 million, up to $70.8 million of the CCCERA UAAL. Advantages and disadvantages would be of the nature described previously. The Board is requested to provide direction to staff by adopting a motion to effectuate one of the above alternatives. Staff previously recommend Alternative 1, but recognizes this matter represents a policy decision balancing various factors, and that the other two alternatives presented are also reasonable. FINANCIAL IMPACTS There is not likely to be a significantly different economic impact from any of the above options, as funds will be invested either with (1) CCCERA, and subject to market returns on their investments, or(2) in the Pension Pre-Funding Trust, and subject to market returns on those investments. There could be some differences in returns due to the different investment choices by the CCCERA investment managers and the choices made by the investment manager for the Pension Pre-funding Trust- Highmark Capital. There is a difference between the Alternatives regarding the budget impacts. Paying off the UAAL in full provides the largest reduction of costs affecting the O&M budget. Paying off less than the full UAAL will result in some continuing UAAL assessment to be paid to CCCERA. To offset that, at least economically, the Pension Pre-Funding Trust should have earnings based on the market return on assets invested there. As described previously, while earnings on the Pension Pre-funding Trust are tracked in a separate fund from O&M for budgetary purposes, they are reported as restricted interest earnings in the single consolidated enterprise format presented in the comprehensive annual financial report, pursuant to generally accepted accounting principles. COMMITTEE RECOMMENDATION This matter was discussed by the Finance Committee on May 25, 2021, but no decision or recommendation was reached. June 17, 2021 Regular Board Meeting Agenda Packet- Page 127 of 168 Page 4 of 11 RECOMMENDED BOARD ACTION Staff recommends the Board take the following actions: 1. Provide direction by adopting a motion to effectuate one of the following alternatives described previously: a. Fully-pay off the CCCERA liability of $70.8 million, using available funds on hand, and by liquidating the Pension Pre-Funding Trust; b. Pay off approximately$58 million of the CCCERA liability of$70.8 million, using available funds on hand; or c. Provide direction to pay off something in between the two alternatives, more than $58 million, up to $70.8 million of the CCCERA UAAL. 2. Authorize an amendment to the FY 2020-21 O&M adopted budget of $90,666,338, increasing appropriations by an amount not to exceed the UAAL paydown to CCCERA of$70,800,000, for an amended O&M budget of $161,466,338. Strategic Plan Tie-In GOAL THREE: Fiscal Responsibility Strategy 1—Maintain financial stability and sustainability, Strategy 2—Ensure integrity and transparency in financial management ATTACHMENTS: 1. Standard and Poor's Global Ratings report on Central San dated 06-08-2021 June 17, 2021 Regular Board Meeting Agenda Packet- Page 128 of 168 Page 5 of 11 S&P Global Ratings RatingsDirect° ............................................................................................................. Summary: Central Contra Costa Sanitary District, California; Water/Sewer Primary Credit Analyst: Malcolm N D'Silva,Centennial+ 1 (303)7214526;malcolm.dsilva@spglobal.com Secondary Contact: John Schulz,Centennial+ 1 (303)7214385;john.schulz@spglobal.com Table Of Contents Rating Action Stable Outlook Credit Opinion Related Research WWW.STANDARDANDPOORS.COM/RATINGSDIRECT JUNE 8, 2021 1 June 17, 2021 Regular Board Meeting Agenda Packet- Page 129 of 168 Page 6 of 11 Summary: Central Contra Costa Sanitary District, California; Water/Sewer CreditProfile US$51.77 mil 2021 wastewtr rev certs of part due 09/01/2028 Long Term Rating AAA/Stable New Central Contra Costa San Dist Wtr&Swr Long Term Rating AAA/Stable Affirmed Rating Action S&P Global Ratings assigned its'AAA'long-term rating to Central Contra Costa Sanitary District, Calif's anticipated $51.8 million series 2021 wastewater revenue Certificates of Participation(COPs).At the same time, S&P Global Ratings affirmed its'AAA'long-term rating on the district's existing parity obligations. The outlook is stable. The proceeds from the COPS will finance approximately$58 million of improvements to the wastewater system.We view the bond provisions as credit neutral. The district's pledge of ad valorem property taxes and net revenues of the wastewater system secure payments for its obligation to make installment payments. Key bond provisions include a rate covenant set at 1.25x annual debt service from net revenues (excluding capacity fees)together with tax revenues and an additional bonds test set at 1.25x maximum annual debt service(MADS).While management has chosen not to establish a debt service reserve fund for the 2021 COPS,the system's financial profile,including its liquidity,precludes any credit risk. The district also expects this financing will help release funds available from its capital program towards paying down a portion of its unfunded pension liabilities.As a result,the COPS will mirror existing amortization of its pension liabilities through an eight-year maturity. Credit overview The rating reflects our opinion of the district's general creditworthiness.The district has a predominantly residential customer base,with affordable service rates and adequate operational capacity to meet demand. The district is in the middle of a large capital cycle to meet aging infrastructure and evolving regulatory needs, and we view the system as having strong financial capacity to absorb these future costs. The current 10-year capital improvement program(CIP) (approximately$940 million)incorporates the recommendations from the June 2017 Comprehensive Wastewater Master Plan(CWMP). The CWMP encompasses a$1.8 billion(2016 dollars) 20-year CIP for the collection system and treatment plant, and provides a road map for the district's upcoming and future capital facilities and financing needs. As a result,the district has been accelerating its annual capital spending from about$40 million(in fiscal 2018)to a projected$125 million(in fiscal 2025). The district's financial outlook is strong and achievable,in our view, despite the layering of the 2021 COPS and state revolving fund(SRF) debt needs (approximately$173 million anticipated to close in fiscal 2022)to fund its extensive CIP. Moreover,near-term forecasted financial and affordability metrics benchmark well to those of its peers at the'AAA'rating level.The district also maintains a board policy debt service coverage WWW.STANDARDANDPOORS.COM/RATINGSDIRECT JUNE 8, 2021 2 June 17, 2021 Regular Board Meeting Agenda Packet- Page 130 of 168 Page 7 of 11 Summary: Central Contra Costa Sanitary District, California; Water/Sewer (DSC)target to exceed 2x(after excluding capacity fees).We believe that strong management of long-term financial and capital planning will be a key factor supporting rating stability. The enterprise risk profile reflects our view of the district's: • Service area participation in the broad and diverse San Francisco Bay Area economic base; • Very low industry risk as a monopolistic service provider of an essential public utility; • Demonstrated ability and willingness to increase rates annually, and service rates that we believe are affordable for the region in the context of the service area's very strong income levels. Customers are charged a flat annual rate on the property tax bill. The annual single-family residence sewer charge was$629 in fiscal 2021, equivalent to about $52.4 per month.We view this level to be affordable at about 0.8%of local incomes; and • Strong operational management practices and policies,which in our view indicates a strong alignment of operations and management's strategic goals. The financial risk profile reflects our view of the district's: • Strong historical all-in debt service coverage (DSC)metrics that we believe the district will continue to produce, reflecting its five-year forecast and revenue requirements to support future debt issuances. The district collects revenue from a variety of sources,including sewer service charges, ad valorem property taxes, and capacity charges (one-time growth-related fees).We calculate all-in coverage at no less than 5x for historical and projected fiscal years; • Strong liquidity profile that we believe is sustainable and aligned with the district's robust reserve policy. Historical unrestricted cash and investment reserves have modestly increased in recent years to about$132 million, equivalent to about 600 days of operating expenses in fiscal 2020.The district's liquidity levels have remained at no less than 300 days in the past five fiscal years; • Low-to-moderate leverage reflecting a pro forma debt-to-capitalization ratio of 24%, after including the planned SRF issuances to support its extensive CIP. The district's contemplated debt financing as a portion of the 10-year CIP is about 25%,which in our view will keep leverage ratios reasonable; and • Strong financial management practices and policies,indicating the highest level of internal financial controls and best practices are in place. The district has a predominantly locally derived revenue base. Local service charges, derived through an autonomous rate-setting process,represent virtually all of the district's revenues. This, coupled with operating expense flexibility, limits exposure to federal revenues. The stable outlook reflects our anticipation that the district will continue to adjust service rates to meet its revenue requirements,thereby producing continued wide margins and strong all-in coverage metrics.We further anticipate that the district will fund its extensive CIP using a combination of pay-as-you-go and projected debt-financing options without materially affecting its financial profile. Environmental, social, and governance (ESG) factors Overall,we believe that the district has mitigated most of the system's ESG-related risk by adopting, adhering to, and adjusting its operating and financial policies and procedures.We view the district's environmental,social,and WWW.STANDARDANDPOORS.COM/RATINGSDIRECT JUNE 8, 2021 3 June 17, 2021 Regular Board Meeting Agenda Packet- Page 131 of 168 Page 8 of 11 Summary: Central Contra Costa Sanitary District, California; Water/Sewer governance factors as not being significantly different from those of its peers. However,given its location in California, we view the district as facing slightly above average environmental risk due to the region's inherent nutrient-rich bay estuary,wildfire, and seismic exposure.With respect to seismic,wildfire, and cyber risks,management has robust emergency planning to address these event risks in a timely manner. The district is proactively addressing aging infrastructure, climate resiliency and future evolving regulatory needs including future nutrient control and limitations on discharge as part of its strategic priorities.As a result,the district has a large CIP to address its objective of enhancing its wastewater treatment process to adhere to future requirements,including planning for its recycled water expansion to reduce discharge. Officials are making a number of investments across its facilities and collection system to reduce the district's environmental risks.We understand the district will continue recommending updates to its future rate plans to meet revenue sufficiency, and we do not believe this will significantly increase affordability pressures or social risks,given the very strong local incomes. The district has strong management and financial policies and a strong compliance record which mitigates governance risks when compared to peers. Stable Outlook Downside scenario We do not anticipate lowering the rating over the two-year outlook horizon as long as the district continues to produce financial metrics that are consistent with or exceed historical trends,while successfully funding its capital plan. However, any unexpected economic or financial shock that significantly disrupts the system's operations or unanticipated and extraordinarily large change in the CIP that could alter related financial metrics could present downward pressure on the rating or outlook. Credit Opinion Enterprise Risk: Affordable Rates Which Provide Revenue Raising Flexibility Supported By Strong Operational Management Assessment The district operates and maintains wastewater facilities and a collection system for a largely residential base approximately 30 miles east of San Francisco. It covers a population of about 484,000 and includes Clayton, Concord, Danville, Lafayette, Martinez, Moraga, Orinda,Pleasant Hill, San Ramon,and Walnut Creek, all in Contra Costa County.We view the service area's income levels as very strong reflecting the county's median household effective buying income (MHHEBI),which was 151%of the national median. The customer base is stable,in our view,with modest growth in the past five years. The district served approximately 118,000 service accounts in fiscal 2020.About 80%of sewer service charge revenue in fiscal 2020 was residential, and there is no significant customer base concentration.The top 10 customers account for approximately 20%of total operating revenues.The leading customer--the City of Concord--accounts for about 16%of total operating revenues.We understand the district entered into a wholesale contract in the 1970s with Concord to provide wastewater treatment and disposal services for both Concord and Clayton,which generates stable revenues in our view. We benchmark our analysis of market position,which is an input to the enterprise risk profile,to both MHHEBI and the county poverty rate.We view the district's service rates as affordable,which provides management with WWW.STANDARDANDPOORS.COM/RATINGSDIRECT JUNE 8, 2021 4 June 17, 2021 Regular Board Meeting Agenda Packet- Page 132 of 168 Page 9 of 11 Summary: Central Contra Costa Sanitary District, California; Water/Sewer revenue-raising flexibility. Customers are charged a flat annual rate on the property tax roll.The district raised rates between 5%and 8%in the past few years. In addition to service charge revenue from direct customers,the district receives revenue from the City of Concord under a long-term agreement to treat a portion of Concord's wastewater. Concord pays the district the portion of operating costs and capital costs allocated to it based on usage.The district also participates in the county's Teeter Plan,whereby it receives annually 100%of the secured property tax levies to which it otherwise is entitled,regardless of whether the county has fully collected the levies. In our view,the district's strong operational management policies indicate the existence of both strong internal governance and controls, and asset management policies. The district's treatment plant in Martinez treats an average dry weather daily flow of about 35 million gallons of wastewater per day(mgd).The treatment plant has a capacity of 54 mgd of dry weather flow and a peak wet weather flow of 250 mgd, and the district projects that its treatment capacity is sufficient to support secondary treatment needs for the foreseeable future. Management reports that the system's assets are reviewed frequently to identify capital improvements. In June 2017,the district adopted a new long-term master plan. Recommended capital projects from the master plan were separated into four programs including the treatment plant, collection system,recycled water system, and general improvements. Some of the key drivers for long-term planning include managing aging infrastructure and complying with evolving regulatory requirements. Financial Risk: Strong Financial Capacity To Absorb Future Cost-Of-Service Requirements The district's financial performance has been strong,in our view, and we anticipate that performance will be comparable going forward despite plans for future debt issuances. Based on management's forecast through fiscal 2030,which we view as reasonable,we calculate all-in coverage will continue to remain above 5x as service rates are adjusted to meet rising operating expenses and the district's pay-as-you-go capital needs. Key assumptions in the forecast include increases in operating revenues from proposed rate adjustments, continued increases in operating expenses, and additional leverage due to planned new money SRF loan issuance of$173 million(whose repayment begins post fiscal 2025) during the forecast period. The district's current 10-year CIP through 2031 totals about$940 million. Of that total,treatment plant projects account for 53%, collection system(36%), general improvements(3%), and recycled water projects(6%).As annual capital spending increases over time,we anticipate this higher level of annual capital spending could potentially be funded through a combination of modest rate increases, operating cost savings, and debt financing.We view the district's pro forma leverage level as low-to-moderate reflecting a pro forma debt-to-capitalization ratio of about 24%, which includes its financing plan to fund about 25%of the 10-year CIP with debt. The district has maintained a strong liquidity position that we anticipate will remain sustainable in the near future. The district's reserve policy segregates its cash into two primary reserve categories: a five-months'reserve target for operations, and a sewer construction reserve target of 50%of the next year's cash funded portion of the capital budget. Based on its CIP,we understand that the district plans to deploy capital reserves to supplement its capital needs. However,we anticipate relatively nominal draws on internal operating cash to fund future capital projects, and we anticipate management will continue to maintain sufficient liquidity to meet operations. The district participates in the Contra Costa County Employees'Retirement Association Retirement System WWW.STANDARDANDPOORS.COM/RATINGSDIRECT JUNE 8, 2021 5 June 17, 2021 Regular Board Meeting Agenda Packet- Page 133 of 168 Page 10 of 11 Summary: Central Contra Costa Sanitary District, California; Water/Sewer (cost-sharing multiple-employer deferred benefit retirement plan)and has been making its necessary annual employer contributions. The district has been making additional discretionary contributions to the pension(through a pension prefunding trust established in 2017) and other post-employment benefits (OPEB)trust to increase its funded ratios in recent years and maintains a funded ratio of above 80%for both its plans. Based on the proposed pay-down of its pension liability,we anticipate the district will move closer to its goal of reaching 100%funding. Related Research • Through The ESG Lens 2.0:A Deeper Dive Into U.S. Public Finance Credit Factors,April 28, 2020 • Outlook For U.S.Water And Sewer Utilities: 2021 Provides 2020 Hindsight,Jan. 19, 2021 Certain terms used in this report,particularly certain adjectives used to express our view on rating relevant factors,have specific meanings ascribed to them in our criteria,and should therefore be read in conjunction with such criteria.Please see Ratings Criteria at www.standardandpoors.com for further information.Complete ratings information is available to subscribers of RatingsDirect at www.capitaliq.com.All ratings affected by this rating action can be found on S&P Global Ratings'public website at www.standardandpoors.com.Use the Ratings search box located in the left column. 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