Fitch Affirms New Orleans Sewerage & Water Board, Louisiana's Water Revs at 'B'

Fitch Ratings takes the following rating action on New Orleans Sewerage and Water Board, Louisiana as part of its continuous surveillance effort:

-- $36.75 million water revenue bonds, series 1998 and series 2002, affirmed at 'B'.

The Rating Outlook is Stable.

RATING RATIONALE:

-- The financial profile of the water system remains weak, although 2009 results are expected to be better due to a FEMA reimbursement for current and prior years' operating expenditures.
-- New management and an improved working relationship with FEMA should benefit financial operations.
-- The economic recovery in New Orleans has slowed in recent months, as evidenced by significant declines in sales tax revenues, a drop in employment and an increase in the unemployment rate.
-- Significant amounts of federal and state funds continue to come into New Orleans for various infrastructure projects; while many are still in design stage, the transition to construction should provide some positive economic momentum.

KEY RATING DRIVERS:

-- Management anticipates that a series of recently adopted water rate increases (annual hikes from 2007-2011), increases in non-consumption related user fees, and tighter budgetary controls will enable the water system to establish self sufficiency for operating expenses by 2010, a critical milestone for any consideration of upward rating movement.
-- The magnitude of water system capital needs-both immediate and long term-will continue to pressure resources and likely will lead to additional borrowings and rate increases, which may raise affordability concerns.

SECURITY:

The bonds are secured by the net revenues of the board's water utility system, after payment of operating expenses.

CREDIT SUMMARY:

The water fund continues to struggle as recurring revenues fall short of meeting both operational and debt service requirements. While Fitch notes that the water system historically has posted annual net losses (including deprecation expenses), the losses climbed steeply in 2005 and have remained elevated, exceeding $35 million in both 2007 and 2008. While water system working capital remains negative, liquidity turned positive in 2008, with cash and investments totaling $5.1 million. Management reports that 2009 water fund results will be aided by a $17 million FEMA reimbursement for operational outlays since 2005. The one-time reimbursement revenues, which are unrestricted, should generate positive operating results for the year and satisfactory debt service coverage.

Going forward, management recognizes the need to align recurring water utility revenues with expenses, build up liquidity, and generate funds for capital projects. Toward that end, the Board recently authorized a comprehensive financial plan and rate study for the water system (as well as the sewer and drainage systems) that is expected to be completed by the fourth quarter of 2010. This action follows a series of water rate increases approved by the Board in March, 2007 that by 2011 will boost water charges by more than 50% cumulatively. Although Fitch believes that a combination of rate hikes and a steady increase in customer count eventually will stabilize water system operations, utility charge affordability remains a concern given the relatively low wealth levels in the city.

All three systems have large future capital needs, which result from a combination of storm damage and aging infrastructure. Estimated capital costs for the water system through 2014 total roughly $240 million, with anticipated funding from board resources projected to cover slightly less than two-thirds of the costs. Capital costs for all three systems total $2.9 billion through 2014. The largest component is drainage with $2.26 billion in needs; funding for drainage projects will be financed largely with federal monies-currently projected at nearly $1.7 billion. The current customer base of more than 123,000 has shown steady growth since June 2008 when a program to aggressively pursue and close inactive accounts peaked, and the customer count now exceeds 85% of the pre-Katrina total of more than 140,000.

Recessionary forces have affected News Orleans' tourism business and retail activity, offsetting the positive effect of ongoing reconstruction activity in the city. An additional credit concern is the longer term challenge that New Orleans faces as it continues its economic and financial recovery from Hurricane Katrina in 2005. While progress has been made, Fitch notes that much work remains to be done in the critical areas of housing, healthcare, education and public infrastructure; the city still faces years of recovery ahead. Despite the current economic weakness, Fitch believes that the large amount of recovery and rebuilding money flowing into the city and surrounding area over the near term will provide a certain level of support to economic activity and will establish a solid foundation for future economic growth.

The most recent estimates put the city's population at between 310,000-330,000, or roughly 70% of the pre-storm total. After registering some moderate improvement in 2007 and 2008, employment levels in both the city and the metropolitan area dropped 4% in October 2009 compared to the prior year period due to the recession. Employment in the metro area remains about 15% below pre-Katrina levels. The latest city unemployment rate of 9.8% (October 2009) was up from last year and exceeded the state (7.1%) and national (9.5%) averages for the month.

The city's taxable values have continued to grow, although at a slower pace than the rapid gains registered in 2007 and 2008. Values climbed more than 10% in 2007 and jumped nearly 38% in 2008 thanks to citywide reappraisals. The gains for 2009 and 2010 were more modest at 2.1% and 3%, respectively. Values should continue to register gains as rebuilding efforts for both residential and commercial properties continue. The federal Road Home Program is one of the largest of the numerous federal and state financial assistance efforts and targets the most pressing need in post-Katrina New Orleans housing. The most recent program totals cite roughly 125,000 closings, or nearly 90% of the total number of applications. The program to date has disbursed more than $8 billion for residential rebuilding efforts in coastal areas of Louisiana.

This rating action reflects the application of Fitch's current criteria which are available at 'www.fitchratings.com' and specifically include the following reports: 'Water and Sewer Revenue Bond Rating Guidelines', dated Aug. 6, 2008.

Additional information is available at www.fitchratings.com.

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Contacts:

Fitch Ratings
Cindy Stoller, [phone] (New York)
[e-mail]
Steve Murray, [phone] (Austin)
Gabriela Gutierrez, [phone] (Austin)