Fitch Rates Stockton Pub Fin Auth, California Revs 'A'.

AUSTIN, Texas -- Fitch Ratings assigns an initial rating of 'A' to the Stockton Public Financing Authority, California's (the authority) approximately $23.0 million 2005 water revenue bonds, series A (water system capital improvement projects). The bonds are scheduled to sell competitively on Nov. 3. Del Rio Advisors, LLC serves as the authority's financial advisor.

The bonds are payable from installment payments made by the City of Stockton, CA (the city) to the authority. The city's obligation to make installment payments constitutes a pledge of net revenues of the city's water system (the system). Bond proceeds will be used to finance various improvements to the system.

The 'A' rating reflects the system's sound financial performance and good projected coverage levels. Customer growth is expected to pressure available supplies in the near term, requiring development of additional sources to meet consumptive demands over the next several decades. Currently, the city has identified the Delta Water Supply Project (DWSP) as the most feasible source of new supplies, and will likely proceed towards construction of the project within the next year or two. Cost estimates associated with the DWSP are sizable, but continued growth should moderate the funding burden to existing customers. In addition, rates are relatively low, providing flexibility for upward adjustment.

Located 45 miles south of Sacramento in the fertile San Joaquin Valley, the city's agricultural-based economy has diversified in recent years. The city is reportedly one of the fastest growing in the U.S., and estimates for 2005 point to around 280,000 persons, an increase of almost 15% from 2000 census figures. The system serves around 50% of the city's population base, including the rapidly urbanizing northern and southern areas, which have experienced customer growth of around 6% annually from fiscal years 2000-2005. Water supplies include groundwater wells owned by the city as well as surface water purchases from the Stockton East Water District (SEWD), a regional wholesale provider. Overpumping of the area's aquifer has led to significant declines in the water table, necessitating reliance on SEWD for a substantial amount of the system's consumptive sources. Due to SEWD capacity constraints, the city has identified the DWSP as the most viable source of new supplies through build out.

Preliminary costs of the DWSP are $172 million, with construction expected to be completed in various stages as demand warrants. Upon completion, the DWSP would serve as a regional plant, supplying up to 125,900 acre feet of water per year from the Sacramento-San Joaquin Delta (the delta) to system customers as well as the California Water Services Company, the retail water provider that serves the central portion of the city. Phase I of the DWSP calls for the construction of a diversion facility, a transmission pipeline, and a 30 million gallons per day water treatment plant, which is estimated to be completed by 2010. Because the DWSP has yet to be approved by the city council, more detailed cost estimates and actual funding sources are unavailable. Assuming the project proceeds to the design stage, the city would conduct a rate feasibility study, which may recommend revising base rates, imposing a water supply assessment, raising connection charges, or some combination thereof.

Apart from the proposed DWSP, the city's capital improvement program over the next two decades totals $34 million for expansion projects related to water lines, reservoirs, and additional wells, most of which will be paid from the current offering; substantial additional infrastructure likely would be contributed by developers as development occurs. Currently, existing system debt levels and rates are moderate, providing leverage and revenue-generating flexibility. This alleviates some concern related to uncertainty about costs of future water supply projects, including the DWSP, and the methods of funding.

Financial performance has been sound with the city maintaining strong liquidity levels of at least 500 days of operating expenditures in unrestricted cash and investments and 450 days of working capital from fiscal years 2000-2004. Parity debt is minimal, consisting of less than $14 million in loans from governmental agencies. With the current offering, annual debt service coverage is projected at no less than 4.0 times (x) coverage through fiscal 2010. However, coverage levels in future years will likely decline if the city issues debt for the DWSP or another water supply project, but margins should remain well above the 1.15x covenant amount.

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