Fitch U.S. Muni Surveillance: Virginia Beach, Virginia's Water & Sewer Revs Affirmed at 'AA+'.

AUSTIN, Texas -- In the course of routine surveillance, Fitch Ratings affirms the 'AA+' rating on Virginia Beach, Virginia's (the city) $127.4 million of outstanding water and sewer system (the system) revenue bonds. The bonds are payable from a senior lien on and pledge of the net revenues of the water and sanitary sewer system. The Rating Outlook is Stable.

The 'AA+' rating reflects the system's strong financial performance, low leverage ratios, affordable rates, manageable capital plan, good debt management policies and stable and diverse service area. While continued economic softening could pressure the system's overall financial operations, Fitch expects the city will take necessary actions to preserve its strong financial metrics.

Financial performance has been very strong, with senior annual debt service (ADS) coverage levels averaging 2.7 times (x) over the fiscal 2004-2008 period. Projected ADS coverage for the system over the next few years is expected to remain at similar levels. Financial margins have been solid, averaging 430 days cash on hand and Fitch expects for reserves to remain at comparable levels over the next five years. Furthermore, user charges are very affordable at 1.1% of median household income. The city's combined water and sewer bill is tied with Portsmouth as the lowest in the region at usage of 6,000 gallons per month.

Current debt levels are low since the $155 million Lake Gaston project was cash funded, mainly through accumulated impact fees and rate revenues. Future capital needs are manageable at $184 million and have declined from prior estimates. The city's capital improvement plan (CIP) is dominated by aging sanitary sewer infrastructure and a regional sanitary sewer consent order placed on 13 localities to address sanitary sewer overflows (SSOs). Very preliminary estimates show approximately 33% of the five-year CIP being funded with debt, with the remainder being funded with cash.

The city adopted prudent debt management policies in May 2002 for the water and sanitary sewer enterprise fund. The policies include a goal of maintaining working capital equal to 80% to 100% of one year's operating expenses, maintaining debt service coverage on revenue bonds at or above 1.5x, and funding on a five-year rolling average basis approximately 25% of the annual CIP with non-borrowed funds or cash. Fitch views these policies as a credit positive.

The system's credit features improved substantially during the 1990s with the successful acquisition of a new water supply source about 100 miles west of the City at Lake Gaston, which straddles the Virginia/North Carolina border. The City of Norfolk stores and treats this water for Virginia Beach pursuant to a contract in effect through 2030. Water supply is estimated to meet demand through build-out or around 2030-2040.

Virginia Beach is the commonwealth's largest city. A broadening of the city's economic base beyond its largest traditional components, the Hampton Roads region's huge military presence and tourism, continues but is not yet fully realized. Unemployment estimates for June were below state and national levels at 6.5%. Income levels are above state and national levels.

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