HomeMy Public PortalAboutExhibit MSD 80F - Surrebuttal Testimony Tim Snoke, MSDMSD Exhibit No. MSD 80F
2019 Wastewater Rate Proceeding
TIM R. SNOKE
Surrebuttal Testimony
Metropolitan St. Louis Sewer District
June 3, 2019
Table of Contents
Page
Impact of Interest Rate Assumptions in MSD’s Financing Plan .................................................. 1
Debt/PAYGO Split in MSD’s Financing Plan.............................................................................. 5
Surrebuttal Testimony of Tim R. Snoke, MSD June 3, 2018
2018 Stormwater Rate Proceeding 1 MSD Exhibit No. MSD 80F
Impact of Interest Rate Assumptions in MSD’s Financing Plan 1
Q1. Please respond to Michael Gorman’s assumption that interest rates should remain 2
relatively flat over the next 5 years. 3
A. Not making a sufficient allowance for the possibility of rising interest rates over the next 4
5 years is dangerous to the integrity of MSD’s financial plan and to its strong AA ratings. 5
Interest rates are extremely difficult to forecast and they are volatile. Exhibit MSD 80F1 6
shows the range of the benchmark MMD rate at each point of the yield curve over the last 7
15 years, along with an indication of where current rates are within that range. Rates are 8
near historic lows today and it is not prudent to build a multi-year financial plan on the 9
assumption that rates will stay near historic lows. Exhibit MSD 80F2 shows how the 20 10
year AAA MMD rate has fluctuated over the last 10 years. The 20 year rate has averaged 11
a range of about 120 basis points (1.20%) between its high and low points within just one 12
MSD fiscal year over the last 10 years. Over five year periods, the range is even greater, 13
as should be expected. From FY14-FY18, the AAA MMD rate ranged from 1.80% - 14
4.27%. From FY09-FY13, the range was 2.10% - 5.74%. In addition, MSD should 15
expect to price its bonds at a higher yield than the benchmark rate since it is not a AAA 16
rated issuer. The True Interest Cost of MSD’s new money debt issuances are also listed in 17
Exhibit MSD80F2. The benchmark rate was about 2.93% at the time MSD’s debt 18
projections for the Rate Proposal were created so it would be well within the bounds of 19
recent history to see AAA MMD rates above 5.00% within the next 5 years, though that 20
is not what MSD is forecasting. The projected yields on the debt in MSD’s model (which 21
should be expected to be higher than the AAA MMD) range from about 4.20% to almost 22
5.00% for FY20 – FY24. 23
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Surrebuttal Testimony of Tim R. Snoke, MSD June 3, 2018
2018 Stormwater Rate Proceeding 2 MSD Exhibit No. MSD 80F
Q2. What is the impact of not providing enough allowance for interest rates to move 1
higher? 2
A. The biggest danger of market rates moving higher than forecasted rates is that it will 3
result in insufficient funding of the CIRP. It will also pressure coverage ratios and either 4
event could lead to ratings downgrades, exacerbating the issue as higher borrowing costs 5
should be expected at lower credit ratings. Since tax-exempt municipal bonds are 6
typically issued with 5% coupon rates, as assumed by the benchmark MMD rate, 7
premium is generated when yield rates are lower than the coupon rates. When rates rise, 8
the premium generated to help fund the CIRP shrinks. For example, MSD’s proposal 9
assumes yields that will generate $24 million of premium on $785 million of FY21-FY24 10
Sr. revenue bonds for a total funding of $809 million from Sr. revenue bonds. Funding 11
$809 million under an MIEC assumption of a flat 3.5% yield over the next 5 years would 12
lead one to believe that MSD could generate $86 million of premium on $722 million of 13
Sr. revenue bonds. That difference of over $60 million in premium becomes a shortfall in 14
the funding of the CIRP if actual rates match MSD’s assumptions but are modeled at a 15
flat 3.5% for the Rate Proposal period. The shortfall using MIEC’s 4.0% yield scenario is 16
still significant at $35 million. In order to fully fund the CIRP in either situation, MSD 17
would have to 1) borrow more money than proposed; 2) increase PAYGO more than 18
proposed (taking money from operations); 3) come back to the Rate Commission off-19
cycle to request additional rate increases; or 4) choose some combination of these 20
options. Each option poses risk to MSD’s costs, the financial integrity of MSD’s 21
proposal, and MSD’s debt ratings. 22
Q3. What is the expected impact of borrowing more money or increasing PAYGO in 23
that scenario to cover the CIRP? 24
Surrebuttal Testimony of Tim R. Snoke, MSD June 3, 2018
2018 Stormwater Rate Proceeding 3 MSD Exhibit No. MSD 80F
A. Higher levels of borrowing will obviously increase interest costs, putting pressure on debt 1
service coverage (DSC) ratios. Higher PAYGO should be expected to reduce liquidity. In 2
its rating of MSD’s 2017A bonds, Fitch noted that, “Ongoing retail rate support will be 3
critical to maintenance of the Metropolitan St. Louis Sewer District's rating given the 4
rapid escalation in system debt. Coverage margins or leverage that are weaker than 5
forecast levels, or a decline in liquidity below historical norms, would be expected to 6
result in negative rating action” (Exhibit MSD 40). In its 2017A rating, Moody’s stated 7
that, “narrowed liquidity or debt service coverage” or the “inability to successfully 8
manage consent decree” could lead to a downgrade (Exhibit MSD 39). It must be noted 9
that existing and projected total debt coverage at that time never fell below 1.8x. The 10
Fitch report specifically mentions that total coverage is expected to be 1.9x, noting even 11
the 1.9x level reflects a deterioration in coverage over the last 10 years as debt has grown 12
and reiterating that, “Fitch's rating incorporates the slightly weaker DSC, although any 13
deterioration in financial performance beyond projected levels would be expected to 14
result in negative rating action” (Exhibit MSD 40). The rating agencies’ comments are in 15
direct conflict with the intervener’s testimony that a minimum 1.6x coverage level is 16
sufficient. 17
Q4. What is the potential impact of coming back to the Rate Commission for an interim 18
increase in wastewater rates if approved rates aren’t sufficient to cover the CIRP 19
and related anticipated debt service costs? 20
A. This scenario also poses significant risk to MSD’s financing plan and to MSD’s credit 21
ratings. It takes MSD’s staff and consultants approximately one year to prepare deliver, 22
and defend each Rate Proposal. The timeline and processes are governed by the Charter 23
and the Rate Commission’s Operating Rules so modifications to the financial plan cannot 24
Surrebuttal Testimony of Tim R. Snoke, MSD June 3, 2018
2018 Stormwater Rate Proceeding 4 MSD Exhibit No. MSD 80F
be enacted quickly and may create delays in funding projects, adding unnecessary risk to 1
the financial plan. 2
Additional proceedings are obviously also an additional time commitment for each 3
member of the Rate Commission and increase operating costs due to the time 4
commitment and support of consultants for both MSD and the Rate Commission. The 5
Rate Commission’s budget alone is more than $600,000. S&P notes MSD’s strong 6
financial management practices and policies in its report (Exhibit MSD 38) – this 7
includes MSD’s practice of a four year rate cycle. The rating agencies and debt investors 8
favor the stability that a four year process provides as it allows MSD to make projections 9
about revenues that are based on approved rates. Moody’s states that its rating reflects, 10
“the district's stable financial performance, the result of annual rate increases, prudent 11
management practices and conservative budgeting” (Exhibit MSD 39). Increased 12
uncertainty from the rate process adds uncertainty to funding for MSD’s operations, 13
PAYGO, and debt service coverage since it impacts essentially all of MSD’s wastewater 14
revenues. The need for more frequent Rate Proposals should be expected to be seen as a 15
deterioration in the financial strength and stability of the District. Furthermore, MSD has 16
demonstrated that when it experiences lower than expected costs, it has the ability to 17
protect those savings and use them to lower future rate increases as is shown in the 18
current Rate Proposal. Four years ago, MSD expected revenue increases of 19
approximately 10% for each year of the FY21-24 period. The lower annual revenue 20
increases in the current Rate Proposal (2.7% - 4.0%) reflect that MSD is using the 21
savings generated from an unexpectedly favorable cost environment and thoughtful 22
management of the CIRP, like the Consent Decree extension, to effectively and 23
reasonably mitigate rate increases while protecting MSD’s financial strength. This is a 24
Surrebuttal Testimony of Tim R. Snoke, MSD June 3, 2018
2018 Stormwater Rate Proceeding 5 MSD Exhibit No. MSD 80F
much more predictable and financially sound way of protecting MSD’s debt ratings and 1
financial flexibility to handle the uncertainty inherent in projections than to issue off-2
cycle Rate Proposals due to an unwillingness to accept that interest rates are near historic 3
lows and could rise over the next five years to levels seen just with the last decade. 4
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Debt/PAYGO Split in MSD’s Financing Plan 6
Q5. Please address the Intervener’s claims that a 60/40 Debt/PAYGO split are a change 7
to a Board or Rate Commission policy? 8
A. There is no formal financial policy for debt/cash funding of the CIRP. The roughly 60/40 9
Debt/PAYGO funding of the CIRP in MSD’s proposal is an outcome of the many factors 10
being balanced to fully fund MSD Operations and the CIRP in a way that minimizes rate 11
increases and adheres to MSD actual financial policies, like holding a minimum 12
Operating Reserve of 60 days. Debt service coverage (DSC) targets, liquidity targets, and 13
the size of the CIRP also play into the calculations that resulted in this funding mix. The 14
mix has ranged from 80/20 some years to approximately 70/30 over the last wastewater 15
rate process, averaging 75/25 over time, but it is not correct to say that 75/25 is a formal 16
policy. Overall wastewater user charges for this cycle are actually projected to be lower 17
with the 60/40 debt/PAYGO mix than they would be with the historical average of 75/25 18
due to the higher projected debt service, and resulting DSC ratios, associated with a 75% 19
debt/25% PAYGO mix.. 20
Q6. Does this conclude your surrebuttal testimony? 21
A. Yes. 22
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