Los Angeles DWP water bonds take KBRA downgrade on wildfire litigation risks

KBRA downgraded the rating on the Los Angeles Department of Water and Power's water system a notch to AA, resolving the last remaining watch for possible downgrade it had placed on the city's ratings after devastating wildfires struck the city in January.

The downgrade "reflects our view, based on wildfire-related legal claims filed to date, that the water system's exposure to heightened event risk under California's strict liability doctrine is inconsistent with the AA-plus rating we had previously assigned," said Linda Vanderperre, a KBRA managing director.

"We noted that neither CalFIRE (California Department of Forestry and Fire Protection), nor the Los Angeles Fire Department has released an investigative report on whether water system conditions contributed to the wildfire spread or damage," Vanderperre said.

The city and its departments have been the subject of negative rating actions after several wildfires propelled by hurricane-force Santa Ana winds destroyed thousands of homes in Los Angeles County, including Pacific Palisades, an affluent section of Los Angeles.

KBRA downgraded the city's general obligation rating to AA from AA-plus on May 1 and cut the city's Municipal Improvement Corporation of Los Angeles lease revenue bonds to AA-minus from AA. That action resolved the watch downgrade it placed on those ratings Jan. 16, but it also assigned a negative outlook to the city, which indicates the potential for further downgrades.

The rating agency placed watch downgrades on LADWP's water and power system revenue bonds in January. It resolved the watch downgrade on the power system revenue bonds on April 17, affirming an AA rating.

"We are basing the downgrade on the water-related claims from the wildfires, which pertain to the water system," Vanderperre said.

Litigation related to the Palisades fire claims LADWP's Santa Ynez Reservoir had been empty of its 117-million-gallon capacity, leaving only 3 million of total water storage in three tanks, according to an official statement for a recent DWP power bond deal.

The litigation, according to KBRA's May 5 report, blames the alleged failure to maintain the reservoir, which was offline for seismic retrofit, to the inability to supply water to the hilltop tanks in the Palisades fire zone once the blaze began. Lawsuits also claim that critical equipment including valves, hydrant and pumps were not maintained, hampering firefighters' ability to fight fires ? and that LADWP should have known the potential for wildfire and hardened its system, making the losses foreseeable under California's inverse condemnation law, KBRA analysts wrote.

While there have been claims from the wildfires lodged against the power system, none were inverse condemnation law-related claims that the power system was responsible for the ignition of the wildfire, Vanderperre said. But there have been allegations that the water system's facility and equipment were responsible for the inability to put out the fire, she said.

"We felt given those wildfire-related legal claims that have been filed to date that there is heightened risk for the water system," she said.

No cause had been determined for the fires yet.

KBRA's downgrade of LADWP's water revenue bonds puts its water and power systems at the same AA rating.

The power system was previously rated lower, because KBRA considers it a more complex system operationally than the water system, a view that hasn't changed, Vanderperre said.

KBRA has assigned a stable outlook to both LADWP's water and power system.

KBRA maintained the outlook at stable because analysts "think it will be several years before there is a resolution on the lawsuits from the wildfire claims," she said.