Rating Action Commentary
ֳ Affirms San Jose Intl Airport (CA) Sr Bonds at 'A' and Sub Bank Bonds at 'A-'; Outlook Stable
Thu 20 Jun, 2024 - 3:55 PM ET
ֳ - Chicago - 20 Jun 2024: ֳ has affirmed at 'A' the Norman Y. Mineta San Jose International Airport's (SJC) outstanding airport revenue bonds issued by the City of San Jose, CA totaling approximately $1.02 billion. ֳ has also affirmed at 'A-' the underlying rating on the bank note associated with the airport's subordinated commercial paper (CP) notes.
RATING RATIONALE
The ratings reflect SJC's almost entirely origin and destination (O&D) traffic base and its status as a medium-to-large hub in the competitive Bay Area market. The ratings are further supported by the airport's recently upgraded facilities, manageable capital improvement plan (CIP) needs, and sizeable yet decreasing debt levels.
Strong cashflow contributions from non-airline revenues and ample cost recovery from a hybrid airline use & lease (AUL) agreement have allowed the airport to manage its cost per enplanement (CPE) to a competitive level within the region. Despite competition from nearby airports, including the larger facility of San Francisco International Airport (SFO), SJC has a solid long-term history of traffic expansion, though current volume activities are still well below pre-pandemic levels. Financial metrics are favorable with moderate leverage aided by sound coverage levels and healthy cash balances.
KEY RATING DRIVERS
Revenue Risk - Volume - High Midrange
The airport's traffic base of around 6 million is predominantly O&D but is exposed to competition from nearby SFO and Oakland (OAK). Passenger traffic and carrier expansion trends were favorable heading into the coronavirus pandemic, however recovery levels to date indicate SJC is still likely several years from a full recovery. The airport has an elevated carrier concentration with Southwest (BBB+/Stable) accounting for over 60% of traffic. SJC's CPE is positioned competitively relative to Bay Area peers.
Revenue Risk - Price - Stronger
The airport's hybrid airline agreement extends through 2029, allowing for ample cost recovery from airlines and supportive to operating revenues derived from non-airline sources. Certain features enhance the pricing framework, such as the revenue sharing mechanisms and a minimum 1.25x coverage test under an extraordinary coverage protection charge. Airline cost levels are expected to remain at, or above, historical levels as enplanement recovery continues given the modest pressures in the rates and charges for SJC's forward-looking capital improvements.
Infrastructure Dev. & Renewal - Stronger
SJC's future capital needs are manageable, with a five-year CIP totaling approximately $614 million. The airport recently completed a terminal complex and various upgrades. Major projects are aimed at maintaining the safe and efficient operation of SJC, and are prioritized based on significant coordination with signatory airlines. SJC's rates and charges, passenger facility charges (PFCs) and grants represent the primary funding sources, requiring no additional debt to fund its CIP.
Debt Structure - 1 - Stronger; Debt Structure - 2 - Midrange
The airport's long-term GARBs are entirely senior, fixed rate debt while short term obligations include $27.7 million in subordinate CP notes. The 2021 refunding had established sizable debt service savings for SJC in the near term, however senior debt service payments increase over the next few years, peaking in 2033-2034, before falling to lower levels thereafter.
The midrange debt structure assessment on the underlying bank notes supporting the CP reflects the subordinated lien on excess revenues. SJC maintains a $75 million letter of credit supporting the CP obligations. The debt service reserve fund is cash-funded in excess of the approximately $84 million requirement.
Financial Profile
The airport benefits from substantial unrestricted cash balances with a ֳ-calculated 731 days cash on hand in fiscal 2023, which mitigates SJC's elevated debt burden and helps sustain leverage below 5x, equaling 4.9x in fiscal 2023 and devolving over time to 4.2x by fiscal 2028 in ֳ's rating case. ֳ-calculated total debt service coverage, excluding transfers and adjustments, is robust at 3.2x in fiscal 2023, above the historical average.
PEER GROUP
SJC's peers include the Port of Oakland, CA (A+/A/Stable) and Broward County, FL (FLL; A+/Stable). All three airports operate in a market with a large hub nearby. Broward is supported by a significantly larger traffic and superior volume risk assessment, while Oakland benefits from additional seaport activities. SJC has notably lower capital needs than OAK and FLL. SJC's rating case average leverage of 4x is situated between OAK and FLL at 2.6x and 8.7x, respectively.
RATING SENSITIVITIES
Factors that Could, Individually or Collectively, Lead to Negative Rating Action/Downgrade
--Traffic volatility or passenger declines that lead to ֳ-calculated cashflow debt service coverage ratio (DSCR) falling below 1.0x for a sustained period;
--Future borrowings tied to large capital projects resulting in sustained leverage above 9.0x.
Factors that Could, Individually or Collectively, Lead to Positive Rating Action/Upgrade
--Continued enplanement recovery, leading to sustained leverage below 5x.
CREDIT UPDATE
SJC is a medium-sized hub in a dynamic and affluent market that benefited from strong growth pre-pandemic, yet it has been markedly slower reaching full recovery in contrast to nationwide airport recovery trends. Year-to-date enplanement levels for ten months of fiscal 2024 indicate levels to be in-line with but slightly less than the same period of fiscal 2023 at 4.9 million, a reduction of 1.5%. Enplanements in fiscal 2023 increased about an additional 24% from fiscal 2022 levels, though still only 81% of fiscal 2019 levels. Fiscal 2023 enplanements outperformed prior ֳ expectations by 1%.
Airline capacity initially rose in mid-2022 led by Southwest, but has since declined due to a slower return of business travel, causing airlines to reduce flights to business hubs and adjust fare strategies, namely British Airways halting its services at SJC as of October 2023.
Nonetheless, leisure travel increased with ZIPAIR beginning direct flights to Tokyo in December 2022, Spirit Airlines introducing routes to various locations in June 2023, and Volaris expanding its flights to Mexico. These three airlines have consistently expanded their operations at SJC, multiplying their combined capacity by 4x in the past two years, helping offset the slower than expected recovery in business travel.
SJC's financial position has seen improvements evidenced by the increase of adjusted general airport revenues by 10.5% to $235.6 million in 2023 from $213.3 million in 2022, largely due to increased air activity at the airport. In the same fiscal period, operating expenses increased 7.8% to $105.3 million from $97.7 million due to increases in non-personnel costs, pensions expenses, and personnel costs.
The airport entered fiscal 2024 with $20 million in ARPA funds remaining. They have utilized $10 million in fiscal 2024, with the remaining balance to be used by December 2025.
SJC's five-year adopted capital project budget (fiscal years 2024-2028) is $613.7 million, with funding from grants, service fees, passenger charges, and short-term debt. Key infrastructure projects include the Terminal B parking garage and Belly Cargo buildings when financially viable, likely using a mix of commercial paper and airport reserves. SJC effectively leverages federal grants and seeks additional funding to support its capital needs.
FINANCIAL ANALYSIS
ֳ's base case incorporated audited fiscal 2022 and 2023 enplanements, revenues, and expenses and tracks YTD, 10-month, fiscal 2024 enplanement levels. Since SJC has not reached full-recovery to 2019 levels yet, the base case assumes modest 1.5% growth in FY24 based on YTD 10-month figures annualized and management's forecasts of expected stunted enplanement recovery.
Thereafter, it assumes a 2% CAGR to reach near-full recovery by FY30. Airline revenues follow budget assumptions and then grow at a similar 2.3% CAGR thereafter following enplanements, with operating expenses following a similar pattern at a 3% CAGR. Five-year ֳ calculated senior and total DSCRs in the base case average 2.3x. Total leverage declines below 4x in FY28.
ֳ's rating case assumes a recessionary decline, with enplanements decreasing by 8% in FY25 due to the airport's heavy reliance on leisure travel and current struggles affecting the Bay Area and California in general. Operating revenues move with enplanement levels. Operating expenses grow at 4% through the projection period. Five-year ֳ-calculated senior and total DSCRs in the rating case average 2.1x. Total leverage is expected to reach 4.2x in FY28.
SECURITY
General airport revenues, pledged PFC revenues, CFC revenues and funds are established by the indenture. An additional $81.7 million letter of credit secures the subordinate CP from Bank of America of $75 million principal plus interest.
REFERENCES FOR SUBSTANTIALLY MATERIAL SOURCE CITED AS KEY DRIVER OF RATING
The principal sources of information used in the analysis are described in the Applicable Criteria.
ESG Considerations
The highest level of ESG credit relevance is a score of '3', unless otherwise disclosed in this section. A score of '3' means ESG issues are credit-neutral or have only a minimal credit impact on the entity, either due to their nature or the way in which they are being managed by the entity. ֳ's ESG Relevance Scores are not inputs in the rating process; they are an observation on the relevance and materiality of ESG factors in the rating decision. For more information on ֳ's ESG Relevance Scores, visit /topics/esg/products#esg-relevance-scores.
Additional information is available on
PARTICIPATION STATUS
The rated entity (and/or its agents) or, in the case of structured finance, one or more of the transaction parties participated in the rating process except that the following issuer(s), if any, did not participate in the rating process, or provide additional information, beyond the issuer’s available public disclosure.
APPLICABLE CRITERIA
APPLICABLE MODELS
Numbers in parentheses accompanying applicable model(s) contain hyperlinks to criteria providing description of model(s).
- GIG AST Model, v1.4.1 (1)
ADDITIONAL DISCLOSURES
ENDORSEMENT STATUS
| San Jose (CA) | EU Endorsed, UK Endorsed |