NEW YORK--(BUSINESS WIRE)--Fitch Ratings assigns an 'A+' rating to the following issues of the New Jersey Economic Development Authority (NJEDA):
--$400 million school facilities construction refunding bonds 2014
--$625 million school facilities construction refunding bonds 2014 series QQ (federally taxable);
--$60 million school facilities construction bonds, 2014 series RR.
The bonds are expected to sell via negotiation on or about April 23, 2014.
Concurrent with these issues, the NJEDA is executing a direct, private placement of bonds with Bank of America Merrill Lynch (BOAML) in the approximate amount of $950 million (the direct purchase bonds). The direct purchase bonds will be unrated.
In addition, Fitch affirms the 'A+' rating on the state of New Jersey's outstanding appropriation-backed debt as detailed at the end of this release.
The Rating Outlook is Negative.
The bonds are special, limited obligations of the NJEDA; debt service is paid under a state contract between the state treasurer and the authority subject to annual legislative appropriation.
KEY RATING DRIVERS
APPROPRIATION OBLIGATION OF THE STATE: State contract payments provide for debt service; payments must be appropriated annually by the state legislature, resulting in a rating one notch below the state's 'AA-' GO bond rating.
NEGATIVE OUTLOOK: The Negative Rating Outlook incorporates the state's ongoing budget strain, even as revenues continue to recover, and economic performance that is providing insufficient support to meet the growing demands of the state's high long-term liabilities.
LONG-TERM LIABILITIES CONSIDERABLE: Above-average state debt obligations are compounded by significant and growing funding needs for the state's unfunded retirement liabilities. Continued pension funding-level deterioration is projected through the medium term as full actuarial funding of the required contributions is several years off.
WEALTHY ECONOMY WITH SLOW RECOVERY: New Jersey benefits from a wealthy populace and a broad and diverse economy. The state's economic performance has lagged the nation in recovery from the recent recession, with improvement in 2013 trailing off at the close of the year. Unemployment levels have recently decreased both year-over-year (yoy) and relative to the national rate.
BUDGET REMAINS STRUCTURALLY IMBALANCED: The state relies on one-time measures to achieve budgetary balance, including in the current fiscal 2014, even though full funding of annual pension contributions remains several years off.
MINIMAL CASH BALANCES RESULT IN LIMITED OPERATING FLEXIBILITY: Minimal cash balances have been maintained in recent years, providing limited flexibility to absorb unforeseen needs or revenue under-performance from overly optimistic forecasting.
BROAD EXPENDITURE REDUCTION AUTHORITY: The governor's strong executive powers to implement any necessary expenditure reductions to balance the budget, and the state's consistent history of doing so, somewhat offset concern over the record of revenue under-performance and limited reserves.
The rating is sensitive to shifts in the state's 'AA-' GO credit rating to which this credit is linked. The GO rating is sensitive to the state's economic and financial performance in the context of a high fixed-cost burden and ongoing expenditure requirements. Continued under-performance of the state's economic base, an unwillingness to address or appropriate for its growing long-term liabilities, or continued deterioration in the state's budgetary flexibility, could lead to a downgrade.
The bonds being issued are special obligations of the NJEDA, payable solely from payments received by the authority equal to debt service on the bonds from the state of New Jersey, subject to annual appropriation. The payments from the state to the authority are pursuant to a state contract between the two entities whereby the treasurer agrees to pay debt service on the bonds from amounts appropriated annually to the NJEDA. The state legislature initially authorized $8.6 billion of school bonds primarily to meet capital requirements pursuant to the New Jersey Supreme Court holding in Abbott versus Burke regarding the adequacy of school funding. In 2008, an additional $3.9 billion in school bonds was authorized to continue the program. Over $9 billion, exclusive of refunding bonds, has been issued to date; $8.6 billion was outstanding as of Dec. 31, 2013. Proceeds from the currently issued 2014 series RR bonds will provide funds for various capital improvements for school facilities as part of this program.
Proceeds from the 2014 series PP and QQ bonds will refund a portion of the NJEDA's currently outstanding revenue bonds; together with the direct purchase bonds, the refunding will provide budget relief in the current fiscal year ending June 30, 2014 of almost $40 million and almost $284 million in budget relief in fiscal 2015. In addition, the refunding plan (which also includes the private $536 million four-year forward note purchase contract with BOAML), will move to a later point in each of the next four fiscal years, certain NJEDA debt service payments to align debt service with periods of greater cash flow for the state, providing an estimated $1.5 billion of cash flow relief over the four years. While net present value savings are achieved through the execution of these transactions, debt service is increased in fiscal years 2016 through 2030. Fitch believes the transaction is illustrative of the state's lack of budgetary flexibility and narrow cash position; these are weaknesses that Fitch pointed to in the recent revision of the state's Rating Outlook to Negative from Stable.
New Jersey's 'AA-' GO rating reflects its high wealth levels and broad economy, offset by a high debt burden, a multitude of long-term spending pressures including significant unfunded pension and employee benefits obligations and extremely narrow operating cash balances. Despite passage of pension and benefits reform legislation in 2011 which restrained future growth in the state's accumulated liabilities, continued pension funding-level deterioration is projected through the medium term as full funding of the actuarially required contributions is phased in over seven years. This schedule also results in sizeable, planned increases in annual pension contributions. Fitch believes that meeting the requisite increases in pension contributions will continue to be challenging and is likely to conflict with other long-term demands, such as infrastructure needs, property tax relief, and school funding.
FINANCIAL OPERATIONS HAVE BEEN CHALLENGED
Revenue performance in fiscal 2013, which ended June 30, was challenged both by an overly optimistic adopted budget revenue forecast and by the impact of Super Storm Sandy, which made landfall on Oct. 29, 2012. In its adopted budget, the state projected robust revenue growth in fiscal 2013 of $2.6 billion (9.1% above 2012 levels not inclusive of fund adjustments). As actual receipts through January 2013 did not meet revenue targets, the state revised its revenue forecast downward by $407 million and closed the resulting budget gap through expenditure reductions, appropriation lapses, and delaying the May 2013 property tax rebate to August 2013 (fiscal 2014) to provide $394 million in one-time budget relief in fiscal 2013.
At the time the fiscal 2014 budget was adopted, the state estimated ending fiscal 2013 with a fund balance at $467 million, equal to a slim 1.5% of revenues. The state subsequently reduced that ending fund balance estimate to about $313 million due to a canceled $165 million transfer from the state's Affordable Housing Trust Fund to the General Fund that had been the subject of litigation with municipal affordable housing agencies. As the fund sweep and transfer did not occur in fiscal 2013 and the litigation continues, the state revised its ending operating balance for fiscal 2013 downward. The ending balance was just under 1% of expenditures.
BUDGET REQUIRES RESTRAINT; MAINTAINS MINIMAL FUND BALANCES
The enacted budget for fiscal 2014 funded growth in appropriations of 4.1% to $32.98 billion from fiscal 2013 results. State education spending grows by 6.1% while Medicaid expense declines, incorporating anticipated results from state reform measures and the state's participation in the federal Medicaid expansion; the state expects to benefit from federal subsidy of its current, expansive Medicaid program. The use of one-time measures to balance the budget was planned to total just over $1 billion, not including pension underfunding. The pension contribution is funded at three-sevenths of the actuarially calculated annual required contribution (ARC) for fiscal 2014, consistent with the established statutory schedule to phase in the full contribution over seven years. The revised, partial contribution equals almost $1.6 billion and accounts for 4.8% of the revised budget; a full ARC payment would equate to 12% of the budget.
Projected revenues in support of the budget totaled $32.8 billion and incorporated growth from actual 2013 results; 7.7% projected growth in the PIT, 5.4% growth in the sales tax, 2.2% growth in the CIT, and 76% ($166 million) growth in casino revenue resulting from the introduction of internet gaming tied to Atlantic City casinos. The total increase projected from actual fiscal 2013 revenues, including casino revenues and as modified in November 2013, was 5.2%. Fitch believed the casino revenue forecast to be ambitious, particularly given the consistent downward trend of this revenue source, and the state's recent revision to 19.5% revenue growth from fiscal 2013 is a more conservative, although still aggressive, forecast of this revenue source.
Reflecting revenue underperformance year-to-date, the governor's proposed fiscal 2015 budget, released in February 2014, included a net $251 million negative revision to the fiscal 2014 revenue forecast, now expected to total $32.56 billion, a growth rate of 5.3% from fiscal 2013. The revised forecast lowered the expected PIT growth rate to 6.8% from fiscal 2013, increased the CIT expected growth rate to 2.3%, and maintained the expectation for sales tax revenue. Factored into the revision was the expected receipt of one-time proceeds from a recent securitization of the state's remaining tobacco settlement revenues; the transaction brought a net $91.6 million into the general fund. In Fitch's view, the application of the proceeds highlighted the limited options available to the state in maintaining budget balance.
The revised budget for fiscal 2014 also factors in appropriation lapses of $694 million from unexpended items, including about $94 million in pension savings from the combined effect of incorporating salary scale changes from recently adopted experience studies and a changed method of calculating the state's normal cost pension contributions. The change in calculating the state's normal cost pension contribution, effective for fiscal 2015 and applied retroactively for fiscal 2014, allows increased employee contributions pursuant to pension reform to be used as an offset in developing the state's normal cost pension contribution rather than serving to reduce the UAAL as originally planned. These lapses allow the state to fund a $292 million increase in expected appropriations, with total spending now forecast at $33.3 billion, providing for an expected narrow fund balance of $301 million at year-end.
Year-to-date through March 2014, operating revenues are running $145 million (0.8%) below the revised forecast. Personal income taxes are almost $75 million below the revised forecast (1%), followed by insurance premium receipts that are almost $33 million (8.7%) below forecast and sales tax revenue that is $23.9 million (0.4%) below forecast. The only notable positive was corporation business taxes that are almost $44 million (3.2%) above forecast. It would be anticipated that these shortfalls, should they continue, would have an impact on the state's projection for its ending fund balance without offsetting action.
The governor's proposed budget for fiscal 2015 calls for appropriations of $34.4 billion. Notable expenditure recommendations include an approximate 4% increase in spending on grades PreK-12 education (to $12.9 billion), an approximate 7% increase in higher education spending (to $2.3 billion), and a 5.4% increase in state-funded Medicaid programmatic spending (just shy of $4.2 billion). The budget proposal includes a $2.25 billion appropriation for the state's pension systems, equal to four-sevenths of the ARC, as required by statute. The fund balance is expected to total $313 million at year-end.
Anticipated revenue in the governor's fiscal 2015 budget is projected to total $34.4 billion; an increase of 5.8% from the revised fiscal 2014 revenue estimate. Strong yoy revenue growth is factored into the forecast including 8.2% growth in the PIT, 6.1% growth in sales tax revenue, 6.7% growth in the CIT, and 21% growth in casino revenue. Fitch considers the revenue forecast to be aggressive, as has been typical for the state over the past several fiscal years, particularly in regard to the PIT and casino revenues in light of current revenue and economic trends, and believes the state may find it difficult to achieve these results.
Although New Jersey has a history of taking steps necessary to maintain budget balance, the state's ongoing reliance on one-time budget solutions to achieve and maintain balance and its insufficient annual pension contributions are evidence of a significant structural imbalance, in Fitch's view. Further, the state's narrow fund balance position provides little budgetary flexibility. The governor has strong powers to implement expenditure reductions to balance the budget, and Fitch expects those powers to be exercised as necessary, but options have become more limited as the state's fixed cost burden increases.
ECONOMIC GROWTH HAS LAGGED THE NATION
State employment growth during most of the last decade lagged the national experience and while growth has returned following recessionary losses, the pace of expansion remains well below the national average. The state entered the recession with the nation in 2008 and its experience from 2008 to 2010 was fairly similar, although the state recorded a decline of 1.2% in non-farm employment levels in 2010, higher than the 0.7% contraction seen nationally; growth in 2011 was essentially flat to 2010 and below the 1.2% national growth rate. Modest employment growth in both 2012 and 2013 of 1.1% was below the national 1.7% growth rate for both years.
Improved state yoy employment growth in the fall of 2013 trailed off at the year's close and employment in February 2014 was essentially flat to one year prior as compared to 1.5% yoy national employment growth. State unemployment of 7.1% for February 2014 was solidly improved from the rate one year prior at 8.8% and better relative to the national average (national rate of 6.7% in February 2014); however, the declining rate appears to be primarily attributable to a 2.2% yoy decline in the state's civilian labor force rather than improved growth in employment, as actual yoy employment decreased.
New Jersey's wealth levels are high, with 2013 per capita personal income equaling 126% of the national level, ranking fourth among the states.
COMPARATIVELY HIGH LONG-TERM LIABILITIES
New Jersey's debt levels are high for a U.S. state, and ongoing capital demands for school construction, environmental protection and transportation remain large. Net tax-supported debt as of June 30, 2013 equaled 7.6% of 2012 personal income as compared to a Fitch-rated states' median of 3%.
Unfunded pension liabilities attributable to the state are also well above average. Unfunded pension liabilities are expected to increase over the next several years absent additional reform measures, as the state continues its plan to phase in full funding of its actuarially calculated annual required pension contributions (ARCs), with four years remaining in its seven-year plan to achieve full funding. Fitch expects the pension funding increases, combined with expected annual increases in other post-employment benefit (OPEB) funding demands, to further strain the state's operating budget.
For the public employees' retirement system (PERS) and the teachers' pension and annuity fund (TPAF), as of July 1, 2013, systemwide reported funding levels, which incorporate both state and local liabilities, were 62.1% and 57.1% funded, respectively. Using Fitch's more conservative 7% discount rate assumption, the plans were 56.5% and 51.9% funded, respectively. As of July 1, 2013, the state portion of pension liabilities for PERS was 46% funded while TPAF's ratio remained unchanged as the system is wholly supported by the state. Using Fitch's more conservative 7% discount rate assumption, the state's portion of pension liabilities for PERS was funded at 41.8% as of July 1, 2013. On a combined basis, as of July 1, 2013, New Jersey's net tax-supported debt and adjusted, unfunded pension obligations attributable to the state, as adjusted for a 7% return assumption, totaled 16.9% of 2012 personal income, well above the 7% median for states rated by Fitch.
The governor's recently proposed fiscal 2015 state budget includes a pension payment of $2.25 billion, representing a 4/7th payment of the ARC and equal to 6.5% of the proposed state general and property tax relief fund expenditures for fiscal 2015. In delivering the budget proposal to the legislature, the governor acknowledged the sizable and increasing burden of pension contributions and recommended that additional, as yet unspecified, reform measures be considered in the current legislative session.
For fiscal 2015, differing from the four-sevenths appropriation, an appropriation for the full ARC payment of $3.9 billion would account for about 12% of operating fund appropriations and as the state continues on its path to full funding of the ARC, the UAAL will increase, growing the required increases to reach full ARC funding, scheduled for fiscal 2018. At that time, based on the ARC phase-in and historical growth patterns, it is estimated that the full ARC payment will approximate $4.8 billion and account for about 12.6% of operating fund appropriations in fiscal 2018.
The ratings on the following credits, which are linked to the state GO rating, have been affirmed as indicated. The Rating Outlook on all the bonds is Negative.
--Approximately $13.9 billion New Jersey Economic Development Authority
annual appropriation bonds at 'A+';
--Approximately $14.35 billion New Jersey Transportation Trust Fund Authority annual appropriation bonds at 'A+';
--Approximately $518.5 million New Jersey Building Authority annual appropriation bonds at 'A+';
--Approximately $404.9 million New Jersey Educational Facilities Authority annual appropriation bonds at 'A+';
--Approximately $712.2 million New Jersey Health Care Facilities Financing Authority annual appropriation bonds at 'A+';
--Approximately $486.8 million New Jersey Sports and Exposition Authority annual appropriation bonds at 'A+';
--Approximately $739.7 million of state of New Jersey certificates of participation at 'A+'.
The 'A+' ratings for the state's appropriation obligations, one notch below the state's GO rating, reflect the requirement of annual legislative appropriations for debt service.
Additional information is available at www.fitchratings.com.
In addition to the sources of information identified in Fitch's Tax-Supported Rating Criteria, this action was additionally informed by information from IHS Global Insight.
Applicable Criteria and Related Research:
--'Tax-Supported Rating Criteria' (Aug. 14, 2012);
--'U.S. State Government Tax-Supported Rating Criteria' (Aug. 14, 2012);
--'State of New Jersey Full Rating Report' (March 28, 2014).
--'Fitch Revises Outlook on New Jersey GO and Appropriation Bond Ratings to Negative' (March 21, 2014).
Applicable Criteria and Related Research:
Tax-Supported Rating Criteria
U.S. State Government Tax-Supported Rating Criteria