Fitch Affirms Gilroy, California's GOs at 'AA-'; Outlook Stable

NEW YORK--()--Fitch Ratings has affirmed the 'AA-' rating on the following Gilroy, California (the city) bonds:

--$9.7 million general obligation (GO) bonds, series 2009;

--$22.1 million GO bonds, series 2010.

The Rating Outlook is Stable.

SECURITY

The bonds are secured by the city's unlimited ad valorem tax pledge.

KEY RATING DRIVERS

SOLID FINANCES: General fund financial operations feature strong fund balances, conservative reserve policies, and active management to align expenses with revenues.

ECONOMIC IMPROVEMENT; WEAKNESS LINGERS: The city's unemployment level has been declining, but remains higher than regional, state, and national rates. Taxable assessed value (TAV) returned to growth in fiscal year (FY) 2014 after recent year declines. Per capita income indicators are lower than regional and state averages, but higher than national levels.

HIGH DEBT LEVELS: The city's overall debt levels are high and debt amortization is slow. Carrying costs of debt service, pension, and other post-employment benefit (OPEB) costs are manageable, but could increase due to potential additional debt issuance and state pension plan revisions.

RATING SENSITIVITIES

The rating is sensitive to shifts in fundamental credit characteristics including the city's strong financial management practices. The city's history of maintaining solid reserves while addressing operating and capital needs indicates continued rating stability.

CREDIT PROFILE

Gilroy is located in Santa Clara County, about 30 miles south of San Jose. The population was close to 51,000 in 2012, an increase of about 22% from 2000.

SOLID FINANCIAL POSITION

The city has maintained reserves at high levels, with unrestricted general fund balances above 50% of spending in recent years. Financial operations have benefited from strong reserve policies, requiring a minimum unrestricted balance reserve of 25% of expenditures and an additional economic stability reserve of 15% of expenditures. In addition, management has been active in aligning spending with revenues during the recent economic downturn in order to offset revenue declines. Substantial expenditure cuts included reduced headcount and delayed/reduced capital spending.

The FY 2013 unrestricted general fund balance including the economic stabilization fund totaled $23 million or 55.6% of expenditures and transfers out, down from $25.4 million or 66.8% in FY 2012. The drawdown in balance was due to transfers out of the general fund for capital and equipment needs. On a budgetary basis, management expects FY 2014 to be structurally balanced, with additional capital spending reducing reserves by about $2.3 million. The total ending balance (which tends to be close to the unrestricted balance) is estimated at $20.2 million or 45.5%. Out-year projections show structurally balanced operations with general fund balances in compliance with policy goals.

The general fund faces moderate contingent liabilities related to inter-fund borrowing, which are currently paid from developer impact fees. Given recent strong performance of these revenues, the need for general fund support is not expected.

ASSESSED VALUE IMPROVES; UNEMPLOYMENT REMAINS ABOVE AVERAGE

The local economy has been diversifying in recent years, but still has a large agricultural base. The area is home to three large retail outlet complexes and benefits from its location within the San Jose employment market. City unemployment (8.7% in December 2013) has been declining, but remains above state (7.9%) and national (6.5%) rates. Per capita income indicators are lower than regional and state averages, but exceed national averages.

The city's residential real estate market has been stressed in recent years, but price stabilization and reduced foreclosure rates have led to improvement. Following annual declines and flat performance in recent years, TAV returned to growth in FY 2014 (7.5%). The city expects continued growth in the near term. Overall economic stabilization and growth is also evident in sales tax revenue (36% of general fund revenue) improvement. Following annual declines in FYs 2008 through 2010, sales tax collections returned to annual growth in FY 2011 and the city forecasts continued growth in the near term.

HIGH DEBT LEVELS

The city's overall debt levels are high, reflecting significant overlapping debt, largely related to school district issuance. Debt is $6,401 per capita and 5.6% of assessed value. Principal amortization is slow, with about 34% retired in 10 years. FY 2013 debt service as a percentage of governmental spending is midrange at about 8.4%.

Debt levels could increase, as the city is contemplating additional sales tax or property tax-backed issuance for various capital needs, the amount of which has not yet been determined. The city is considering asking voters to approve the issuance in the November 2014 election. The city has no other immediate plans for additional debt issuance.

Most city employees are covered under the California Public Employees' Retirement System (CalPERS), with those ineligible to participate covered by a separate defined contribution plan. The funded level for the CalPERS plan is 78.8%, based on Fitch's estimated 7% rate of return. The city's total carrying costs, including debt service costs, actuarially required pension contributions, and OPEB pay-as-you-go payments are manageable at about 18.7% of governmental spending. However, carrying costs are expected to rise in the near term due to pension cost increases related to changes in CalPERS actuarial assumptions that increase contribution requirements.

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 Creditscope, University Financial Associates, S&P/Case-Shiller Home Price Index, IHS Global Insight, National Association of Realtors.

Applicable Criteria and Related Research:

--'Tax-Supported Rating Criteria' (Aug. 14, 2012);

--'U.S. Local Government Tax-Supported Rating Criteria' (Aug. 14, 2012)

Applicable Criteria and Related Research:

Tax-Supported Rating Criteria

http://www.fitchratings.com/creditdesk/reports/report_frame.cfm?rpt_id=686015

U.S. Local Government Tax-Supported Rating Criteria

http://www.fitchratings.com/creditdesk/reports/report_frame.cfm?rpt_id=685314

Additional Disclosure

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Contacts

Fitch Ratings
Primary Analyst:
Maria Coritsidis, +1-212-908-0514
Analytical Consultant
Fitch Ratings, Inc.
One State Street Plaza
New York, NY 10004
or
Secondary Analyst:
Scott Monroe, +1-415-732-5618
Director
or
Committee Chairperson:
Amy Laskey, +1-212-908-0568
Managing Director
or
Media Relations:
Elizabeth Fogerty, New York, +1 212-908-0526
elizabeth.fogerty@fitchratings.com

Sharing

Contacts

Fitch Ratings
Primary Analyst:
Maria Coritsidis, +1-212-908-0514
Analytical Consultant
Fitch Ratings, Inc.
One State Street Plaza
New York, NY 10004
or
Secondary Analyst:
Scott Monroe, +1-415-732-5618
Director
or
Committee Chairperson:
Amy Laskey, +1-212-908-0568
Managing Director
or
Media Relations:
Elizabeth Fogerty, New York, +1 212-908-0526
elizabeth.fogerty@fitchratings.com