Fitch Rates Riverside County TRANS 'F1+'; LT Obligations; Outlook Revised to Negative

SAN FRANCISCO--()--Fitch Ratings has assigned an 'F1+' rating to the following Riverside County, California's (the county) tax and revenue anticipation notes (TRANs):

--$250 million 2014-2015.

The TRANs will sell via negotiation on or about the week of June 2. Proceeds will support the county's cash flow and pre-pay the county's annual CalPERS contribution.

In addition, Fitch affirms the 'AA-' implied unlimited tax general obligation (ULTGO) rating in addition to various long-term county ratings as detailed at the end of this release.

The Rating Outlook on the long term ratings is revised to Negative from Stable.

SECURITY

The TRANs are general obligations of the county, secured by unrestricted general fund revenue attributable to fiscal 2015.

Outstanding lease revenue bonds (LRBs) and certificates of obligation (COPs) are secured by the county's covenant to budget and appropriate payments for the use of various leased assets, subject to abatement. The pension obligation bonds (POBs) have been legally validated as an absolute and unconditional obligation of the county.

KEY RATING DRIVERS

STRONG TRANS DEBT COVERAGE: The 'F1+' TRANS rating reflects strong debt service coverage with consideration of extensive borrowable resources and some set-asides that occur well in advance of note maturity.

DISTRESSED HOSPITAL OPERATIONS: The Negative Outlook reflects the county's hospital enterprise's (Regional Medical Center, or RMC) distressed financial operations and the risk to the county as the ultimate backstop. Although an aggressive turnaround plan has been initiated, Fitch remains concerned about RMC's ultimate ability to repay sizeable loans and notes.

FINANCIAL POSITION SOUND BUT VULNERABLE: Financial reserves are currently sound and general fund operations are estimated to produce a modest surplus in fiscal 2014 as revenue projections have improved with the economy. However, out-year operations and reserve levels remain vulnerable to wage and service pressures, the fiscal 2017 opening of a correctional facility, and economic performance given revenue-raising limitations.

DIVERSE ECONOMY IN RECOVERY: The county's economy is large, diverse, and well-situated for growth, though income and unemployment indicators are somewhat weak. The economy is several years into an employment recovery following a severe housing-led downturn.

SATISFACTORY DEBT PROFILE: The county's pension plans are adequately funded, the OPEB obligation is minimal, debt amortization is somewhat rapid, and carrying costs are low. However, overall debt levels are moderate to high and adequate pension levels are the result of recent year's POB issuances.

RATING SENSITIVITIES

HOSPITAL ENTERPRISE PERFORMANCE: Failure to structurally balance the hospital enterprise's very weak financial operations, with direct or indirect consequences for the general fund, could result in a downgrade. Conversely, achievement of the plan could have a stabilizing impact on the current rating.

CONTINUED STRUCTURAL BALANCE: An inability or unwillingness to maintain structurally balanced general fund operations, particularly while absorbing wage and correctional cost increases over the intermediate term, could result in a downgrade.

CREDIT PROFILE

Riverside County is located in Southern California's Inland Empire with a population of 2.3 million residents. The region, though well diversified, was severely affected by the housing-led recession and has been in recovery for several years.

HOSPITAL ENTERPRISE FACES LARGE DEFICITS, CASH BORROWINGS

Fitch views RMC's financial condition as weaker than anticipated and is concerned about the county's ability to return it to surplus operations sufficient to repay large internal borrowings from the past two years that are expected to grow further in fiscal 2015.

RMC's fiscal 2013 operations produced a $13 million cash flow deficit on an operating budget of $450 million. The county estimates that deficit has widened to $35 million to $50 million (7.8%-11.1% of audited fiscal 2013 enterprise operating revenues) in fiscal 2014. Management expects the gap will narrow to $20 million in fiscal 2015 (4.4%) before returning to balance in fiscal 2016.

The county estimates aggregate internal borrowing will rise to a high $56 million to $71 million by the end of fiscal 2015, on top of a $26 million loan from the waste management enterprise to pay consultant fees. Fitch notes the combined estimated borrowings are equivalent to 32%-38% of the general fund's fiscal 2013 unrestricted general fund balance or 3.6%-4.2% of general fund spending.

The county does not anticipate drawing on the general fund for RMC; however, the general fund does serve as the ultimate financial backstop if RMC were unable to ultimately repay the outstanding loan balances. This concern is mitigated by the flexible nature of the internal borrowings, and the county's extremely large $1.8 billion pool of additional borrowable resources, if needed.

AGGRESSIVE HOSPITAL TURNAROUND PLAN IN PLACE

The county has instituted a rapid hospital turnaround plan with the assistance of Huron Consulting Services, which has a positive record of improving other hospital's operations. Tangible operational improvements implemented to date include replacing key members of hospital management with experienced turn-around experts and initiating $31.5 million of ongoing savings, equivalent to 6.8% in annual spending. To date, Huron has identified an additional $23.2 million of ongoing savings initiatives that could take effect if approved by the county.

The Negative Outlook reflects Fitch's concern about the size of the remaining deficit, and the large outstanding borrowings that will need to be repaid from future positive cash flow.

GENERAL FUND BALANCED FOR SECOND YEAR; VULNERABILITIES REMAIN

The county's revenue base suffered significantly over the recession, with budgeted fiscal 2014 discretionary revenues representing the first year of growth since fiscal 2008. The challenged revenue environment led to multiple years of significant deficits, which management resolved by instituting a multi-year expenditure reduction plan that achieved structural balance in fiscal 2013. Audited fiscal 2013 general fund operations produced a $20.7 million surplus (a modest 1% of spending), raising the total and unrestricted general fund balances to sound levels of $357.3 million (15% of spending and transfers out) and $252.6 million (10.6%), respectively.

Fiscal 2014 operations are structurally balanced and stronger-than-budgeted revenues are being used in part to add nearly $20 million to the county's budget stabilization reserve. Structural balance reflects years of cost-cutting, including hiring freezes, furlough days, early retirements, attrition, and layoffs. Fiscal 2014 out-performance also reflects an improved revenue environment, with fiscal 2014 assessed value (AV) up 4% year-over-year, and sales tax revenues estimated to rise 8%.

The county receives sales tax revenues from its unincorporated areas. After a severe cumulative decline of roughly 25% from 2006-2009, sales tax revenues are in their fourth year of improvement. The county conservatively budgeted for $29 million of sales tax revenues in fiscal 2014, but an economic consultancy is projecting receipts at $33.5 million.

Fitch believes the general fund's structural balance will be challenged by a multi-year cumulative wage hike, pent-up demand to restore services cut during the recession, and operational pressures anticipated upon the fiscal 2017 opening of a new correctional facility. Management and policymakers will need to continue exercising spending restraint to maintain structural balance under these challenging out-year expenditure conditions.

ECONOMIC STRENGTHENING CONTINUES

The county's economy is large, diversified, and well-situated for long-term growth. These strengths are offset, however, by below-average income levels, elevated unemployment, and a volatile housing market and tax base which, nonetheless, have shown significant improvement over the past one to two years.

The county's housing market was one of the worst-affected in the nation, with average home values falling over 50%, and AV contracting 15.7% in fiscal years 2009-2013. Recently the housing market has improved significantly, with a 12.3% year-over-year gain through the beginning of 2013, and a very strong 27% gain through 2014. As a result of 2013 price increases, AV for fiscal 2014 (which is based on market values as of Jan. 1, 2013) increased 3.7%. Fiscal 2015 AV is not yet known, but the county is projecting a 5% increase, which may be conservative in light of known price increases.

Pre-recession growth was spurred by the area's housing affordability, ample developable land, proximity to other employment centers, and location along a major distribution route. As the economy and housing market continue to recover, Fitch believes these attributes will continue to drive population growth, though not to the extent of pre-recession years.

SATISFACTORY DEBT PROFILE

The county's debt profile is sound overall. Carrying costs (pension, OPEB, debt service costs over total governmental expenditures) are low at 11%, though the county's debt burden is moderate to high at $4,728 per capita (5.1% of estimated market value), reflective of high overlapping debt levels and recent years' AV losses. Debt amortizes somewhat rapidly, with 46% and 67% of principal maturing within five and 10 years, respectively.

The county's capital improvement plan consists largely of the Indio correctional facility. The facility is expected to be paid for from at least $250 million of lease debt and a $100 million state grant. Related debt service costs are anticipated at roughly $17 million annually, offset to a large extent by other maturing debt, and prudently have been included in the county's multi-year projections.

The county offers five pension plans through CalPERS. The two largest plans, offered to safety and miscellaneous employees, are adequately funded at 89% (or a still adequate estimated 85% and 84% based on Fitch's more conservative 7% investment return assumption, respectively). However, the funded ratios reflect substantial POB issuances. Management prudently has established two-tier pension systems, and has negotiated for labor groups to pay the employee portion of pension contributions as noted above. The county's unfunded OPEB obligation is small.

SOUND TRANS DEBT SERVICE COVERAGE WITH LARGE BORROWABLE RESOURCES

Fitch's 'F1+' rating reflects the sound note repayment structure, strong coverage of all note repayment set-asides when borrowable funds are included, and the extremely large size of the borrowable resources relative to the set-aside amounts. The notes equal 9.0% of the county's annual revenues, which Fitch views as moderate.

The first set-aside is on Jan. 31, 2015 and pays 60% of the note's debt service. The second is on May 31, 2015 and pays the remaining 40% of debt service ahead of the note's final maturity date of June 30, 2015. Set-asides are deposited with an outside paying agent.

Cash flow note coverage (CFNC), measured by projected month-end cash balances plus note debt service over note debt service, at the first set-aside is a satisfactory 1.53x and jumps to an extremely high 13.3x with consideration of $1.8 billion of borrowable resources. CNFC at the second set-aside is also satisfactory at 1.45x and rises to an extremely high 19.1x with borrowable resources.

Cash management policies are prudent, including daily cash flow reports, monthly cash flow meetings, and cash flow reports provided publicly on a quarterly basis. The county's updated estimates for cash flow in fiscal 2014 are very close to initial projections on a net basis and Fitch rates the county's investment pool 'AAA'.

Fitch also affirms the following:

--Riverside County POBs, taxable series 2005A at 'A+';

--Riverside County COPs, series 2003, 2003A, 2003B, 2005A, 2005B, 2007A, 2007B, 2009, at 'A+';

--Riverside County Asset Leasing Corporation (CORAL) COPS, series 2006A and LRBs, series 1993B, 1997A, 1997B, 1997C, 2013A at 'A+';

--Riverside County Palm Desert Financing Authority (LRBs), series 2003A at 'A+';

--Riverside County Public Financing Authority LRBs series 2012 at 'A+';

--Southwest Communities Financing Authority LRBs series 2008A at 'A+'.

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 and Zillow.

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

Solicitation Status

http://www.fitchratings.com/gws/en/disclosure/solicitation?pr_id=831218

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Contacts

Fitch Ratings, Inc.
Primary Analyst
Scott Monroe
Director
+1-415-732-5618
Fitch Ratings, Inc.
650 California Street
San Francisco, CA 94108
or
Secondary Analyst
Karen Ribble
Senior Director
+1-415-732-5611
or
Committee Chairperson
Jessalynn Moro
Managing Director
+1-212-908-0608
or
Media Relations:
Elizabeth Fogerty, New York, +1 212-908-0526
elizabeth.fogerty@fitchratings.com

Sharing

Contacts

Fitch Ratings, Inc.
Primary Analyst
Scott Monroe
Director
+1-415-732-5618
Fitch Ratings, Inc.
650 California Street
San Francisco, CA 94108
or
Secondary Analyst
Karen Ribble
Senior Director
+1-415-732-5611
or
Committee Chairperson
Jessalynn Moro
Managing Director
+1-212-908-0608
or
Media Relations:
Elizabeth Fogerty, New York, +1 212-908-0526
elizabeth.fogerty@fitchratings.com