NEW YORK--(BUSINESS WIRE)--Fitch Ratings upgrades the following San Jose Redevelopment Agency, CA (the agency) non-housing tax allocation bonds (TABs):
--$228.435 million merged area redevelopment projects TABs,
series 2003, 2008A and 2008B to 'BBB-' from 'BB';
--$1.327 billion merged area redevelopment projects TABs, series
1993, 1997, 1999, 2002, 2004A, 2005A, 2005B, 2006A-T, 2006B,
2006C, 2006D, 2007A-T, 2007B to 'BBB-' from 'BB-'.
The Rating Outlook is revised to Positive from Stable.
Pursuant to the indenture, the merged area TABs are secured by gross tax increment revenue from the project area net of certain senior pass-throughs and the 20% set-aside for housing. The TABs additionally are payable from the former 20% housing set-aside on a subordinate basis to any outstanding housing debt per dissolution statute. All TABs are also secured by debt service reserve funds; however, only the merged area redevelopment project TABs, series 2003 and 2008A and 2008B, benefit from a cash-funded reserve.
KEY RATING DRIVERS
IMPROVED DEBT SERVICE COVERAGE: The upgrade to 'BBB-' reflects a combination of Fitch's recent analytical refinement of California TABs in light of dissolution legislation (AB1x26) and growth in pledged revenue. Fitch now considers TAB liens to be closed and considers the residual housing revenues as available to pay non-housing TAB debt service. These factors have materially improved debt service coverage (DSC).
OUTLOOK REFLECTS ECONOMIC STRENGTHENING: The Positive Outlook reflects Fitch's expectation that the continuing economic development in the project area coupled with underlying assessed valuation (AV) gains over the next two years are likely to push DSC to higher levels. Closing the lien removes what was previously a notable impediment to improved coverage.
FAVORABLE LAWSUIT OUTCOME COULD BOOST DSC: The county appealed a judicial ruling in favor of the agency regarding the agency's retention of a two tax overrides. Fitch has conservatively assumed the agency does not receive these funds; however, should the agency prevail, DSC would increase to about 1.30x in fiscal 2015.
APPEALS REMAIN ELEVATED: Fitch remains concerned that pending appeals could reduce improved but just adequate coverage levels. However, Fitch estimates recent debt service coverage gains could absorb conservatively estimated granted appeals.
HIGHLY CONCENTRATED, VOLATILE TAX BASE: Taxpayer and industry concentration in the volatile technology sector remains a concern, though the industry is currently in an expansion phase. Fitch expects real estate trends will continue over the short term, adding to an adequate AV cushion and mitigating concerns about economic cyclicality.
REMOVAL OF RATING BIFURCATION: Fitch now again rates the TABs with and without cash-funded debt service reserve funds on par, reflecting the resumed adequate DSC cushion. The TABs could now absorb an AV decline equal to the 20% decline experienced between fiscal 2003-2005 and remain above 1x DSC.
LAWSUIT RESOLUTION; AV GAINS: Fitch may take positive rating action if the agency prevails in the county's override lawsuit, or if underlying AV growth with limited successful appeals results in strong tax base gains and materially increased DSC.
San Jose, with a population of about one million is located in the center of Silicon Valley, about 55 miles south of San Francisco. The agency's large merged project area covers over 8,000 acres or roughly 7% of the city acreage.
SAN JOSE ECONOMY, PROJECT AREA ENJOYING SOLID RECOVERY
San Jose's economy continues to improve markedly. Job growth remains solid at 2.5% from April 2013 to April 2014. The city and agency benefit from above-average economic indicators, including median household income at 131% and 153% of the state and national averages, respectively, and a poverty rate about 77% of the national average.
June 2014 home values increased 17% year-over-year, according to Zillow. The local employment and residential real estate markets' strength may translate into a fourth consecutive year of AV gains. However, it is unclear to what extent these factors will impact the project area's predominantly commercial and industrial tax base. Fiscal 2016 AV will be determined by real estate values as of Jan. 1, 2015.
Recent project area AV performance has been positive but highlights the inherent volatility. The county assessor recently reported that fiscal 2015 AV increased a solid 7%. This gain coincides with a solid recovery of the city's housing market and an expanding technology sector.
LARGE PROJECT AREA; HIGHLY CONCENTRATED
The merged project area is mature and sizeable, covering 28 noncontiguous square miles and spanning 20 miles north to south. The incremental value (IV) equals 19x the base year value, reducing somewhat the volatility in pledged revenues relative to declines in AV. The project area tax base is highly concentrated in its top taxpayers, which make up 34% of IV, and in the high technology sector. Top taxpayers include companies such as Cisco Systems Inc., eBay, Hitachi and Adobe and others which are important to the regional economy. This sector has experienced significant volatility in recent years.
Also contributing to the volatility is the high level of personal property & equipment (PP&E), a component of unsecured AV. PP&E and unsecured property account for an estimated 14% and 19% of fiscal 2015 AV, respectively, down from peaks of 19% and 23%, in fiscal 2012.
IMPROVED BUT STILL JUST ADEQUATE DSC
The solid fiscal 2015 AV gain ($8.5 million increase in pledged revenues) and availability of residual housing set aside revenues ($16.3 million increase) raises Fitch-estimated fiscal 2015 DSC of $133 million to 1.24x from 1.12x in fiscal 2014 and just over 1x in fiscal 2012. Fitch estimates AV could fall 20.5% from current levels before coverage would drop to 1.0x.
Although DSC has improved markedly compared in recent fiscal years, Fitch has some concerns about the elevated amount of pending appeals noted below and the volatility of the project area's tax increment revenues.
IMPROVING BUT STILL LARGE BACKLOG OF APPEALS REMAINS
Fitch believes long-term prospects for economic growth in the city and project area are favorable, but appeals may result in a somewhat uneven AV and pledged revenue recovery over the medium term. The number of appeals filed for fiscal 2013 (the latest date available) is down from its peak in fiscal 2011. However, the number and value of appeals outstanding remains elevated. The combined disputed value of all outstanding appeals is about $9.1 billion (41% of fiscal 2015 AV), down from $9.4 billion as of March 2012.
Since 2007 the assessor has granted an average of 14% of disputed amounts, which would equate to approximately 5.7% of fiscal 2015 AV based on current conditions, if granted in a single year. The rating conservatively assumes this rate of appeals, despite solid improvement in real estate conditions and a marked reduction in granted appeals in fiscal 2012 compared to fiscal years 2010 and 2011.
OVERRIDE LAWSUIT RULED IN AGENCY'S FAVOR, BUT APPEALED
The successor agency (SA) filed a lawsuit in superior court against the county and the court ruled in favor of the agency in June. The lawsuit would require that the county stop withholding an estimated $9.4 million (for fiscal 2015) in annual tax revenue derived from voter-approved tax overrides (0.045% of AV) the agency contends is pledged to bondholders.
Fitch has conservatively excluded override revenues in its DSC calculations. If the SA does receive the $9.4 million for fiscal 2015, Fitch estimates debt service coverage would rise to 1.30x and require a 24% decline to reach 1.x MADS DSC.
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.
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
U.S. Local Government Tax-Supported Rating Criteria