AUSTIN, Texas--(BUSINESS WIRE)--Fitch Ratings assigns an 'AA' rating to the following El Paso, Texas' (the city) obligations:
--$58.5 million general obligation (GO) refunding bonds, series 2014A;
--$71.8 million combination tax and revenue certificates of obligation (COs), series 2014A.
Both series are scheduled to sell via negotiation July 30th. The GO bond proceeds will be used to refund certain outstanding obligations for savings. The COs will fund the construction and equipment of city facilities and parks as well as other city improvements that include various street and transportation projects.
In addition, Fitch affirms the following city debt:
--$587.7 million GO bonds at 'AA' (pre-refunding);
--$440.5 million COs at 'AA';
--$60.8 million El Paso Downtown Development Corporation (DDC) special revenue bonds at 'A+'.
The Rating Outlook is Stable.
The GOs and COs are secured by an ad valorem tax levied on all taxable property within the city, limited to $2.50 per $100 taxable assessed valuation (TAV). The COs are also secured by a de minimis (limited to $1,000) pledge of surplus revenues from the city's waterworks and sewer system.
The DDC special revenue bonds are secured by annually appropriated lease payments made by the city to the DDC from lawfully available revenue, which includes most city operating revenue except property taxes.
KEY RATING DRIVERS
ADEQUATE FINANCIAL RESERVES: The city's reserves are expected to remain adequate despite projections of a modest draw on reserves at fiscal 2014 year-end. Fitch recognizes that management's response to revenue fluctuations has been timely, but also notes that regaining budget balance has been somewhat dependent on temporary solutions.
ECONOMIC EXPANSION AND DIVERSIFICATION: Much of the city's economic activity has come from its position as a key NAFTA trade corridor near Mexico's maquiladora assembly plants, as well as the presence of Fort Bliss. Recent expansion at Fort Bliss and an emerging healthcare sector serve as catalysts for further economic diversification.
HIGH OVERALL DEBT; GROWING FIXED COSTS: Overall debt levels are high relative to market values. Also, the pace of principal amortization is slightly below average. Fitch expresses concern over the city's underfunding of annual required contributions (ARC) and growing unfunded liability for the police and fire pension plans.
LARGE CAPITAL PLAN: The city's capital improvement plan (CIP) and debt issuance plans continue to increase in support of the city's ongoing growth-related needs and voter-approved quality of life projects. Balancing an increasing debt load with tax base growth and capital needs is essential to the rating given the already above-average debt service tax rate.
ESCALATING PENSION LIABILITY: Continued underfunding of the city's pension programs--particularly the public safety plan--will increase the liability of the city and would not be consistent with the current rating.
DETERIORATION OF RESERVES: Further reduction in the city's reserves or use of non-recurring means to achieve budget balance also could apply downward pressure to the rating.
SATISFACTORY FINANCIAL PROFILE DESPITE PROJECTED FISCAL 2014 DRAWDOWN
The city's financial position was affected by modest revenue contraction during the recession and ongoing growth-related operating and capital pressures. Through fiscal 2012, the city was able to make timely adjustments resulting in balanced operations amidst growing pressures. However, Fitch notes that one of these adjustments was underfunding of pension obligations, which has resulted in growing liabilities.
In fiscal 2013, the city drew down $5 million in reserves, greater than the $4 million previously projected. The shortfall was due to a $3 million tax appeal payment to its largest taxpayer, (Western Refining Company LP) and relocation costs of city hall offices. The resulting unrestricted general fund balance of $33.7 million (including a $16 million charter required reserve), or 10.1% of fiscal 2013 spending is considered adequate.
The fiscal 2014 budget was adopted as balanced, incorporating the reduced taxable value of Western Refining. General fund spending increased 5.3% from the adopted fiscal 2013 budget, supported in part by a two cent increase to the property tax rate to $0.68 per $100 of TAV and what Fitch believed to be an optimistic, 4.4% increase in sales tax revenues projected over the prior year budget.
Interim fiscal 2014 results point to a moderate revenue shortfall of $7 million (about 2% below budget) in sales taxes, franchise fees, and fines and forfeitures. City officials report that mid-year departmental budget cuts, a hard hiring freeze, delayed police and fire academies, and deferral of budgeted cash capital outlays are expected to significantly offset the budget gap, which is presently estimated at under $2 million. Fitch recognizes the projected drawdown on reserves at fiscal 2014 year-end is modestly sized, but cautions that further erosion of the city's reserves may apply downward pressure to the rating, given the city's growth pressures and large long term liabilities.
PRELIMINARY FISCAL 2015 BUDGET BALANCED
The fiscal 2015 $353 million preliminary general fund budget is balanced and relatively flat as compared to the prior year's adopted budget. A two cent tax rate increase for debt service and operations is proposed along with a 1% increase in the electric franchise fee as well as increases to other city fees. A total 5% in departmental spending cuts that eliminated about 115 vacant positions are also incorporated in the budget.
City officials believe this budget generally contains more realistic revenue projections with the use of prior years' actual trends and a recently developed multi-year econometric forecast for the city's key revenue streams. Sales taxes are projected to grow to $80.6 million or 3% from the $78.3 million anticipated at fiscal 2014 year-end, which Fitch believes to be a somewhat more conservative assumption.
TREND OF MODEST ANNUAL TAX BASE GROWTH RECEDES IN FISCAL 2015
Increases in the city's TAV slowed after double-digit annual percentage growth between fiscals 2005 and 2008. Slower growth beginning in fiscal 2009 was in line with weaker economic conditions nationwide, but gains resumed at 3% and 4% in fiscal years 2012 and 2013, respectively as economic conditions improved. Fiscal 2014 TAV grew modestly by 1.3% to $32.5 billion, with new construction offsetting a substantial $460 million or 59% reduction in Western Refining's taxable value. TAV gains have averaged 2.4% annually over the last five fiscal years (fiscals 2009 - 2014)
City officials indicate various retail and commercial development projects are underway throughout the city. Nonetheless, preliminary values for fiscal 2015 reflect a modest 2% decline, reversing prior years' trends. Management attributes much of the decline to the likely conservatism employed by appraisal district after a significant review of commercial values last year and reports values have remained generally stable through the protest process year to date. For purposes of capital planning and budgeting, the city has assumed a 1.5% annual growth rate in fiscal 2016 through fiscal 2018 followed by 2% annual growth through fiscal 2020. Fitch believes assumptions of a return to these levels of growth over the next five years are reasonable given historical TAV performance and recent development trends.
HIGH DEBT BURDEN AND LARGE CAPITAL PLAN
The area's growth-related capital pressures have led to a high overall debt burden relative to market value at nearly 8%, which is slightly more moderate on a per capita basis at roughly $4,100. Overlapping debt is comprised in large part of debt issued by El Paso Independent School District (ISD) and Socorro ISD, whose unlimited tax GOs are rated 'AA' and 'AA-' by Fitch, respectively. Both aforementioned metrics do not factor in the significant state support received by these and other local school districts for their debt due to their relatively low property wealth levels. Including this issuance, principal amortization is slightly below average at 48% of principal retired in ten years. Given the city's plans to issue additional debt for recently voter-approved quality of life projects, as well as COs for transportation and public infrastructure projects, debt levels are projected to remain elevated for the near-to medium-term. The city's fiscal 2014 - 2018 debt funded CIP, which includes some of the voter-approved projects, totals $400 million. The city plans to issue approximately $102 million GO bonds and COs in the fall of 2015.
In November 2012 voters passed two GO propositions totaling $473 million for quality of life projects (i.e. parks and recreation, zoo, open space, libraries, museum, and performing arts). The bond plan had a healthy 70% voter approval rate. The city projects the debt impact from issuance of the bonds will not exceed $0.05 per $100 of TAV assuming issuance over a 10-year period even with the aforementioned TAV decline in fiscal 2015 and the 1.5% - 2% annual tax base growth thereafter.
Fitch believes the city will be challenged to balance ongoing capital needs against an already above-average debt service tax rate, slower tax base growth in the near term, and the area's below-average socio-economic characteristics.
ADEQUATE PENSION FUNDED LEVELS DESPITE UNDERFUNDING
The city maintains two single-employer pension plans: a city employee pension fund (CEPF) and a fire and police pension fund (FPPF).
The city issued $212 million in voter-authorized pension obligation bonds to address underfunding in the FPPF. The funded position for the combined plans is estimated at an adequate 71% as of fiscal 2013, adjusted for a 7% return on investment.
The city has contributed between 97% and 99% of its annual pension cost (APC) over the past three fiscal years for the CEPF. However, contributions to the fire and police divisions of the FPPF were about 10% and 25% below the APC respectively, in both fiscal years 2011 and 2012. For fiscal 2013 this gap increased; contributions for the fire and police divisions of the FPPF were 16% and 32% below the APC respectively. The actual funding contribution was relatively static, reflective of the city's rapidly growing pension costs. Pension payments totaled about 7.4% of audited fiscal 2013 governmental spending, compared to 9% had the city paid the required amount.
The city's underfunding is a credit concern, and continuation of this practice would not be consistent with the current 'AA' rating. The preliminary fiscal 2015 budget includes some funding for additional pension contribution according to management, although Fitch notes the budget is yet to be finalized by city council.
Public safety employees hired after July 2007 participate in a less generous, second-tier of pension benefits for new employees that should reduce growth in the overall liability over time. A similarly structured program was also implemented for general city employees beginning in fiscal 2012. Carrying costs for debt service, retiree healthcare and required pension payments were moderately high in fiscal 2013 at 22% of governmental spending.
BALLPARK PROJECT NOT ESSENTIAL TO CORE OPERATIONS
The DDC special revenue bonds are secured by annually appropriated lease payments made by the city to the DDC from lawfully available revenue, which includes most city revenue except property taxes. Fitch does not consider the leased asset (ballpark) to be essential to the city's core governmental operations, leading to a two-notch distinction between the DDC special revenue bonds and the city's limited tax bonds. However, the statutory requirement that ballpark costs are the sole eligible use of receipts of the recent voter-approved 2% increase in hotel occupancy tax lessens Fitch's concerns about the city's incentive to make full and timely annual appropriations.
El Paso is the sixth largest city in Texas. Its current population estimate of more than 685,000 reflects ongoing growth at an average annual rate of nearly 1.5% since the 2000 census, slightly below the state's population growth rate of roughly 2% for the same period. City income levels as measured by median household income are below average, but continue to grow at a faster clip than state and national levels.
Much of the city's economic activity has historically come from its position as a key NAFTA trade corridor near Mexico's maquiladora assembly plants as well as the presence of Fort Bliss, the Army's second largest installation. Recent investment in the medical sector and the opening of the Texas Tech University Health Sciences Center further helps to diversify the city's economic base.
The Pentagon's 2005 base realignment and closure (BRAC) recommendations led to the expansion of troops at Fort Bliss with corresponding relocation of military family members. The ongoing expansion of Fort Bliss' troop strength and military facilities has boosted residential and commercial construction citywide, although the full economic impact of the expansion is still unfolding. City management deems any downsizing of troops stationed locally that might stem from Congress' current BRAC discussions as likely to be modest and not in excess of a battalion (3,000 soldiers). Fitch believes this is reasonable given the significant investment that has been made by the military recently, inclusive of the $700 million Beaumont Army Medical Center presently under construction.
Government and educational entities comprise most of the top 10 civilian employers, which provide roughly 25% of the area's employment. Major additions to the city's retail, commercial and healthcare sectors brought unemployment rates down to record lows in 2007 and 2008, although they rose notably during the last recession along with the national unemployment rate. The city's unemployment rate is down on a year-over-year basis to 6.4% in May 2014 from 8.2% in May 2013 due in part to a roughly 1% loss of labor force, but remained above the state's (5.1%) and U.S. average of 6.1%.
In addition to the sources of information identified in the Tax-Supported Rating Criteria, this action was additionally informed by information from Creditscope, Texas Municipal Advisory Council, and LoanPerformance, Inc.
Additional information is available at 'www.fitchratings.com'.
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