Fitch Rates Louisiana's $228MM GO Bonds 'AA'; Outlook Stable

NEW YORK--()--Fitch Ratings assigns an 'AA' rating to the following general obligation (GO) issue of the state of Louisiana:

--$228.31 million GO refunding bonds, series 2015-A.

The bonds are expected to sell via negotiation during the month of February 2015, subject to market conditions.

In addition, Fitch affirms the following ratings:

--Approximately $2.8 billion in outstanding Louisiana GO bonds at 'AA';

--Approximately $769.9 million in outstanding Louisiana appropriation-backed bonds issued by various issuers at 'AA-'.

The Rating Outlook is Stable.

SECURITY

The bonds are general obligations of the state of Louisiana, whose full faith and credit are pledged. The bonds are payable from the bond security and redemption fund (BSRF), on parity with outstanding general obligations, and have a first lien on the fund, which receives all money deposited in the state treasury not otherwise dedicated.

KEY RATING DRIVERS

COMMODITY-BASED ECONOMY: The state's commodity-based, cyclical economy, heavily linked to oil and gas production and petrochemical manufacturing, has modestly diversified but almost one-third of the state's gross domestic product (GDP) continues to be derived from these economic sources. Fitch notes that the current low price for crude oil has delayed economic investments in the state, and should prices remain subdued long term, Fitch expects declines in related employment. The state has twice revised its revenue forecast for the current fiscal year largely due to the oil price plunge.

PERSISTENT BUDGETARY IMBALANCE: Financial operations for the current fiscal year that began on July 1, 2014 continue a long-standing trend of revenue under-performance, reliance on one-time actions for budgetary solutions, and spending pressure from education and Medicaid, deepened by sharp cuts in the state's federal Medicaid reimbursement rate. The state applied cash balances in fiscal 2014 to fund operations in that year and has been challenged by a loss of mineral-related revenues in fiscal 2015. These issues have coalesced to create a forecast continuing budget imbalance of $1.6 billion for fiscal 2016 for which the state is expected to outline its response by the end of this month.

PROACTIVE STATE RESPONSE: The state has responded proactively to the revenue loss in fiscal 2015 and has twice adjusted expenditures to meet the revised revenue estimates, but these actions were in addition to various fund sweeps and the recognition of revenue that would otherwise be available to fund operations in fiscal 2016, growing the shortfall in that year. The state's budget stabilization fund is expected to reach $514 million (4.9% of General Fund revenue) at the end of fiscal 2015 from an enacted appropriation to the fund and a partial application of cash surplus from fiscal 2014, based on current budget assumptions.

MODERATE DEBT SUPPORTED BY STRONG GO LEGAL PROVISIONS: Debt levels are moderate and debt issuance is well controlled by policy. There are strong legal provisions for GO debt, with all non-dedicated revenues flowing into the bond security and redemption fund to provide for debt service prior to operations.

WEAK PENSION FUNDING LEVELS: Funding of the state's two largest pension systems is below average and has been declining. Recent reform efforts may contribute to some modest improvement, although contributions have not met actuarially-calculated levels for all major plans.

RATING SENSITIVITIES

The state's rating is sensitive to shifts in key fundamental credit characteristics including continued proactive management of its challenged financial operations. Emergence of more severe fiscal and structural challenges or evidence of reduced fiscal flexibility without a proactive response could lead to a Negative Outlook.

CREDIT PROFILE

Louisiana's 'AA' GO rating reflects the state's focus on repeatedly returning to budget balance amidst challenged financial operations and an economy that remains heavily reliant on natural resources and the volatile energy industry. The economy has shown slow but steady growth since the recession but Fitch believes the current turmoil in oil prices may reverse some of those gains. Financial operations are persistently imbalanced, with the state relying on one-time measures for immediate gap-closing, which along with overly optimistic revenue projections, have resulted in the need for successive years of improvised mid-year budget corrections. While GF cash position has narrowed in recent years, accessible cash in other operating funds remains considerable and the state's BSF can be applied to financial shortfalls with legislative consent. State debt levels remain moderate, and the funding levels for the state's two largest pension systems are below average.

CONTINUING FINANCIAL CHALLENGES

Louisiana has responded proactively to forecast budget gaps, which the state has closed through both structural and non-recurring actions, as well as to the negative effects of steep cuts in its federal Medicaid reimbursement rates based on higher state income levels and the ending of additional reimbursement related to Hurricanes Katrina and Rita. The enacted $8.4 billion GF budget ($25.4 billion all-funds) for fiscal 2014 eliminated a projected all-funds continuing budget gap of $1.28 billion through expenditure reductions as well as an estimated $780 million in savings on an all-funds basis from privatizing most of the state's public hospitals. The budget also included an allocation of $200 million in one-time receipts from a tax amnesty program, scheduled to occur again in fiscal 2015, and $16 million from certain bond reimbursements to the state's Medicaid program. The Jan. 15, 2014 meeting of the revenue estimating conference (REC) reduced expected receipts to the GF in fiscal 2014 by $34.7 million to $8.3 billion, which the state believed would be filled by better than anticipated receipts from fiscal 2014's tax amnesty program.

In October 2014, the state reported that the GF recorded net revenues that were $140.6 million less than its spent appropriations in fiscal 2014, incorporating $121 million less in tax revenue than had been forecast by the REC. The reduction in available tax revenue includes an additional, unexpected $62.7 million that flowed from the GF to the state's Overcollections Fund (a fund that exists outside the GF but funds many similar expenditures). The balance of the shortfall incorporated a $61 million shortfall in the personal income tax (PIT; 2.2%) and an $86 million shortfall in mineral production receipts (1.4%) offset by positive results in areas such as corporate income tax (CIT) receipts, up $50 million from the January REC forecast. The state chose to close the revenue shortfall in fiscal 2014 by applying $319 million in cash balance that had not been recognized previously as a GF resource, leaving a balance of $178.5 million that had been considered as part of the GF's free cash as available to fund certain expenditures under state statute.

The enacted $8.6 billion fiscal 2015 GF budget ($24.6 billion all-funds) increased GF spending by 3% ($250 million) from the enacted fiscal 2014 budget while all-funds spending was budgeted to decrease by about $800 million. A large share of the decrease in the all-funds budget reflected about $500 million from the falloff of federal funding for hurricane restoration expenditures as that effort continues to wind down. Net GF revenues in support of the fiscal 2015 budget were forecast to grow by 4.4%, incorporating 4.3% growth in the PIT, 25.5% growth in corporate taxes, a modest 1.1% growth in sales tax collections, $100 million in receipts from the second year of the tax amnesty program, and a 6.1% falloff in mineral production tax revenue. As actual revenue results for fiscal 2014 fell below preliminary estimates, stronger 5.9% growth in GF revenues was now required in fiscal 2015 in order to reach the forecast; a challenge that Fitch believe the state would find difficult to achieve.

The REC's forecast for mineral production-related taxes, fees, and royalties in fiscal 2015 was premised on an average oil price per barrel of $96.69; a level now twice revised by the REC to a current low of $69.36 per barrel. In total, the state currently anticipates receiving $287 million less in energy-related taxes than its original forecast. Other variations from the forecast used to enact the budget include lower PIT receipts (down 2.1% from forecast for projected growth of 4.3% from fiscal 2014) offset by 2.6% additional growth in sales tax receipts (increased to 3.2% growth from fiscal 2014), contributing to a net total estimated revenue shortfall of $274 million (down 3.2% from forecast). In response to the revenue shortfalls, the state has recommended about $95 million in net expenditure reductions while allocating about $179 million in fund sweeps and revenue reallocations to the GF. The state has budgeted for a $25 million deposit to the BSF and reports that the deposit remains on track and will be increased by $44.6 million from the fiscal 2014 surplus cash allocation that is required by the state's constitution and statutes. If this plan remains on track, the BSF's balance would total $514 million at the end of fiscal 2015, equal to 4.9% of GF revenues.

The governor is expected to propose an operating budget for the fiscal year beginning on July 1, 2015 prior to the end of this month. The proposed budget is expected to solve for an estimated continuing budget gap in fiscal 2016 of $1.6 billion; reduced to $1.3 billion absent inflation and non-recurring items. In the enacted budget for fiscal 2016, Fitch will be looking for actions that contribute to recurring budget balance. The state has repeatedly applied one-time and nonrecurring measures to solve for its budget imbalances far beyond the end of the recession. In support of the budget, the REC recently forecast $8.5 billion in GF revenue in fiscal 2016 would be available for appropriation, a level that is 1.3% above the current estimate for fiscal 2015. The forecast incorporates the expectation of 4.1% growth in the PIT, 2.6% growth in sales tax revenues, and a further 11.4% decline in energy-related taxes. To the extent that the downturn in crude oil prices has a long-term and widespread impact on the state's economy, Fitch believes the PIT forecast may not be fully realized.

STEADY ECONOMIC GROWTH IN RESOURCE-BASED ECONOMY

Louisiana's economy is resource-based as a major producer of oil and gas, and much of its manufacturing is dominated by petroleum and chemical production; combined, the state's petroleum and coal products manufacturing and chemical products manufacturing contributed $45.5 billion (20.3%) to the state's GDP in 2012. The state was ranked ninth highest among the states in 2013 for crude oil production when not including its section of the federally administered Outer Continental Shelf and is ranked second among the states for natural gas production. In total, the state's mining activity (includes oil, gas, and coal) contributed $28 billion (12.5%) toward the state's GDP in 2012 and the state maintains 19 operating refineries that process 20% of the nation's crude oil. Tourism is also important, and the port system is among the largest in the world. Flood protection in the New Orleans area has been enhanced since the hurricanes in 2005, but Louisiana remains vulnerable to severe storm activity.

Given the concentration in the development and processing of crude oil, the state's economy is exposed to the impacts of a long-term downward price spiral. While many of the state's own oil production operations appear to be stable, Fitch expects that companies that support production efforts across the U.S. will face spending cuts due to the pull back of orders. Sasol Limited, a South African energy company, recently put on hold its plans to locate a gas to liquids (LNG) complex in the state due to the low oil prices. The complex would have entailed a capital investment of more than $16 billion and created approximately 850 direct and 4,000 indirect jobs in the state. Several other LNG projects in the state appear to be continuing as scheduled.

Louisiana's economic recovery has seen slow but steady year-over-year (yoy) employment gains since December 2010 and the state has fully recovered employment lost during the recession. Employment growth of 1.5% yoy in December 2014 trailed that of the nation at 2.2% yoy but there were employment gains across most sectors except for modest declines in the natural resources and mining, government, and information sectors. Professional and business services experienced the largest yoy increase at 4.3%, followed by leisure and hospitality at 2.8%.

The state's annual unemployment rate has trailed that of the nation since 2006 and the rate in 2013 was 6.2% compared to a national rate of 7.4%. Although there was good yoy employment growth in September, the strong 4.7% yoy growth in the state's labor force as more entrants seek employment increased the state's unemployment rate in September to 6.7% as compared to 5.6% for the nation. Quarterly personal income trends have been positive, although the state's growth rates tend to trail both the region and nation. Personal income per capita in the state is 92% of the U.S. average.

MODERATE DEBT LEVELS WITH WEAK PENSION FUNDING

State debt levels remain moderate; equaling about 3.7% of 2013 personal income and debt issuance is well controlled by policy. The state had been approaching its constitutional debt limit of annual debt service equal to 6% of GF and dedicated fund revenue; however, a law passed in the 2013 legislative session expanding the base of revenues forecasted by the REC inadvertently increased the state's debt issuance capacity. In response, the governor signed an executive order prohibiting any agency in fiscal 2015 from initiating or approving any debt that would exceed the debt limit as previously calculated. The state bond commission, which approves all issuance of debt in the state, resolved in August 2014 that it would not approve any issuance of debt that would exceed the 6% limit determined under the previously calculated method in perpetuity.

Funding of the state's two largest pension systems is below average and the state has initiated various reform measures to improve the funded ratios. Under the new GASB 67 standard for pension systems, the state employees' retirement system (LASERS) reported a 65% ratio of pension assets to liabilities in fiscal 2014 with a net pension liability of $6.3 billion borne by the state; the teachers' retirement system (TRS) report a ratio of 63.7% and a net pension liability of $10.2 billion. Using Fitch's more conservative 7% discount rate assumption, the funded ratio for the plans declines to 60.1% and 58.8%, respectively. While not directly comparable, the actuarially determined funded ratio for LASERS was 59.3% in fiscal 2014, while TRS' ratio was 57.4%.

Reform efforts in the 2014 legislative session included the passage of Act 399 that instituted reforms to how cost of living increases are granted to retirees and how excess investment earnings are to be applied to address the unfunded actuarially determined liabilities (UAALs), as well as the re-amortization schedule of the UAALs at various funded levels. The reforms are expected to reduce employer contributions and modestly improve the funded ratios of the systems. Annual contributions to LASERS have been consistently below the actuarially-calculated level.

On a combined basis, the burden of the state's net tax-supported debt and adjusted unfunded pension (UAAL) obligations was over 16% of 2013 personal income, well above the 6.1% average for U.S. states as calculated in 2014. The calculations include 100% of the liability for both LASERS and TRS, which are both the responsibility of the state. That ratio is expected to decline in 2015 due to the lowering of the systems' unfunded liabilities from strong investment returns in fiscal 2014.

Additional information is available at 'www.fitchratings.com'.

In addition to the sources of information identified in the 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).

Applicable Criteria and Related Research:

Tax-Supported Rating Criteria

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

U.S. State Government Tax-Supported Rating Criteria

http://www.fitchratings.com/creditdesk/reports/report_frame.cfm?rpt_id=686033

Additional Disclosure

Solicitation Status

http://www.fitchratings.com/gws/en/disclosure/solicitation?pr_id=979550

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Contacts

Fitch Ratings
Primary Analyst:
Marcy Block, +1-212-908-0239
Senior Director
Fitch Ratings, Inc.
33 Whitehall Street
New York, NY 10004
or
Secondary Analyst:
Eric Kim, +1-212-908-0241
Director
or
Committee Chairperson:
Douglas Offerman, +1-212-908-0889
Senior Director
or
Elizabeth Fogerty, +1-212-908-0526
Media Relations, New York
elizabeth.fogerty@fitchratings.com

Contacts

Fitch Ratings
Primary Analyst:
Marcy Block, +1-212-908-0239
Senior Director
Fitch Ratings, Inc.
33 Whitehall Street
New York, NY 10004
or
Secondary Analyst:
Eric Kim, +1-212-908-0241
Director
or
Committee Chairperson:
Douglas Offerman, +1-212-908-0889
Senior Director
or
Elizabeth Fogerty, +1-212-908-0526
Media Relations, New York
elizabeth.fogerty@fitchratings.com