Fitch Revises New Jersey Economic Development Authority's Outlook to Stable; Rates Bonds 'A-'

NEW YORK--()--Fitch Ratings assigns an 'A-' rating to the following obligations of the state of New Jersey Economic Development Authority (NJEDA):

--$500 million school facilities construction bonds, 2015 series WW;

--$1.159 billion school facilities construction refunding bonds, 2015 series XX;

--$574.97 million school facilities construction refunding bonds, 2015 series YY (federally taxable).

The bonds are expected to sell via negotiation the week of Aug. 25, 2015.

In addition, Fitch has affirmed the following ratings for the state of New Jersey:

--$2.37 billion general obligation (GO) bonds at 'A';

--$884.6 million Garden State Preservation Trust bonds at 'A';

--Approximately $34.5 billion of state obligations secured by the state's annual appropriation pledge as detailed at the end of this release at 'A-';

--The program ratings assigned to New Jersey Municipal Qualified Bonds and bonds secured by the New Jersey School Bond Reserve (New Jersey School Credit Enhancement Program) at 'A-'.

Additional affirmations linked to the state's GO rating are listed at the end of this release.

The Rating Outlook is revised to Stable from Negative.

SECURITY

The notes are special, limited obligations of the NJEDA; debt service is paid under a state contract between the state treasurer and the authority subject to annual legislative appropriation.

KEY RATING DRIVERS

OUTLOOK REVISED TO STABLE FROM NEGATIVE: The Outlook revision to Stable from Negative reflects Fitch's assessment that the state's near-term budget risks have abated and that the state will address structural budget challenges in a manner consistent with its 'A' GO rating, which is Fitch's second lowest rating of a U.S. state. Recent revenue performance has been more positive and revenue forecasts for the current fiscal year appear conservative, reducing the threat of late-year budget underperformance that has plagued the state in recent years. Despite this improvement, structural budget imbalance continues, encapsulated in pension contributions that are far below actuarially-recommended levels, and continued escalation of pension liabilities over most of the next decade is expected, barring consensus on a new round of reforms.

APPROPRIATION OBLIGATION OF THE STATE: State contract payments provide for debt service on NJEDA obligations; payments must be appropriated annually by the state legislature, resulting in a rating one notch below the state's 'A' GO bond rating.

LONG-TERM LIABILITIES CONSIDERABLE: Above-average state debt obligations are compounded by significant and growing contribution requirements for the state's unfunded retirement liabilities. Continued pension funded ratio deterioration is projected through at least fiscal 2022, based on the governor's current proposed schedule of escalating pension contributions, absorbing a significant share of expected organic revenue growth to fulfill.

WEALTHY ECONOMY AND LAGGING RECOVERY: New Jersey benefits from a wealthy populace and a broad and diverse economy. However, the state's economic performance has lagged the nation through the current expansion, with slow year-over-year (yoy) employment growth continuing through June 2015 and unemployment rates above the national average.

MINIMAL CASH BALANCES RESULT IN LIMITED OPERATING FLEXIBILITY: Minimal cash balances have been maintained in recent years and the state has no internal financial reserves to absorb unforeseen needs or revenue under-performance. The state estimates the fund balance improved to 1.9% of appropriations in fiscal 2015 with a further increase budgeted for fiscal 2016.

BROAD EXPENDITURE REDUCTION AUTHORITY: The governor has strong executive powers to implement any necessary expenditure reductions to balance the budget, and the state has a consistent history of doing so.

RATING SENSITIVITIES

APPROPRIATION RATINGS LINKED TO STATE GO CREDIT: The rating on the appropriation-backed bonds is sensitive to movement on New Jersey's GO bond rating to which it is linked.

GO RATING: The GO rating is sensitive to the state's management of its budget and liability challenges.

CREDIT PROFILE

Fitch's revision of New Jersey's Outlook to Stable from Negative incorporates the recent signs of improved operating performance and the immediate respite provided by the recent state supreme court decision relieving the state from making legislated pension contributions. However, the Stable Outlook at an 'A' GO rating level reflects Fitch's view that a multitude of factors leave the state's credit quality well below most of its peers for the foreseeable future. These factors include spending pressures, structural budget imbalance evidenced by persistent underfunding of liabilities, weak liquidity, lagging economic performance and the absence of consensus on short and long-term solutions to shift the state toward more sustainable finances.

New Jersey benefits from high wealth and a broad economy; these positives are offset, however, by a high debt burden and sizable unfunded retiree liabilities. A previous schedule of escalating 1/7 contributions toward the pension systems' actuarially-recommended contributions (ARC) was recently ruled unenforceable by the state supreme court, leaving the system more exposed to future underfunding, in Fitch's view.

FINANCIAL OPERATIONS ARE STRUCTURALLY UNBALANCED

The state's fiscal 2014 fiscal performance was challenged by overly optimistic revenue projections, contributing to a late-year $1 billion revenue gap on the $33 billion operating budget. When combined with other revenue and expenditure adjustments, the shortfall also created a $1.7 billion budget gap for fiscal 2015. To address the gaps in both years, the governor reduced the 2014 budgeted $1.58 billion pension contribution by $887 million and proposed a $1.57 billion reduction in the fiscal 2015 pension contribution.

The pension cuts were challenged but were ultimately endorsed by the courts. A June 2015 state supreme court decision upheld the lower fiscal 2015 contribution amount, ruling that state financial obligations in excess of a low amount are subject to annual legislative appropriation unless approved by voters, which the legislated reforms in 2010 were not. The ruling effectively voided the escalating schedule of payments toward the pension ARC included in the statutory agreement.

Revenues in support of the originally enacted $32.5 billion fiscal 2015 budget, which ended on June 30, were forecast to increase by 3.5%. Fitch estimates one-time actions included in the budget totaled $2.75 billion (8.5% of the fiscal 2015 operating budget), including the pension contribution cut noted earlier. The year-end operating fund balance was forecast at $388 million.

Current, estimated results for fiscal 2015 are better than originally forecast, with 5.4% operating revenue growth from fiscal 2014, inclusive of 2.9% growth in sales tax revenue, and 8.9% growth in PIT. Revenues from Atlantic City's casinos fell 6.6% as the industry undergoes a significant retrenchment with four of the city's 12 casinos closing.

Considering appropriation lapses and increases, including an additional $212 million contribution to the pension systems provided by the improved revenue results, the state estimates an ending operating fund balance of $627.6 million; this is a modest 1.9% of appropriations but an increase from the 0.9% balance in fiscal 2014.

FISCAL 2016 BUDGET SLOWS PENSION CONTRIBUTION RAMP-UP

In Fitch's view, the $33.8 billion budget for fiscal 2016, which began on July 1, is based on a more realistic revenue forecast than in the past. Overall 2.7% projected revenue growth from fiscal 2015 appears to be in line with current revenue trends and is based on a forecast that incorporates steady albeit slow growth. The revenue forecast includes 3.9% expected growth in the PIT (including a post-budget earned income tax credit--EITC--expansion, growth is reduced to 3%), 2.9% growth in sales tax revenue, and 3.4% growth in the CBT. State health care spending is essentially flat to fiscal 2015, aided by a significant increase in federal aid in support of Medicaid programs.

The enacted budget resets the phase-in schedule of full actuarial pension contributions. It appropriates $1.3 billion to pensions, a sizable increase from fiscal 2015 but far below the ARC and also below the level envisioned under the 2010 reform plan ramp up. The $1.3 billion payment is equal to 3/10 of the ARC under the governor's proposed phase-in that would only reach full contribution funding in fiscal 2023. Under that scenario, the state estimates the systems' aggregate unfunded ratio will reach a low 43.2% in fiscal 2022 and then improve, based on an average investment return assumption of 7.9%.

Pre-funding of pension commitments based on actuarial calculations supports budget sustainability. The risk of underfunding these commitments is well illustrated by New Jersey's current situation, with rapidly rising liability levels and an annual struggle to balance the need to fund pensions against other state priorities. The long timeframe to achieve full actuarial contribution funding under the governor's proposed schedule is expected to require significant, future revenue growth and will crowd out other state expenditures.

The budgeted pension contribution reset occurred simultaneously with a separate proposal by the governor's special pension taskforce for additional employee and retiree pension and health care reforms (detailed below). If implemented in their current form, Fitch believes the reforms could provide notable annual state cost savings and thus improve prospects for future budget sustainability. However, it did not appear that the proposals gained significant traction in the 2015 legislative session, and Fitch views the likelihood of their implementation as being remote.

Ending fund balance in fiscal 2016 was budgeted to total $765.8 million but was reduced post-budget to $577 million by enacted measures that expanded the EITC and reserved $66.2 million in expected CBT revenue that is now constitutionally dedicated to open space preservation. Fitch believes this level of fund balance, 1.7% of appropriations, provides only a limited margin of operating flexibility relative to the state's historic experience with revenue cyclicality.

ECONOMIC GROWTH HAS LAGGED THE NATION

State employment growth during most of the last decade lagged the national experience, and while growth has returned following recessionary losses, the pace of expansion remains well below the national average. Modest 3% employment growth occurred between 2012 and 2014 compared to national growth of 5.3% between those same years. The state has yet to regain the total number of jobs lost in the recession, with a 97.9% recovery rate as of June 2015 versus the nation at 102.5%.

Employment gains in 2015 continue to be slow with growth in June 2015 at 1.1% yoy as compared to 2.1% yoy nationally. The state's unemployment rate of 6.1% for June was improved from the rate one year prior of 6.5% and differing from trends through most of 2014, workforce participation notably increased, with 1% seasonally-adjusted labor force growth, partly contributing to the increase in the unemployment rate from one year prior.

New Jersey's wealth levels are high, with 2014 per capita personal income equaling 123% of the national level, ranking it third among the states.

COMPARATIVELY HIGH LONG-TERM LIABILITIES

New Jersey's debt levels are high for a U.S. state, and ongoing capital demands for school construction, environmental protection and transportation remain large. Net tax-supported debt as of June 30, 2015 equaled 7.4% of 2014 personal income, a fairly consistent level in recent years.

Unfunded pension liabilities attributable to the state are also well above average. These liabilities are expected to increase over the next several years absent additional reform measures and materially higher contributions than currently expected.

Under the new GASB 67 standard for pension systems, in the aggregate, the state's seven systems covering retired state employees and local teachers have assets sufficient to cover only 32.6% of projected liabilities as of June 30, 2014, and all of New Jersey's large plans show significantly lower ratios of assets to liabilities under the new standards. For the two largest plans, covering state public employees and teachers, the new disclosure reports that assets equaled only 27.9% of liabilities for state public employees (PERS), and only 34.1% of liabilities for teachers. In contrast, as of July 1, 2014, the last valuation date, the funded ratios for the state employees and teachers plans were 43.8% and 54%, respectively, as reported under the prior GASB standards.

Moreover, six of the seven state plans under the new GASB reporting disclose specific depletion dates for when assets set aside to fund benefits are expected to run out, incorporating the lack of state pension contributions in fiscals 2009 and 2010 and the appropriation cuts in fiscals 2014 and 2015. The state employees' and teachers' plans forecast depletion dates in 2024 and 2027, respectively. Plan liabilities payable after the depletion dates are discounted at a 4.29% muni bond index rate, rather than the 7.9% rate assumed for investment returns, elevating the reported liability. Fitch has calculated New Jersey's net tax-supported debt and adjusted, unfunded pension obligations attributable to the state, as adjusted for a 7% return, at 16.5% of 2013 personal income, well above the median for all U.S. states.

The governor's special pension taskforce proposed wide-ranging reform to state and local pension and retiree health benefits, including freezing the current pension plans that would end the accrual of benefits for current employees and creating new pension plans that would be structured as cash-balance plans.

RELATED DEBT

Fitch has affirmed the ratings on the following credits, which are linked to the state GO rating. The Rating Outlook on all the bonds has been revised to Stable from Negative.

--Approximately $14 billion New Jersey Economic Development Authority annual appropriation bonds at 'A-';

--Approximately $15.4 billion New Jersey Transportation Trust Fund Authority annual appropriation bonds at 'A-';

--Approximately $884.6 million Garden State Preservation Trust revenue bonds at 'A';

--Approximately $464.8 million New Jersey Building Authority annual appropriation bonds at 'A-';

--Approximately $824.3 million New Jersey Educational Facilities Authority annual appropriation bonds at 'A-';

--Approximately $671 million New Jersey Health Care Facilities Financing Authority annual appropriation bonds at 'A-';

--Approximately $394.4 million New Jersey Sports and Exposition Authority annual appropriation bonds at 'A-';

--Approximately $616.9 million of state of New Jersey certificates of participation at 'A-';

--The program ratings assigned to New Jersey Municipal Qualified Bonds and bonds secured by the New Jersey School Bond Reserve (New Jersey School Credit Enhancement Program) at 'A-'.

The 'A-' ratings for the state's appropriation obligations, one notch below the state's GO rating, reflects the requirement of annual legislative appropriations for debt service. The 'A' rating for the Garden State Preservation revenue bonds reflects that while annual legislative appropriation of dedicated sales tax revenue is necessary, the provision that if the legislature fails to make the appropriation, dedicated funds may not be for any other purpose, effectively eliminates the risk of non-appropriation in Fitch's opinion, allowing for a rating on par with the state's GO debt.

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

Applicable Criteria

Tax-Supported Rating Criteria (pub. 14 Aug 2012)

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

U.S. State Government Tax-Supported Rating Criteria (pub. 14 Aug 2012)

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

Additional Disclosures

Dodd-Frank Rating Information Disclosure Form

https://www.fitchratings.com/creditdesk/press_releases/content/ridf_frame.cfm?pr_id=989633

Solicitation Status

https://www.fitchratings.com/gws/en/disclosure/solicitation?pr_id=989633

Endorsement Policy

https://www.fitchratings.com/jsp/creditdesk/PolicyRegulation.faces?context=2&detail=31

ALL FITCH CREDIT RATINGS ARE SUBJECT TO CERTAIN LIMITATIONS AND DISCLAIMERS. PLEASE READ THESE LIMITATIONS AND DISCLAIMERS BY FOLLOWING THIS LINK: HTTP://FITCHRATINGS.COM/UNDERSTANDINGCREDITRATINGS. IN ADDITION, RATING DEFINITIONS AND THE TERMS OF USE OF SUCH RATINGS ARE AVAILABLE ON THE AGENCY'S PUBLIC WEBSITE 'WWW.FITCHRATINGS.COM'. PUBLISHED RATINGS, CRITERIA AND METHODOLOGIES ARE AVAILABLE FROM THIS SITE AT ALL TIMES. FITCH'S CODE OF CONDUCT, CONFIDENTIALITY, CONFLICTS OF INTEREST, AFFILIATE FIREWALL, COMPLIANCE AND OTHER RELEVANT POLICIES AND PROCEDURES ARE ALSO AVAILABLE FROM THE 'CODE OF CONDUCT' SECTION OF THIS SITE. FITCH MAY HAVE PROVIDED ANOTHER PERMISSIBLE SERVICE TO THE RATED ENTITY OR ITS RELATED THIRD PARTIES. DETAILS OF THIS SERVICE FOR RATINGS FOR WHICH THE LEAD ANALYST IS BASED IN AN EU-REGISTERED ENTITY CAN BE FOUND ON THE ENTITY SUMMARY PAGE FOR THIS ISSUER ON THE FITCH WEBSITE.

Contacts

Fitch Ratings
Media Relations
Sandro Scenga, New York, +1-212-908-0278
sandro.scenga@fitchratings.com
or
Primary Analyst
Marcy Block, +1-212-908-0239
Senior Director
Fitch Ratings, Inc.
33 Whitehall Street
New York, NY 10004
or
Secondary Analyst
Karen Krop, +1-212-908-0661
Senior Director
or
Committee Chairperson
Douglas Offerman, +1-212-908-0889
Senior Director

Contacts

Fitch Ratings
Media Relations
Sandro Scenga, New York, +1-212-908-0278
sandro.scenga@fitchratings.com
or
Primary Analyst
Marcy Block, +1-212-908-0239
Senior Director
Fitch Ratings, Inc.
33 Whitehall Street
New York, NY 10004
or
Secondary Analyst
Karen Krop, +1-212-908-0661
Senior Director
or
Committee Chairperson
Douglas Offerman, +1-212-908-0889
Senior Director