Fitch Affirms Fresno, CA's Implied GO Rating at 'BBB+'; Outlook Stable

SAN FRANCISCO--()--Fitch Ratings has affirmed the following city of Fresno, California (the city) bonds:

--Implied general obligation bond (GO) rating at 'BBB+';

--$43.4 million Fresno Joint Powers Financing Authority (Fresno JPFA) lease revenue bonds series 2006A and series 2009A, at 'BBB';

--$100.8 million Fresno JPFA lease revenue bonds (LRBs) series 2004 (A and C) and series 2008 (A, C, E and F) at 'BBB-'.

The Rating Outlook is Stable.

SECURITY

The LRBs are payable from lease rental payments made by the city to the Fresno JPFA for use and occupancy of a variety of governmental assets subject to abatement. The city has covenanted to budget and appropriate lease payments annually.

KEY RATING DRIVERS

CONTINUED FINANCIAL IMPROVEMENT: The city's financial performance has improved significantly in recent years. Strong expenditure discipline and rising revenues have restored budget balance and cured fund balance deficits. Reserves remain weak, but are expected to rise to more typical levels over the next two to three years.

INSTITUTIONALIZING PERFORMANCE GAINS: The city has institutionalized improved financial performance through council-adopted financial policies and voter-approved charter amendments. It is unlikely to experience the same degree of financial distress seen in the Great Recession if it continues to comply with the new policies.

WEAK ECONOMY, RECOVERY ACCELERATING: Fresno's economy is growing at a healthy pace, but remains a fundamental weakness due to chronically high unemployment and weak incomes.

TAX BASE RECOVERS: The tax base is large and diverse. Taxable assessed value (AV) has recovered the significant declines experienced during the recession and appears poised for continued growth.

MANAGEABLE LONG-TERM LIABILITIES: The overall debt burden is moderate. Pension and other post-employment benefit (OPEB) liabilities compare favorably to other large cities, although combined carrying costs are sizable and have created general fund expenditure pressures in recent years.

LEASES NOTCHED: The LRBs are rated below the implied GO rating by one notch for essential or highly over-collateralized leases and by two notches for non-essential assets.

RATING SENSITIVITIES

IMPROVEMENTS IN FUND BALANCE: The rating is likely to move higher if the city maintains structural balance and rebuilds a reasonable reserve position.

REVERSAL OF FINANCIAL GAINS: The rating could come under downward pressure if the budget slips back into structural imbalance.

CREDIT PROFILE

Fresno is California's fifth-largest city with about 516,000 residents. It is located about 250 miles north of Los Angeles in the heart of the agricultural San Joaquin Valley.

WEAK FINANCIAL POSITION

Financial performance has improved after a period of extreme weakness. Fresno's financial position deteriorated rapidly during the Great Recession due to revenue declines that could not be fully offset by expenditure adjustments because of long-term labor contracts. Like other California municipalities, Fresno has very little revenue raising flexibility due to the property tax limitations of Proposition 13, forcing it to balance budgets primarily on the expenditure side of the ledger.

A combination of revenue improvements and strong expenditure discipline has restored financial balance and allowed the city to rapidly repay accrued fund balance deficits. The city's unrestricted general fund balance rose to $11.5 million, or 4.5% of spending, in fiscal 2014, as the city posted a net surplus after transfers of $17.5 million. Unaudited actual results for fiscal 2015 suggest a second year of positive operations and a rise in total fund balance of about $13 million. The city has budgeted to add about $5.8 million to fund balance in fiscal 2016.

Improved performance is likely to return unrestricted fund balance to a fairly typical range (above 10%) over the next few years. Fitch believes this improvement in fund balance is likely to be durable. The city has worked to institutionalize improved financial performance in recent years. The Fresno City Council and voters have approved numerous charter and policy measures aimed at avoiding a repeat of recent weak performance, including a Reserve Management Act (requiring a committed 10% rainy day reserve) and Labor Management Act (limiting contract terms to no more than two years and requiring full cost analysis). The city has integrated long-range financial forecasting into budget policy deliberations in order to maintain structural budget balance.

UPRGRADES HINGE ON RESERVE BUILDING, POLICY ADHERENCE

Fresno's rating is below the expected range for a U.S. municipality and is particularly low for a large city, most of which are rated 'A' or higher. Fitch expects the rating to rise over the next several years if the city continues to follow the financial policies instituted during the Great Recession, but Fitch's approach is likely to be conservative and gradual.

The city's large and liquid balance sheet remains the main protection against economic uncertainty and near-term budget misses, given the low level of general fund reserves. Fresno had $362.6 million of unrestricted cash and investments in various accounts government-wide at the end of fiscal 2014. Much of this liquidity is in the city's water and sewer funds. The funds cannot be permanently transferred to the general fund due to state law, but they do provide a significant source of internal cash flow funding for short-term borrowing.

WEAK ECONOMY IN CYCLICAL RECOVERY

Fresno is the cultural, commercial and healthcare hub of the San Joaquin Valley, one of the world's most productive farming regions. Its large and increasingly diverse economy is currently recovering from a deep cyclical downturn. Fresno's economy remains largely driven by low-wage agriculture-related activity. Unemployment trends higher than the national and state averages. The city's unemployment rate was 9.7% in August 2015, down more than seven percentage points from its recessionary peak. Job growth has resumed with employment rising a rapid 2.7% over the past 12 months. Payrolls surpassed their pre-recession peak in 2013. Socioeconomic indicators are below average. Median household income was 79.2% of the national level and the poverty rate was almost twice the national rate at 28.9% in 2013.

The tax base is large, diverse and growing once again. Total AV rose 6.7% to $30.1 billion in fiscal 2015. A preliminary estimate shows a 4.9% gain in fiscal 2016. The recent gains likely reflect some bounce-back in values after a deep housing market crash. AV is likely to grow at a more moderate pace going forward, but continued growth will be supported by ongoing population gains and ample land available for development.

MANAGEABLE LONG-TERM LIABILITIES

Total direct and overlapping debt was moderate at 4.5% of AV or $2,407 per capita as of June 30, 2015. Amortization is moderate with 27.4% of debt repaid in five years and 55.5% in 10 years. Gradual amortization should reduce the debt burden over the next five years because the city has no plans to issue new general fund-supported debt.

Pension and OPEB liabilities are less of a concern for Fresno than for many other local governments because the city's two pension plans have funded ratios at or near 100%, and the city's OPEB obligations are modest. The combined carrying costs of debt and retiree liabilities was moderate at 20.5% of governmental fund spending in fiscal 2014.

NOTCHING FROM GO

The LRBs are rated below the implied GO rating by one notch for essential assets (series 2009) and two notches for largely non-essential assets (series 2004 and 2008). The assets securing series 2006 (a convention center exhibit hall and theater) are judged to be non-essential, but they are rated only one notch from the GO rating because the leased assets significantly over-collateralize the debt with a value almost three times the amount of the outstanding bonds.

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

Fitch recently published an exposure draft of state and local government tax-supported criteria (Exposure Draft: U.S. Tax-Supported Rating Criteria, dated September 10, 2015). The draft includes a number of proposed revisions to existing criteria. If applied in the proposed form, Fitch estimates the revised criteria would result in changes to fewer than 10% of existing tax-supported ratings. Fitch expects that final criteria will be approved and published by Jan. 20, 2016. Once approved, the criteria will be applied immediately to any new issue and surveillance rating review. We anticipate the criteria to be applied to all ratings that fall under the criteria within a 12-month period from the final approval date.

In addition to the sources of information identified in Fitch's Tax-Supported Rating Criteria, this action was additionally informed by information from Creditscope, S&P/Case-Shiller Home Price Index, IHS Global Insight, and Zillow.com.

Applicable Criteria

Exposure Draft: U.S. Tax-Supported Rating Criteria (pub. 10 Sep 2015)

https://www.fitchratings.com/creditdesk/reports/report_frame.cfm?rpt_id=869942

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

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

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

https://www.fitchratings.com/creditdesk/reports/report_frame.cfm?rpt_id=685314

Additional Disclosures

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https://www.fitchratings.com/creditdesk/press_releases/content/ridf_frame.cfm?pr_id=992666

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https://www.fitchratings.com/gws/en/disclosure/solicitation?pr_id=992666

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

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Contacts

Fitch Ratings
Primary Analyst
Andrew Ward, +1-415-732-5617
Director
Fitch Ratings, Inc.
650 California Street
4th Floor
San Francisco, CA 94108
or
Karen Ribble, +1-415-732-5611
Senior Director
or
Committee Chairperson
Amy Laskey, +1-212-908-0568
Managing Director
or
Media Relations
Sandro Scenga, New York, +1-212-908-0278
sandro.scenga@fitchratings.com

Contacts

Fitch Ratings
Primary Analyst
Andrew Ward, +1-415-732-5617
Director
Fitch Ratings, Inc.
650 California Street
4th Floor
San Francisco, CA 94108
or
Karen Ribble, +1-415-732-5611
Senior Director
or
Committee Chairperson
Amy Laskey, +1-212-908-0568
Managing Director
or
Media Relations
Sandro Scenga, New York, +1-212-908-0278
sandro.scenga@fitchratings.com