NEW YORK--(BUSINESS WIRE)--Fitch Ratings has downgraded the following City of Providence, RI (the city) outstanding general obligation (GO) bonds:
--$7.9 million GO bonds, series 2001B to 'BBB-' from 'BBB';
--$30 million GO bonds, series 2013A to 'BBB-' from 'BBB'.
The Rating Outlook is revised to Stable from Negative.
SECURITY
The bonds are general obligations of the city, backed by its full faith and credit and unlimited taxing authority.
KEY RATING DRIVERS
SLOW FINANCIAL PROGRESS: The one-notch rating downgrade to 'BBB-' reflects Fitch's view that the city continues to face financial challenges as a result of limited revenue growth relative to increasing spending needs. Financial flexibility is limited considering statutory revenue limitations, a shortage of additional cost cutting solutions, and variable employee overtime and health care related costs.
GROWING FUTURE RETIREE COSTS: The city's high pension and other post-employment benefit (OPEB) liabilities result in a growing fixed-cost burden on the budget. Continued full funding of actuarially required pension contributions and changes to retiree benefits have controlled growth in near-term costs but future liabilities will remain a burden.
ECONOMIC STABILITY; IMPROVED DEMOGRAPHICS: Some long-term economic stability is derived from the city's position as the capital of the state and its large educational and healthcare institutional presence. Demographics are weak with low wealth levels, but unemployment rates improved notably over the past year and assessed values have improved.
MODERATE TO LOW DEBT LEVELS: Overall debt levels are low to moderate and principal amortization is very rapid.
RATING SENSITIVITIES
PROGRESS TOWARDS RESERVE RESTORATION: Fitch's revised rating and Stable Outlook assumes the city will begin to make progress in eliminating its accumulated general fund deficit gradually. If events contrary to this expectation cause disruption in this progress there could be pressure on the rating or Outlook.
CREDIT PROFILE
FINANCIAL CONDITION STILL PRESSURED
Management's effort to restore stability to financial operations remains challenging. Recent operating results have been variable but the city's cumulative general fund deficit remains. Revenue-raising flexibility to meet growing expenditures has been constrained by slow tax base growth and modest new revenue raising measures, compounding the potential difficulty for a timely restoration of reserves.
FISCAL 2015 RESULTS ARE NEGATIVE
Providence reported a fiscal 2015 general fund net-operating deficit of $4.8 million (1% of spending) despite a $3.3 million appropriation for general fund deficit elimination. The accumulated general fund deficit increased to $13.4 million (2.9% of spending). A combination of higher than budgeted expenses and unrealized non-recurring revenues contributed to this result. Public safety overtime exceeded budgeted amounts by $4.6 million and health insurance costs were higher than anticipated by $3.4 million. Approximately $6 million in combined property sales and a lease extension did not materialize and property taxes were under budget by $1.4 million. Additionally, $3 million in state aid was planned for by the city but not budgeted for by the state.
These revenue reductions were mitigated by additional state and local PILOT funding of $3.5 million and a $2.4 million grant for police. One-time savings of $8 million from bond refunding savings helped mitigate a larger deficit.
FISCAL 2016 BUDGET INCLUDES MODEST REVENUE GROWTH, SOME NON-RECURRING SOURCES
The fiscal 2016 municipal general fund budget of $467 million was up 2% over the prior fiscal year budget. Property tax revenues were up by 2% or $6.3 million, reflecting new growth in the tax base, and state aid was budgeted $3.2 million (or 5%) higher than fiscal 2015. Business licenses and parking fees were budgeted to increase by approximately $2.8 million.
State law limits the annual tax levy increase to 4% over the prior year unless it qualifies for certain exemptions relating to loss of non-property tax revenues, emergencies or payment of debt service. Any tax levy in excess of the cap is subject to 4/5th approval by city council and approval by the state auditor general.
Management increased its medical self-insurance expense budget by $5 million and added $1 million to cover public safety overtime. The budget includes non-recurring sources including potential asset sales of $2.6 million and $4 million in debt service savings from the 2015 bond refunding. The budget also includes a $4.3 million appropriation for deficit reduction.
The second quarter budget report reflects balanced operations with higher than expected revenues in certain areas offsetting higher costs primarily for fire department staffing coverage and overtime of $3.6 million through Dec. 31, 2015. Management reports that the city has not experienced any cash flow issues with all payments made on time and no need for internal or external borrowing.
Quarterly transfers of $1.1 million were made to a separate account for deficit reduction in accordance with the city's deficit reduction plan filed with and approved by the state auditor general.
The elimination of the $8.7 million accumulated deficit through June 30, 2014 is projected by management to be spread evenly over fiscal 2016 and 2017 pursuant to the deficit reduction plan agreed to by the city council and the state auditor general. The fiscal 2015 deficit is proposed to be reduced evenly over a five year period beginning in fiscal 2017. Approval by the city council is still pending.
Fitch remains concerned about the slower than planned progress towards deficit elimination and management's challenges in matching expected modest revenue growth with growing employee compensation and benefit costs.
LOW-TO-MODERATE DEBT LEVELS; HIGH FUTURE RETIREE COSTS
The city's debt ratios, net of the state's reimbursement for school projects, are manageable with debt to market value at 2.4% and debt per capita at $1,532. Amortization is very rapid at 80% of principal in 10 years.
The city's pension and OPEB costs continue to be a concern to Fitch as the combined unfunded liability is a very high percentage of market value. The July 1, 2014 retirement system valuation for the city-administered plan shows an unfunded liability of $894 million or a Fitch-estimated 7.7% of fiscal 2016 market value of $11.7 billion using a 7% investment rate of return (IRR).
Assets cover 28% of liabilities as of the June 30, 2015 measurement date using the city's liberal 8.25% IRR. The ratio declines to a Fitch-estimated 25% using a 7% IRR.
Contributions to the city-administered plan were $66.9 million in fiscal 2015, up from $62.1 million in fiscal 2014, and equal to 100% of its required contribution. Pension contributions were budgeted at $71.6 million for fiscal 2016 and are anticipated to rise to $73.2 million in fiscal 2017.
Teachers participate in the state-administered Employees Retirement System and the contribution made in fiscal 2015 was $21.4 million. Assets under this plan cover liabilities an estimated 55% as of June 30, 2014 using a 7% IRR. The city's school district proportion of the net pension liability of $232 million was measured as of June 30, 2015.
OPEB contributions were $30.7 million for fiscal 2015, equivalent to 49% of the annual required contribution. The city's OPEB liability was a very high $981 million as of July 1, 2014 (down from $1.03 billion a year prior) or a high 8.4% of market value. Combined debt service, city and school pension, and OPEB pay-as-you-go payments made up a high 23% of total fiscal 2015 governmental spending, of which almost one-half is pension costs.
BELOW-AVERAGE SOCIOECONOMIC INDICATORS
The city, with an estimated 2014 population of 179,154, is the capital of Rhode Island and continues to be a major economic and employment center for the state. The numerous government offices and healthcare and higher education institutions, including Brown University, Providence College and Johnson & Wales, provide stability to the region's economy. The city's top 10 taxpayers represent a low 9.5% of total taxes levied in fiscal 2015.
Total assessed value (AV) declined by 7.5% for fiscal 2015 as a result of a three-year revaluation effective Dec. 31, 2013. AV increased by 3.5% in fiscal 2016 reflecting the increase in residential values and a 62% increase in motor vehicle values. Management reports that building permits were up in fiscal 2015 and are on pace to exceed fiscal 2015 levels in fiscal 2016. Various commercial projects and new hotel projects highlight the new development.
Unemployment levels have improved notably to 5.7% in October 2015, down from 7.8% the prior year and are back in line with pre-recession levels. Employment increased 2.5% and labor is up 0.2% for the same period. Rates remain above state (4.7%) and national (5%) averages. Wealth and income levels are lower than state and national levels with the large student population a contributing factor. The poverty rate was a very high 29% for 2013.
Additional information is available at 'www.fitchratings.com'.
Fitch recently published exposure drafts of state and local government tax-supported criteria (Exposure Draft: U.S. Tax-Supported Rating Criteria, dated Sept. 10, 2015 and Exposure Draft: Incorporating Enhanced Recovery Prospects into U.S. Local Tax-Supported Ratings). The drafts include a number of proposed revisions to existing criteria. If applied in the proposed form, Fitch estimates the revised criteria would result in changes to less than 10% of existing tax-supported ratings. Fitch expects that final criteria will be approved and published in the first quarter of 2016. Once approved, the criteria will be applied immediately to any new issue and surveillance rating review. Fitch anticipates 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 and Lumesis.
Applicable Criteria
Exposure Draft: Incorporating Enhanced Recovery Prospects into US Local Tax-Supported Ratings (pub. 02 Feb 2016)
https://www.fitchratings.com/creditdesk/reports/report_frame.cfm?rpt_id=875108
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
Dodd-Frank Rating Information Disclosure Form
https://www.fitchratings.com/creditdesk/press_releases/content/ridf_frame.cfm?pr_id=999091
Solicitation Status
https://www.fitchratings.com/gws/en/disclosure/solicitation?pr_id=999091
Endorsement Policy
https://www.fitchratings.com/jsp/creditdesk/PolicyRegulation.faces?context=2&detail=31
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