Fitch Rates New London, CT's $9.6MM GOs 'A+'; Outlook Stable

NEW YORK--()--Fitch Ratings has assigned an 'A+' rating to the following New London, CT general obligation (GO) bonds:

--$9.605 million GO refunding bonds, issue of 2016.

In addition, Fitch has affirmed the city's Issuer Default Rating (IDR) and approximately $26.2 million of outstanding GO bonds at 'A+'.

Bond proceeds will be used to refund, on an advanced crossover basis, certain maturities of the 2009 GOs for debt service savings. The bonds are scheduled to sell on December 6 via negotiated bid.

SECURITY

The bonds are a full faith and credit obligation of the city, backed by its unlimited taxing power.

KEY RATING DRIVERS

The 'A+' ratings on the IDR and GO bonds reflects the city's adequate gap-closing capacity, realized through solid expenditure flexibility, an independent legal ability to raise revenues and a moderate liability burden. The city's historically weak financial performance is offset by management's commitment to improving financial flexibility through strengthened budget management practices.

Economic Resource Base

The city of New London is located at the mouth of the Thames River, 50 miles southeast of Hartford. The city's population of 27,179 has increased roughly 6% since 2000, though growth has slowed over the past several years. New London has a relatively diverse employment base, with the largest employers in manufacturing, healthcare and higher education. However, the city has proven vulnerable to economic weakness, highlighted by unemployment and poverty levels, which still remain well-above state and national levels, and income metrics that lie considerably below state and national averages.

Revenue Framework: 'aa' factor assessment

Fitch expects future revenue growth to track inflation, supported by a number of new developments expected to add to the local tax base. Property taxes and state aid comprise the majority of the city's revenues. Municipalities in Connecticut have the independent legal ability to raise taxes.

Expenditure Framework: 'aa' factor assessment

Fitch expects the natural pace of spending growth to remain in line to marginally above that of revenue. Low carrying costs and adequate control over labor-related costs afford the city solid expenditure flexibility.

Long-Term Liability Burden: 'aa' factor assessment

New London's debt and net pension liabilities represent a moderate share of personal income. Fitch expects that the city's liability burden will increase, though still remain moderate, given future debt plans. Management is committed to phasing into full ADEC funding of the city's main pension plan. Barring a reduction in financial flexibility that would require a deferral of spending needs, Fitch believes management will be able to increase contributions to the required amount.

Operating Performance: 'a' factor assessment

Following the last recession the city faced significant financial pressures, which were exacerbated by weak budget management practices. In recent years improved budgetary controls have yielded more favorable operating results. Fitch believes the city's superior budgetary flexibility supports management's ability to maintain positive operating performance in the future.

RATING SENSITIVITIES

Financial Flexibility: The rating is sensitive to the city's ability to improve and maintain means of financial flexibility through increased reserves. The sensitivity also reflects Fitch's expectation that management will continue to comply with its fiscal policies necessary to achieve these goals.

CREDIT PROFILE

Over the past two decades, the city's economy has diversified away from a heavy reliance on defense-related employment with expansion in the service-related sectors. In addition, the presence of health care and higher education institutions lend stability to the economy. Major employers include Lawrence & Memorial Hospital (2,500), and Connecticut College (909) and the U.S. Coast Guard (900). The city's location on local waterways additionally serves as an important economic driver due to the presence of two major piers, the U.S. Coast Guard Academy and General Dynamics' Electric Boat Corporation. Electric Boat purchased a former Pfizer plant, transforming the facility into a design center for the U.S. Navy's next generation of submarines, and currently holds sizable contracts for such development. Electric Boat is city's largest taxpayer and is expected hire a significant amount of new employees over the coming years.

The city schools are on their way to becoming the state's first all magnet school district, and have thus far experienced positive enrollment growth and have attracted a significant number of out of district students. Strengthening of school programs should enhance the city's attractiveness to existing and new residents.

Revenue Framework

Property taxes represented over half of fiscal 2015 revenues; a share that has increased in recent years due to tax rate increases in combination with stagnant state aid growth, which is the city's other primary revenue source.

The city's general fund growth has typically trended marginally above inflation, increasing at a 10-year growth rate of 2.3% through fiscal 2015. Despite a sluggish recovery since the recession, Fitch expects future revenue prospects to maintain slow but sustained growth given recent signs of economic development.

Housing values have remained relatively stagnant in recent years, according to the Zillow Group, and projections call for values to remain similar to prior years' trends. The city's grand list is revalued every five years with minimal changes in between for property improvements or new additions and tax appeals, but not the results of sales of property. The city's last property valuation resulted in a large 20% decline in taxable value; however, this was largely reflective of post-recessionary effects. Subsequent economic development has been more sustained, and management expects that increased commercial and residential development will yield gains in the next assessment to be performed October 2018. Fitch also notes that while state aid has remained relatively flat over recent years, management projects that funding levels will increase in the long-term given increased enrollment within its new magnet school system.

The city has unlimited legal taxing authority over residential and commercial property. The motor vehicle tax rate has been capped at 37 mills by the state in fiscal 2017.

Expenditure Framework

Instruction and employee benefit costs together represent over half of the fiscal 2017 general fund budget.

Fitch expects the natural pace of spending growth to match or marginally exceed revenue growth.

Fixed carrying costs for debt service, pension and OPEB are low at roughly 7% of fiscal 2015 total governmental spending, though are expected to increase to a more moderate level given management's future debt plans.

The city's expenditure flexibility is somewhat constrained given that educational costs comprise over half of the city's spending; however, management can reduce some costs tied to its programs and also holds adequate control over its workforce of over 750 employees. Fitch notes that firefighters require minimum staffing levels, and public works employees currently have restrictions regarding layoffs during contract. Union contracts are subject to arbitration, but a decision may be rejected by a two-thirds vote by the city's legislative body. A new arbitration panel would then be appointed by the state and subsequent decisions are required to take into consideration the financial capability of the employer.

State legislation passed last year imposes a spending cap on local governments' general spending growth budgets beginning in fiscal 2018. The cap limits annual increases to 2.5% over the spending level for the previous fiscal year, or the rate of inflation, whichever is greater. The cap excludes certain expenditures including debt service, special education, court orders or arbitration awards, payments on unfunded pension liabilities and non-recurring capital expenditures in excess of $100,000. Towns and cities that increase their general budget expenditures over the previous fiscal year by an amount that exceeds this cap receive a reduced municipal revenue sharing grant. The reduction is equal to 50 cents for every dollar the local government spends over the cap. Fitch does not believe the cap will have a notable impact on the city's financial operations due to the permitted exclusions.

Long-Term Liability Burden

The city's long-term liability burden is moderate relative to its economic resource base, with unfunded pension liabilities and net debt totaling roughly 9% of personal income. The city has approximately $202.2 million of remaining unissued debt authorization, but a significant portion related to school construction is eligible for grant progress payments from the state. Management expects to issue roughly $11.1 million in 2017, and will also bond for school capital projects in years thereafter. Fitch believes that the city's increased debt burden will still yield carrying costs consistent with the 'aa' assessment.

New London administers two single-employer pension plans, which cover substantially all of its employees aside from certified teachers and certain public safety and public works employees. The city's fiscal 2015 contributions to its contributory plan were roughly 71% of ADEC, which is relatively consistent with historical funding, but management has committed to increasing funding incrementally over the upcoming five to seven fiscal years. Fitch believes the city will be able to increase its contributions barring unanticipated spending pressures or material reductions in financial flexibility. The city's second plan has long been closed to new employees and is funded on a pay-go basis. Certified teachers participate in the State of Connecticut Teachers' Retirement Fund, for which the state is liable, and public safety and public works employees participate in the Municipal Employee's Retirement System.

Based on a measurement date of June 30, 2015, the city's net pension liability totaled $20.7 million. The ratio of assets to liabilities is funded at 74.4%, or a Fitch-estimated 72.7% when applying Fitch's 7% discount rate to all plans.

Operating Performance

The Fitch Analytical Sensitivity Tool indicates that in an unaddressed moderate economic downturn the city would experience moderate revenue volatility, leading to significant reserve drawdowns. The city faced significant financial pressures during the last recession, and experienced large general fund deficits, which significantly reduced its reserve levels and financial flexibility. The deficits were largely due to optimistic revenue assumptions coupled with overspending in certain departments and shortfalls in state aid. In subsequent years new management was able to help stabilize the city's financial performance through a combination of spending cuts and tax rate increases, and has since built reserves to 4.8% of spending. Management now maintains a commitment to raising reserves to 8% and has instituted policies to achieve that goal. Fitch believes the city maintains superior budgetary flexibility, given its unlimited revenue raising ability and solid expenditure flexibility; however, the 'a' assessment reflects the city's exposure to financial weakness throughout the economic cycle.

The city's recent budget management demonstrates a commitment to improving financial flexibility. The city complies with its fund balance ordinance, adopted in fiscal 2015, requiring an annual appropriation of at least $250,000 towards the restoration of general fund reserves. Management has also been proactive in responding to current uncertainties in state aid disbursements, and has budgeted conservatively in order to avoid shortfalls in revenues and has also restrained expenditures accordingly.

Fiscal 2016 estimates indicate a modest surplus, adding roughly $500 million to fund balance, mirroring the budgeted increase. In adherence to its fund balance policy, management has budgeted to add $250 thousand to reserves in fiscal 2017.

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

In addition to the sources of information identified in the applicable criteria specified below, this action was informed by information from Lumesis and InvestorTools.

Applicable Criteria

U.S. Tax-Supported Rating Criteria (pub. 18 Apr 2016)
https://www.fitchratings.com/site/re/879478

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or
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or
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Contacts

Fitch Ratings
Primary Analyst:
Rachel Grossman, +1-646-582-4967
Analyst
Fitch Ratings, Inc.
33 Whitehall Street
New York, NY 10004
or
Secondary Analyst:
Kevin Dolan, +1-212-908-0538
Director
or
Committee Chairperson:
Barbara Ruth Rosenberg, +1-212-908-0731
Senior Director
or
Media Relations:
Elizabeth Fogerty, +1-212-908-0526
New York
elizabeth.fogerty@fitchratings.com