NEW YORK--(BUSINESS WIRE)--Fitch Ratings has affirmed the 'BBB+' rating on the New Jersey Economic Development Authority's cigarette tax revenue refunding bonds, series 2012, outstanding in the amount of approximately $798.1 million. The Rating Outlook is Stable.
The bonds are special and limited obligations of the authority, payable under a state contract between the treasurer and the authority solely from 100% of revenues from a $0.65/pack statewide cigarette tax deposited in the dedicated cigarette tax revenue fund held in the state treasury, subject to appropriation.
KEY RATING DRIVERS
CIGARETTE TAX REVENUES EXPECTED TO DECLINE: Cigarette tax collections, the sole source of bond repayment, have been declining modestly and are expected to continue to decline through the life of the bonds. Cigarette sales have been negatively affected by repeated tax rate increases on the state and federal level as well as initiatives to curtail smoking. Future legislative and regulatory changes could negatively affect collections.
SATISFACTORY DEBT SERVICE COVERAGE LEVELS: Debt service coverage is satisfactory and is expected to be maintained at adequate levels. The authority has structured a declining debt service profile in order to maintain solid coverage even with the expected deterioration in the pledged revenue source.
DEBT SERVICE SUBJECT TO APPROPRIATION: The rating reflects the credit quality of pledged revenues as well as the requirement for annual legislative appropriation. The appropriation requirement limits the bonds' rating to a level one notch below the state's general obligation (GO) credit quality.
NO ADDITIONAL BORROWING PERMITTED: The indenture is closed and there is no authorization for additional bonds, protecting against further leveraging of the revenue stream.
SHIFTING CONSUMPTION PATTERNS: The rating is sensitive to shifts in consumer use of tobacco products, particularly when such shifts result in debt service coverage that is materially below current expectations. Use of tobacco products is affected by numerous factors, including federal and state tobacco regulatory and tax policies, population growth, price increases, disposable income, smoking bans, nicotine dependence, and health warnings.
DETERIORATION IN STATE CREDIT QUALITY: Because the requirement for appropriation caps the rating at a level no higher than one notch below the state's GO rating, the current rating is sensitive to deterioration in the state's GO credit quality below the 'A-' level. Fitch currently rates the state 'A' with a Stable Outlook.
The bonds are secured by deposits to the state's dedicated cigarette tax revenue fund, a separate fund in the state treasury, subject to legislative appropriation, in an amount equivalent to cigarette tax revenues generated from a statewide $0.65 per pack tax (the dedicated tax; from a total $2.70/pack tax). Before any cigarette tax revenues can flow to the fund, a prior $151 million annual statutory allocation to two state health-related funds must be met. Upon satisfaction of the prior dedication, all state-collected cigarette tax revenues are applied to the fund to bring it to the level it would have been if the prior transfer had not been made. At that point, the allocation to the fund reverts to the $0.65/pack.
The requirement for annual legislative appropriation caps the current rating at a level no higher than one notch below the state's GO rating. The legislature may alter or amend the cigarette tax act or the application of cigarette tax revenues. The state has not pledged or covenanted that it will not take any action that could adversely affect the collection of sufficient cigarette tax revenues to fund the appropriations, and there are no bondholder remedies in the event of non-appropriation. However, Fitch recognizes that the economic development authority provides broad capital support of state programs and accounts for a significant portion of the state's tax-supported debt.
The cigarette tax is collected primarily from licensed distributors who receive cigarettes directly from out-of-state manufacturers and is thus dependent upon in-state cigarette sales. Unless otherwise provided by law, every package of cigarettes must be stamped before being transferred from the original acquirer in New Jersey. This tax is not imposed on other tobacco products. The indenture is closed, and there is no authorization for additional bonds. Accordingly, there is no additional bonds test and no annual coverage requirement.
A declining trend in cigarette consumption in New Jersey has been the result of changes in state and federal tax structures, health care trends, levels of disposable income, and the imposition of a statewide indoor smoking ban, except on casino gaming floors, in 2006. Legislative initiatives to reduce smoking in the state continue with the recent passage of a bill increasing the legal smoking age to 21. That bill was subsequently vetoed by the governor. New Jersey's cigarette tax rate is currently $2.70 per pack, while the federal government's tax rate is $1.01 per pack. New Jersey's cigarette tax ranks eighth highest nationally, with New York first, although New Jersey's rate is well above that of neighboring Pennsylvania and Delaware.
A consultant's report at the time of the 2012 bond sale projected declines in New Jersey taxable cigarette sales of just over 3% annually through final maturity in fiscal 2029. Actual declines have been slightly below that forecast (recent decline of 2.4% in fiscal 2015), although larger annual declines are still projected over the life of the bonds.
Fiscal 2015 dedicated revenues are estimated at $167.4 million, and the state is forecasting a 3.5% decline in fiscal 2016 and a larger 6.1% decline in fiscal 2017. These declines are steeper than the expectations noted above and marginally reduce expected debt service coverage.
Debt service coverage based on fiscal 2015 dedicated revenue was 1.5x, essentially meeting the state's expectation of coverage that year. Based on the current revenue forecast, the state expects coverage to drop to 1.48x in both fiscal years 2016 and 2017, as revenue declines are expected to marginally outpace declines in debt service requirements. Thereafter, projected debt service coverage remains around 1.5x, assuming declines of about 3% annually.
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 Sept. 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 less than 10% of existing tax-supported ratings. Fitch expects that final criteria will be approved and published by the end of 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.
Exposure Draft: U.S. Tax-Supported Rating Criteria (pub. 10 Sep 2015)
Tax-Supported Rating Criteria (pub. 14 Aug 2012)
U.S. State Government Tax-Supported Rating Criteria (pub. 14 Aug 2012)
Dodd-Frank Rating Information Disclosure Form