Fitch Rates Edinburg, TX Limited Tax COs ‘AA’; Upgrades Outstanding Debt
By Business Wire News
By Business Wire News
Fitch Ratings has assigned a ‘AA’ rating to the following Edinburg, TX issuance:
–$3.925 million combination and tax revenue certificates of obligation (COs), series 2016.
Proceeds of the COs will fund street, curb, and sidewalk improvements. The COs are scheduled to sell via negotiation during the week of July 18.
In addition, Fitch upgrades the following outstanding ratings of the city:
–Issuer Default Rating (IDR) to ‘AA’ from ‘AA-‘;
–$41.5 million limited tax bonds to ‘AA’ from ‘AA-‘;
–$19.6 million Edinburg Economic Development Corporation (EEDC) sales tax revenue bonds to ‘AA’ from ‘AA-‘.
The Rating Outlook is Stable.
The COs are payable from an annual property tax levy limited to $2.50 per $100 AV and surplus revenues of the city’s waterworks and sewer system. The sales tax revenue bonds are payable from a 1/2% sales tax levied by the Edinburg Economic Development Corporation (EEDC).
KEY RATING DRIVERS
The upgrade to ‘AA’ of the IDR and GO bonds reflects application of Fitch’s revised criteria for U.S. state and local governments, which was released on April 18, 2016, and a more focused consideration of economic factors. The rating reflects the city’s favorable revenue framework, moderate fixed costs and long-term liability burden, and demonstrated financial resiliency during economic downturns. The upgrade of the sales tax revenue bonds to ‘AA’ reflects the upgrade of the city’s rating, as the rating is capped by the IDR. The bonds benefit from the strong growth prospects of the pledged revenues, ample maximum annual debt service (MADS) coverage, and a closed lien.
Economic Resource Base
Edinburg, with an estimated 2015 population of about 84,497 is the county seat of Hidalgo County. The city is 20 miles from the Texas-Mexico border in the Rio Grande Valley and has grown by a compound annual average of 2.9% since 2010. The city’s wealth and income indicators are well below average but poised to grow due to the ongoing diversification of the employment base. The unemployment rate remains steady and in line with the U.S. average, an improvement from historical results that has been aided by several major economic development projects recently completed or underway.
Revenue Framework: ‘aaa’ factor assessment
A healthy pace of revenue growth is likely to continue due to population growth and economic expansion. Property tax revenue-raising flexibility is ample.
Expenditure Framework: ‘aa’ factor assessment
The pace of expenditure growth is expected to generally track revenue gains. Expenditure flexibility is aided by prudent budgeting and moderate carrying costs for debt service and retiree benefits.
Long-Term Liability Burden: ‘aa’ factor assessment
The combined debt and unfunded pension liability burden is moderate at 14% of personal income. Overlapping debt issuances by two area school districts may increase the overall liability burden, but Fitch expects it to remain moderate.
Operating Performance: ‘aaa’ factor assessment
Operational flexibility during economic downturns is derived from the city’s ample property taxing margin and solid spending control, supplemented by reserves.
Shift in Fundamentals: The IDR and GO ratings are sensitive to material change in the city’s strong revenue-raising and expenditure flexibility and solid financial position, which Fitch expects the city to maintain throughout economic cycles.
Pledged Revenue Declines: Large and sustained sales tax revenue declines beyond the range of historical experience and Fitch’s expectations could pressure the sales tax revenue bond rating.
Because of its position near the Mexican border along a major transportation route, Edinburg serves as a distribution center, benefiting from the trade generated by cross-border manufacturing activity as well as the agricultural production in the region. Retail trade, government, education and health services are all major components of the area economy. Enhanced border security in the form of additional barriers or walls, as discussed in the current U.S. presidential campaign, is not anticipated to have an impact on the legal flow of cross-border commerce.
The city’s economy has remained stable despite strong population growth and weak wealth and income indicators. Employment levels have grown consistently, including during the national recession. Per capita personal income is low at about 60% of state and national levels given its ongoing transition from an agricultural economy. The city’s poverty rate is high at about 28% as compared to 17% for the state and 16% for the nation but has declined modestly from 2010 levels.
Edinburg’s property tax base is fairly diverse with a mix of power plants, healthcare, retail, and manufacturing among its top 10 taxpayers which account for 8% of taxable assessed valuation (TAV). Recessionary TAV losses were limited to a modest 2% decline in fiscal 2011. The annexation of 2,000 acres accounted for about one-half of the almost 5% TAV gain in fiscal 2015. Growing residential and commercial development plus reappraisal gains fueled an almost 8% TAV hike in fiscal 2016. A March 2015 annexation, totaling $84 million in AV, will contribute to a 2% tax base gain in fiscal 2017. Market value per capita remains low at $48,000 despite the recent gains.
Further economic expansion is expected in the near term related to $150 million in projects underway at the newly designated University of Texas – Rio Grande Valley (UT-RGV), including the region’s first medical school which will open this fall. The UT-RGV’s current enrollment is 20,000 students and is projected to increase to 40,000 within 10 years due to its expanded mission and degree offerings.
The city’s healthcare sector has grown due to a recent $200 million expansion of the local hospital which will serve as the teaching hospital for UT-RGV’s medical school. Planned projects include an upscale retail, entertainment, and hotel complex adjacent to the $60 million multi-purpose arena that is currently under construction. The arena will serve as the home of the local basketball team of the National Basketball Association Development League. An $8 million soccer arena is also under construction and will serve as the home of a United Soccer League franchise.
The city’s primary revenues are comprised of property taxes (43% of general fund revenues) and sales taxes (35%). Rapid population growth and economic expansion enabled the city’s revenues to post only one year of general fund revenue decline since 1999.
The city’s historical revenue growth has handily exceeded both the CPI and U.S. GDP gains over the 10 years through 2014, aided by steady gains in assessed value (AV) and sales taxes. Strong population gains and recent large investments in healthcare, higher education, and quality of life projects should aid continued revenue growth.
AV increased by 7.7% in fiscal 2016 and the preliminary AV for fiscal 2017 points to a 9% gain, ensuring continued property tax revenue growth. The preliminary fiscal 2017 budget conservatively assumes a 5% AV increase. Sales tax revenues, which have grown by a compound average annual of 8% since fiscal 1999, are budgeted to increase by 3% in the fiscal 2017 budget.
At a current total property tax rate of $0.64 per $100 AV, the city retains significant taxing margin below the $2.50 per $100 AV maximum allowed by law. If a proposed tax rate results in an 8% year-over-year levy increase (based on the prior year’s values) or more, the rate increase may be subject to election if petitioned by voters.
Public safety accounts for 46% of general fund spending and has outpaced all other expenditure categories.
The city’s pace of spending is expected to remain in line with revenue gains but pressured by an expanding population base. Incremental spending increases due to recent annexations have been accompanied by additional taxable resources.
The city has no collective bargaining agreements and therefore exercises a large degree of control over headcount, wages, and benefits. The city’s fixed cost burden is moderate, with carrying costs for debt, pension and OPEB equaling about 16.5% of governmental spending in fiscal 2015. Carrying costs increased modestly from 15.5% the year prior due to the additional debt service associated with the issuance of $37 million of debt by the city’s local government finance corporation for a multi-purpose arena.
Carrying costs will increase by $1.5 million of debt service (from a current total of $8.2 million) by fiscal 2018 based on an expected inter-local agreement with Hidalgo County to fund a portion of a new county courthouse to be built in Edinburg. The city’s contribution will support about $30 million (20% of project total) of the $150 million in debt to be issued by Hidalgo County (limited tax bonds rated ‘AA-‘ by Fitch). At 1.9% of fiscal 2015 spending, this projected addition to the city’s fixed costs should not cause total carrying costs to exceed 20% of governmental spending.
Long-Term Liability Burden
The long-term liability burden is primarily in the form of debt, including limited tax bonds, contract revenue bonds (issued by the Edinburg Local Government Finance Corporation [LGFC]), sales tax revenue bonds (issued by the Edinburg Economic Development Corporation), unfunded pension liabilities, and overlapping debt, is moderate at about 14% of personal income. The 10-year principal amortization rate for general obligation bonds is rapid at 77%. The aggregate 10-year amortization rate for all bonds is average at 50%.
Overall debt levels have risen mostly from debt issuances by the city’s two overlapping school districts. Continued overlapping debt issuance is likely to be accompanied by steady gains in personal income, leading Fitch to expect the city’s long-term liability burden to remain moderate.
The 2016-2020 CIP is large at $193 million but will be funded mostly by federal, state, and utility system funds. Excluding the current offering, only $3 million of tax-supported debt is planned through 2018 and no tax rate impact is anticipated based on modest AV growth, which Fitch considers likely to occur.
City employees participate in an agent multiple-employer defined pension plan administered by the Texas Municipal Retirement System. The city’s unfunded pension liability is modest at $29.7 million, or 1.2% of personal income.
The city’s exceptionally strong financial resilience is derived from a combination of revenue and expenditure flexibility and solid reserve levels.
The fiscal 2015 audit posted a modest net general fund operating surplus of $885,000 (1.9% of spending). Positive results were aided by a 7.3% gain in sales taxes, an amount nearly double the budgeted gain of 3.7%.
The fiscal 2016 budget is balanced with a level tax rate and assumes moderate sales tax revenue growth of 4%. The budget includes an additional $1.4 million (3% of spending) transfer into the general fund from the solid waste fund in order to fund pay-go outlays under a level tax rate. Management indicates that this will not be a permanent adjustment. Sales tax revenue for the first seven months of the fiscal year is up by 4% from the same period the year prior, leading management to expect balanced or better results. However, one-time capital outlays are projected to reduce the fund balance by $1.2 million or 2.6% of spending.
During the period following the last economic downturn, the city gradually ramped up its pension contributions until the actuarially determined level was achieved in fiscal 2015. The city also utilized modest transfers from the solid waste fund to the general fund during economic recovery to bolster revenues and maintain a flat property tax rate.
Sales Tax Revenue Bonds
Dedicated Revenue Stream Details
The prospects for the continued growth of sales tax revenues are strong given rapid population growth trends and recent/ongoing economic expansion within the city’s healthcare, higher education, and entertainment sectors.
Revenue Stream Sensitivity
MADS coverage is ample and able to withstand substantial revenue volatility. The closed lien provides further bondholder protection.
Revenue Stream Analytical Conclusion
The sales tax revenue bonds are payable from a senior lien on the Edinburg Economic Development Corporation’s (EEDC) 1/2% sales tax levied on all transaction within the city. The 1/2% sales tax was approved by voters in 1990 for perpetuity for the purpose of promoting economic development, entertainment, and other activities.
Legal provisions provide strong bondholder protections as the lien is closed except for refundings. After debt service payments on the senior lien, residual sales tax revenues are used by the EEDC for economic development projects, including debt service on bonds issued by the Edinburg LGFC.
To evaluate the sensitivity of the dedicated revenue stream to cyclical decline, Fitch considers both the revenue sensitivity results (using the same 1% decline in national GDP scenario that supports assessments in the IDR framework) and the largest decline in revenues over the period covered by the revenue sensitivity analysis. These revenues posted a single decline (5%) from 1999-2015 and grew by a compound annual average of 8%, leading the Fitch Analytical Scenario Tool (FAST) to default to a modest 1% decline in sales taxes in the moderate economic downturn scenario.
Fiscal 2015 pledged revenues of $5 million are up for the fifth consecutive year and cover MADS (2027) by 3.4x. Based on MADS of $1.48 million, the sales tax revenue bonds could tolerate a 68% drop in revenues, 70x the scenario results and 14x the largest actual revenue decline in the review period.
Issuing Entity Exposure
Despite the very strong pledged revenue growth prospects and debt service coverage, the rating on the sales tax bonds is capped at the city’s IDR. Fitch does not view the pledged sales taxes as special revenues under section 902(2)(B) of the bankruptcy code, which defines ‘special excise taxes imposed on particular activities or transactions’ as special revenues.
Additional information is available at ‘www.fitchratings.com‘.
In addition to the sources of information identified in Fitch’s applicable criteria specified below, this action was informed by information from Lumesis and InvestorTools.
U.S. Tax-Supported Rating Criteria (pub. 18 Apr 2016)
Dodd-Frank Rating Information Disclosure Form
Fitch Ratings, Inc.
111 Congress Avenue
Austin, TX 78701
Elizabeth Fogerty, +1 212-908-0526