Fitch Rates Oregon’s $91MM GOs ‘AA+’; Outlook Stable
By Business Wire News
By Business Wire News
Fitch Ratings has assigned an ‘AA+’ rating to the state of Oregon’s $91.1 million general obligation (GO) bonds (Article XI-G community college projects), consisting of the following:
–$57.96 million 2015 series J (tax-exempt);
–$31.5 million 2015 series K (tax-exempt refunding);
–$1.64 million 2015 series L (federally taxable).
The bonds are expected to sell via negotiation the week of April 13, 2015.
The Rating Outlook is Stable.
The bonds are general obligations of the state of Oregon, with the full faith and credit of the state pledged to bond repayment.
KEY RATING DRIVERS
STRONG FINANCIAL MANAGEMENT OFFSETS REVENUE VOLATILITY: State finances are heavily dependent on the personal income tax (PIT), a volatile revenue source that declined sharply during the recession, and has since shown steady growth. The state’s management reviews revenue and economic forecasts quarterly and takes measures as necessary to maintain balance. State reserve levels were drawn upon among balancing measures in the downturn, but the state is committed to rebuilding reserves in the current, and future, biennia.
DIVERSE ECONOMY WITH SELECT CONCENTRATIONS: The computer and manufacturing sectors play an above-average role in Oregon’s economy, which is especially influenced by international trade patterns. While recent employment growth has been well above the national average, solid growth in the state’s labor force as more entrants seek employment has increased the state’s unemployment rate to 111% of the national average.
MODERATE LIABILITY BURDEN: Debt levels are above average for a U.S. state but are only a moderate burden on resources. On a combined basis, the burden of the state’s net tax-supported debt and unfunded pension obligations approximates the median for U.S. states. Other post-employment benefit (OPEB) obligations are small.
VOTER INITIATIVES CAN LIMIT FLEXIBILITY: A dynamic voter initiative process can have an impact on state finances.
The rating is sensitive to shifts in fundamental credit characteristics, including the state’s proactive financial management and commitment to reserve funding.
Oregon’s ‘AA+’ GO bond rating reflects a diverse economy with some concentration in computer and electronic manufacturing and agricultural products, moderate debt levels, the state’s record of prompt actions to maintain financial flexibility in challenging revenue environments, and the maintenance of financial cushion to provide protection from revenue volatility. Strong financial management is critical to the rating given a revenue structure largely dependent on the cyclical PIT, exposure to voter initiatives that can have negative fiscal impacts, and constitutional ‘kicker’ provisions that require the return of surplus revenues to taxpayers. Corporate revenue in excess of the revenue forecast is now directed to elementary and secondary education per approval of a 2012 voter initiative.
The state’s debt levels are above average but an improved liability situation results in these obligations remaining a moderate burden on resources. The currently offered 2015 series J and L bonds are being issued to fund various capital improvements at the state’s community colleges while the 2015 series K bonds will refund outstanding obligations for debt service savings with no extension of maturities.
RELIANCE ON PERSONAL INCOME TAX FOR OPERATIONS
Oregon’s general fund (GF) is largely dependent on the PIT, which made up 86% of the biennial (BY) 2011 – 2013 GF revenues. PIT collections have been volatile, rising by 22% in BY 2005-2007 and just modestly at 1.2% during BY 2007-2009. PIT revenues for BY 2009-2011 fell by over 6.3%, reflecting the recession and uneven economic recovery, and then rebounded by 15.8% in BY 2011-2013, reflecting both the push forward of income into calendar year (CY) 2012 due to federal tax law changes as well as the beginning of a stronger economic recovery in the state.
Oregon’s BY 2011-2013 GF budget of $13.7 billion had projected PIT receipts in anticipation of recovery, with 16% growth projected over the two-year period; 15.8% was the final growth measured for the biennium. The budget did not contain revenue-raising measures, although one-time measures were included for programmatic funding. The ending GF balance of $472.9 million was applied to appropriations in the current 2013-2015 biennium while the state deposited a combined $52.7 million to its rainy day fund (RDF) and educational stability fund (ESF), increasing reserves to $69.4 million or just under 1% of fiscal 2013 GF revenue.
The COS forecast for the current 2013-2015 biennium that began on July 1, 2013 included an 11.7% baseline growth assumption in PIT revenue, although the baseline growth was expected to be offset by a falloff of one-time revenues, some related to the federal tax law changes. Overall, GF revenues were forecast to grow 9.5% from the 2011-2013 biennium and total $15.6 billion.
The most recent quarterly forecast completed in March 2015, which incorporates revenue initiatives passed in a 2013 special legislative session, updated GF revenue projections to 12.9% growth from the COS forecast to $16 billion. The PIT is forecast to grow by 14.8% over the biennium and the CIT is expected to grow by 20%. Largely due to the effects of the additional revenue initiatives, the March forecast projects GF revenues exceeding the kicker threshold by $59 million, requiring a PIT credit to be issued to taxpayers in the 2016 tax year of approximately $349 million. As a large share of PIT revenue has yet to be recorded by the state in the 2015 tax year, any deviations from forecast could result in the kicker threshold not being reached. The payment of a kicker would reduce expected revenues in the next biennium and the state has adjusted its revenue forecast for the next biennium accordingly.
The kicker-related revenue decrease for the 2015-2017 biennium compared to the December 2014 forecast is expected to be offset by an increase in beginning cash surplus that may be applied to expenditures, from $260 million expected in December 2014 to $347.7 million now anticipated. The state has increased its expected deposits to the RDF and ESF at June 30, 2015 to $148.6 million and $171.2 million, respectively. The reserve balances are expected to total $390.5 million at the end of fiscal 2015, or 4.7% of fiscal 2015 GF revenues, up modestly from the $387 million expected in December.
The governor’s budget for the 2015-2017 biennium proposed $17.7 billion in GF expenditures, supported by 12% growth in projected revenues to $17.8 billion, inclusive of proposed revenue revisions that would maintain 18 current PIT and CIT tax credits, add a new PIT tax credit for working families, and transfer $120 million from the public employees benefits board stabilization fund to the GF. The March 2015 forecast updated revenue expectations, including revisions, to $17.6 billion, incorporating the impact of an expected kicker credit for the 2016 tax year. Including the proposed revenue revisions, the PIT is projected to grow by 11.3% over the biennium and the CIT is forecast with 4% growth. In support of the revenue projection, the forecast estimates annual employment growth of 2.9% in both 2015 and 2016 and 2.4% in 2017; all improved estimates from December. Personal income is forecast to grow by 5.1%, 5.8%, and 6.3% in those respective years; a fairly robust forecast, in Fitch’s view. Overall, the state continues to estimate steady job growth that ranges above the national growth rate in each year of the forecast.
CYCLICAL ECONOMY WITH STEADY EMPLOYMENT GAINS
Oregon’s economy tends to be more cyclical than the nation’s due historically to its reliance on agriculture and natural resources and today because of its large high-tech sector and international trade activities that expose the state to global economic cycles. The state’s largest exports are computer and electronics products (36%) and agricultural products (13%), and the largest destinations are China (18%), Canada (17%), and Malaysia (10%).
Following 7.6% total job loss in CYs 2008 through 2010 as compared to 5.6% for the nation, the state has recovered 110% of the jobs that were lost at its trough of the recession; in January 2010 for Oregon. The state reports that employment in five major industries; education, health care, food manufacturing, professional and business services, and leisure and hospitality, which account for 40% of statewide jobs, are currently at all-time highs. As of January 2015, state employment is up 3.5% year-over-year (yoy) as compared to the nation at 2.3% yoy.
State unemployment, typically above the national level, was 7% in CY 2014 against a national rate of 6.2%. Sizable growth in the state’s labor force, up by 1.6% yoy in CY 2014 compared to a 0.3% national growth rate, has pressured the state’s unemployment rate as more workers seek employment. For January 2015, the state’s unemployment rate was 6.3% compared to the national average of 5.7%; a rate equal to 111% of the national average but down from 7.2% recorded in January 2014.
In 2013, Oregon’s personal income (PI) growth of 2.3% was better than the 2% U.S. rate of growth, and recent quarterly trends have been robust: 4.7% yoy growth in the third quarter of 2014 as compared to 3.9% for the U.S. and 4.4% for the region. Per capita personal income (PCPI) in 2013 totaled $39,848, representing 89% of the U.S. level and ranking Oregon 32nd among the states. PCPI still falls below the high ratio of 94% of the U.S. in 2000 but the state estimate of 4.9% growth in PI in 2014 with robust 5.1% growth forecast in 2015 and 5.8% growth in 2016 may shrink the difference.
MODERATE DEBT BURDEN
As of June 30, 2014, the state’s debt at 5% of 2013 PI is above average but still a moderate burden on resources. Principal amortizes at an improved 52% pace in 10 years from a prior slower trend. In contrast to the prior downturn, the state did not undertake any deficit borrowing in the most recent recession.
Two rounds of pension reform occurred in 2013; the first in the regular legislative session and the second as part of a special fall legislative session. The enacted reforms reduced the system’s liability, providing for sizable system savings for all employers and reducing employer contribution rates. Enacted reforms included: adjusting and limiting COLAs, eliminating a benefit increase for out-of-state retirees based on the Oregon income tax, redefining salaries used in calculating benefits, and reducing legislators’ participation in PERS. After enactment of the 2013 PERS bills, the PERS board reduced employer contribution rates by 4.28% of payroll on a system-wide average basis for the 2013-2015 biennium.
Also in 2013, the PERS board lowered its investment return assumption from 8% to 7.75%, effective Jan. 1, 2014, thereby increasing the calculated actuarial accrued liability. Historically, the system has not smoothed the return on its investments. The board also implemented additional changes to its actuarial methods and assumptions including moving to entry age normal and providing for a 20-year re-amortization of the unfunded actuarial liability. Incorporating the legislative and assumption changes in 2013 as well as the employer contribution rate deferral and re-amortization, the unfunded actuarial accrued liability (UAAL) of the PERS system decreased from $11.03 billion as of Dec. 31, 2011 to $5.621 billion as of Dec. 31, 2012.
Under prior GASB standards, PERS’ UAAL decreased to $2.4 billion as of Dec. 31, 2013, incorporating sizable investment earnings, and the reported funded ratio improved to 95.9% from 90.7% as of Dec. 31, 2012. Beginning in fiscal 2014, the state’s pension systems issued financial statements under new GASB statement 67 reporting standards. Based on the new standards, OPERS reports assets equaling 103.6% of liabilities.
Several legal cases have been filed in regard to the earlier 2013 legislative changes to benefits, citing breach of contract and taking of property rights. Fitch will monitor the status of all legal challenges to these reforms as to impact on the financial and liability position of the state; the state has indicated that a loss in the lawsuits would result in about half of the systems’ recent funding improvement being forgone. On a combined basis, the burden of the state’s net tax-supported debt and adjusted UAAL obligations approximates 5.3% of 2013 PI. The calculations include 21.4% of the liability of OPERS that Fitch estimates to be attributable to the state; the state reported their portion to be 97% funded as of Dec. 31, 2013.
The state’s share of other-post employment health benefits is small and funded at 75%, with a 9% funded ratio for the much smaller premium account, which provides monthly subsidies to pre-Medicare-age state retirees.
Additional information is available at ‘www.fitchratings.com‘.
Applicable Criteria and Related Research:
–‘Tax-Supported Rating Criteria’ (Aug. 14, 2012);
–‘U.S. State Government Tax-Supported Rating Criteria’ (Aug. 14, 2012).
Applicable Criteria and Related Research:
Tax-Supported Rating Criteria
U.S. State Government Tax-Supported Rating Criteria
Fitch Ratings, Inc.
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New York, NY 10004
Elizabeth Fogerty, +1-212-908-0526