Fitch Upgrades Rochester, NY's IDR and GOs to 'AA-' on Criteria Change; Outlook Stable
--$163 million general obligation (GO) bonds;
--Issuer Default Rating (IDR).
The Rating Outlook is Stable.
The bonds are a general obligation of the city for which the city has pledged its full faith and credit and ad valorem tax, subject to the 2011 state statute limiting property tax increases to the lesser of 2% or an inflation factor (the tax cap law). This limit can be overridden annually by a 60% vote of the city council.
KEY RATING DRIVERS
The upgrade of the IDR and limited tax GO bond rating results from the application of Fitch's revised criteria for U. S. state and local governments, which was released on April 18, 2016. The ratings reflect the district's legally unlimited independent revenue raising ability, solid expenditure controls, and moderate long-term liability burden. The upgrade also reflects the city's exceptionally strong gap-closing capacity, which Fitch expects will enable it to maintain financial flexibility throughout economic cycles.
Economic Resource Base
Rochester is New York's third largest city and is located in Monroe County (GOs rated 'BBB+', Stable Outlook by Fitch) in north central New York. The city's population has been stagnant in recent years at approximately 210,000.
Revenue Framework: 'a' factor assessment
Fitch expects the city's revenue growth to be stagnant, below the rate of inflation. The city has unlimited independent legal ability to raise revenue.
Expenditure Framework: 'aa' factor assessment
Expenditure growth should increase at a rate marginally above revenue growth. The city maintains solid flexibility to adjust its main expenditure items.
Long-Term Liability Burden: 'aa' factor assessment
The city's long-term liability burden is moderate relative to the resource base.
Operating Performance: 'aaa' factor assessment
The city has exceptionally strong gap-closing capacity, and Fitch expects it to manage throughout the economic cycle with a high level of financial flexibility. The city has built solid reserves over the course of the recent economic recovery.
Revenue Expectations: The 'AA-' rating is sensitive to any material change in Fitch's expectation for revenue growth, which is currently expected to be below the rate of inflation.
The city serves as the economic center for the region and is anchored by higher education and healthcare. Rochester Gas and Electric is the largest taxpayer at 11% of assessed value. Major employers include the University of Rochester/Strong Memorial, Rochester General Health System, Wegmans, and Xerox, which moved its headquarters away from Rochester in 1969 but still maintains a sizeable presence.
Eastman Kodak was historically the largest employer with over 60,000 employees in the 1980s but is now down to just 2,620 employees. Eastman Kodak filed for Chapter 11 bankruptcy protection in January 2012, and emerged from bankruptcy in September 2013. While the city's economy has been able to withstand the historical reduction in Eastman Kodak's labor force, the company remains among the city's largest employers. Fitch believes that the bulk disruption caused by Eastman Kodak's contraction and bankruptcy is largely minimized given its current reduced size. Favorably, the city currently has a number of ongoing development projects to encourage corporate development near the University of Rochester.
The city is reliant on three main revenue sources, property tax at 31% of fiscal 2016 general fund revenue, sales tax (31%), and state aid (23%).
Fitch expects that the city's general fund revenue will grow in line with historical trends (1.6% 10 year compound annual growth rate through fiscal 2016) going forward, generally below national inflation due to expectations of continued slow growth in sales and property tax revenue. The city budgets for property tax and sales tax revenue to grow between 1% and 2% annually.
New York State law requires property tax revenue increases be limited to the lesser of CPI or 2% annually, unless a supermajority of the local governing body votes for a larger increase. The ability to override the cap provides substantial legal flexibility to raise revenues for the city. Any increase in the sales tax rate would require state approval.
The city's main expenditure items include public safety (32% of fiscal 2016 general fund expenditures), general government (29%), and education in the form of support to the Rochester City School District (26%).
Fitch expects that the natural pace of expenditure growth will be marginally above revenue growth. The city's growth in expenditures is largely driven by labor force salary increases, which are assumed to grow at approximately 2% annually based on labor contracts and historical levels, marginally above the level of growth that is assumed for revenue.
The city's flexibility with its main expenditure items is solid, with carrying costs making up approximately 15% of governmental expenditures. Carrying costs are elevated by the large pay-as-you-go contribution to OPEB ($28 million/5% of governmental expenditures) and pension contributions ($41 million/7% of expenditures). Management has moderate control over headcount and actively monitors vacant positions to provide for flexibility through attrition. The city also transfers out approximately $20 million annually to the capital projects funds (over 4% of general fund expenditures and transfers), which it can delay to provide further flexibility.
Long-Term Liability Burden
The city's long-term liabilities are moderate with the combined net pension liability and overall debt as a percentage of personal income at approximately 5%. Fitch expects the burden will remain moderate given the city's limited future debt plans and pension liability trends. Of the long-term liability burden, around 37% is direct debt of the city and 45% is the net pension liability. Approximately 18% is derived from overlapping debt from Monroe County. The city has moderate debt plans over the next year, but Fitch does not expect that to significantly impact the long-term liability assessment.
The long-term liability metric reflects the city's participation in the multi-employer New York State and Local Employees' Retirement System (ERS) and the New York State and Local Police and Fire Retirement System (PFRS). The plans statutorily require the city to contribute the actuarially determined rate. The city estimates the ratio of the fiduciary net position to total pension liability to be 90% assuming a 7% discount rate. The city also has a high unfunded OPEB liability ($458 million/7% of personal income). The city has continued to assign money within the general fund balance to address this liability ($7.9 million in FY 2016).
The city built and maintained strong reserve levels through the economic recovery, with available general fund balance increasing to 18% in FY 2016. The city's moderate level of revenue volatility and superior inherent budget flexibility enable the city to maintain available reserve levels above the 'aaa' reserve safety margin in an unaddressed stress scenario.
The city has demonstrated strong budget management through the recent economic recovery. The city had a small increase in revenue in FY 2016 and finished the year with a $1.3 million increase in general fund balance. Current FY 2017 operations are tracking to budget, with the city targeting a surplus of approximately 1%.