Fitch Affirms Fredericksburg, VA's IDR at 'AA+'; Outlook Stable
--Issuer Default Rating (IDR);
--$31.3 million general obligation (GO) bonds, series 2011A.
The Rating Outlook is Stable.
The bonds are general obligations of the city backed by it full faith and credit and unlimited taxing power.
KEY RATING DRIVERS
The 'AA+' IDR reflects the city's strong revenue growth prospects that, combined with superior budgetary flexibility highlighted by an unlimited revenue raising capacity, are expected to continue to produce strong financial results. Healthy reserve levels are several multiples of the city's low revenue volatility and add to the financial flexibility. The long-term liability burden is moderate compared to somewhat below-average personal incomes and Fitch expects it will remain so based on borrowing plans and the city's debt amortization schedule.
Economic Resource Base
Fredericksburg, population 28,118 (2015), is an independent city in the Northern Virginia region located on Interstate-95 approximately 50 miles south of Washington, D. C. and 50 miles north of Richmond, VA. Amtrak and the Virginia Railway Express provide service to Washington D. C. from downtown Fredericksburg. The city is steadily increasing in population with residents up 11% since the 2010 Census as estimated by the Weldon Cooper Center, University of Virginia.
Revenue Framework: 'aaa' factor assessment
Economic expansion and population growth in the city has brought in an increasing level of revenues primarily from property taxes, but also a mix of local sales, meals, and business license taxes. The city's general fund revenues are expected to continue to increase in line with or above the level of national GDP growth.
Expenditure Framework: 'aa' factor assessment
Education spending drives the city's budgets and the city funds its schools well in excess of the state's mandate providing solid expenditure flexibility in a potential downturn. In addition, fixed carrying costs are a moderate 12.3% of governmental spending. City employees are prohibited from organized labor negotiations.
Long-Term Liability Burden: 'aa' factor assessment
The city's liability burden is moderate at 11.4% measured against personal income and driven by direct debt of the city largely for school capital projects. The city's pension plan maintains assets that are 82% of the total liability leaving a small net pension liability.
Operating Performance: 'aaa' factor assessment
General fund reserves are consistently maintained above the conservative fund balance policy that provides exceptional gap closing capacity based on the city's superior budget flexibility and very low revenue volatility.
STRONG FINANCIAL PROFILE: Fitch expects the city's strong financial profile to remain stable, including strong revenue growth and budget controls.
The area economy is somewhat narrow, underpinned by higher education, health services, and government. Additionally, the city serves as a regional retail center for Spotsylvania (GOs rated 'AAA'/Outlook Stable), Stafford (GOs rated 'AA+'/Outlook Positive), and Caroline counties (combined population of 298,958). The city's economy has rebounded from the recession as evidenced by growth in local sales, meals, hotel, and business license taxes in fiscals 2010-2015 and increases in the housing market. The Zillow Home Value Index forecasts an additional 1.8% growth through June of 2016, adding to similar gains of the previous several years.
The city's economy continues to be anchored by Mary Washington Hospital and the University of Mary Washington (the university), which are the first and second largest employers in the city at 4,465 and 865 employees, respectively. The university continues to invest in expansion projects both on campus and in the Eagle Village mixed use retail and residential development.
Wealth and income metrics fall below regional, state and federal averages, partially driven by the approximately 4,000 undergraduate students at the university. Continued growth in the much larger surrounding counties will continue to benefit the city, which serves as the commercial center of the region.
The primary source of general fund revenue is property tax at a little under half of revenues. Sales tax contributes 14% of revenues with meals and lodging taxes combining for an additional 14%. The diverse tax framework has proved a stable source of revenues for the city. Meals and lodging taxes have added to growth in recent years.
Total general fund revenues have increased at approximately the rate of national economic expansion even with property tax rates slightly lower than they were a decade ago. The city's taxable assessed value (TAV) has increased significantly, primarily from several years of large increases leading up to the Great Recession. Since, the TAV has remained mostly level with some additions from new construction in the growing downtown district.
The city has very broad revenue raising capacity, as there is no legal limit to the property tax rate or levy in Virginia.
The city's primary general fund expenditures are education and public safety at 37% and 28% of the total, respectively. Virginia public schools are largely funded by a mix of state and local aid contributions. The amount of local contributions is determined by the city council, and based on the state-determined performance standards for the school system. Fredericksburg City Public Schools, a component unit of the city, is primarily funded by the city with less than half of revenues coming from the state and federal sources. The city's funding for the schools is 190% above the state's required local expenditure as of fiscal 2015. Fitch considers the budgeted amount over the required contribution as discretionary spending that adds cost-cutting flexibility if needed.
As with most local governments, Fitch expects spending growth will likely be near to slightly ahead of revenue growth, partially due to strong projected school enrollment growth and related school capital needs.
Fixed carrying costs associated with debt service, required pension payments and actual other post-employment benefit (OPEB) payments consumed a moderate 12.3% of total governmental spending in fiscal 2015. Debt service was the primary driver of fixed costs at 7.7% of spending and will likely remain level or slightly increase due to the additional debt expected in the capital improvement plan (CIP). The city has broad discretion over headcount and the terms of employee benefits and wages given the absence of collective bargaining.
Long-Term Liability Burden
The combined burden of overall debt and the city's net pension liability is moderate at 11.4% of personal income. Direct debt is a majority of the metric at 9.6% of personal income and expected to remain level given the city's satisfactory debt policy, existing capital needs, and debt amortization rate at 56% of principal in 10 years. The city's general fund capital improvement program for fiscals 2017-2021 totals $97.6 million and includes near-term debt issuance plans of $22.5 million. Discussions of a new elementary school are underway and future capital plans may increase as a result.
The city's employees participate in a defined benefit cost sharing multiple employer plan administered by the Virginia Retirement System (VRS). As of June 30, 2015, plan assets to liabilities were 82% at VRS' 7% investment rate of return assumption. The net pension liability is minimal at about 2% of personal income.
The city maintains a general fund balance well in excess of the conservative reserve policy. Reserve levels translate to a 'aaa' reserve safety margin considering the city's very low revenue volatility and superior budget flexibility. The city maintains an unlimited ability to adjust property tax rates, which management adjusted as necessary throughout the recession. The real estate rate is below where it was a decade ago, low for the region and provides important gap closing capacity that Fitch believes management could leverage in a potential downturn scenario. Fiscal 2015 ended ahead of budget adding about 1% to fund balance which totaled $28.1 million or 33.3% of spending and in excess of the city's 12% fund balance policy.
While the city postponed a minor amount of paygo capital during the recession, in recent years, paygo has increased back to $1 million to $2.5 million annually or about 1%-2.5% of the budget. Other discretionary cuts were minimal. Fiscal 2016 ended with an estimated use of reserves of $2.7 million that included $1.7 million in paygo capital and $1 million to establish an OPEB trust. Results were less than the planned $6.9 million drawdown in the original budget based on the city's policy to conservatively budget revenues that came in almost 3% over budget. The fiscal 2017 adopted budget for the general fund is $90.4 million, or a 2.1% increase over fiscal 2016. The budget includes a decrease in the real estate tax rate for equalization, a 2% cost of living adjustment and a $3.7 million general fund balance draw which will be primarily used for paygo capital.