OREANDA-NEWS. Fitch Ratings affirms the 'A' rating for the city of Pittsburgh, PA's (the city) $351 million outstanding general obligation (GO) bonds.

The Rating Outlook is Stable.

SECURITY
The bonds are general obligations of the city to which the full faith, credit and taxing power of the city are pledged.

KEY RATING DRIVERS
INCREASED FINANCIAL FLEXIBILITY: Growth in fund balance levels has improved the city's financial flexibility and allowed it to draw from excess balances to fund some capital projects. Financial performance is aided by ongoing state oversight.

PENDING IMPROVEMENT TO WEAK DEBT PROFILE: Debt service accounts for an above-average percentage of spending. Debt levels are down well below past highs and annual debt service is currently scheduled to decline substantially beginning in 2018, providing flexibility to address other spending needs including deferred capital projects and pensions.

DIVERSE BASE ANCHORS ECONOMY: The strong presence of health care, education and financial services continues to anchor the city's stable economy.

PENSION PLAN IMPROVEMENT: A large cash infusion and the dedication of a revenue stream have improved pension funded levels and allowed the city's systems to avoid state takeover. The funded ratios are still below average.

RATING SENSITIVITIES
CONTINUED FINANCIAL FLEXIBILITY: Adherence to the city's financial forecast as it amortizes debt, maintains actuarial pension contributions, and adequately addresses capital needs could lead to positive rating action.

CREDIT PROFILE
Pittsburgh serves as the anchor of the western Pennsylvania economy. The city's population of 305,412 is down from its high of 676,806 in 1950, though it has stabilized somewhat in recent years.

ECONOMY AIDED BY PRESENCE OF HEALTH CARE, EDUCATION AND FINANCE
The strong presence of health care, education and financial services anchors Pittsburgh's economy and has offset the decline of the manufacturing sector, the city's traditional economic base, over the past few decades. The University of Pittsburgh Medical Center (UPMC), the city's top employer, is one of the region's largest medical facilities. The city is also home to the West Penn Allegheny Health System, the University of Pittsburgh, and PNC Financial Services.

The 4.7% unemployment rate as of September 2015 is comparable to the state (4.6%) and nation (4.8%). Wealth levels are below average, though educational attainment levels exceed national averages.

The tax base remained relatively stable because 2002 was used as the base year for assessments through 2012. The millage rate was not changed during this time. The PA Supreme Court ruled in April 2009 that the base-year method for property valuation as applied by Allegheny County violates the state constitution. After some delays, a reassessment was implemented for 2013. The tax base increased from $13.6 billion to $20.2 billion. The millage was reduced in an attempt to make the reassessment revenue-neutral.

FINANCIAL OPERATIONS AIDED BY FISCAL OVERSIGHT

Since December 2003, Pittsburgh has operated as a 'distressed municipality' under the state's Municipalities Financial Recovery Act (Act 47). Among its other roles, Act 47 strongly influences the city's collective bargaining agreements and monitors the compliance of the budget with the city's recovery plan. As Pittsburgh's finances have improved, there has been some discussion by the Act 47 coordinator and members of city government of removing the city from Act 47, and it is likely this will happen within the next few years.

The state created additional fiscal oversight of the city under the Intergovernmental Cooperation Authority Act for Cities of the Second Class (Act 11) (known as ICA) in 2004. The ICA-authorized board, which was intended to help the city recover from its financial crisis in 2003 and bring it to long-term fiscal health, is granted considerable financial control including approval of the city's annual budget and multi-year financial plan.

The city's general fund benefits from a relatively diverse revenue stream. In addition to property taxes, the city collects taxes on earned income, parking, amusements, deed transfers, local services (taxed if employed in city), facility usage (sports stadium and arena users) and payroll preparation. The city also is guaranteed at least $10 million annually in gaming revenues from the state. The city's relatively stable economy has led to little variance in key revenue sources.

The city had two years of large general fund surpluses in 2011 and 2012 of $20.4 million (4.3% of spending) and $22.8 million, respectively, and a smaller $3.6 million surplus in 2013. These results brought the city's unrestricted fund balance to $85.7 million, or a strong 17.7% of expenditures. The surpluses were driven by savings on salaries, a one-time state contribution towards pensions in 2011, and positive variances in several key revenue sources.

The city's 2014 operating budget was approved with a $24 million deficit resulting from a $25 million transfer out for capital projects. The budget was consistent with the approved Act 47 Plan. The tax rate was kept flat. Several key revenue sources came in above budget, but this was more than offset by delayed receipt of $9.4 million of slot machine revenue. As a result, the city finished 2014 with a $32.6 million deficit, reducing unrestricted fund balance to $57.5 million or 11.1% of expenditures.

The city increased the tax rate in 2015. Several key revenue sources are ahead of target, and expenditures are below budget due to vacancy savings. The ICA board is currently withholding over $14 million of slots revenues until the city implements new payroll software, which should be completed soon. Should the city receive the payment from the ICA board in 2015, the projected surplus will be about $24 million; otherwise, it will still be a healthy $10 million.

The 2016 budget features a flat tax rate and a manageable $4 million use of fund balance. Moderate increases are projected to key revenue sources. The city's five-year plan shows overall balanced operations through 2020, with increased pension contributions beginning in 2018 when debt service costs decline. Fitch believes that the projected targets, if achieved, could result in rating improvement.

DEBT LEVELS RAPIDLY DECLINING

Overall debt levels are moderate at $3,555 per capita and 3.5% of market value. This incorporates a favorable decline in direct debt from $824 million in 2006 to $532 million in 2014. Annual debt service is a high $89 million in 2016 (17% of budgeted general fund expenditures) and $87 million in 2017. It drops to $74 million in 2018, then to $45 million in 2019, and it remains at roughly this level through 2026. Pay-out is very rapid with 95% of principal being retired within 10 years. The city has several manageable debt issues planned beginning in 2017 which are projected to cover most of its capital needs, and debt service including the new issues will remain below the city's 12% policy level.

PENSIONS CONTINUE TO POSE RISK

The city maintains three single-employer defined benefit pension plans for non-uniformed employees, police, and fire, respectively. As of January 2009, the plans had a very low aggregate funded ratio of 34.3%, assuming an 8% investment return. Using Fitch's more conservative 7% discount rate, the funded ratio was estimated at 30.9%. The Commonwealth of Pennsylvania enacted legislation, Act 44 of 2009, which mandated that the city reach a funding level of at least 50% by Dec. 31, 2010. In the event the city failed to meet the minimum funding requirement, the city's plans would merge with the state's pension system, PMRS.

The city adopted its current plan to meet the funded requirement at the end of December 2010. The plan included a lump sum deposit of $45 million from the city's debt service fund to the comprehensive trust fund. It also called for diverting dedicated parking tax totaling $13.4 million annually for 2011 through 2017 and $26.8 million from 2018 through 2041, in addition to making annual required contributions (ARCs) at actuarial levels. The timing of the increase in dedicated parking revenues corresponds to the decline in the city's debt service. In 2014, the city made an employer contribution of $31.3 million and voluntary extra payments of $7.1 million from the general fund in addition to the $13.4 million of dedicated parking revenues, for a total of $51.9 million.

The dedication of parking tax is irrevocable per city council action and equaled 27% of total parking taxes in 2014. Should parking revenues be insufficient, the city is still obligated to make these additional payments.

The city's Jan. 1, 2013 actuarial report reflects the 2010 lump sum payments, dedicated parking tax revenues paid up to that date and the present value of all currently scheduled future dedicated parking revenues through 2041; together these elevated the aggregate funded ratio to 58.2%, assuming a 7.5% investment return. Using Fitch's more conservative 7% discount rate, the updated funded level is 55.2%. Based on the revised valuation, it was deemed by the state in September 2011 that the city's plans were sufficiently funded and they were not merged with PMRS. Fitch notes that reflecting future payments is not a standard means of calculating a funded ratio, and that based on current assets in the plan, the funded ratio is notably lower. The city plans to release an updated actuarial report as of Jan. 1, 2015 in the near future. Though not run by the state system, the pension plans' policies are determined by the state, so the city is unable to renegotiate benefit levels and eligibility requirements.

The city's other post-employment benefits (OPEB) on a pay-as-you-go basis make up a moderate portion of expenses at $22 million or 5% of expenses in 2014, which was 60% of the ARC. The city established an OPEB trust that now has $10 million in it, and eliminated OPEB benefits for those hired after 2004, which will limit obligations over the long term. Overall carrying costs for debt service, pensions and OPEB are an elevated 26.5% of government fund spending.