OREANDA-NEWS. Fitch Ratings has affirmed Kauai County, Hawaii's (the county) $108.7 million general obligation (GO) bonds at 'AA-'.

The Rating Outlook is Stable.

SECURITY

The bonds are absolute and unconditional general obligations, supported by the full faith and credit of the county and an unlimited pledge of ad valorem property tax.

KEY RATING DRIVERS

RETURN TO OPERATING BALANCE: The county added to fund balance for the first time since fiscal 2010, with revenues and expenditures both performing positively to budget. Fitch believes that the narrow revenue base could contribute to future fund balance volatility.

PROSPECTS FOR REVENUE GROWTH: The county responded to recent operating deficits with property tax rate increases and has also benefited from recent growth in assessed values (AV). State legislation granting counties authority to impose a general excise tax is an additional revenue prospect.

LIMITED EXPENDITURE FLEXIBILITY: The pace of spending growth has waned in recent years. Public safety expenditures remain elevated, accounting for nearly half of general fund spending. The county exerts limited control over state-level collective bargaining negotiations.

NARROW ECONOMIC BASE: Kauai's economy remains highly dependent upon tourism, which continues to show improvement from sharp declines during the downturn. Tourism indicators have risen since 2010 but in general remain below prerecession peaks.

MIXED LONG-TERM OBLIGATIONS: Debt levels are low due to the absence of overlapping jurisdictions and state government's responsibility for funding public education, but liabilities for retiree benefits are substantial and expected to increase.

RATING SENSITIVITIES
STRUCTURAL BALANCE: An inability to maintain general fund structural balance resulting in reduced reserve levels in future years could apply downward rating pressure.

CREDIT PROFILE
Kauai County is the smallest of the four Hawaiian counties in terms of size, population, and operating budget. It occupies the two northern inhabited islands of the Hawaiian Archipelago and has a 2015 population of approximately 71,700, a 6.9% increase since 2010

OPERATING BALANCE RETURNS

A narrow revenue stream that heavily relies on property tax collections underscores financial results that Fitch believes can be volatile over time. Recently the county returned to positive operations. General fund revenues increased 10.5% in fiscal 2015 from the year prior. Fiscal 2015 general fund expenditures were approximately $13 million under budget, with the largest savings in public safety, which accounts for a high 47.6% of general fund spending.

The county added $7.3 million (5.7% of general fund spending) to unrestricted general fund balance in fiscal 2015 after prior significant declines. As a result, unrestricted fund balance stood at $38.8 million (30.4% of general fund spending) at fiscal year-end 2015. The recovery follows fund balance reduction between 2010 and 2014 from 62% to 26% of general fund spending. Fitch considers unrestricted fund balance a key credit factor for the county given its narrow economic base and vulnerability to declines in discretionary consumer spending.

Fiscal 2016 revenues and expenditures are both performing positively to budget. The county is in the process of developing a multi-year financial plan and expects to add modestly to general fund balance in the near term.

IMPROVED REVENUE PROSPECTS

The county is highly dependent upon property taxes, which comprised 80% of general fund revenues in 2015. Property tax revenue reductions of 12% between 2009 and 2012 contributed to the county's prior operating challenges. The county's willingness to increase property tax rates and increasing AV (cumulatively 19.2% in fiscal 2013-2017) have resulted in recent revenue growth and somewhat offsets the narrowness of the revenue stream.

The county may realize further revenue growth through the state's action allowing counties to impose an additional 0.5% general excise tax. The tax may be used towards operating or capital costs related to transportation. Any ordinance concerning the additional tax must be passed by June 30, 2016. The council is considering an ordinance to enact a 0.25% general excise tax, which is expected to raise approximately $10 million in revenue (equal to 9% of fiscal 2015 general fund spending).

The state legislature rejected a proposal to lift the cap on the county's share of the transient accommodation tax (TAT), which represents the county's second-largest revenue source (11.2%). Hawaiian counties are currently receiving $103 million collectively under a temporary increase in the county TAT allocation from the statutory $93 million. There is a bill being considered that would make the higher cap permanent. Failure of this measure would decrease the revenues available to each of the counties.

LIMITED EXPENDITURE FLEXIBILITY

The county maintains little expenditure flexibility outside of discretionary grant programs. Fiscal 2008-2012 saw expenditures increase at a greater rate than revenues. The past three fiscal years have seen a reversal in this trend, but labor agreements could limit the county's future flexibility. Labor negotiations for Hawaii's counties are managed jointly with the state, and previous settlements had exceeded budget estimates. The county has also opted to minimize the use of potential labor cost control measures such as furloughs, layoffs, or temporary salary reductions and maintains limited discretionary spending reduction options.

NARROW ECONOMIC BASE

Tourism is the mainstay of the county's economy and has shown steady growth since mid-2010 after sharp declines during the recession. Total visitor arrivals remain below pre-recession peaks despite these gains, while visitor expenditures have only recently surpassed previous highs. Hotels and resorts account for a majority of the county's major employers and taxpayers, underscoring the importance of the visitor industry to its economy. The county's preliminary January 2016 unemployment rate of 3.6% was above the state average of 3.1% but below the national average of 5.3%.

MIXED LONG-TERM OBLIGATIONS

County debt levels are low at $1,591 per capita and 0.6% of market value, in part due to the absence of overlapping jurisdictions, as well as the state's responsibility for school funding under Hawaii's uncommon division of municipal responsibilities. Amortization is moderate with 51% of direct debt repaid in 10 years. The county is a participant in the state-sponsored employee retirement system and will likely face ongoing contribution rate increases to address a low ratio of assets to liabilities (an estimated 59% at Fitch's more conservative 7% discount rate). Carrying costs for debt service and retiree benefits are manageable at 21.7% of governmental spending.

The county's unfunded liability for other post-employment benefits (OPEB) is substantial at $149.3 million as of 2013, but the county has shown notable fiscal responsibility in fully funding its actuarially determined annual required contribution for such benefits since 2008.

Contact:

Primary Analyst
Jeremy Stull
Analyst
+1-646-582-4981
Fitch Ratings, Inc.
33 Whitehall Street
New York, NY 10004

Secondary Analyst
Shannon Groff
Director
+1-415-732-5628

Committee Chairperson
Barbara Ruth Rosenberg
Senior Director
+1-212-908-1731

Media Relations: Elizabeth Fogerty, New York, Tel: +1 (212) 908 0526, Email: elizabeth.fogerty@fitchratings.com.

Additional information is available at 'www.fitchratings.com'.

Fitch recently published exposure drafts of state and local government tax-supported criteria (Exposure Draft: U.S. Tax-Supported Rating Criteria, dated Sept. 10, 2015 and
Exposure Draft: Incorporating Enhanced Recovery Prospects into U.S. Local Tax-Supported Ratings, dated Feb. 2, 2016). The drafts include a number of proposed revisions to existing criteria. If applied in the proposed form, Fitch estimates the revised criteria would result in changes to less than 10% of existing tax-supported ratings. Fitch expects that final criteria will be approved and published in the beginning of the second quarter of 2016. Once approved, the criteria will be applied immediately to any new issue and surveillance rating review. Fitch anticipates the criteria to be applied to all ratings that fall under the criteria within a 12-month period from the final approval date.

In addition to the sources of information identified in the applicable criteria specified below, this action was informed by information from CreditScope, Lumesis, IHS, and Zillow Group.

Applicable Criteria
Exposure Draft: Incorporating Enhanced Recovery Prospects into US Local Tax-Supported Ratings (pub. 02 Feb 2016)
Exposure Draft: U.S. Tax-Supported Rating Criteria (pub. 10 Sep 2015)
Tax-Supported Rating Criteria (pub. 14 Aug 2012)
U.S. Local Government Tax-Supported Rating Criteria (pub. 14 Aug 2012)

Additional Disclosures
Dodd-Frank Rating Information Disclosure Form
Solicitation Status
Endorsement Policy
ALL FITCH CREDIT RATINGS ARE SUBJECT TO CERTAIN LIMITATIONS AND DISCLAIMERS. PLEASE READ THESE LIMITATIONS AND DISCLAIMERS BY FOLLOWING THIS LINK: HTTP://FITCHRATINGS.COM/UNDERSTANDINGCREDITRATINGS. IN ADDITION, RATING DEFINITIONS AND THE TERMS OF USE OF SUCH RATINGS ARE AVAILABLE ON THE AGENCY'S PUBLIC WEBSITE 'WWW.FITCHRATINGS.COM'. PUBLISHED RATINGS, CRITERIA AND METHODOLOGIES ARE AVAILABLE FROM THIS SITE AT ALL TIMES. FITCH'S CODE OF CONDUCT, CONFIDENTIALITY, CONFLICTS OF INTEREST, AFFILIATE FIREWALL, COMPLIANCE AND OTHER RELEVANT POLICIES AND PROCEDURES ARE ALSO AVAILABLE FROM THE 'CODE OF CONDUCT' SECTION OF THIS SITE. FITCH MAY HAVE PROVIDED ANOTHER PERMISSIBLE SERVICE TO THE RATED ENTITY OR ITS RELATED THIRD PARTIES. DETAILS OF THIS SERVICE FOR RATINGS FOR WHICH THE LEAD ANALYST IS BASED IN AN EU-REGISTERED ENTITY CAN BE FOUND ON THE ENTITY SUMMARY PAGE FOR THIS ISSUER ON THE FITCH WEBSITE.

Endorsement Policy - Fitch's approach to ratings endorsement so that ratings produced outside the EU may be used by regulated entities within the EU for regulatory purposes, pursuant to the terms of the EU Regulation with respect to credit rating agencies, can be found on the EU Regulatory Disclosures page. The endorsement status of all International ratings is provided within the entity summary page for each rated entity and in the transaction detail pages for all structured finance transactions on the Fitch website. These disclosures are updated on a daily basis.