NEW YORK--(BUSINESS WIRE)--Fitch Ratings assigns the following rating to the Successor Agency to the Redevelopment Agency of the City of Pittsburg's (the agency) tax allocation bonds (TABs):
--$70 million TABs series 2014 'A'.
The bonds will sell via negotiation on or about the week of June 16. The bonds will refund outstanding senior TABs for interest savings.
In addition, Fitch affirms the following ratings on bonds issued by the former Pittsburg Redevelopment Agency (former RDA):
--$115.5 million TABs series 1999 and refunding TABs series 2002A and 2003A at 'A';
--$245.4 million subordinate TABs (taxable) series 2006B and subordinate refunding TABs series 2006C and 2008A at'BB-';
--$25.5 million housing set-aside TABs series 2006A (taxable) and housing set-aside tax allocation revenue bonds series 2004A at 'BBB'.
The Rating Outlook is Stable.
SECURITY
The senior TABs are secured by a senior lien on all incremental property tax revenues except for former housing set-aside revenues, and by a subordinate lien on the former housing set-aside revenues. The subordinate TABs are secured by a junior lien on the same revenues. The housing TABs are secured by a senior lien on the former housing set-aside revenues.
KEY RATING DRIVERS
VERY STRONG SENIOR COVERAGE: The 'A' rating on the senior TABs reflects very high debt service coverage levels that hold up well to severe hypothetical assessed valuation (AV) losses.
LOW SUBORDINATE COVERAGE LEVELS: The 'BB-' subordinate TAB rating reflects extremely low debt service coverage and variable rate structural risks. Although this front-loaded refunding results in a few years of improved coverage, Fitch conservatively forecasts coverage below 1.0x upon expiration of the savings under a no-growth environment.
LOW TO ADEQUATE HOUSING LIEN COVERAGE: The 'BBB' housing TAB rating reflects low to adequate debt service coverage, and higher tax base concentration levels than the non-housing TABs as former housing revenues are generated by a subset of the total project area.
CASH FLOW RESOLUTION REDUCES SUB RESERVES: The subordinate TABs' LOC-required supplemental debt service reserve fund (supplemental reserve) is expected to be drawn down on a one-time basis to resolve former non-compliance with a cash flow-related indenture requirement. After the drawdown, the subordinate TABs' non-variable rate TAB (the 2004A variable rate TABs are not rated by Fitch) supplemental reserves will be substantially depleted with no replenishment provision.
APPEALS DAMPEN GROWTH PROSPECTS: Although construction is ongoing and residential values have increased substantially over the past year, a large, recently-granted appeal and a significant backlog of commercial appeals will offset related assessed valuation (AV) gains over the short-term.
MIXED PROJECT AREA CHARACTERISTICS: The project area benefits from its very large size, a rebounding housing market, significant new construction, and a high incremental value (IV) to base year ratio, suggesting lower revenue volatility. However, AV fell significantly during the housing-led recession and has not yet shown recovery, the local economy is weighed by high unemployment and low income levels, and taxpayer concentration is high.
RATING SENSITIVITIES
TAX BASE PERFORMANCE: The ratings or Outlooks may change, depending on the performance and sustainability of the project area's tax base.
LOC RENEWAL: The subordinate TABs' rating would be downgraded if the agency were unable to renew its LOC at a reasonable cost, leading to material deterioration of the TABs' already weak debt service coverage.
CREDIT PROFILE
Pittsburg is located in Contra Costa County and benefits from its location within the large and diverse San Francisco Bay Area employment market and the presence of several large industrial enterprises. Most local economic indicators are weak despite the city's geographic advantages.
The project area comprises a large 5,750 acres, making up over 70% of the city's fiscal 2014 AV. Although the project area's tax base contains a fair degree of diversification by property type, there is high concentration among the top 10 payers who make up 33% of IV (30% of AV).
FY14 AV FLAT AS ADMINISTRATIVE ERROR, APPEALS OFFSET GAINS
Despite increasing new development and major home price gains, the project area's fiscal 2014 AV gained just 0.3% year-over-year. Management believes AV would have climbed 5% if not for a county administrative error that resulted in a parcel being removed from the project area in fiscal 2014 that had been inadvertently included in fiscal 2013. Also, state-assessed Delta Energy Center, the project area's largest taxpayer, successfully appealed its AV with a $55 million reduction. According to Zillow, home prices increased a significant 20% year-over-year through January 2013 (the valuation date used to determine AV levels for fiscal 2014).
FY15 AV DIFFICULT TO PREDICT DUE TO MIXED DATA
The county has not provided guidance on fiscal 2015 AV levels, which will be subject to significant and countervailing forces. Positive factors include a rapidly recovering housing market, including $88.7 million (2.3% of fiscal 2014 AV) of recently sold properties, 104 new housing units under construction, and a substantial 36% year-over-year home value increase through January 2014, according to Zillow. Because much of the residential housing stock was subject to temporary Prop 8 reductions during the housing downturn, the Prop 13 AV cap (typically 2% annually) will not apply to much of the residential valuation gain.
These gains will be offset by known and pending appeals and an atypically low 0.45% Prop 13 inflation adjustment for fiscal 2015. Another significant taxpayer, United Spiral Pipe LLC (the project area's third largest taxpayer) successfully appealed its AV and will recognize a $49 million reduction in fiscal 2015. Numerous other taxpayers have appeals pending, with total AV at risk of $200 million (5.5% of fiscal 2014 AV). If these appeals succeed at historical success rates, then the projected AV loss amounts to $126 million ($3.2% of fiscal 2014 AV) on top of the previously mentioned known loss of $49 million (1.3%).
Fitch's base case AV change for fiscal 2015 is a loss of $68.8 million (1.8% of fiscal 2014 AV), which nets estimated pending and known appeals against known sales and new construction, and assumes the CPI adjustment of 0.45% is applied to all project area AV. Fitch believes these assumptions are conservative in light of rapidly rising home prices and a large overhang of temporary Prop 8 AV reductions that applies to much of the project area's housing stock.
OUT-YEAR AV GROWTH POISED TO BENEFIT FROM NEW CONSTRUCTION
AV levels in fiscal 2016 and beyond are likely to benefit from elevated construction levels. New housing construction is proceeding at a pace of about 200 single family homes annually, with an approximate annual value of $68.8 million (2.8% of fiscal 2014 AV) based on agency-reported median sales values of $534,500. Multi-family construction is also expected to boost AV, but the timing of such developments is difficult to predict.
The city has approved over 2,500 new housing units within the project area, and expects thousands more given the availability of vacant land and in-fill development opportunities. A portion of anticipated projects are related to a planned Bay Area Rapid Transit rail extension into the project area.
SENIOR TABS ENJOY A VERY STRONG AV CUSHION
Fitch-estimated fiscal 2014 pledged tax increment revenues of $34 million cover senior TABs' maximum annual debt service (MADS) of $12.9 million by 2.57x. Fitch views the senior TABs' AV cushion as very strong, and estimates AV would have to decline by a severe 59% for MADS coverage to reach 1.0x. By comparison, the project area's peak-to-trough AV decline was a cumulative 20%. Fitch's estimated AV cushion calculations assume known AV gains and losses for fiscal 2015, but do not include the potential impact of pending appeals.
In addition to strong coverage levels, the senior TABs also include a cash-funded debt service reserve fund sized to the IRS maximum.
HOUSING TABS HAVE LOW TO ADEQUATE AV CUSHION
Fitch-estimated fiscal 2014 former housing revenues of $2.5 million cover housing TABs' MADS of $2 million by 1.27x. Fitch views the housing TABs' AV cushion as low to adequate, and estimates AV would have to decline by the same amount as its 20% peak to trough recessionary fall for MADS coverage to reach 1.0x.
The housing TABs' former housing revenues are only generated from sub-project areas 2 and 3, as project area 1 was exempted based on prior redevelopment statutory exemptions and affordability characteristics. As such, the housing TABs' portion of the total project area is smaller than the non-housing TABs, but still adequately sized at nearly 2,000 acres. However, taxpayer concentration is significantly higher at 45% of AV and 47% of IV (30% and 33% for the total project area, respectively).
SUBORDINATE TABS PROJECTED TO HAVE INADEQUATE COVERAGE
Fitch estimates fiscal 2014 net tax increment revenues at $34 million, providing only 95% of revenue needed to cover all-in (senior plus subordinate debt service) MADS. However, coverage of fiscal 2014 annual debt service (ADS) is sum-sufficient, inclusive of $535,000 of surplus housing revenues (see below for discussion of surplus housing availability) and $416,000 of unitary revenues (property taxes derived from certain state-assessed properties).
The agency additionally projects interest earnings, loan repayments, and supplemental property tax revenues of $2.4 million, which should enhance the agency's ability to make debt service payments each year. However, Fitch conservatively excludes these items from its coverage calculations.
Fitch forecasts coverage of MADS in fiscal 2015 at an extremely low 1.03x, which is boosted significantly with front-loaded interest savings from this refunding. Fiscal 2015 coverage levels are weighed by the impact of AV appeals and a one-time accrued LOC fee of $2 million. Due to the TABs' rating level falling below 'BB+' in 2012, the agency's LOC fee on its variable rate TABs increased $1 million annually. The LOC provider allowed the agency to accrue the fee for the first two implementation years, to $2 million payable in December 2014. Subsequent years' fees will equal about $1 million unless or until the subordinate TABs' rating rises to at least 'BB+' or the LOC is terminated. The LOC expires in December 2014 and includes an evergreen renewal provision.
Fitch estimates that under a conservative no growth and low interest earnings scenario, the agency will add modestly to its reserve levels annually over the next decade due to the availability of interest earnings and other revenues. Under a set of more aggressive assumptions, the agency projects significant annual surplus revenues over the same period.
The subordinate TABs may benefit from the agency beginning to adhere to an indenture requirement to fund its subordinate debt service fund to two year's worth of debt service. Historically the agency had funded to just one year. The agency plans to reach compliance with this requirement over time using surplus revenues. This will allow the agency to retain funds that would otherwise have flowed to overlapping taxing entities, and to build up a larger cash cushion for the benefit of bondholders. The larger sized debt service reserve has been approved by DOF for inclusion on the agency's recognized obligation payment schedule.
CASH FLOW RESOLUTION TO SHRINK SUPPLEMENTAL RESERVE
In addition to the two-year requirement for the subordinate lien TABs, the agency intends to correct its historical non-compliance with a senior TAB indenture requirement that requires tax increment be diverted at the beginning of the bond year in an amount sufficient to pay a full year's worth of senior debt service. Historically the agency executed the requirement on a semi-annual basis instead of the required annual basis. Correcting the cash flow timing issue will negatively affect the subordinate TABs' cash cushion, conservatively projected to result in a $2.8 million one-time draw on the non-variable rate TAB's supplemental reserve, which would reduce the reserve to $2.7.
The non-variable rate TABs additionally enjoy standard indenture-required reserves sized to the IRS maximum, or $9.9 million. The cash-funded reserves have not been tapped to date and are not expected to be needed to comply with either of the afore-mentioned indenture requirements.
SUB TABS EXPOSED TO VARIABLE RATE STRUCTURAL RISKS
Of the subordinate non-housing TABs, 45% are the agency's 2004A variable rate bonds by par value which are not rated by Fitch with a variable-to-fixed rate swap. The variable rate structure leaves all of the parity TABs, including those rated by Fitch, exposed to interest rate risk and a potential termination payment if the swap is terminated. The swap counterparty may terminate the swap if the agency's debt is downgraded to below 'BBB-' by S&P, which is the current rating level. Management estimates the termination payment at roughly $14 million.
The termination payment would be subordinate to subordinate debt service and all pass-through payments and likely could not be paid based on current debt service coverage levels. As a result, the swap counterparty may not be incentivized to terminate the swap, if the option becomes available. Further, given its subordination to debt service, Fitch would not expect failure to make a termination payment to result in a TAB default.
The agency is also exposed to LOC renewal and fee hike risks, with the LOC scheduled to expire in December 2014. An inability to extend or replace the agency's LOC would result in conversion of the variable rate TABs to bank bonds, which could raise interest costs to as high as 12%, adding an estimated $9.6 million to annual interest costs. Fitch estimates the bonds' combined non-variable rate TAB debt service reserves could last approximately two years under these conditions before depletion, depending on the allocation of revenue shortfalls between various debt service reserve funds.
Additional information is available at 'www.fitchratings.com'.
In addition to the sources of information identified in Fitch's Tax-Supported Rating Criteria, this action was additionally informed by information from Creditscope, S&P/Case-Shiller Home Price Index.
Applicable Criteria and Related Research:
--'Tax-Supported Rating Criteria' (Aug. 14, 2012);
--'U.S. Local Government Tax-Supported Rating Criteria' (Aug. 14, 2012).
Applicable Criteria and Related Research:
Tax-Supported Rating Criteria
http://www.fitchratings.com/creditdesk/reports/report_frame.cfm?rpt_id=686015
U.S. Local Government Tax-Supported Rating Criteria
http://www.fitchratings.com/creditdesk/reports/report_frame.cfm?rpt_id=685314
Additional Disclosure
Solicitation Status
http://www.fitchratings.com/gws/en/disclosure/solicitation?pr_id=833453
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.