Fitch Ratings has placed the following bonds on Rating Watch Negative:
--$1.768 billion in San Jose Redevelopment Agency (agency) Merged Area Redevelopment Project tax allocation bonds (merged area TABs) rated 'BBB-'.
In addition, Fitch affirms the following rating:
--$350 million agency housing set aside TABs (housing TABs) at 'A'.
The Rating Outlook on the housing TABs is Stable.
The merged area TABs are secured by net tax increment revenue equal to gross tax increment revenue net of the 20% set aside for housing and senior pass through payments. Housing TABs are secured by a senior lien on the 20% set aside for housing.
KEY RATING DRIVERS
--The Negative Rating Watch on the merged area TABs reflects the risk of further reduced sources of bond repayment if subordinate variable rate bonds are accelerated. This risk is heightened by the governor's Oct. 3 veto of a bill that would have explicitly permitted the agency to negotiate an extension to the letters of credit (LOCs) that support the subordinate bonds. Fitch does not rate the subordinate bonds.
--The affirmation of the 'A' rating with a Stable Outlook on the housing TABs reflects their continued sound debt service coverage and the expectation that a potential acceleration of the subordinate merged area bonds would have no impact on the resources available to repay the housing TABs.
--Fiscal 2011 coverage of senior lien merged area TABs was narrow at 1.09 times (x), while coverage of housing TABs was a sound 1.85x. Fiscal 2012 assessed value (AV) declined 1.84%, which will reduce coverage slightly, and Fitch believes the area is exposed to further declines.
--The vast majority of the debt service reserve requirements for both the merged area and housing bonds are met through surety bonds, all of which would have questionable availability of funding if called on.
--The investment grade rating on the merged area TABs reflects, in part, the availability of sufficient resources, primarily in asset sales, to cover debt service for a limited period of time as an offset to the lack of a cash-funded debt service reserve. The increased risk of subordinate lien bond acceleration reduces the likelihood that such resources will be available for senior lien bond debt repayment.
WHAT COULD TRIGGER A RATING ACTION
--Further erosion in resources available to repay merged area or housing set-aside TABs.
Fitch expects increased credit pressure on the merged project area TABs upon the Nov. 26, 2011 expiration of LOCs on $93.5 million in subordinate variable rate demand bonds. Absent legislative action prior to the LOCs' expiration, the bonds supported by the LOCs may become bank bonds, which, upon notice by the bank, may become due and payable immediately. Legislative action would be needed for the agency to amend the reimbursement agreements under which the LOCs were issued, which the bank believes would be required to extend the LOCs' expiration dates. The governor on Oct. 3rd vetoed a bill that would have explicitly allowed the agency to make such an amendment. Although the agency contends that the bank may unilaterally extend the expiration dates of the LOCs under existing terms, the bank's legal interpretation differs. Credit pressure resulting from this issue does not relate directly to the housing TABs, as their coverage is satisfactory.
The project area is large and geographically diverse (covering 12.7 non-contiguous square miles and spanning 20 miles north to south) and encompasses an industrial/commercial base which is a vital part of the regional state and national economy. The tax base is highly concentrated both in its top taxpayers and in the high technology sector which has experienced high levels of volatility in recent years. The tax base also includes high levels of personal property & equipment (PP&E) which has also experienced volatility.
Along with AV and incremental AV (IV), pledged revenue trends have been volatile in recent years, ranging from a gain of 32.6% in fiscal 2002 to 14% and 12% losses in fiscal years 2004 and 2005, respectively. The bulk of the AV losses stemmed from reductions in personal property AV, which accounts for a high 20% of total AV. After increasing in fiscal years 2007 through 2010, AV declined again in fiscal 2011 by a higher than projected 7.5%, bringing projected pledged revenue (not including supplemental tax increment) for the year to about $144.4 million, covering merged area debt service just 1.09x. A further 1.84% decline in AV for fiscal 2012 should reduce coverage slightly.
The agency's debt profile is weak, with high overall debt per capita (estimated at $7,000) and below average amortization of agency debt, at about 40% in 10 years. The merged area bonds' excess revenue (after senior debt service) were already highly leveraged by subordinate obligations before this potential bond acceleration, indicating limited financial flexibility to fund agency overhead and redevelopment activities from current year revenues.
Fitch will continue to monitor the evolving legal and credit environment for California redevelopment agencies and expects to comment as events occur and more information becomes available.
Additional information is available at 'www.fitchratings.com'. The ratings above were solicited by, or on behalf of, the issuer, and therefore, Fitch has been compensated for the provision of the ratings.
In addition to the sources of information identified in Fitch's Tax-Supported Rating Criteria, this action was additionally informed by information from Bond Counsel.
Applicable Criteria and Related Research:
--'Tax-Supported Rating Criteria', dated Aug. 15, 2011;
--'U.S. Local Government Tax-Supported Rating Criteria', dated Aug. 15, 2011.
Applicable Criteria and Related Research:
Tax-Supported Rating Criteria
U.S. Local Government Tax-Supported Rating Criteria
Karen Ribble, +1-415-732-5611
650 California Street, 4th Floor
San Francisco, CA 94108
Scott Monroe, +1-415-732-5618
Amy Laskey, +1-212-908-0568
Cindy Stoller, +1-212-908-0526