Fitch Ratings assigns an 'F1+' rating to the State of Michigan's (the state) $500 million full faith and credit general obligation (GO) notes, fiscal 2009, series B. The notes, which follow the first installment of $900 million in the state's cash flow borrowing plan earlier this fiscal year, are expected to be offered through negotiation on Dec. 11, 2008. The notes are not callable and are due Sept. 30, 2009. Additionally, Fitch affirms the 'F1+' rating on $900 million in outstanding full faith and credit GO notes and the 'AA-' rating on the state's outstanding GO bonds. The Rating Outlook for the long-term debt is Negative.
The notes are GOs of the state payable from undedicated revenues. Security for the notes, however, resides in sufficiently available balances held in the common cash fund as the general fund is projected to close in deficit.
The presently estimated combined general and school aid fund's Sept. 30, 2008 year-end cash balance was negative $634.6 million, compared to the previously estimated negative $399.6 million due to adjustments in expenditure allocations between the 2008 and 2009 fiscal years. The balance at the end of fiscal 2009 is projected at negative $435.3 million on Sept. 30, 2009 (after note repayment), substantially the same as the negative $432 million projected at last review. However, including large amounts of special revenue and trust and agency funds in the state's common cash fund, the net available balance after note principal and interest payment totals $1.44 billion. This balance represents 2.0 times (x) coverage and about 3.45% of projected annual cash flow, providing a comfortable margin. While there are risks to the state's cash flow forecast due to continued troubles in the automotive industry, the state has repeatedly demonstrated its willingness to implement mid-year expenditure reductions to maintain balances.
The state expects to net through this issuance and the previous note sale $1.425 billion for operating purposes in the current fiscal year ending Sept. 30, 2009, a slightly higher amount than in past fiscal years and near the maximum allowed. The state resumed issuing operating notes in fiscal 2003 for the first time since fiscal 1998. With the depletion of balances, borrowing is necessary to help cover month-end cash deficits projected to reach over $2.1 billion during the months of June and July and just over $2.4 billion in August. Special revenue funds will be utilized and are projected to be sufficient to augment the notes in meeting cash flow requirements and to cover the year-end cash deficit that occurs after the notes are paid. Note issuance is limited to 15% of the prior year's undedicated revenues, which amount to only $10.1 billion, while all self-generated revenues were about $27.9 billion. After this note issue the state has very little additional note capacity within the 15% limit without appropriate legislation.
Michigan's 'AA-' GO rating reflects the state's lower moderate debt levels and strong fiscal management. However, the Negative Rating Outlook reflects the state's continued economic weakness, tied in large part to the U.S. automotive manufacturing sector, which is under significant stress, but expected to receive financial assistance from the federal government in the near term. Michigan historically has promptly addressed budgetary imbalances as they have occurred, and corrective actions were necessary to close a $1.8 billion funding gap for fiscal 2008, ending a brief government shutdown. While the state's preliminary expectations for the close of fiscal 2008 point to a significant surplus, continued economic weakness and uncertainty in the automotive industry threatens ongoing budgetary balance. A gap of up to $600 million for fiscal 2009, or 2.9% of expected general fund and school aid fund revenues, has been reported. In addition to the application of anticipated fiscal 2008 fund balances, the Governor is expected to issue an Executive Order for $120 million to $140 million of expenditure reductions to maintain balance. Fitch expects the state will take appropriate actions to maintain balance should revenues expectations weaken further. Important to the resolution of the Negative Outlook will be the state's ability to maintain fiscal balance amid deteriorating state and national economic conditions. Further, the potential for severe economic dislocation prompted by significant structural changes at the domestic automakers is applying downward pressure on the rating.
Fitch issued an exposure draft on July 31, 2008 proposing a recalibration of tax-supported and water/sewer revenue bond ratings which, if adopted, may result in an upward revision of the long term rating noted above (see Fitch research 'Exposure Draft: Reassessment of the Municipal Ratings Framework'.) At this time, Fitch is deferring its final determination on municipal recalibration. Fitch will continue to monitor market and credit conditions, and plans to revisit the recalibration in the first quarter of 2009.
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