Fitch Rates Sacramento, CA's $37MM TRANs 'F1+'; Outlook Stable

Fitch Ratings has taken the following rating actions on Sacramento, CA's (the city) notes:

--$37 million tax and revenue anticipation notes (TRANs), series 2012 assigned 'F1+';
--$32.7 million TRANs, series 2011, affirmed at 'F1+'.

In addition, Fitch affirms the city's implied general obligation bond rating at 'AA-'. The city has no outstanding general obligation debt.

The Rating Outlook is Stable.

SECURITY
The 2012 notes are secured by unrestricted revenue received by the city's general fund in fiscal 2012-13. The note structure requires equal principal and interest set-asides at the end of January, April, and May 2013.

KEY RATING DRIVERS

SOUND STRUCTURE AND CREDIT FUNDAMENTALS: The 'F1+' rating on the notes, Fitch's highest short-term rating, reflects the sound repayment structure and good coverage of note repayment set-asides from projected general fund cash balances, the city's significant borrowable reserves, and the underlying credit fundamentals of the city.

SOLID STRESS TEST PERFORMANCE: The projected cash flows that are pledged to repay the note hold up well to Fitch's stress scenarios, and the city would only require use of borrowable reserves in extreme circumstances.

ADEQUATE RESERVE LEVELS: The general fund unrestricted reserve was a still adequate 14% of spending at the end of fiscal 2011. Reserves have declined significantly from previously strong levels due to the city's ongoing structural imbalance.

STRUCTURAL IMBALANCE MAY IMPROVE: The city's financial position remains pressured by a structural imbalance caused by reduced revenue levels and rising fixed costs, including annual pension and other post-employment benefit (OPEB) contributions. Management has made significant progress in reducing the imbalance and further reforms of employee benefits are being pursued.

STRESSED TAX BASE: The city's tax base experienced three consecutive years of moderate declines and management budgeted for an additional decline in fiscal 2013. Further deterioration is possible due to the continued weakness in the housing market.

WEAKENED ECONOMY: As the California state capital, Sacramento's economy remains largely government driven with many of the top regional employers reliant on the state's financial situation. The city's wealth levels are modestly below the state average and the unemployment rate remains well above state and national levels.

ABOVE AVERAGE DEBT BURDEN: The city's overall debt burden is above average. Management does not plan on issuing additional general fund supported debt over the next few years.

CREDIT PROFILE

SOUND STRUCTURE AND CREDIT FUNDAMENTALS

Fitch assigns its highest short-term rating to Sacramento's 2012 notes based on the notes' sound structure including the segregation of principal and interest in a repayment fund during cash-rich months, resulting in the full repayment set-aside more than one month prior to maturity, as well as the availability of sizable borrowable resources. The rating also considers Sacramento's long-term credit factors, including an economy with a significant dependence on state government and experiencing a significant recessionary downturn, adequate financial reserves though strongly reduced from very high levels over the last several years, above average debt burden, and the city's need to continue to reduce spending.

Based on the city's projected fiscal 2013 cash flow, the periodic set-asides are well covered by pledged revenue even after monthly expenses are paid, ranging from 4.36 times (x) to 5.88x. The cash flow is resilient to Fitch's stress scenarios, which include moderate to severe underperformance of tax revenues and other economically sensitive fees, with no allowance for reduced spending. In addition, the city expects to have $160 million of borrowable funds at the beginning of fiscal 2013, modestly below historical levels, which could be used in the event that the actual cash flow varies significantly from those projected.

ADEQUATE RESERVES BUT ONGOING STRUCTURAL DEFICIT

The downturn has had an impact on the city's financial operations with the general fund running operating deficits since fiscal 2006. While early-year deficits were intended to reduce a very high fund balances, recessionary budget imbalances have pushed reserves below their historical range and below policy targets. Still, the general fund unrestricted balance (combined committed, assigned, and unassigned balances under GASB 54) remains adequate at 14.1% of spending at the end of fiscal 2011.

The city continues to deal with a structural financial imbalance caused by reduced revenue levels and rising fixed costs, including pension and OPEB contributions. Property tax revenue, the city's largest general revenue source, declined 14% from fiscal 2009 to fiscal 2011 due to declining AV. Management budgeted for an additional 3% decline in fiscal 2013. On the positive side, sales tax revenue has recently begun to rebound, although total revenue remains well below pre-recession levels requiring the city to reduce expenditures to match the decline.

While management has taken actions to reduce expenditures to match revenue levels, budgetary pressure continue due to rising fixed costs. Pension contributions have grown from 11.3% of spending in fiscal 2009 to a Fitch estimated 15.3% of spending in fiscal 2012 (unaudited). Efforts to control pension and OPEB spending appear to have gained some traction in the most recent budget cycle with management and several unions reaching tentative agreements that would require employees to pay their own pension contribution amount. Additional layoffs and position reductions are likely in fiscal 2013 if the concessions are not realized.

Fitch expects only a modest use of reserves in fiscal 2012 and views the fiscal 2013 budget, which anticipates no further drawdown of unreserved fund balance, positively. While recognizing the city's continued effort to permanently reduce spending to a level supportable by recurring revenue, Fitch expresses some concern over the city's ability to fully achieve this goal given the number of years with operating losses.

ABOVE AVERAGE DEBT BURDEN

The total direct and overlapping debt burden is above average at 5.3% of AV and $4,360 per capita. The city's capital needs appear manageable with five-year capital improvement plan that includes $490 million of projects, of which just $22 million would be paid for by general fund revenues. The city has no plans for new long-term debt issuance. Amortization of outstanding debt is about average with 33% repaid in five years and 55% in 10 years.

The city's pension and other post-employment benefit (OPEB) are rising and are likely to pressure the general fund for the foreseeable future. The unfunded actuarial accrued liability of OPEB was an above average $376.4 million or 1% of fiscal 2012 AV (valued June 2009).

MIXED ECONOMY

Sacramento benefits from its role as California's state capital and the commercial center of a metropolitan area with more than 2 million residents. The region and the city grew rapidly during the housing boom of the last decade, but a downturn in new home construction and budget cuts by the state of California - the city's largest employer and primary funding source for other top employers - have disrupted the local economy. The city's unemployment rate was significantly above the state and national averages at 13.4% in March. Wealth indicators are modestly below the state average at 87% and 83% of California's per capita and median household income, respectively.

The city's tax base is stressed as falling home values and elevated foreclosure levels lead to a significant 13.7% decline in assessed value (AV) fiscal 2009 to 2012. Further AV contraction is possible as the housing market remains pressured due to the slow pace of economic recovery and still high unemployment rates in the area.

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 Creditscope, University Financial Associates, S&P/Case-Shiller Home Price Index, IHS Global Insight, National Association of Realtors, Underwriter.

Applicable Criteria and Related Research:
--'Tax-Supported Rating Criteria' (Aug. 15, 2011);
--'U.S. Local Government Tax-Supported Rating Criteria' (Aug. 15, 2011).

Applicable Criteria and Related Research:
Tax-Supported Rating Criteria
http://www.fitchratings.com/creditdesk/reports/report_frame.cfm?rpt_id=648898
U.S. Local Government Tax-Supported Rating Criteria
http://www.fitchratings.com/creditdesk/reports/report_frame.cfm?rpt_id=648842

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.

Contacts:

Fitch Ratings
Primary Analyst:
Matthew Reilly, [phone]
Associate Director
Fitch, Inc.
650 California St
San Francisco, CA 94133
or
Secondary Analyst:
Andrew Ward, [phone]
Associate Director
or
Committee Chairperson:
Karen Ribble, [phone]
Senior Director
or
Media Relations:
Elizabeth Fogerty, [phone]
[e-mail]