News Column

Fitch Rates Midland, TX's GO Bonds and COs 'AAA'; Outlook Stable

January 29, 2014

Fitch Ratings assigns an initial 'AAA' rating to Midland, Texas' (the city) following obligations: -- $29 million tax and limited pledge revenue certificates of obligation (COs), series 2014; -- $3.9 million general obligation (GO) refunding bonds, series 2014 The GO bonds and COs will be sold via negotiation on January 27 . Proceeds of the COs will be used for general purpose improvements, including public safety facilities, information technology, equipment, parks and recreation projects, and street improvements. The GO bonds will be used to refund the series 2003 and 2005 COs for debt service savings. In addition Fitch assigns an 'AAA' rating on the following GO bonds and COs currently outstanding (pre-refunding): -- $28.9 million tax and limited pledge revenue COs, series 2012; -- $2.3 million GO refunding bonds, series 2009; -- $8.5 million tax and limited pledge revenue COs, series, 2009; -- $1.7 million combination tax and revenue refunding bonds, series 2007; -- $49.7 million tax and limited pledge revenue COs, series 2007; - -$4.6 million GO refunding bonds, series 2006A; -- $20 million GO refunding bonds, series 2006B; -- $2.7 million tax and limited pledge revenue COs, series 2005; -- $2.1 million tax and limited pledge revenue COs, series 2003. The Rating Outlook is Stable. SECURITY The GO bonds and COs are payable from a direct annual ad valorem tax levied, limited to $2.00 per $100 taxable assessed valuation (TAV), against all taxable property within the city. The COs are further secured by a limited pledge of net revenues of the city's water and sewer system. KEY RATING DRIVERS FAVORABLE ECONOMIC METRICS: The city serves as the commercial hub and corporate headquarters for Permian Basin energy activity. As such, the city's unemployment levels have been consistently low and wealth levels are high. Government, education and medical top employers lend some stability to the local economy. PRUDENT FISCAL MANAGEMENT: The city's prudent fiscal practices and conservative budgeting are evidenced in its stable financial history despite its inherent vulnerability tied to the energy sector. LONG TREND OF SOLID RESERVES: The city has built up solid general fund balance reserves and consistently has maintained levels well above its formal policy for at least the last ten fiscal years. SALES TAX GROWTH: The city's sales tax receipts have jumped most dramatically in the last three years resulting from rapid population growth. Although sales taxes comprise a large percent of the city's revenue base, the city strategically sets aside a certain portion to spend on capital outlays or to add to fund balance. Additionally, Fitch notes its solid reserve levels temper risk to sales tax volatility. MODEST OVERALL DEBT LEVELS: The city's overall debt burden is moderately low, with a manageable capital plan that is partly funded on a pay-go basis. Principal amortization is average. DIVERSE TAX BASE: As the regional hub of the Permian Basin , the city's tax base is diverse despite the economic dependence on the oil and gas sector. The top ten taxpayers account for less than 5 percent of TAV. RATING SENSITIVITIES WEAKENED FINANCIAL PROFILE: The rating is sensitive to shifts in fundamental credit characteristics, including the city's strong reserves which help to mitigate exposure to oil and gas price fluctuations and the inherent cyclicality of sales tax revenues, The Stable Outlook reflects Fitch's expectation that such shifts are unlikely. CREDIT PROFILE The city is the county seat for Midland County (GO bonds rated 'AAA' by Fitch). It is located in the Permian Basin region, about 300 miles west of Dallas . The Permian Basin is one of the United States largest mineral reservoirs with exploration and drilling for additional reserves continuing. The city's 2014 estimated population of 124,804 accounts for nearly 90 percent of the county's total population. STABLE FINANCIAL OPERATIONS WITH STRONG RESERVE LEVELS Fitch considers the city's financial profile a significant credit strength. Financial performance has been consistently positive, with the general fund reporting annual surpluses and increasing reserves in four of the last five fiscal years. The general fund reported net operating surplus of $10.1 million in fiscal 2012, which followed another $10.5 million surplus in fiscal 2011. Even in years of contracting or stagnant revenue, management promptly has responded with budgetary measures to yield stable operating performance. For fiscal 2013, management expects to close the year with balanced results even after an $8 million non-recurring capital outlay. The projected ending fund balance of $58.8 million represents 56 percent of recurring expenditures during fiscal 2013. The fiscal 2014 adopted budget is structurally balanced. Sales tax receipts for the first quarter of 2014 are outpacing the budget. SALES TAX REVENUE GROWTH As increased oil and gas drilling activity has bumped up the city's population and attracted additional retailers, the city's sales tax receipts have jumped most dramatically in the last three years. Although sales tax revenues are comprising a larger percent of the city's resource base, the council is developing a strategic plan to use sales tax funds in excess of a certain amount (one- third of general fund revenues) for non-recurring uses, one time capital improvements, or to enhance fund balance reserves in order to maintain a minimum of 30 percent in reserves, slightly above the 25 percent formal fund balance policy level. Fitch notes the city's conservative budgeting practices and consistently high reserve levels temper credit concerns over volatility in sales tax performance. ENERGY-BASED ECONOMY WITH A DIVERSE TAX BASE The city is located in the heart of the Permian Basin reservoir serving as the commercial hub in one of the country's largest oil and gas reservoirs whose exploration and drilling has fueled strong economic activity. The city covers approximately 66 square miles of the vast Permian Basin and its property valuation is much more diverse than the county's with the top ten taxpayers comprising less than 5 percent, compared to 16 percent for the county. Although the economic activity realized by the oil and gas sector is significant to the city, real oil, gas and other mineral values comprise less than 1 percent of the fiscal 2014 tax base, with residential accounting for 60 percent and industrial and commercial valuations at 18 percent. Lending stability to the local economy, five of the top ten employers are Midland Independent School District , Midland Memorial Hospital , Midland College , the city, and the county. The October 2013 unemployment rate of 3.0 percent reflects several years of solid employment base growth. Wealth levels as measured by median household income and per capita personal income are high. The cost of living is growing and a higher level of demand than supply for housing has resulted in higher than average property appreciation. MODEST OVERALL DEBT The overall debt burden remains moderately low at $2,229 per capita and 2.8 percent to market value, with manageable capital needs. Principal amortization is about average. The city plans to cash fund about $11.5 million in projects over fiscal years 2014 and 2015 then plans to return to market for another bond sale in 2016 to fund the fiscals 2016 and 2017 CIP. Fitch expects the city's debt profile will remain stable despite the growth related capital pressures given the city's historically conservative pay-go practices and debt policy. Pension benefits for all employees except fire fighters are provided through the Texas Municipal Retirement System, a statewide agent multiple employer plan. The city's funding position in this plan is a healthy 83 percent as of Dec. 2011 . Pension benefits for fire fighters are provided through a single-employer defined benefit plan. The city's 65 percent funded position (at Fitch's adjusted 7 percent rate of return) as of the latest valuation date ( Jan. 2012 ) in this plan is considered weak due to an open 41-year amortization period. Other post-employment benefits (OPEB) are funded on a pay- go basis, but benefits are not so generous. On a combined basis, the city's carrying costs, including debt service as well as contributions for pension and OPEB paygo expense approximate an affordable 16 percent of governmental spending. Additional information is available at ' ' ((Comments on this story may be sent to ))

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