News Column

Fitch Rates Louisiana's GO Bonds 'AA'; Outlook Stable

February 13, 2014

Fitch Ratings assigns an 'AA' rating to $496.44 million state of Louisiana general obligation (GO) bonds consisting of the following series:

--$347.165 million GO bonds series 2014-A;

--$149.275 million taxable GO bonds series 2014-B.

In a release on February 10, Fitch noted that the bonds are expected to sell via competitive bid on February 11.

In addition, Fitch affirms the following ratings:

--Approximately $2.4 billion in outstanding Louisiana GO bonds at 'AA';

--Approximately $685.6 million in outstanding Louisiana appropriation-backed bonds at 'AA-'.

The Rating Outlook is Stable.

Security

The bonds are general obligations of the state of Louisiana, whose full faith and credit are pledged. The bonds are payable from the bond security and redemption fund (BSRF), on parity with outstanding general obligations, and have a first lien on the fund, which receives all money deposited in the state treasury not otherwise dedicated.

Key Rating Drivers

Commodity-Based Economy: The state's commodity-based, cyclical economy, heavily linked to oil and gas production, has modestly diversified, although one-third of the state's gross state product continues to derive from the production and delivery of raw and intermediate goods.

Financial Operations Have Been Challenged: Financial operations in recent years have been challenging given revenue under- performance, reliance on one-time actions, and spending pressure from education and Medicaid. Operating revenue in the current fiscal year is trending close to projections largely due to better than expected receipts from a tax amnesty program, offsetting shortfalls in other tax sources. For the first time in many years, the state is not projecting a continuing budget gap in its budget for the succeeding fiscal year although the budget does include expected revenue from the second year of a tax amnesty program.

Moderate Debt Supported by Strong GO Legal Provisions: Debt levels are moderate and debt issuance is well controlled by policy. There are strong legal provisions for GO debt, with all non- dedicated revenues flowing into the bond security and redemption fund to provide for debt service prior to operations.

Weak Pension Funding Levels: Funding of the state's two largest pension systems is below average and has been declining. The state has implemented modest reforms to reduce its unfunded liability.

Rating Sensitivities

The rating is sensitive to shifts in the state's fundamental credit characteristics including management of its financial operations, an above-average liability position, and a commodity- based economy.

Credit Profile

Louisiana's 'AA' GO rating reflects the state's focus on spending control amidst challenged financial operations and an economy that, while heavily reliant on natural resources and the volatile energy industry, has shown steady growth since the recession. The rating also reflects the strong legal provisions for GO debt, with all non- dedicated revenues flowing into the bond security and redemption fund to provide first for debt service. However, financial operations are narrowly balanced and the state continues to employ one-time measures to close budget gaps, including a tax amnesty program for fiscal years 2014 and 2015. While state debt levels remain moderate, the funding levels for the state's two largest pension systems are below average.

Challenged Financial Operations

Despite the state's economic recovery, financial operations in recent years have been challenged by repeated revenue underperformance and forecast budget gaps, which the state has closed through both structural and non-recurring actions. The enacted fiscal 2013 $8.1 billion general fund (GF) budget ($25.7 billion on an all-funds basis, which includes federal aid) closed an earlier identified $1.2 billion gap; however, after enacting the budget, the state learned in July 2012 that its federal Medicaid matching rate (federal medical assistance percentage, or FMAP) for fiscal 2013 had been significantly reduced, necessitating $859 million in adjustments. The state identified $522.5 million in expenditure reductions, applied other one-time measures and private partnerships, and utilized about $100 million of a fiscal 2012 cash surplus to close the remaining gap.

In December 2012, the revenue estimating conference (REC) reduced the revenue forecast for fiscal 2013 by $129 million and the governor reduced appropriations by a larger $165 million. Improved PIT collections led to the May 2013 REC projecting a boost in GF revenues by $129 million, and the state reports the fiscal year 2013 ending GF cash balance at $161 million, an increase of $48 million from the prior fiscal year. The all-funds budgetary balanced for fiscal 2013 fell by $151.9 million, largely incorporating the loss of expected federal reimbursement aid for hurricane recovery expenditures.

The December 2012 REC also reduced an earlier GF revenue forecast for fiscal 2014 by $207 million, bringing the consensus general revenue estimate of $8.4 billion to just below $8.2 billion, resulting in a total estimated continuing budget gap of $1.28 billion for fiscal 2014. The May 2013 REC improved the revenue outlook in fiscal 2014 by $155.2 million. The enacted $8.4 billion GF budget ($25.4 billion all-funds) for fiscal 2014 eliminated the gap through expenditure reductions as well as an estimated $780 million in savings on an all-funds basis from privatizing most of the state's public hospitals. The budget also included an allocation of $200 million in one-time receipts from a tax amnesty program, scheduled to occur again in fiscal 2015, and $16 million from certain bond reimbursements to the state's Medicaid program.

The January 15, meeting of the REC reduced expected receipts to the GF in fiscal 2014 by $34.7 million to $8.3 billion, which the state plans to fill with better than anticipated receipts from this year's tax amnesty program. The state believes fiscal 2014 will end with balanced financial operations. The same REC provided a forecast for revenues in fiscal 2015 upon which the governor's proposed fiscal 2015 budget is based. The forecast projects net receipts to the GF in 2015 of $8.6 billion; a 3.6 percent increase from the current estimate for fiscal 2014. Pursuant to the provisions of Act 419, which passed in 2013 legislative session, the forecast now includes a projection of statutory dedications (revenues required to be deposited for statutorily designated expenditures) as well as a projection for departmental self-generated revenues. Act 419 also requires the forecast to specify revenue flows as recurring or nonrecurring in nature. Revenue for fiscal 2015 also includes the second year of the tax amnesty program, expected to bring in $295 million.

The governor's proposed $8.6 billion GF budget ($25 billion all- funds) increases GF spending by 2.2 percent ($186 million) from the current budget while all-funds spending is budgeted to decrease by 2.4 percent ($623.7 million). A large share of the decrease in the all-funds budget incorporates about $519 million from the falloff of federal funding for hurricane restoration expenditures as that effort continues to wind down. Other notable recommendations in the budget include a net $120 million increase in federal funds to health and hospitals from additional service provision, increased utilizations, and increasing participant enrollment offset by a decrease in the FMAP rate; and a $99.8 million increase in the K-12 education funding formula. The budget proposal is expected to be discussed in the upcoming legislative session.

Steady Economic Growth in Resource-Based Economy

Louisiana's economy is resource-based as a major producer of oil and gas, and much of its manufacturing is dominated by petroleum and chemical production. The state reports ranking first in crude oil production in the U.S. when including production from the Outer Continental Shelf (OCS) and ranking second in the nation in natural gas production when including the OCS. The state estimates that approximately one-third of the state's gross state product is connected to the production and delivery of raw and intermediate goods. Tourism is also important, and the port system is among the largest in the world. Flood protection in the New Orleans area has been enhanced since the hurricanes in 2005, but Louisiana remains vulnerable to severe storm activity.

Louisiana's economic recovery has been solid, with fairly steady year over year (yoy) employment gains since December 2010 and the state has fully recovered employment lost during the recession. Employment growth of 1 percent in December 2013 trailed that of the nation at 1.6 percent yoy but the state's 5.6 percent unemployment rate remains solidly below that of the U.S. at 6.7 percent in December 2013. Leisure and hospitality experienced the largest yoy increase at 3.7 percent, followed by trade, transportation, and utilities at 2.6 percent, and manufacturing at 2.5 percent. Quarterly personal income trends have been positive, although the state's growth rates continue to measurably trail both the region and nation. Personal income per capita in the state is about 92 percent of the U.S. average.

Moderate Debt Levels with Weak Pension Funding

State debt levels remain moderate, equaling about 3.8 percent of 2012 personal income when including the current issue. By policy, debt issuance is well controlled. However, funding of the state's two largest pension systems is below average and has declined. On a reported basis, the state employees' pension system had a funded ratio of 60.2 percent and the teachers' system was at 56.4 percent as of June 30, 2013. Using Fitch's more conservative 7 percent discount rate assumption, funded ratios for the plans decline to 54.2 percent and 50.8 percent, respectively. The state's payment to the state employees' system in fiscal 2013 was below the actuarially calculated annual required contribution (ARC) primarily as a result of a timing lag between the determination of required contribution rates and state payrolls that had diminished through headcount reduction.

On a combined basis, the burden of the state's net tax-supported debt and adjusted unfunded pension (UAAL) obligations approximated 16 percent of 2012 personal income, well above the median for U.S. states rated by Fitch. The calculations include 100 percent of the liability for both state employees (LASERS) and the teachers' retirement system (TRS), which are both the responsibility of the state. In 2012 the legislature approved the governor's proposal to move new employees hired after June 30, 2013 to a cash-balance pension plan, a defined benefit plan in which participants are protected from investment losses. A challenge to the reforms ruled the measures unconstitutional. The state reports no current plans to introduce additional reforms in the upcoming legislative session.

Additional information is available at fitchratings.com.

In addition to the sources of information identified in the Tax- Supported Rating Criteria, this action was additionally informed by information from IHS Global Insight.

Applicable Criteria and Related Research:

--'Tax-Supported Rating Criteria' (August 14, 2012);

--'U.S. State Government Tax-Supported Rating Criteria' (August 14, 2012).

Applicable Criteria and Related Research:

Tax-Supported Rating Criteria

http://fitchratings.com/creditdesk/reports/ report_frame.cfm?rpt_id=686015

U.S. State Government Tax-Supported Rating Criteria

http://fitchratings.com/creditdesk/reports/ report_frame.cfm?rpt_id=686033

Additional Disclosure

Solicitation Status

http://fitchratings.com/gws/en/disclosure/ solicitation?pr_id=820164

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