News Column

Fitch Affirms West Warwick, RI's GOs at 'BBB-'; Outlook Stable

June 10, 2014

NEW YORK--(BUSINESS WIRE)-- Fitch Ratings affirms the 'BBB-'rating on the following town of West Warwick, RI (the town) outstanding general obligation (GO) bonds:

--$3.50 million GO bonds, series 2007 at 'BBB-';

--$1.22 million GO Bonds, series 2005 at 'BBB-';

--$5.77 million GO bonds, series 2002A at 'BBB-'.

Fitch has removed the town's GO rating from Rating Watch Negative and assigned a Stable Rating Outlook.

SECURITY

The bonds are general obligations of the town secured by its full faith and credit and unlimited taxing authority.

KEY RATING DRIVERS

LOW INVESTMENT GRADE RATING: The low investment grade rating reflects the town's limited control over resources, as exemplified by a charter requirement for voter approval of annual budgets and the risk of budget overspending by the school department. These conditions could complicate the town's efforts to maintain budget stability and improve the exceptionally weak funding of its long-term liabilities.

STABLE OUTLOOK REFLECTS RECENT DEVELOPMENTS: Management was recently successful in achieving substantial employee and retiree concessions to rein in increasing long-term retiree costs. Voters approved the changes along with the town's fiscal 2015 budget last month.

LATE AUDIT SHOWS PROJECTED MODERATE RESERVE LEVELS: Final draft audited financials for fiscal 2013 reflect a decline in general fund balance to still-moderate levels. Projected surplus operations in the school fund are expected to eliminate an accumulated deficit balance in that fund.

FUTURE RETIREE COSTS CONTINUE TO GROW: Even with the labor concessions agreed to by employees Fitch expects continued budgetary strain and a very poorly funded pension plan for some time.

WEAK DEMOGRAPHICS: Demographics are weak with a relatively declining population, low wealth levels, and high unemployment. After a notable decline during the recession, assessed values have begun to stabilize.

LOW DEBT RATIOS: The town's overall debt levels are low with rapid amortization.

RATING SENSITIVITIES

PRUDENT FINANCIAL MANAGEMENT: Management's ability to consistently maintain balanced operations and adequate reserve levels is key to the rating remaining at the investment grade level. These actions, combined with an increase in revenue flexibility driven by a strengthening economy and tax base growth could support a positive change in the rating.

BUDGET CONTROL LIMITATIONS: The rating incorporates Fitch's expectation for continued voter support of the city's recently adopted five year pension funding improvement plan that includes, among other things, minimal but systematic reduction in the city's long-term liabilities. Deviation from this expectation would likely result in negative rating action.

CREDIT PROFILE

West Warwick is 11 miles south of the state capital city of Providence. The 2013 population of 28,893 represents a 2.3% decline over the 2000 census figure.

EMPLOYEE AND RETIREE PENSION AND OPEB REFORMS ACHIEVED

Management has successfully negotiated pension reform measures with its labor groups and retirees resulting in substantial budget relief for the next five years. Additionally, it has made broad changes to its health plans and negotiated higher employee and future retiree contributions. The sought after pension and health care reforms were part of the town's plan to reduce its long-term liabilities and achieve full funding of the annual required contribution (ARC) of its town-administered employee pension plan. The town plan is only 17% funded as of July 1, 2013 and had an unfunded liability of $128 million, or a high 6.1% of assessed value (AV). The agreed upon reforms, including suspension of cost-of-living-adjustments (COLAs) for the next five fiscal years, resulted in a reduction of the ARC from $10.7 million to $8 million for fiscal 2015 and lowered the future annual rate of growth in the ARC. The reduction will allow the city to achieve 100% funding of the ARC commencing fiscal 2015 rather than the partial payments that have been made over the last several years. An increase in its annual funding of other post-employment benefit (OPEB) costs above pay-as-you-go is expected for fiscal 2016.

The pension and OPEB changes were part of five-year employment contracts with its labor groups, effective July 1, 2014. Employees agreed to no salary increases over this period. The contracts contain a wage opener clause in years four and five in the event the town meets certain financial improvement thresholds.

Retirees have agreed to suspension of COLAs for the next five fiscal years. These agreements are pending court approval which is anticipated prior to July 1, 2014.

Voters approved the fiscal 2015 budget via referendum last month, capping off a collaborative effort among all affected parties to restore financial stability within the town. The budget includes a 3.79% tax levy increase, slightly below the state-wide 4% annual levy cap. Property taxes make up 69% of the overall $86 million budget followed by state aid (28%). The referendum passed 836 to 223.

West Warwick's charter requires its budget (including any tax levy over the cap) to be approved by voter referendum. If approval is not received, the town can operate under the previous year's budget until the succeeding budget is approved.

The town's five year plan to improve pension funding assumes additional annual tax levy increases but these could be mitigated by an improving economy and tax base growth.

WEAK FINANCIAL REPORTING

The release of the town's audited financial results for fiscal 2013 has been delayed due primarily to the hiring of a new audit firm. Additionally, the town's finance department has experienced significant turnover the last three years exacerbating audit team efforts. Fitch has reviewed draft final results which show a general fund operating deficit after transfers of $0.9 million (1.5% of general fund spending). The deficit reflects the use of originally budgeted fund balance of $376,139 and a decision to use additional fund balance mid-year for certain expenditures associated with the labor negotiations and higher than anticipated healthcare costs.

The new auditing team did make some general fund adjustments including the reclassification of restricted fund balance ($1.1 million) to a new separate debt service fund and restatement of a healthcare liability understated by $384,532. Unrestricted general fund balance is projected to decline to $4.3 million or an adequate 7% of general fund spending from $5.8 million at fiscal end 2012.

The draft audit also shows positive school fund results with a $1.67 million operating surplus after transfers. This surplus has effectively wiped out the school fund accumulated deficit. The surplus results reflect primarily lower health insurance costs compared to budget.

Management has indicated that the fiscal 2013 audit will have a modified opinion due to the auditor's inability to opine on the value of the town's capital assets due to outdated records. The town has hired an appraisal firm to value the assets and will report the results in the fiscal 2014 audit. The fiscal 2013 audit is expected to be released later this month.

FISCAL 2014 PROJECTIONS ON TARGET WITH BUDGET

Management reports that town and school fund results are tracking in accordance with or slightly better than budget. The town's voter-approved fiscal 2014 budget of $83 million was a 4.3% increase over fiscal 2013. The budget included a $1.9 million (3.9%) tax levy increase. Incorporated in the tax increase is approximately $750,000 in additional revenue generated from the decrease in the motor vehicle value exemption to $1,000 from $2,500 for the motor vehicle tax.

ELEVATED PENSION AND OPEB LIABILITIES

Years of underfunding of ARC payments have resulted in the funded ratio for the town-operated single employer municipal employees' pension plan to drop precipitously to 17% as of July 2013 from 45% in 2006. Using Fitch's 7% rate of return the estimated funded ratio drops to 16%. The unfunded liability totaled $128 million as of July 1, 2013, or a high 6.1% of fiscal 2014 AV.

The town's fiscal 2013 contribution to its pension plan was $5.3 million compared to the $9.3 million ARC, or 57%. This follows a $1.1 million contribution in 2012 (13%). Management's contribution in fiscal 2014 was budgeted at $4 million or 39% of the $10.3 million ARC, but management plans to make a $6 million contribution due to savings from employee concessions agreed to for fiscal 2014.

As discussed above, the ARC for fiscal 2015 drops to $8 million, a $2 million increase over the fiscal 2014 actual outlay, and has been fully budgeted for. The ARC is projected to increase by an average 3.5% annually over the next 20 years. The system is projected to reach a still-weak 60% funded status by 2033 assuming the town's 7.5% investment rate and payment of 100% of the ARC in years 1-5 and 100.5% of the ARC in years 6-20. The purpose of the higher ARC percentage in these years is to meet the state's requirement of emerging from critical pension status (less than 60% funded) by fiscal year ending 2033.

The town fully funds the ARC to the state's Employee Retirement System (ERS) for its teachers.

The town's unfunded OPEB liability as of June 30, 2011 was a similarly high $107 million. The town paid $3.5 million towards its fiscal 2013 ARC of $7.5 million (or 46%). Due to recent healthcare plan reforms, the annual costs and overall liability are expected to decline. Management has indicated its intent to begin fully funding the OPEB ARC in fiscal 2016, which Fitch considers prudent.

LOW DEBT RATIOS; MODERATELY HIGH CARRYING COSTS

Overall debt levels are very low at 1% of fiscal 2014 AV and $715 per capita. Debt amortization is above-average with 74% of par maturing in 10 years.

Total carrying costs for the full town pension plan ARC, ERS contributions, OPEB pay-go and debt service represents a moderately high 21.7% of projected fiscal 2013 governmental spending. Fitch expects carrying costs to decrease moderately due to the decline in the pension and OPEB ARCs beginning in fiscal 2015.

BELOW AVERAGE ECONOMIC INDICATORS

Wealth levels are slightly below state and national averages. Unemployment remains high at 10.1% in March 2014, but has improved from 10.9% a year prior, a combination of a 0.3% decline in the labor force and a 0.6% increase in resident employment.

The town was formerly an industrial and textile center and progress has been made in industrial diversification with several larger former textile mills converted to multiple tenancy by smaller, newer businesses. Management reports a notable increase in the number of building permits compared to last year reflecting both residential and commercial improvements and expansion. New development projects underway, and planned, are anticipated to increase assessed values and help offset some of the future anticipated tax increases. Fitch believes this to be reasonable due to the reports of activity underway and the increase in building permits.

AV was $2.1 billion for fiscal 2014, a decrease of 9% from the prior year. The town underwent a triennial property revaluation effective Dec. 31, 2012 and the decline reflects a housing market that was struggling but is showing signs of improvement. Housing values increased 5.9% year over year through April 30 according to Zillow.com. AV for fiscal 2015 is up by $20 million or 1%.

Additional information is available at 'www.fitchratings.com'.

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, Zillow.com, and the National Association of Realtors.

Applicable Criteria and Related Research:

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

--'U.S. Local Government Tax-Supported Rating Criteria' (August 2012);

-- West Warwick, RI Residents Approve Budget; Avert Potential State Takeover (May 2014).

Applicable Criteria and Related Research:

Tax-Supported Rating Criteria

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

U.S. Local Government Tax-Supported Rating Criteria

http://www.fitchratings.com/creditdesk/reports/report_frame.cfm?rpt_id=685314

Additional Disclosure

Solicitation Status

http://www.fitchratings.com/gws/en/disclosure/solicitation?pr_id=833915

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. FITCH MAY HAVE PROVIDED ANOTHER PERMISSIBLE SERVICE TO THE RATED ENTITY OR ITS RELATED THIRD PARTIES. DETAILS OF THIS SERVICE FOR RATINGS FOR WHICH THE LEAD ANALYST IS BASED IN AN EU-REGISTERED ENTITY CAN BE FOUND ON THE ENTITY SUMMARY PAGE FOR THIS ISSUER ON THE FITCH WEBSITE.



Fitch Ratings

Primary Analyst

Kevin Dolan

Director

+1-212-908-0538

Fitch Ratings, Inc.

33 Whitehall Street

New York, NY 10004

or

Secondary Analyst

Michael Rinaldi

Senior Director

+1-212-908-0833

or

Committee Chairperson

Amy Laskey

Managing Director

+1-212-908-0568

or

Media Relations

Elizabeth Fogerty, New York, +1-212-908-0526

elizabeth.fogerty@fitchratings.com

Source: Fitch Ratings


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