NEW YORK, Sep 22, 1999 -- Moody's has
raised the ratings on $1.5 billion of outstanding debt
of Orange County, California. The stand-alone and underlying
ratings on its Pension Obligation Bonds have been upgraded
to A1 from Baa2; the underlying rating on the county's
1995 Refunding Recovery Bonds has been upgraded to A1
from Baa3; the underlying rating on the county's 1996
Refunding Recovery Certificates of Participation (COPs)
has been upgraded to A2 from Baa2; the ratings on two
pre-funded equipment financings and two fixed asset COPs
have been upgraded to A2 from Baa3; and the county's equipment
lease financing has been upgraded to A3 from Ba1. At this
time Moody's has also assigned to the county an issuer
(implied general obligation) rating of Aa3. The outlook
for all of the county's rating remains positive. A listing
of the rating actions associated with each financing is
appended at the end of this Update.
The upgrades of Orange County's debt reflect the county's
demonstrated ability and willingness to operate within
the reduced operating budget which resulted from its bankruptcy,
its continued prudent fiscal management including a commitment
to debt reduction, a satisfactory fiscal position by comparison
with its peers, and a diversified and thriving local economy.
Rising debt service and pension costs over the next few
years will continue to pose a budget challenge and the
county has significant unmet capital needs. But proceeds
from the settlement of litigation resulting from the collapse
of the county's investment pool and proceeds from the
nation wide tobacco industry settlement provide the county
with the resources to defease debt and address deferred
capital needs. It is also noted that, even after the significant
increase in debt from the recovery-related financing,
the county's debt levels are moderate.
While the litigation challenging elements of the recovery
plan (the White Case) remains under appeal, the outcome
of a similar suit in Los Angeles County suggests that
the county will ultimately prevail. Further, Moody's believes
that the state legislature would take any needed corrective
action in the unlikely event the county were to lose the
case.
FINANCIAL RESULTS DEMONSTRATE BOTH THE SUSTAINABILITY
OF EARLIER BUDGET CUTS AND OFFICIALS' COMMITMENT TO PRUDENT
FISCAL MANAGEMENT
Upon emerging from bankruptcy in June 1996, it was not
clear that the significant cuts made in the county's operating
budget during the bankruptcy would be sustainable. In
addition, the county's elected and appointed leadership
was entirely new and had no long-term track record of
fiscal management. Financial results over the last three
years, however, demonstrate the county's ability and willingness
to sustain earlier budget cuts as well as officials' commitment
to prudent fiscal management.
Reflecting healthy growth in discretionary revenues, effective
expenditure controls, and a conservative approach to budgeting,
the county showed modest operating surpluses in fiscal
1997 and 1998 ($16.1 million and $26.5 million, respectively).
Fiscal 1999 results are expected to be strong, with general
purpose revenues exceeding budget by 7% and expenditures
at 10% below budget. The fiscal 2000 budget projects 8%
growth in General Fund revenues to $1.8 billion. It is
balanced using reasonable assumptions and no significant
one-time funds to cover ongoing programs.
The county is committed to maintaining healthy fund balances,
which have increased in recent years. Total fund balances
for fiscal 1997 and 1998 equaled $136.3 million and $162.8
million respectively. Because the county has substantial
reserves outside the General Fund, primarily the TRAN
reserve established at the time the county emerged from
bankruptcy, total available fund balances are dramatically
higher and are also continuing to grow, standing at $211.2
million in fiscal 1997 and $224.9 million in fiscal 1998.
As part of its emphasis on systematic financial management,
Orange County developed and adopted a long-term strategic
plan. The quality and thoroughness of this plan are noteworthy,
especially compared to the long-term planning efforts
of other California counties. Among the strategic priorities
identified by the county are continued commitment to early
repayment of bankruptcy-related debt and funding of specific
capital projects. Annual contribution towards pay-go funding
of the county's priorities is a key component of the plan.
In accordance with the strategic plan, in fiscal 1999
funds were established for general fund contingency, debt
defeasance, and capital projects. The fiscal 2000 adopted
budget includes increases in each of these funds. The
contingency fund is budgeted to grow to $20 million, and
the debt defeasance fund to $27 million. The largest is
the strategic priorities fund, established for planned
future capital projects and associated operating costs,
which is budgeted to grow to $76 million in fiscal 2000.
To date the county has used its reserves to defease $31
million of 1995 Refunding Recovery Bonds and retire a
small ($2.9 million) equipment lease.
CURRENT FISCAL CONDITION COMPARES FAVORABLY TO OTHER LARGE
CALIFORNIA COUNTIES.
Orange County's financial flexibility as measured by its
general fund cash position and fund balances is commensurate
with that of other California major metropolitan counties,
while its total cash and reserve levels are significantly
above those of its peers.
The county's general fund net cash and investments represented
4.6% and 4.7% of revenues in fiscal years 1997 and 1998
respectively, at or above the median for California major
metropolitan counties. Orange County's net cash adjusted
for interfund borrowings grew from 8.2% to 9.2% of revenues
in fiscal 1997 and 1998 as compared with the major metropolitan
county medians of 6.5% and 9.9%. As mentioned above, the
county has substantial resources outside the General Fund.
By either measure, if the county's TRAN reserve is included,
its cash position would have been significantly above
the medians in both years.
Total General Fund balances, at 9.1% and 11.1% of revenues
in fiscal 1997 and 1998 respectively, were above and showed
improvement as compared to peer group medians of 8.7%
and 9.9%. Unreserved general fund balances were at the
major metropolitan county medians of 4.8% and 6.6% in
fiscal 1997 and 1998 respectively. When the county's other
reserves are taken into account Orange County's strong
position becomes evident: available fund balances were
14.0% of revenues in fiscal 1997 and 15.4% in fiscal 1998,
more than twice the major metropolitan county medians
of 6.3% and 7.7% for the respective fiscal years.
LITIGATION SETTLEMENTS AND COUNTY'S SHARE OF TOBACCO SETTLEMENT
WILL FUND STRATEGIC PRIORITIES INCLUDING CAPITAL NEEDS
Among the more significant challenges facing Orange County
in coming years are its escalating debt service schedule,
a scheduled increase in pension contributions, and its
unmet capital needs.
As noted above, the county has defeased portions of its
1995 Recovery Bonds. Despite this action, the county's
debt service is still scheduled to increase significantly
in the medium term. Over the course of fiscal years 2003
and 2004 annual debt service is scheduled to jump by over
10%, then gradually increase through 2012. The county
anticipates receiving within several months $285 million
as its share of litigation proceeds associated with its
bankruptcy. The county expects to use these proceeds,
which are in addition to the funds earmarked for debt
reduction in its 2000 budget, to reduce debt service on
its recovery financings and/or pension obligation bonds.
Orange County also has significant capital needs, notably
in the area of public safety. In its 1998 strategic plan
the county projected that more than $800 million in capital
and operating funding would be needed over the ten-year
planning horizon to address all unmet needs. The county
has begun about half of the identified projects using
pay-go funding. The most significant commitments have
been to the second of a five-phase jail expansion, deferred
maintenance and ADA compliance projects, and court space
needs. These commitments are at or above the amounts suggested
in the strategic plan, and demonstrate the county's good
faith efforts to address its pent-up demands.
Tobacco settlement funds are being considered to address
capital needs and/or further debt reduction. State-specific
finality, as defined in the master settlement agreement,
has not been reached, which could impact the distributions
expected. Current schedules suggest that the county will
receive approximately $35 million annually. Use of the
funds is intended to be unrestricted but many constituencies,
including both local activists and the state, are interested
in guiding its application. The county has conservatively
chosen to make no firm plans for use of these funds and
they have not been included in the county's budget.
DESPITE SIGNIFICANT AMOUNT OF DEBT RESULTING FROM BANKRUPTCY,
CURRENT DEBT LEVELS ARE MODERATE
One of Orange County's historic credit strengths had been
its low debt level. However, in order to finance its recovery
from bankruptcy the county issued significant amounts
of debt, which in fiscal 1998 comprised 61% of the county's
$1.6 billion total debt outstanding. Although the recovery
debt represented a significant increase for the county,
by most measures the current debt level is moderate. Relative
to the size and wealth of the county, fiscal 1998 direct
debt levels - $599 per capita, 0.9% of assessed value,
and at 2.1% of 1996 personal income - are moderate, equal
to the median for major metropolitan California counties.
The county's debt levels relative to its internal resources
are high. Debt service in fiscal 1998 accounted for 10.4%
of operating expenditures, nearly double the metropolitan
county median of 5.7%. The county's net lease burden,
at 5.9% in both fiscal 1997 and 1998, is well above the
median 3.7%.
COUNTY'S ECONOMY IS DYNAMIC AND WELL-DIVERSIFIED; WEALTH
AND INCOME LEVELS ARE HIGH
Orange County was hit fairly hard by the early 1990s recession
due to declines in the aerospace/defense sector, but the
overall diversity and resilience of its economy has been
demonstrated by the rapidity with which growth in other
sectors offset these losses. Overall between 1992 and
1997, the county showed a 9.2% increase in jobs as compared
with the statewide 8.3%. Orange County's unemployment
rate has throughout the decade been consistently lower
than the state and national rates, and, at 2.9% in 1998,
was the second lowest among all California counties. The
vibrancy of the county's economy is also evident from
its growth in taxable sales, which since 1993 has exceeded
the state rate each year. The county measured 91% on an
employment diversity index calculated by Moody's, reflecting
distribution of employment across industries in 1997 nearly
as broad as the state as a whole.
Continued growth seems likely. Noteworthy projects include
Walt Disney Company's new $1.4 billion theme park, 750-room
hotel and retail complex scheduled to open by 2001 and
the $550 million Pointe Anaheim, located across from Disneyland,
comprised of three hotels with 1,050 rooms and 565,000
square feet of retail space.
Orange County's wealth levels are high by comparison both
to the state as a whole and to its neighboring counties.
Whereas all its neighboring counties showed per capita
incomes lower than the state in 1996, Orange County's
per capita income was 114% of the state level. Orange
County's taxable sales per capita, at $13,043 in 1997,
were higher than the California major metropolitan county
median of $11,000, and exceeded the rates of all it neighbors
by a minimum of $3,000. Assessed value per capita is also
high, at $69,447 in 1999 exceeding the median of $67,616
for major metropolitan counties and surpassing the rates
of all its neighboring counties by over $11,000.
Y2K ISSUES ARE REPORTEDLY BEING ADDRESSED
Orange County reportedly has identified all mission-critical
systems. The county selected replacement rather than retrofit
as its primary Y2K strategy, which has raised the cost
of compliance somewhat but was deemed to be a better long-term
business strategy. The county reports that most of its
critical systems are now compliant, including financial
systems and the Countywide Accounting and Personnel System.
It is noteworthy that interest on the county's 1996 Recovery
Certificates of Participation is payable on January 1;
however the state intercept program, which deposits funds
monthly with the Trustee, is scheduled to make its final
deposit with respect to that payment on December 10. It
can therefore be expected that the full sum due to bondholders
will be available with the Trustee prior to January 1,
2000.
RATINGS ON SPECIFIC ISSUES
Pension Obligation Bonds: The county has outstanding three
series of taxable pension obligation bonds: Series 1994A,
1996 Series A, and 1997 Series A. The rating on the Series
1994A has been upgraded to A1 from Baa2. The underlying
ratings on the 1996 and 1997 series, which are rated Aaa
based upon insurance, have been raised to A1 from Baa2.
These bonds are secured by an unconditional, general fund
obligation derived from an obligation under state statute
to amortize unfunded pension obligations.
1995 Refunding Recovery Bonds: The underlying rating on
this issue, which is rated Aaa based upon insurance, has
been upgraded to A1 from Baa3. These bonds are unconditional,
non-abatable obligations of the county, which were validated
on the same basis as Pension Obligation bonds, with the
judgment rendered that they were refunding involuntary
obligations imposed by law. These bonds are enhanced by
a priority lien on motor vehicle license fee (MVLF), but
the intercept mechanism lacks many of the legal and procedural
strengths of the 1996 Certificates of Participation.
1996 Recovery Certificates of Participation: This rating
has been upgraded to A2 from Baa2. General fund lease
payments for the use of a number of facilities provide
the primary security for the Certificates of Participation
(COPs). Repayment is additionally secured by a lien on
two county revenues -- the MVLF and sales tax revenues
-- both of which are collected by the state. The dedicated
revenues alone provided about 1.90 times coverage at fiscal
year end 1999, net of debt service on the 1995 Refunding
Recovery Bonds which have a priority claim on the MVLF.
Unlike other intercepts established by the state, this
one provides a statutory lien on the intercepted revenues,
a statutory mechanism for the direct payment of these
revenues to the trustee, and a legislative commitment
to take no action that would impair the debt. While the
intercept mechanism represents a credit strength, Moody's
does not believe that at the county's current rating levels
the added security is sufficient to warrant a rating distinction
compared to the county's other leases.
Real Property Lease Financings: The county has outstanding
two COPs secured by county leases with the Orange County
Public Finance Corporation (OCPFC), the 1991 Civic Center
Parking financing and the 1992 Juvenile Justice Center
Refunding. Both issues are rated Aaa based on insurance.
The underlying ratings on both issues are being upgraded
to A2 from Baa3.
Equipment Lease Financings: The county has three leases
outstanding secured by equipment. Typically, leases on
personal property are rated one level below the lessee's
strongest real property leases. Consistent with that practice,
the rating on the county's Master lease Schedule No. 2,
1990 equipment certificates are being upgraded to A3 from
Ba1. The county has two additional equipment certificates
outstanding, OCPFC July 1986 and OCPFC February 1993.
The rating on the 1986 certificate is being raised to
A2 from Baa3. The underlying rating on the 1993 certificate,
which is rated Aaa based on bond insurance, is being upgraded
to A2 from Baa3. Ratings on both the 1986 and 1993 certificates
reflect the fact that, in both cases, funds have been
deposited with the respective trustees which, together
with expected interest earnings and the reserve account,
should be sufficient to fully pay these two obligations.
While not legally defeased, the advanced deposit of funds
does mitigate the additional abatement risk associated
with personal property.
OUTLOOK:
Moody's outlook for the Orange County's ratings is positive,
based upon the possibility that, given the county's underlying
economic strengths and commitment to prudent fiscal management,
actual economic trends and financial results could exceed
the now positive expectations.
The county's capital needs appear somewhat high compared
to other large counties in the state, and the magnitude
of the county's estimates remains a credit issue reflected
in the current ratings. But, the county's estimates are
also reflective of the thoroughness of the its long-term
planning efforts. Over time, Orange County's needs may
prove to be no greater than those of its peers.
Like all California counties, Orange County has very limited
financial flexibility and remains highly vulnerable to
state budget actions. Absent significant statewide fiscal
reforms, these factors will continue to limit the up-side
potential of the county's ratings.
CONTACTS:
Journalists: (212) 553-0376
Research Clients: (212) 553-1625
Legal