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TEXT-Fitch cuts Milam County, Texas COs to 'BBB'
Aug 6 - Fitch Ratings downgrades the following Milam County, Texas (the county) bonds: --$6.6 million outstanding certificates of obligation (COs), series 2004 to 'BBB' from 'BBB+'. The Rating Outlook is revised to Stable from Negative. SECURITY The bonds are direct obligations of the county payable from an ad valorem tax within the statutory $0.80 per $100 of assessed value limit on all taxable property within the county. KEY RATING DRIVERS WEAK FINANCIALS DRIVE DOWNGRADE: The downgrade to 'BBB' from 'BBB+' reflects Fitch's expectation of marginal financial performance over the near term given the county's ongoing experience of failing to achieve its financial targets largely from overbudgeting annual revenues. Management expects to maintain modest, positive reserves by fiscal 2012 year-end. Fitch believes these results may be achievable with the recent positive revenue trends evidenced and historically tight spending, but remains skeptical given the property tax revenue gap that management faces. TAXPAYER RESOLUTION LEADS TO STABLE OUTLOOK: The Outlook revision to Stable from Negative reflects the improved stability in the county's narrow tax base with the recent settlement by its leading taxpayer. The resulting reduction in taxable assessed valuation (TAV) was not as sizeable as originally anticipated. SIGNIFICANTLY CONCENTRATED TAX BASE: Two large power plants owned by Luminant make up the county's largest taxpayer at a slightly reduced but still high 39% in fiscal 2012. Luminant is a unit of Energy Future Holdings (EFH) Corporation. Fitch's recent downgrade of EFH to an Issuer Default Rating of 'CC' from 'CCC' provides added uncertainty to the county's credit profile. MINERAL GAINS PROVIDE PARTIAL OFFSET TO TAV LOSS: Recent discovery of mineral deposits in the county and subsequent activity that has led to some productive oil/gas drilling have contributed to modest growth and diversification of the county's tax base. CASH-BASIS ACCOUNTING: The county relies upon cash-basis financial reporting that began in fiscal 2008, which makes it difficult to ascertain its true financial condition. Before the transition, the county had reported a modest negative general fund balance under generally accepted accounting principles (GAAP) accounting. LIMITED ECONOMY: The area economy is largely rural, characterized by elevated unemployment and below-average demographics. MODEST DEBT LEVELS, MINIMAL CAPITAL NEEDS: Overall debt levels are modest. The county's direct debt levels are low and principal amortizes rapidly. Management does not anticipate any capital needs over the near term that would require additional debt financing. WHAT COULD TRIGGER A RATING CHANGE CHANGES TO FINANCIAL POSITION: A trend of positive financial performance in line with projections would be viewed favorably. Conversely, further instability in the county's property tax revenues from its largest taxpayer and/or a trend of continued operating deficits and negative fund balances could negatively affect this rating. CREDIT PROFILE POOR FINANCIAL MANAGEMENT PRODUCES WEAK PERFORMANCE The county switched from GAAP to cash-based financial reporting in fiscal 2008 after reporting two prior years of negative general fund balances. The cash position improved in fiscals 2008 and 2009, but weakened again in fiscal 2010. A steeper than anticipated $1.7 million draw on cash reserves was realized in the fiscal 2010 audit as revenues fell well short of budgeted expectations. Management substantially over-estimated income from fees and fines in fiscal 2010 with actual general fund revenues falling by nearly $1.6 million or 16% below the prior year. The year-end fiscal 2010 general fund cash balance dropped to a reduced but sufficient $2.1 million or 21% of spending. However, Fitch notes this cash available was likely bolstered by property tax receipts received for the upcoming fiscal year. The county maintains additional liquidity from about $3 million in cash, deposited in the road and bridge fund and held outside of the general fund. For fiscal 2011, management expects unaudited fiscal 2011 year-end results will preserve a minimal $400,000 operating reserve on a cash basis or a low 4% of spending, which is in line with prior expectations at Fitch's last review. A mid-year correction of across the board spending reductions and better than budgeted sales tax collections reportedly addressed much of the previously projected $500,000 cash shortfall at year-end and supports management's year-end estimates. UPSWING IN SALES TAX REVENUES BOLSTERS 2012 OPERATING REVENUES Solid monthly gains in sales tax revenue have been realized on a year-over-year basis beginning in the latter part of 2011 and have continued through fiscal 2012 due largely to recent mineral activity. Year-to-date sales tax performance as of July 2012 has remained very strong at a high 30% or additional $170,000 year-over-year gain. The fiscal 2012 $10.3 million general operating budget was adopted as balanced with the budgeted use of reserves. Mid-year, management judiciously enhanced its operating revenues through negotiated, ongoing use of its excess jail capacity with a neighboring county, which is expected to provide additional net revenue for the county. On a year-to-date basis, management expects to minimally maintain reserve levels comparable to unaudited fiscal 2011 year-end. Preserving and building reserves is one of management's stated goals. However, management must still grapple with the final settlement loss of approximately $800,000 in budgeted property taxes attributable to Luminant's reduced TAV settlement that began in fiscal 2012. Positive, year-end cash reserves depend largely on continued growth in economically sensitive sales taxes, revenues from a new prison housing contract, and tighter than budgeted spending in an environment of reduced financial flexibility. For fiscal 2013, the proposed $11.2 million general fund budget is balanced. Projected revenues include a sizeable gain in sales taxes and shared revenues (from a full year of the prison housing contract) and use of $1 million in reserves. Year-over-year spending grew nearly 9% due largely to modest pay increases, growth in jail costs, and establishment of a roughly $570,000 reserve. Fitch notes some positive steps have been taken by the county's relatively new management to address the county's economic and fiscal challenges. However, Fitch believes past county actions such as the historical failure to maintain sufficient levels of reserves, unrealistic revenue budgeting practices that include the use of reserves to balance operational spending, and the conversion from GAAP to cash-basis accounting reflect weak management practices. Fitch views negatively the county's decision to switch from modified accrual to cash-basis accounting as it obscures its true financial condition, especially as the county's finances were already tenuous at the time of the change. Most recently, however, management reports it is likely the county will change back to modified accrual financial reporting by fiscal 2013. SETTLEMENT MODERATELY REDUCES TAV; OFFSET IN PART BY MINERAL VALUE GAINS General fund revenues are derived primarily from property taxes, which comprise about two thirds of the revenue base. The county benefited in recent years from very healthy TAV increases that averaged about 8% annually over fiscal years 2007-2012 and reached approximately $1.7 billion in fiscal 2012. Much of the growth was attributable to the construction and completion of a large power generating plant in 2009 owned by Luminant. However, the expansion resulted in an increasingly concentrated tax base. Luminant and its subsidiaries constitute the county's largest taxpayer at about 44% of TAV in fiscal 2011 and accounted for almost 30% of county general fund revenues in fiscal 2010. A lawsuit filed by Luminant against the county appraisal district for a decrease in the Unit 5/Sandow power plant's assessed valuation roughly a year ago was recently settled, successfully reducing the facility's TAV by $138 million beginning in tax year 2011 (fiscal 2012). This TAV reduction was not as sizeable as initially assumed; a relatively moderate 5% decline rather than the initial 3% gain will be recorded for fiscal 2012 after adjusting for this settlement. Per values from the county appraisal district, minerals contributed about $66 million to fiscal 2012 TAV results and modest expansion (up to nearly $92 million) will allow some offset to the TAV loss. Overall, preliminary TAV remains relatively flat at $1.6 billion in fiscal 2013. County management does not anticipate any retroactive tax protest from Luminant nor repayment of prior years' taxes. Luminant is current with its tax payments to the county through fiscal 2012. LIMITED LOCAL ECONOMY The county is located in central Texas, about 60 miles northeast of Austin. Local income and wealth levels are below state and national averages. Rural and sparsely populated, the county's 25,000 residents are spread over 1,022 square miles. Population growth has been relatively stagnant since 2000. The local economy is based on agriculture, power generation, and mining. County employment declined by over 1,500 or 13% between 2007 and 2010 spurred mainly by the closing of Alcoa's aluminum smelting plant in 2009, previously the county's largest employer. Unemployment rates topped 10% in 2009 and have remained at or above those levels through 2011. At 7.5% in April 2012, year-to-date unemployment levels remain elevated but have declined from prior highs due to a 3% loss of labor force in that time period. At this level, county unemployment shadows the nation's rate of 7.7% while remaining above the 6.5% rate for the state. MODERATE OVERALL DEBT BURDEN Direct debt of the county consists of one series of outstanding COs issued in 2004 with final maturity in 2024. The county's fixed cost burden, which includes debt service and annual pension cost, was a moderately high 12% of spending in fiscal 2010. Principal amortization is rapid with nearly 90% of principal retired within the next 10 years. Overall debt levels are moderate at 2.2% of market value and $3,125 on a per capita basis with the majority of overlapping debt consisting of outstanding bonds of school districts located within the county. The county has no current plans to issue additional bonds, although it may seek to refund the series 2004 COs in the near term for debt service savings. 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, IHS Global Insight, National Association of Realtors. 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 U.S. Local Government Tax-Supported Rating Criteria
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