TEXT-Fitch rates Suffolk County, NY TANs

Aug 30 - Fitch Ratings assigns an 'F1' rating to the following Suffolk County, NY (the county) tax anticipation notes (TANs): --$105,000,000 TANs 2012 (Series III). In addition, Fitch affirms the following ratings: --Outstanding general obligation public improvement bonds at 'A+' and outstanding TANs at 'F1'. The Rating Outlook on the bonds remains Negative. SECURITY The notes are general obligations of the county with a pledge of its faith and credit and ad valorem tax, subject to the 2011 state statute limiting property tax increases to the lesser of 2% or an inflation factor (the tax cap law). This limit can be overridden annually by a 60% vote of the county legislature. The county has pledged its full faith and credit and unlimited taxing power for debt service on outstanding GO bonds and notes issued prior to this issue. No exemption is made under the tax cap law for debt service on outstanding GO debt issued prior to the implementation of the tax cap law; however, the constitutionality of this provision has not been tested. KEY RATING DRIVERS DIMINISHED LIQUIDITY AND FINANCIAL FLEXIBIILTY: Persistent operating deficits due primarily to over-estimation of sales tax revenues, the use of non-recurring revenues and increased fixed costs have led to significantly reduced reserve levels and structural imbalance resulting in the county declaring a fiscal emergency in March 2012. HIGH RELIANCE ON SALES TAX REVENUES: Historically, the county's projections of sales tax, the largest general fund revenue component, have been aggressive. Fitch believes the county remains vulnerable to shortfalls in this economically sensitive revenue source. INCREASE IN CASH FLOW BORROWING: Limited financial flexibility and a narrowing cash position have increased the county's reliance on short-term cash flow borrowings. To relieve cash pressure, the county issued revenue anticipation notes earlier this year for the first time in over 20 years. Fitch expects this trend of reliance on cash flow borrowing to continue for the foreseeable future as indicated by the county's forecast. DEFICIT REDUCTION BEING ADDRESSED: Over the last few months the county has implemented a number of cost saving and revenue generating initiatives. These initiatives, combined with a pending sale of the county nursing home and the expected ratification of a new police contract, show the willingness and ability of management to provide the framework to address the county's significant budget deficit. STRONG ECONOMIC UNDERPINNINGS: The county benefits from a broad and wealthy economic base. MANAGEABLE DEBT BURDEN: The sizeable tax base results in a manageable debt burden with above average amortization that Fitch believes can comfortably accommodate anticipated moderate capital needs. ADEQUATE NOTE COVERAGE: The 'F1' rating is based on tight but adequate coverage from cash flow and a slightly stronger level when adding in borrowable funds. WHAT COULD TRIGGER A RATING ACTION INABILITY TO EXECUTE BUDGET DEFICIT REDUCTION MEASURES: The county's inability to fully execute its budget mitigation plan or impose other needed budget-balancing measures as needed could trigger further rating action. CREDIT PROFILE PERSISTENT STRUCTUAL IMBALANCE LEADS TO WEAK FINANCIAL CONDITION The county's financial condition has deteriorated significantly over the last few years, due in large part to the consistent overestimation of sales tax revenue, which comprises 47% of major tax-supported fund revenue, use of non-recurring revenue items, and high and increasing fixed costs. For 2011 (year-end Dec. 31) the county recorded a GAAP operating deficit of $140 million (5.4% of spending) of the consolidated general and police district funds ($125.3 million deficit in the general fund). The unrestricted (the sum of committed, assigned, and unassigned under GASB 54) general fund balance totalled a negative $265.2 million ($318.3 million on a combined basis), or a large negative 12.3% of spending. Further reducing financial flexibility and to help close budget gaps, the county continued to draw down its Tax Stabilization Reserve Fund (TSRF) in 2011 by $40.1 million, reducing the balance to $48.9 million from a high of $127 million in 2008. Additionally, the county has increased its reliance on capital market access for liquidity needs to relieve cash flow pressures, a trend Fitch considers troubling and highlights the county's fiscal stress. CASH FLOW PRESSURE LEADS TO INCREASED SHORT-TERM BORROWING The county has historically issued annual cash flow notes in anticipation of receipt of delinquent and current property taxes (DTANs and TANs, respectively). However, the amount of the borrowings has increased over the last few years from $310 million in 2006 to $420 million in 2011(which would have been $520 million but $100 million was postponed to January 2012 from December 2011). Reflecting a strained cash position and limited financial flexibility, in May of 2012, the county issued $85 million of revenue anticipation notes (RANs) for the first time in over two decades. The current DTAN issue, while less than the $120 million issue in September 2011, was increased from $90 million to $105 million to pay for an early retirement incentive program offered to non-police union employees. The county anticipates issuing $400 million of TANs in December 2012, and $70 million of RANS in May 2013. Cash flow borrowing for 2012 will total $690 million including the January TAN issuance. Adjusting the January issuance cash flow borrowing into 2011, 2012 borrowing would still be 13% higher than in 2011. Fitch remains concerned about the county's increased dependence on short-term borrowing, which represents a high 27% of projected disbursements for 2012, and expects the county's reliance on cash flow borrowings to continue for the foreseeable future. MANAGEMENT MAKING PROGRESS ON BUDGET DEFICIT REDUCTION Over the last few months, management has undertaken a number of cost saving strategies and revenue generating initiatives as part of its Budget Mitigation Plan (the plan). In March an independent task force hired by the county estimated a budget deficit for 2011 through 2013 at $530 million. The County Budget Review Office revised that number down to $419 million based on several positive factors including projected higher property and sales tax revenues. Under phase 1 of the plan the county is projecting a combined budget deficit reduction of $133.6 million for 2012 and 2013. By far the most significant measure is the amortization of $60.3 million of the 2013 pension payment, which would provide relief that year but increase costs in later years. Other sizeable measures, which Fitch considers to be more structural in nature, include: the creation of a Traffic and Parking Violations Bureau, which was recently signed into law by Governor Cuomo and will be implemented in April 2013, providing an estimated $7.4 million in revenue in 2013, and the doubling of red light cameras, which was approved by the state (revenue of $1.5 million in 2012 and $8.0 million in 2013). Additionally, since Jan. 2012, the county has 658 fewer employees with 373 employees off the payroll since June 30. Year-to-date overtime is down approximately $9 million from the same period last year as a result of new policies and operational efficiencies. Progress has also been made under phase 2 of the plan. The county has negotiated an eight-year contract with the police union, which is expected to be approved by the county legislature and ratified by the union by October. The contract is the first in over two decades that was not settled through binding arbitration. Terms of the contract include no retroactive pay for 2011 and 2012 and no pay increases until June 1, 2013; saving the county an estimated $43.7 million in salaries and benefits. Pay increases from mid-2013 through 2016, when there will be a salary re-opener, average about 3.5% annually, slightly higher than the last arbitration award. However, the new contract appears to provide the county with a more affordable police force in future years through the freezing of starting salaries for new officers, requiring additional steps to reach the top pay grade, and requiring new officers to contribute 15% to health care costs. Additionally, all new non-police union employees will be required to pay a portion of their health care costs which on a combined basis will save the county about $17 million. Additionally, the county has reached an agreement to sell the county-owned nursing home to a private operator for $22.5 million (net), pending county legislature approval. The facility continues to lose money and is a source of financial pressure for the county. Savings under phase 2 of the plan are estimated at $83.2 million. If no other actions are taken and assuming budgeted sales tax growth of 4.6% in 2012, under the combined phase 1 and phase 2 of the plan the county deficit is projected to decrease to $202 million at the end of 2013. Management has stated that phase 3 of the plan to address the remaining deficit will be outlined in the 2013 operating budget which will be released in mid-September. In addition, management reports that the 2013 budget will be balanced without funds from the TSRF. Fitch believes the progress to date in reducing the budget deficit demonstrates an improvement in county elected officials' willingness to address fiscal problems cooperatively. However, Fitch remains concerned that many of the measures to date have been non-recurring and that the ability to restore structural balance and improve financial flexibility will continue to be challenging. Fitch will continue to closely monitor the county's progress and if necessary will take further downward rating action if some degree of measurable progress is not obtained in the medium term. STRONG AND STABLE ECONOMIC AND TAX BASE Suffolk County, encompassing the eastern two-thirds of Long Island, benefits from its proximity to New York City, as well as its own broad employment base. Well above-average economic indicators include high income levels (per capita personal income in 2010 was 131% of the nation's) and high per capita market value ($180,000). Unemployment rates (7.4% for 2011) have historically been below state and national levels. The 2010 U.S. Census recorded the county's population at approximately 1.5 million, an increase of 5.2% since 2000. The economy is stable and diverse and home to numerous corporate and regional headquarters. The county's tax base continues to grow, albeit at a slower rate than in previous years. The tax base is diverse with the top 10 taxpayers comprising a low 5% of market value. Total property tax collections remain strong, averaging 98% in fiscal 2010 and 2011. MANAGEABLE LEVELS OF DEBT AND LONG-TERM LIABILITIES The county's debt ratios are moderate at $3,488 per capita and 2.0% of market value. Debt amortizes somewhat rapidly at 64.1% in 10 years and debt service represents a manageable 5.2% of major fund spending. Debt ratios should remain stable given the modestly growing tax base and manageable capital needs. In addition, to the current issue, the county plans on issuing $60 million of general obligation bonds during the fall of 2012 for various capital projects. The June 2012 adopted three-year capital improvement program (CIP) for 2013 - 2015 totals $515.2 million. The county participates in New York State's well-funded pension funds. Payments make up a moderate share of the operating budget (10.3% of budgeted 2012 general fund and police district fund spending) but are expected to increase, even with the ability granted by the state to amortize most of the increase in annual pension payments over ten years. This option, which the county has taken, provides some near-term budget relief but will make future year budgeting for these payments more challenging. As of Dec. 31, 2011, the unfunded actuarial accrued liability for other post-employment benefits (OPEB) was $4.4 billion, or a moderate 1.6% of market value. This amount is expected to increase, as the county plans to continue to fund its OPEB liability on a pay-go basis and officials have no plans to alter benefits. NARROW CASH FLOW COVERAGE FOR NOTE REPAYMENT Cash flow provides narrow 1.15x coverage of the notes at maturity. With consideration of borrowable balances in the TSRF, coverage improves to 1.62x. Fitch believes the county's cash flow projections are reasonable but subject to some volatility given some execution risk related to cost cutting and the county's generally optimistic revenue forecasting.