TEXT - Fitch affirms Royse City, Texas GOs and COs

Thu Nov 15, 2012 10:44am EST

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Nov 15 - Fitch Ratings has affirmed the following Royse City, Texas bonds at
'A-':

--$308,000 general obligation (GO) bonds series 1976 and 2005;
--$16.315 million combination tax and surplus revenue certificates of obligation
(COs) series 2005, 2006, 2007A, and 2007B.

The Rating Outlook is Negative.

SECURITY

Both GOs and COs are direct obligations of the city, payable from ad valorem 
taxes levied annually, limited as to rate to $2.50 per $100 assessed valuation; 
COs are also secured by a pledge of surplus net revenues of the city's 
waterworks and sewer (utility) system.

KEY RATING DRIVERS

NEGATIVE OUTLOOK MAINTAINED: The city's fiscal 2012 performance indicates a 
positive trend; however, the results are still preliminary and unaudited. Fitch 
believes that examination of the fiscal 2012 audit, fiscal 2013 preliminary 
results and the fiscal 2014 budget should provide further clarification of the 
city's evolving credit quality and inform future rating implications.

RECOVERY PLAN PROGRESS: While still relatively illiquid, the city has made some 
measurable progress in its multi-year recovery plan, set on right-sizing 
financial operations and restoring general fund reserves to an adequate level 
within the projected timeframe.

MODEST FINANCIAL CUSHION ESTABLISHED: Preliminary fiscal 2012 results indicate 
the city established a modest positive general fund balance, beating budgeted 
projections, and buoying operational pressures for the first time in six years.

PLANNED REDUCTION OF UTILITY FUND SUPPORT: Inter-fund transfers from the utility
fund to the general fund continue and now represent over one-fifth of total 
operating revenues, signifying the current structural imbalance of the city's 
primary operating fund. However, reductions of this support are planned to begin
in fiscal 2014 as general fund revenues increase with the adjustment of the 
operational tax levy.

HIGH OVERALL DEBT BURDEN: Direct debt levels are manageable, but overall debt 
ratios are very high when including debt from the local school district.

STABLE TAX BASE: Rapid taxable assessed value (TAV) growth slowed in 2009 as 
housing construction stalled and general recessionary influences made their way 
to the city. TAV contracted only modestly in 2011 and 2012. Positively, sales 
taxes were fairly stable through the recession and expanded notably in 2011 and 
2012 due to new retail activity in the city. 

WHAT COULD TRIGGER A RATING ACTION

DEVIATION FROM RECOVERY PLAN: Failure to adhere to the recovery plan as 
currently scheduled will likely result in downward pressure on the rating.

CREDIT PROFILE

MODEST FINANCIAL CUSHION ESTABLISHED

Royse City's credit profile remains stressed based on audited fiscal 2011 
results. Preliminary fiscal 2012 results show a positive trend, but audited 
results are not yet available. The final 2012 audit, together with preliminary 
and budgeted figures for 2013 and 2014, respectively, will inform future rating 
implications.

The city's previously negative general fund balance has turned positive with 
preliminary fiscal 2012 (ended September 30) results indicating a modest 
$260,000 unrestricted fund balance equal to 5% of expenditures. Unaudited net 
operating results for the year produced a surplus of $531,000 after transfers 
in, driven largely by revenue growth and cost controls, which Fitch views 
positively.

The city's historically thin financial margins turned negative at the end of 
fiscal 2007 when the downturn in the housing market and national economy caused 
revenues to fall short of budgeted expectations. Fund balances reached an 
alarming low of negative $1.1 million in fiscal 2008 due to cost overruns, but 
steadily improved, albeit slowly, to negative $272,000 in fiscal 2011. 

UTILITY FUND TRANSFERS SUSTAIN GENERAL FUND OPERATIONS

General fund operations remain imbalanced with recurring expenditures exceeding 
recurring general fund revenues in each of the seven fiscal years from 2007 
through the 2013 budget.

The city has had to rely on short-term financing and interfund loans to meet 
operating needs. 

In 2010 the city began supplementing general fund operations with interfund 
transfers from surplus revenues from the water and sewer fund. To supplement 
water and sewer fund operations, management made corresponding transfers from 
the debt service fund to pay utility-related debt service, thereby freeing up 
revenue available to be transferred to the general fund. While improving, 
liquidity is still weak.

The utility-related debt was issued as double-barreled obligations, payable from
property tax levies or utility system operating revenues. To meet the additional
utility-related debt service payments, management raised the debt service tax 
rate by a notable $0.15 per $100 AV in fiscal 2009.

RECOVERY PLAN TO RIGHT-SIZE OPERATIONS

Management's stated plan to restore balance to the general fund involves small, 
incremental upward adjustments to the operating tax rate over the next few years
(assuming flat TAV growth) with corresponding downward adjustments to the debt 
service tax rate. As the general fund moves towards balanced operations, 
inter-fund transfers will be reduced and eventually eliminated except for the 
usual administrative accounting reporting. 

Recovery plan progress in fiscal 2012 is evidenced by a modest but measurable 
shift in the debt service tax rate to the operating rate, in addition to the 
establishment of a positive fund balance. 

The fiscal 2013 budget further shifts the tax rate from debt service to the 
operating fund. However, operations are still supported by the same $1.09 
million transfer in from the utility fund recorded in fiscal 2012, equaling 
roughly 20% of general fund revenues.

Management states that utility fund transfers will trend down beginning in 
fiscal 2014 after general fund reserves reach targeted levels of approximately 
$1 million or 20% of expenditures. 

Fitch views this temporary operating support as appropriate given the strength 
of the utility fund, including its large $5.2 million cash position and the 
competitiveness of utility rates. The transfer from the utility fund to the 
general fund is being offset by the use of property tax revenues to service a 
comparable amount of utility system debt. As mentioned above, this shifting of 
funds is scheduled to wind down once general fund reserves reach the target 
level.

STABLE LOCAL ECONOMY 

Located predominantly in Rockwall County, but also encompassing portions of 
Collin and Hunt counties, the city is conveniently located about 35 miles 
northeast of Dallas off Interstate 30. With an estimated 2011 population of 
9,700 (up 230% since 2000), the city is a fast-growing bedroom community in the 
metroplex and benefits from its close proximity to three area lakes. TAV growth 
was strong from fiscal 2004-2009, averaging just over 20% annually. However, 
growth slowed considerably in fiscal 2010 to only 3%, and contracted modestly by
1% in both fiscal 2011 and fiscal 2012. Preliminary figures for fiscal 2013 TAV 
indicate 2% growth to $472 million.

Independent housing information indicates relatively low mortgage delinquency 
and foreclosure rates and officials indicate no drop in current property tax 
collection rates. County wealth levels are above average, while unemployment 
rates remain below metropolitan, state, and national averages.

Sales taxes have been remarkably stable throughout the recession, driven by 
growth in the city's retail corridor along a new highway interchange. Receipts 
for fiscal 2011 showed nearly 16% growth over the prior year, and receipts 
through October 2012 show 9% improvement. Wal-Mart has announced plans to build 
a store in the city beginning in 2013, which Fitch expects will further benefit 
city finances.

HIGH BUT MANAGEABLE DEBT BURDEN

Given rapid population and tax base growth, debt ratios have improved over time.
Direct debt ratios are below average, while the overall debt ratio is high due 
to extensive borrowing by the local school district; overall debt totals a high 
$6,466 per capita, or 10.5% of total market value. Payout is average with 57% of
debt repaid in 10 years. The city is in the process of developing a new capital 
plan, although given current financial and economic conditions, no additional 
borrowing is planned for the next five years.

The city provides pension and other post-employment benefits (OPEB) through the 
Texas Municipal Retirement System (TMRS). Funding levels remain low at 69% but 
have improved recently; the city routinely funds 100% of annual required 
contribution (ARC) to TMRS. In fiscal 2011, the city's total fixed cost burden 
(debt, pension, and OPEB) was an average 20% of combined general and debt 
service fund spending.
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