Fitch Rates Denver, CO's COPs 'AA+'; Outlook Stable

AUSTIN, Texas--(BUSINESS WIRE)-- Fitch Ratings has assigned an 'AA+' rating to the following Denver, CO (the city) obligations:

--$23.4 million certificates of participation (COPs), series 2015A (Fire Station and Library Facilities).

The COPs are scheduled to sell competitively on May 20. Proceeds will be used to construct a 911 call center and a fleet service center.

Fitch also affirms the following ratings on the city's outstanding debt:

--$867.6 million general obligation unlimited tax (GOULT) bonds at 'AAA';

--$395.6 million COPs at 'AA+';

--$2.9 million excise tax revenue refunding bonds, series 2003 at 'AA+';

--$188.2 million excise tax revenue refunding bonds, series 2005A, 2009Aat 'AA-'.

The Rating Outlook is Stable.

SECURITY

COPs are secured by lease revenue payments from general revenues, subject to annual appropriation. The leased properties consist of three fire stations and a public library. The essentiality of the leased assets provides additional security. GOULT bonds of the city are secured by an unlimited annual property tax levy.

The series 2003A excise tax revenue bonds are secured by Denver's seat tax and head tax. The series 2005A, 2009A, excise tax revenue bonds are secured by portions of the lodger's, prepared food & beverage, and auto rental taxes.

KEY RATING DRIVERS

STRONG ECONOMIC BASE: Denver's economy is fundamentally sound and diverse, serving as the hub of commerce for a large 10-county metropolitan area and as the seat of state government.

IMPROVED FINANCIAL POSITION: Prudent financial management enabled the city to expand its financial reserves amidst a recovering revenue environment. The permanent waiver of property tax revenue limitations supports expanded revenue flexibility and the city's efforts to sustain long-term structural balance.

DEBT BURDEN POISED TO STABILIZE: Overall debt levels (relative to market value) are high but should not rise further despite potential future large GO and excise tax authorizations due to expected substantial reappraisal gains in 2016. Principal amortization is rapid and total carrying costs are moderate.

SOUND REPAYMENT SECURITY: The COPs legal provisions are sound and provide a strong incentive to annually appropriate base rental payments.

HIGH COVERAGE OF HEAD/SEAT TAX BONDS: The 2003 excise tax revenue bonds are characterized by very high debt service coverage (DSC) and broad-based dominant pledged revenues (head taxes) balanced against a weak additional bonds test (ABT).

NARROW REVENUE PLEDGE BUT SOLID COVERAGE: The 2005A and 2009A excise tax revenue bonds have a narrower revenue pledge than the series 2003 bonds but have benefited from solid DSC.

RATING SENSITIVITIES

SHIFT IN FUNDAMENTALS: The rating is sensitive to shifts in fundamental credit characteristics including the city's strong financial management practices. The city's history of reserve adequacy and sound financial management practices suggest continued rating stability.

CREDIT PROFILE

FAVORABLE LONG-TERM ECONOMIC PROSPECTS

Denver's economic diversity benefits from its role as the hub of a 10-county metropolitan statistical area (MSA) and the capital of Colorado. After posting recessionary job losses in 2009-2010, employment gains have outpaced labor force increases annually. As a result, the MSA's unemployment rate trended down steadily and averaged 4.9% for 2014, which is in line with the state average but below the national average of 6.2%.

After posting only partial recovery in 2014 and 2015 from recessionary assessed value (AV) losses, taxable values are poised to surge in 2016 due to rapidly rising property values. The preliminary AV estimate for the 2015 reassessment year (collected in 2016) points to a significant 28% increase, mostly due to reappraisal gains.

Such reappraisal gains are in line with the trend in median home sale prices (currently at $304,000 as per Zillow as of March 31, 2015) which are 10% higher than the pre-recession peak median sale price ($276,000 in June 2007). Strong building trends are fueled by ongoing redevelopment throughout the city and substantial public and private investment in the downtown area. New construction projects include the massive Denver Union Station project, which Fitch expects will benefit the city's medium-term economic prospects.

PRUDENT RESPONSE TO RECESSIONARY IMPACT ON LARGEST REVENUE SOURCE

The city's financial profile remains sound due to management's notable efforts to curb expenditures in the wake of recessionary pressures on the city's largest revenue source - sales and use taxes. This revenue stream, which comprises about 50% of general fund revenues, declined by a steep 10% in 2009 and led to a multi-year effort to reduce spending by closing annual budget gaps averaging $108 million or 10% of expenditures and transfers out from 2009-2013. These budget reductions plus conservative revenue projections and non-recurring measures enabled the city to post annual net general fund surpluses in 2010-2013.

PERMANENT WAIVER OF PROPERTY TAX REVENUE LIMITATIONS

Fitch views the city's successful November 2012 ballot measure to permanently waive property tax revenue limitations in order to facilitate long-term structural balance favorably. The ballot measure was the principal recommendation of a city-appointed structural taskforce that was charged with developing recommendations to help the city minimize future budget gaps. The successful waiver generated an additional $29 million in property tax revenues in 2013. Combined with a notable 9% gain in sales and use taxes, the waiver enabled a large $60 million net surplus (equal to 6.2% of spending), increasing its unrestricted fund balance to a strong $255.7 million or 26.3% of spending.

In 2014 the city far outpaced its projected 1.8% gain in sales tax revenues with a 12.7% surge as per unaudited results. Audit collections contributed only modestly (1%) to the sales tax revenue boost. Despite a 10.8% increase in general fund expenditures, the unaudited 2014 results posted a large $76.7 million (7.2% of spending) net surplus, a significant improvement over the budgeted $18.9 million (1.8% of spending) use of reserves for one-time expenditures. The unaudited unrestricted fund balance increased to $286 million or 26.9% of spending.

The 2015 budget projects a $50.8 million (4.2% of spending) use of reserves due to $94 million (7.7% of spending) in transfers for capital projects. However, the city is likely to perform far better due to a conservative 3.8% sales tax growth projection, annual vacancy savings, and the budgeting of contingency appropriations.

HIGH DEBT BURDEN ON THE BASE; MODERATE CARRYING COSTS

Overall debt levels are high at $7,438 per capita and 6.1 % of full market value, but the combined principal pay-out rate for GO bonds, COPs, and excise tax revenue bonds is rapid at 70% in 10 years. The next GO bond election has not yet been planned but management anticipates its next issuance will be in 2016 or 2017. The city's 2007 authorization for $550 million has been exhausted. The impact of future debt authorizations on overall debt levels (relative to market value) will likely be mitigated by expected large reappraisal gains in 2016.

COPs comprise a manageable 27% of the city's debt and are secured by sound legal provisions along with a strong incentive to annually appropriate base rental payments, since the leased assets are considered essential. A moderate 15% of the city's general government debt is composed of variable-rate demand obligation COPs, all of which are hedged with swaps. Fitch considers the swaps' termination risk as manageable given the low rating threshold required of the city and its counterparties.

The city's general employees participate in the Denver Employees Retirement Plan (DERP), a cost-sharing multiple employer pension plan that also serves certain employees of the Denver Health and Hospital Authority. As of Jan. 1, 2013, the unfunded actuarially accrued liability (UAAL) of the DERP totaled $2.59 billion or a moderate 3.2% of the city's market value. The DERP's UAAL grew by 8.3% over the prior year due to several changes in the actuarial methodology that also reduced the plan's funded position to 76.4% from 81.6%. Adjusting for Fitch's 7% rate of return assumption lowers the funded status to an estimated 68.8%.

The city's practice of adopting its contribution rate based on the previous year's actuarial valuation has typically led to partial funding (about 88%) of the actuarially required contribution (ARC). As a result, the rate is increased the following year based on the higher actuarial valuation. A reduced gap in the most recent year led to an ARC funding level of 101.9% which Fitch views positively.

All full-time firefighters and police officers participate in the state's Fire and Police Pension Plan, a cost-sharing multiple-employer retirement system administered by the Fire and Police Pension Association (FPPA). For firefighters and police officers hired before April 1978, the plans were funded 73.3% and 90.8%, respectively, as of Jan. 1, 2014. The combined plan for firefighters and police officers hired after April 1978 was funded at a high 100.9% as of Jan. 1, 2014. The city's modest other post-employment benefit (OPEB) liability is an implicit rate subsidy, funded on a pay-as-you-go basis.

Total carrying costs for debt service, pension, and OPEB totaled a moderate 16% of governmental spending in 2013, which Fitch considers an important offset to the city's high overall debt burden.

STRONG COVERAGE BY EXCISE TAXES

The series 2003 excise tax revenue bonds continue to benefit from very high DSC despite recent declines in pledged revenues. Such revenues comprise the broad-based head tax on all employees and employers within the city, and the narrower seat tax, both of which have rebounded after declining notably in 2009. Coverage of the sole remaining maturity (December 2015) by 2014 pledged revenues totals a very high 18.2x. Maximum annual debt service (MADS) coverage by 2013 head tax revenues alone, which Fitch views to be a more stable source of security, totals a still high 15.2x. Management reports that an undetermined amount of additional leveraging may be considered as part of its annual capital improvement plan (CIP) update. Any additional debt would require voter approval.

The series 2005A and 2009A-B excise tax revenue bonds also exhibit solid DSC at 2.4x in 2014. However, Fitch notes the narrow nature of these pledged excise taxes, making them more vulnerable to economic swings. The lodger's tax makes up 51% of pledged revenue followed by the rental car tax at 32% and the food and beverage tax at 25%. Total pledged revenues declined by nearly 14% in 2009 before rebounding with annual gains through 2014.

The bonds are structured with level debt service and all bonds mature within 10 years. The city will seek voter approval this November 2015 to extend the 1.75% lodgers and auto excise tax beyond its current 2023 expiration and issue at least $600 million in bonds for improvements to the convention center and the city's National Western Center (stock show and rodeo) complex. Issuance of the excise tax bonds will be phased in over a period of years due in part to the 1.25x ABT.

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

In addition to the sources of information identified in the Tax-Supported Rating Criteria, this action was informed by information from CreditScope, University Financial Associates, S&P/Case Schiller Home Price Index, IHS Global Insight, Zillow.com, and National Association of Realtors.

Applicable Criteria and Related Research:

Tax-Supported Rating Criteria

U.S. Local Government Tax-Supported Rating Criteria

Fitch Ratings
Primary Analyst
Jose Acosta
Senior Director
+1 512-215-3726
Fitch Ratings, Inc.
111 Congress Avenue, Suite 2010
Austin, TX 78701
or
Secondary Analyst
Shane Sellstrom
Analyst
+1 512-215-3727
or
Committee Chairperson
Jessalynn Moro
Managing Director
+1 212-908-1568
or
Media Relations:
Elizabeth Fogerty, +1 212-908-0526
[email protected]

Source: Fitch Ratings

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