Fitch Rates Cook County, Illinois General Obligation Bonds 'AA-'; Outlook Negative
Fitch Ratings has assigned an 'AA-' rating to the following Cook County, Illinois (the county) bonds:
--Approximately 247.8 million general obligation (GO) refunding bonds, series 2012C.
In addition, Fitch has affirmed the 'AA-' rating for $3.7 billion of outstanding GO bonds.
The Rating Outlook is Negative.
The GO bonds carry the county's full faith and credit and ad valorem tax pledge, without limitation as to rate or amount.
KEY RATING DRIVERS
NEGATIVE RATING OUTLOOK: The Negative Rating Outlook reflects Fitch's concern that spending pressures coupled with reliance on economically sensitive taxes will continue to strain the county's ability to achieve structural balance and build reserves in the intermediate term.
CHALLENGING FINANCIAL PROSPECTS: The county is projecting budgetary structural imbalance for the next several fiscal years, although the projected gaps are smaller than those previously projected; the county projects it will successfully close the gap in fiscal 2012.
REGIONAL ECONOMIC HUB: Cook County is the economic and cultural hub for the Midwest region.
RESTORED LIQUIDITY: Liquidity was restored to adequate levels via bond proceeds last year that reimbursed the general fund for accumulated judgment and self-insurance losses.
HEALTH SYSTEM WAIVER: The recent receipt of a federal waiver expanding Medicaid eligibility, which was anticipated, is expected to net $99 million in additional revenue in fiscal 2013, shoring up the county health system which has strained county finances in recent years.
NOTABLE OBLIGATIONS: The overall debt burden is moderate; however, pension liabilities are notable, and annual funding remains significantly lower than actuarial funding requirements.
WHAT COULD TRIGGER A RATING ACTION
PERSISTENT STRUCTURAL IMBALANCE: Management's inability to restore structural financial equilibrium and preserve satisfactory fund balance levels at the current rating level would likely result in a downgrade.
MOUNTING FIXED COSTS: Management's inability to develop a realistic plan to address mounting fixed costs, including pensions, would put negative pressure on the rating.
Cook County, the second largest county in the nation with 5.2 million residents, serves as the economic and cultural center for the Chicago metropolitan region. The city of Chicago, which is located within the county, accounts for roughly 50% of the county's total assessed valuation and population. Socioeconomic indicators are mixed with above-average per capita income and educational levels but also elevated individual poverty and unemployment rates. As of August 2012, the county's unemployment rate of 9.3% remained above both the state (8.9%) and national (8.2%) averages, but showed marked improvement over the 11.1% recorded a year prior.
STRONG ECONOMIC BASE
Cook County, and in particular the city of Chicago, acts as the economic engine for the Midwest region. Residents are afforded abundant employment opportunities within this deep and diverse regional economy. The county also benefits from an extensive infrastructure network, including a vast rail system, which supports continued growth. The employment base is represented by all major sectors with concentrations in the wholesale trade, professional and business services and financial sectors.
SALES TAX ROLLBACK
The county is in the process of rolling back the rate for its sales tax, which represents a significant portion of the revenue stream. The home rule sales tax was increased by 1% to 1.75% in July 2008 to fortify the county's budget. The new county administration rolled back the sales tax to 1.25% effective July 2010, which cost the county $27 million in fiscal 2010 and $161 million in 2011. Per a county ordinance, the sales tax was rolled back again, to 1.0% effective January 2012. A final rollback, to 0.75% is planned for January 2013. Year-over-year sales tax revenues are projected to drop 9.1% in fiscal 2012, reflective of the roll-back, mitigated by moderate underlying increase in normalized sales tax activity.
The county recently issued bonds backed by its sales tax revenue, but Fitch does not expect such borrowing to significantly impact the amount of revenue available for operations. The bonds funded projects previously funded on a pay-go basis from motor fuel tax proceeds, freeing up those revenues for operations.
RECENT IMPROVEMENT AMID PERSISTENT FINANCIAL CHALLENGES
Financial operations have been continuously weakening since fiscal 2006 when the unreserved general fund balance equaled a healthy 20% ($259.5 million) of spending. The unreserved general fund balance dropped to a very low 2.3% ($30.8 million) of spending by fiscal 2010.
The fiscal 2011 budget process began with a $487 million general fund forecast gap in large part attributable to a $161 million reduction in sale tax revenues due to full-year impact of the roll back.
The county ended fiscal 2011 with a net operating surplus (after transfers) of $136 million. The surplus was attributable to a mix of structural solutions, including staffing and operational reductions and enhanced revenue collections, and one-time sources including debt restructuring and a line of credit (for a one-time cost).
Year-end liquidity was restored to adequate levels of almost two months of expenditures, up from a slim three days in fiscal 2010, and the unrestricted general fund balance (the sum of the unassigned, assigned, and committed fund balance under GASB 54) climbed to a much healthier $197.1 million or 13.8% of expenditures and transfers out. Liquidity should be enhanced further by this year's on time issuance of second installment property tax bills, for the first time in 34 years.
The general fund budget gap for fiscal 2012, originally projected at $315 million, is now projected to be eliminated. The county reports it was able to close the gap through a hiring freeze, lower election-related costs, contractual savings, and better than budget sales tax revenue. Fitch believes the projection is reasonable, given year-to-date results showing close to even operations with two months left in the fiscal year. The county has taken aggressive steps to control personnel costs through both attrition and layoffs; the county's personnel headcount has declined 7.4% since 2010, and now stands at 22,994.
Budgetary pressures will continue in fiscal 2013. The 2013 proposed budget identifies a $267.5 million gap which the county plans to resolve with $50.7 million of expenditure reductions and $216.8 million of new revenues. The largest of the new revenues is an expected $99 million the health system is expected to net as a result of a recently obtained federal waiver allowing for an expansion of Medicaid eligibility. The next largest new revenue category is an assortment of proposed new taxes, valued at $43.4 million, including those on cigarettes, gaming machines, guns, and the implementation of a non-titled use tax on large out-of-county purchases.
Proposed expenditure cuts include the elimination of 462 positions, reducing health care and benefits costs, energy and procurement savings, and managed competition of custodial work.
The new revenues and expenditure cuts are included in the proposed budget plan, which has not yet been adopted. The composition and amount of savings may change as the budget goes through the political process before final adoption in the next several weeks.
While closing the budget gap (equivalent to 11.8% of spending) will present a formidable challenge to the county, Fitch notes that it is smaller than the preliminary gaps identified for fiscal 2011 and fiscal 2012, which were $487 million and $315 million, respectively. The county's ability to successfully address its budget gaps and institute structurally balanced operations is instrumental to rating stability.
HEALTH AND HOSPITAL SYSTEM STRAIN
Fitch expects the receipt of the federal waiver expanding Medicaid eligibility will improve the health system's, and therefore, the county's financial profile. The county's hospital healthcare system, which is classified as an enterprise fund on a GAAP basis, has been a source of operating pressure due to a consistent history of operating deficits. The system generated a $472 million operating deficit in fiscal 2011, which was only partially offset through a combination of property, sales, and cigarette taxes amounting to $252 million. Further deficits and continued subsidization from discretionary revenue sources are likely, which may impact the county's overall financial flexibility.
The county is shifting focus to out-patient care, improving Medicaid billing collections, and increasing procedural efficiencies through infrastructure and technological upgrades, in an effort to improve cost efficiency. The health system's revenue structure is likely to materially improve by an estimated $99 million (net of associated expenses) in 2013, as a result of the waiver. The exact magnitude of the net revenue improvement is dependent upon the number and pace of new enrollments, and Fitch notes that the new enrollments and their associated revenues will be vulnerable to competition beginning in 2014; the county has identified offsetting health system expenditure reductions should the numbers fall short of anticipated levels.
Cook County's aggregate debt burden is moderate at $3,993 per capita and 4% of full market value. The county's debt profile includes a reasonable 13% of unhedged variable-rate debt that is supported by liquidity facilities, the earliest of which expires in 2015. The capital improvement plan through fiscal 2016 totals roughly $700 million, of which $295 million is expected to be bond financed.
Principal amortization is below average with 36% repaid within 10 years, and is expected to slow slightly with the current issue. The refunding is designed to produce significant present value savings, estimated at 14%. The refunding generates even or positive savings in all years, with most of the savings concentrated in 2013-2016, and extends the average life of the refunded bonds by 9.5% or less than one year. The concentrated savings, along with the application of accumulated variable rate debt-related savings, will allow the county to gradually ramp up debt service requirements to a sustained higher level beginning in 2016.
Long-term liabilities related to employment benefits are considerable. The county provides pension benefits to its employees through a single employer defined benefit plan. As of December 2011, the unfunded actuarial accrued liability (UAAL) totaled $4.7 billion, or 59.3% funded based on Fitch's more conservative 7% investment return assumption.
Compounding the issue, the county's pension contribution of approximately $156 million in fiscal 2011 is well short of the actuarial required contribution of $474 million. The county has not paid its full annual pension cost for at least the last five years; the county's property tax levy for pension liabilities is capped by state statute and management has not addressed the shortfall. County officials are currently pursuing several avenues including state legislative changes to ameliorate the funding ratio shortfall.
As a credit positive, the county implemented a two-tiered benefit plan for employees beginning in January 2011, which should help moderate future liability growth. Other post employee benefits are also offered to retirees and their dependents. The county contributed $38 million, which equaled the pay-as-you-go amount, in fiscal 2011.
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, University Financial Associates, S&P/Case-Shiller Home Price Index, IHS Global Insight, National Association of Realtors, Underwriter, Bond Counsel, and Financial Advisor.
Applicable Criteria and Related Research:
--'Tax-Supported Rating Criteria' (Aug. 14, 2012);
--'U.S. Local Government Tax-Supported Rating Criteria' (Aug. 14, 2012).
Applicable Criteria and Related Research:
Tax-Supported Rating Criteria
U.S. Local Government Tax-Supported Rating Criteria
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