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Fitch Rates Tennessee's $170MM GOs 'AAA'; Outlook Stable

NEW YORK--(BUSINESS WIRE)-- Fitch Ratings has assigned an 'AAA' rating to the state of Tennessee's (the state) approximately $170 million general obligation (GO) bonds, consisting of:

--$140 million GO bonds, 2012 series B;

--$30.545 million GO bonds, 2012 refunding series C (federally taxable).

The par amount of the refunding bonds may change prior to sale, expected via competitive sale on or about November 15.

Fitch also affirms the 'AAA' rating on:

--$1.9 billion outstanding state GO bonds.

The Rating Outlook is Stable.

SECURITY

Full faith and credit, payable as to principal and interest from any funds or monies of the state from whatever source derived.

KEY RATING DRIVERS

CONSERVATIVE DEBT PROFILE: The state's debt profile is very conservative, with low debt ratios, swift amortization, few non-general obligation commitments, and strong security provisions. The state has fully funded its pension contributions for four decades.

CONSISTENTLY BALANCED FINANCIAL OPERATIONS: Financial operations are conservative and consistently balanced, although largely reliant on sales tax revenues. The state retains considerable operating flexibility, including sizable reserve balances.

DIVERSIFYING ECONOMY: The state has a large manufacturing sector which was a vulnerability in the recent downturn, although the economy has returned to steady growth and continues to diversify. Wealth levels are below average.

CREDIT PROFILE

Tennessee's 'AAA' GO rating reflects its low debt levels, among the lowest of any state, and an ongoing commitment to structural balance. Conservative fiscal management has been in evidence repeatedly over the last decade, including in its proactive approach to addressing the fiscal impact of the recent recession. Economic growth has returned, with sales tax revenue, the state's largest source of revenue, following suit. The state repeatedly lowered base spending during the downturn, even as it relied on one-time resources, including federal stimulus and state reserve balances, to maintain budgetary equilibrium. Despite reserve draws, including those to cover unanticipated Medicaid-related program costs in fiscal years 2012 and 2013, reserve balances remain sizable.

The state's debt places a very low burden on resources, is well-protected by security provisions, and amortizes rapidly. Several taxes, including a portion of the gas tax, are pledged to debt service, and their yield is the basis for a debt service limit that currently is only 39% used. Prior to this issuance, net tax-supported debt of $2.2 billion equals 0.9% of 2011 personal income.

The state has met the full actuarially required employer contribution to its pension system each year since 1972. The Tennessee Consolidated Retirement System (TCRS) had a reported funded ratio of 92.1% system-wide as of July 1, 2011. Using Fitch's more conservative 7% investment return assumption (compared to the 7.5% used by TCRS) would result in a funded ratio of approximately 87.3%. On a combined basis, the state's net tax-supported debt and unfunded pension obligations together equal 1.9% of 2011 personal income, the lowest level among Fitch-rated states.

Financial operations are conservative and consistently balanced. Vulnerabilities include the state's dependence on sales taxes, which make up 62% of total tax revenues, as well as challenges in the last decade controlling the spending growth in TennCare, the state's Medicaid program; recent growth has been well below national averages. Tennessee addressed recessionary weakness by repeatedly cutting recurring spending and by use of one-time items, including reserve draws and federal stimulus. Since then, the state has benefited from modest tax revenue growth while pursuing continued recurring spending cuts.

The fiscal 2012 adopted budget achieved balance despite the expiration of federal stimulus aid, with the state relying on widespread baseline spending cuts except to K-12 education. General and education fund tax revenues, which were forecast to rise 4.6% from fiscal 2011 as of the January 2012 forecast to almost $9.1 billion, instead are estimated to have risen a more robust 7.6% year-over-year, to $9.3 billion.

Budgeted appropriations rose 9.3% in fiscal 2012, reflecting the expiration of federal stimulus aid. The budget included a $22 million deposit to the rainy day fund, bringing its balance to $306 million. At the same time, the state drew $123.7 million from the TennCare reserve to cover unanticipated Medicaid expenditures in fiscal years 2012 and 2013. Despite these draws, the state is shifting an estimated $210 million from revenue over-performance into fiscal 2013. At fiscal year-end, the combined rainy day and TennCare reserve balances, at $412.1 million, equaled 4.4% of general and education fund tax revenues.

The fiscal 2013 budget at adoption assumed general and education fund tax revenue growth of 3.5% from the prior year, to $9.4 billion. The budget maintained the recent practice of mixing baseline spending cuts and selected restorations to contain spending growth; total budgeted appropriations would rise 0.9%. Appropriations included $50 million to continue to build the rainy day fund. Revenues continue to out-perform earlier assumptions, with the state now expecting general and education funds to rise 4.3%, to $9.75 billion. The state intends to direct $123.7 million to the TennCare reserve to repay the fiscal 2012 draw. This would bring the combined balance of the rainy day and TennCare reserves to $585.8 million, equal to 6% of general and education fund tax revenues.

The state's economic strengths lie in trade and manufacturing, although cyclicality in the latter has been a concern, particularly given the growing importance of automotive-related manufacturing. In the recent downturn the state's job losses exceeded the U.S., with nonfarm employment in the 2007-2010 period falling 6.5%, compared to 5.6% nationally. Job growth resumed in late 2010 and has been steady since then, with September 2012 nonfarm employment rising 1.1% from September 2011, below the 1.4% rate recorded nationally during the same period. Durable goods manufacturing and certain services are showing solid gains. Unemployment has fallen to 8.3% in September 2012, from 9.1% a year earlier, but remains higher than the 7.8% rate reported for the nation as of September 2012. The state is less wealthy than average, with 2011 per capita income ranked 35th among the states at 88% of the U.S.

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 the Tax-Supported Rating Criteria, this action was additionally informed by information from IHS Global Insight.

Applicable Criteria and Related Research:

--'Tax-Supported Rating Criteria', dated Aug. 14, 2012;

--'U.S. State Government Tax-Supported Rating Criteria', dated Aug. 14, 2012.

Applicable Criteria and Related Research:

Tax-Supported Rating Criteria

http://www.fitchratings.com/creditdesk/reports/report_frame.cfm?rpt_id=686015

U.S. State Government Tax-Supported Rating Criteria

http://www.fitchratings.com/creditdesk/reports/report_frame.cfm?rpt_id=686033

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Fitch Ratings
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Source: Fitch Ratings