Fitch Ratings takes the following rating action on the city of Frederick, Maryland's (the city) general obligation (GO) bonds:
--$164.52 million GOs affirmed at 'AA+'.
The Rating Outlook is Stable.
SECURITY
The bonds are general obligations of the city, the payment of which the city's full faith and credit and unlimited taxing power are irrevocably pledged.
KEY RATING DRIVERS
STRONG FINANCIAL MANAGEMENT: The city maintains a healthy unrestricted fund balance despite recent draws for capital. Financial flexibility is ample.
STABLE ECONOMIC BASE: The city's economic profile benefits from proximity to the Washington D.C. area, as well as the presence of Fort Detrick and its mission of biomedical research and telecommunications.
ABOVE-AVERAGE ECONOMIC INDICATORS: Wealth levels and unemployment are favorable relative to the nation.
MODERATE DEBT LEVELS: Debt levels are average on an overall basis, and the city reports modest additional debt plans.
ELEVATED CARRYING COSTS: Debt service costs, pension and other post-employment benefit (OPEB) contributions represent almost one-third of annual spending, which Fitch considers high. However, Fitch views as positive the city's recent efforts to curb long-term pension and OPEB liabilities through plan changes.
RATING SENSITIVITIES
REDUCTION IN RESERVES: The rating is sensitive to a shift in fundamental credit characteristics, and in particular the stability of financial operations in the near term. Fitch is moderately concerned about the recent history of operating deficits and use of reserves for operations, a practice that is not considered sustainable at the 'AA+' rating level.
CREDIT PROFILE
The city of Frederick is located approximately 45 miles northwest of Washington, D.C. along I-270 in Frederick County (GO bonds rated 'AAA' with a Stable Outlook by Fitch). The city has a 2013 population of 66,893, which has increased 3% since 2010.
PRESENCE OF FORT DETRICK AND PROXIMITY TO WASHINGTON, D.C. STABILIZE ECONOMY
The city's economy is fueled by its proximity to the region's key governmental, technological, and biomedical economic assets. The U.S. Army's Fort Detrick, site of the U.S. Army Medical Research Institute of Infectious Diseases and the National Cancer Institute, is located in Frederick. Fort Detrick and its partner agencies employ more than 9,100, with 9% of the city's labor force employed by the federal government. The fort has approximately $64 million in ongoing construction projects, and it is anticipated that an additional 300 jobs will be created over the next five years.
The significant government presence has helped insulate the economy from the recession. The unemployment rate as of November 2014 was 5%, which compares favorably to state (5.3%) and national (5.5%) averages. The fort has also stimulated private investment, particularly within the bioscience, healthcare, and advanced technologies sectors, contributing to an above-average rate of income growth. AstraZeneca (Fitch IDR of 'A+', Stable Outlook), one of the city's top 10 taxpayers, is expanding its Frederick biopharmaceutical manufacturing plant by $250 million and 300 new employees over the next three years. City per capita and median household incomes are equal to 114% and 124% of the national average, respectively.
MAINTENANCE OF HEALTHY RESERVES
The city ended fiscal 2014 with a net operating deficit of $4.5 million (6% of spending), reducing the unrestricted fund balance to $13.9 million or a still healthy 18.6% of spending. Fitch notes positively that the city's general fund capital pay-go spending was $2.75 million, and another $2 million was transferred from the general fund to the capital improvement fund during fiscal 2014. The general CIP fund had a $20.98 million balance at fiscal 2014 year-end, which will be used to address future capital needs and reduce the need for additional borrowing. Also, CIP reserves could be transferred back to the general fund if needed.
The fiscal 2015 operating budget is about 2% less than the prior year and is balanced with no use of fund balance or revenue enhancements. Management reports year-to-date operations are tracking close to budget. Fitch anticipates continued sound reserves in line with the city's unrestricted fund balance policy equal to 12% of revenues.
Fitch views the regionally competitive property tax rate as an important measure of financial flexibility given the dominance (71%) of this source in the general fund revenue base.
MODERATE DEBT BURDEN, ELEVATED CARRYING COST
Overall debt is moderate (3.5% of market value and $3,632 per capita), inclusive of overlapping debt of Frederick County. These metrics include debt of the golf and airport funds, for which the city's general fund provides debt service and at times operational support. Amortization is rapid at 72%.
The city's general fund debt plans include $7.2 million for road construction projects during the current year. The city's multi-year plan includes $17.7 million in airport projects, which are expected to be funded with debt serviced by the general fund. The city has applied for approximately $27 million in low-interest loans from the state to fund water and sewer infrastructure projects, ultimately secured by the city's GO pledge (although the fund is self-supporting).
Tax-supported debt service (including the non-self-supporting share of debt service of various enterprise funds) accounted for approximately $9 million in fiscal 2014 or 11.4% of governmental spending, which Fitch considers moderate. Principal amortization is rapid.
Total carrying costs, which include annual debt service and contributions to the city's single employer pension and OPEB plans, represent an elevated 33.6% of fiscal 2014 spending; pension and OPEB contributions totaled $11.4 million and $6.5 million in fiscal 2014, respectively. The city's pension and OPEB liabilities are expected to decline over the long term due to prudent changes enacted over the past several years that reduce benefits for future employees. The pension funded ratio has improved but still remains poor at 55.3%, based on an adjusted internal rate of return of 7%. However, the unfunded liability is modest at $93.8 million or 1.3% of market value. OPEB spending includes trust contributions which somewhat elevate carrying costs. Also, the OPEB liability is 17%, funded which Fitch views as a positive.
Additional information is available at 'www.fitchratings.com'.
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, Virginia Employment Commission.
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
http://www.fitchratings.com/creditdesk/reports/report_frame.cfm?rpt_id=686015
U.S. Local Government Tax-Supported Rating Criteria
http://www.fitchratings.com/creditdesk/reports/report_frame.cfm?rpt_id=685314
Additional Disclosure
Solicitation Status
http://www.fitchratings.com/gws/en/disclosure/solicitation?pr_id=967755
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