Fitch Rates Oklahoma's $58MM ODFA Bonds 'AA'; Outlook Stable

NEW YORK–(BUSINESS WIRE)–

Fitch Ratings assigns an ‘AA’ rating to the following issue of the state
of Oklahoma:

–$57.69 million Oklahoma Development Finance Authority (ODFA) Oklahoma
state system of higher education master real property lease revenue
bonds, series 2014A.

The bonds are expected to sell via negotiation the week of Feb. 12, 2014.

In addition, Fitch affirms the following ratings:

–$177.53 million in outstanding State of Oklahoma general obligation
(GO) bonds at ‘AA+’;

–$1.174 billion in outstanding appropriation-backed debt of the state
issued by the Oklahoma Capital Improvement Authority at ‘AA’;

–$640.98 million in outstanding appropriation-backed debt of the state
issued by the ODFA at ‘AA’.

The Rating Outlook is Stable.

SECURITY

The bonds are limited special obligations of the ODFA secured by annual
appropriations of the state of Oklahoma. The intended source of
repayment on the bonds is the state board of regents for higher
education on behalf of certain Oklahoma colleges and universities from
their annual budget allocations.

KEY RATING DRIVERS

APPROPRIATION MECHANISM: The rating on the ODFA bonds, backed by
Oklahoma’s annual legislative appropriation pledge, is one notch below
the state’s ‘AA+’ GO bond rating, reflecting the state’s general credit
standing, sound lease structure, and statutory authorization for these
types of bonds.

CONSERVATIVE FINANCIAL OPERATIONS: The state’s financial operations are
conservatively managed, including maintenance of separate rainy day (the
constitutional reserve) and cash flow reserve funds and a policy of
appropriating only 95% of expected revenues. Growth in personal and
corporate income taxes as well as sales tax revenues has bolstered
financial operations and allowed for consecutive deposits to the rainy
day fund, offsetting the cyclical collections of severance tax revenue.

CONCENTRATED ECONOMIC BASE: The state’s commodity-based economy, based
on oil and gas production as well as various agricultural products,
strongly rebounded from the recession although recent economic growth
has been more subdued.

MANAGEABLE DEBT POSITION: Debt levels are low, and tax supported debt is
amortized relatively quickly. Most new issuance is in the form of lease
revenue bonds. The unfunded pension liability for state employees has
improved following significant pension reform.

RATING SENSITIVITIES

The rating is sensitive to shifts in the state’s GO rating to which it
is linked.

CREDIT PROFILE

The ODFA bonds currently offered are secured by lease rental payments by
the State Regents from state general fund revenues, subject to annual
legislative appropriation. ODFA is one of the principal financing
agencies of the state. Both the state constitution and enabling statutes
provide for appropriation of lease payments in support of the master
real property program and the master leasing structure on behalf of the
State Regents was recently validated by the Oklahoma state supreme
court. The terms of the leases extend through the life of the bonds,
with a maximum term of 30 years on the real property leases; lease
payments are not abatable. The current offering will be applied to
refunding outstanding bonds for debt service savings and fund various
construction projects at higher education institutions within the state.

All higher education appropriations to the State Regents are
consolidated, with the State Regents authorized to allocate funds first
to payment of lease rentals of each participating institution. The State
Regents covenant to include a budget request for lease payments
sufficient to pay debt service for program bonds. The fiscal 2014
operating fund appropriation for the State Regents is $988.5 million,
which is an increase in appropriation of 3.5% from fiscal 2013. The
governor’s proposed budget for fiscal 2015 recommends a decreased
appropriation of $939.1 million for a reduction of 5% from fiscal 2014.
The decrease is comparable to those recommended for most other state
agencies in fiscal 2015, incorporating a reduced level of expected
revenues for that year.

The state’s ‘AA+’ GO bond rating and Stable Outlook reflect low debt
levels and disciplined financial policies, including an appropriation
limit of 95% of certified general fund revenues, close monitoring of
revenue results, and provisions to maintain separate rainy day (the
constitutional reserve fund) and cash reserves. The state has
demonstrated a willingness and ability to address fiscal challenges
including revenue underperformance through the recent recession. Tax
rate adjustments are limited by a supermajority requirement of the
legislature or voter referendum to raise tax rates.

SLOW GROWTH IN THE STATE’S CONCENTRATED ECONOMIC BASE

After consecutively outperforming national growth trends coming out of
the recent recession, the state’s year-over-year (YOY) employment growth
slowed in 2013. The state recorded 1.1% YOY employment growth in
December 2013 as compared to a more robust national employment growth
rate of 1.6%. The modest growth largely encompassed a meaningful 4.2%
YOY decline in mining and natural resources employment, which is a
continuation of a descending trend begun in February 2013, as all other
sectors, aside from a 1.3% decline in construction, recorded positive
YOY growth. Offsetting this decline was 2.7% YOY growth in leisure and
hospitality, 4.7% YOY growth in professional services, and 1.6% YOY
growth in manufacturing. Oklahoma’s unemployment rate has historically
been well below the nation’s, with December 2013 at 5.4%, up from 5.1%
in December 2012, yet still below the 6.7% rate for the nation.

The economy continues to be supported by the state’s large natural
resources base; an analysis conducted by the Oklahoma City University
found that one in six jobs in the state is related to the oil and gas
industry, and one-third of the state’s gross state product is
attributable to the drilling, production, and economic multiplier
effects of this sector. The state remains focused on diversifying its
economic base and recent expansions in aerospace manufacturing, as well
as professional and business services, point to some success with this
endeavor. Growth in other economic sectors remains key to the state
maintaining overall economic stability.

CONSERVATIVELY MANAGED FINANCIAL OPERATIONS

Financial operations are conservatively managed with the state permitted
to enact appropriations for only 95% of anticipated revenues in the
forthcoming fiscal year. This conservative budgeting is important given
wide fluctuations in severance tax receipts to the general fund.

Positive economic momentum coming out of the recession translated into
strong receipts for fiscal 2012, particularly in income, sales, and oil
severance taxes, resulting in the state depositing $328 million to the
constitutional reserve fund (rainy day fund or RDF) at fiscal year-end
and bringing the reserve to $577.5 million, the second highest balance
on record. The enacted $6.8 billion fiscal 2013 operating budget (not
inclusive of federal aid) was a 5.1% increase from fiscal 2012
appropriations. A decline in severance tax receipts in fiscal 2013; down
48.5% from fiscal 2012, incorporated the impact of temporary tax
reductions and rebates for producers and offset gains in other tax
revenue sources and contributed to the modest 0.9% estimated total
revenue growth in the general revenue fund (GRF) between the fiscal
years.

The state legislature appropriated $45 million from the RDF prior to the
close of fiscal 2013 to finance costs associated with the severe weather
events in the Oklahoma City area in May 2013. The draw lowered the RDF
balance to $535 million, which is still equal to almost 10% of GRF
revenues. The cash flow reserve, derived from any revenues in excess of
the 95% appropriated and maintained at 10% of general fund
appropriations, received a $27.4 million addition in fiscal 2013,
bringing the balance to $559.5 million; combined, both reserves were
equal to 19.5% of GRF revenues in fiscal 2013.

The enacted $7.1 billion operating budget for fiscal 2014, inclusive of
federal funds, was a 5.1% increase from fiscal 2013. Notable expenditure
increases include an additional $31.6 million to the department of
education, $70.1 million increase to higher education, and $145.2
million to health and human service to cover the cost of currently
eligible Medicaid enrollees joining the system with the implementation
of federal health care reform requirements and increases to human
services agency funding.

A companion bill to the operating budget included a two-step lowering of
the top PIT rate. However, following the passage of the bill, the
legislation was ruled by the state Supreme Court to be unconstitutional,
due to the prohibition on multiple subjects being included in a single
piece of legislation. The rate reduction from 5.25% to 5% was to be
effective Jan. 1, 2015, and a further reduction was scheduled to be
effective Jan. 1, 2016, if total revenue growth met or exceeded the
fiscal impact from the second planned tax reduction. The combined loss
in PIT revenues was estimated at $237 million per year. The second piece
of the disallowed legislation appropriated $60 million in PIT revenue
for repairs to the state capitol building in fiscal 2014 from current
revenue collections; that dedication was prohibited by the court ruling.

The June 2013 estimate from the State Board of Equalization (SBE)
forecast fiscal 2014 GRF sources to grow by 5.1% to almost $5.9 billion
from the estimated ending fiscal 2013 revenues. A decline in the PIT was
forecast at 0.5% while the CIT was expected to grow by a robust 6.7%
from fiscal 2013. Other major revenue sources, such as the sales tax,
were forecast at a growth rate of 6.8% and severance tax receipts were
expected to show renewed growth of 22.5% from fiscal 2013.

Year to date through December 2013, GRF results have been disappointing.
Receipts from the PIT are down 6.9% YOY and are running below forecast
by 4.8%. Collections from the volatile CIT are down 40% YOY and are
running 41.7% below forecast. Sales tax receipts have exhibited 1.7% YOY
growth, but are 3.6% below forecast. Somewhat offsetting these
disappointing results are severance tax receipts, which are up over 542%
from fiscal 2013 and are 15% above forecast. Overall GRF revenues are
1.5% lower YOY and are 6.7% below forecast.

The forecast was officially updated in December 2013 and expected
revenues in the GRF were lowered by 2.3% to $5.75 billion. Adjustments
included an addition of $51.4 million to the PIT forecast from the
inability to undertake the dedicated renovations to the state capitol
(which were to have been drawn from collections before deposit to the
general and education funds) offset by year to date declines in
collections. This provided for a 0.9% ($19.3 million) positive revision
in the PIT, a net increase of 17% ($46.4 million) in production tax
revenue, a negative revision to the sales tax of 3.7% ($75.9 million),
and a 22.1% ($106.3 million) negative revision to the CIT. As the
lowered revenue expectation continues to provide cushion within the
state’s required 95% appropriation requirement, the state is not
recommending budgetary adjustments at this time. The state does retain
the ability to enact across the board expenditure reductions should
revenues fall below 95% of the annual certified estimate.

The governor’s proposed $7 billion operating budget for fiscal 2015
incorporates a 2.4% reduction of recurring revenues in support of the
budget, an $83 million transfer from non-restricted agency revolving
funds to the GRF, and an increase of $43.2 million in the education
reform revolving fund’s spending authority. Other than certain strategic
initiatives, the budget includes a 5% reduction to most state agencies
as a result of the lower revenue forecast. The budget also factors in
the governor’s proposed successor bill to the 2014 PIT rate reduction
legislation, with a recommended PIT rate reduction for the state’s
highest taxpayers from 5.25% to 5%, effective Jan. 1, 2015. If enacted,
the rate reduction is estimated to reduce fiscal 2015 revenue by $47.4
million and fiscal 2016 revenue by $71.1 million.

CONSERVATIVE DEBT MANAGEMENT

The state’s debt management is conservative and net tax supported debt
of $1.9 billion is equal to a manageable 1.2% of 2012 personal income.
Debt amortization is relatively rapid, with 65.6% of outstanding
principal repaid in 10 years; current GO debt is fully repaid in five
years. Aside from the governor’s current proposal to issue a $120
million bond for capitol building repairs, there are fairly limited
plans for additional borrowing and the state has a manageable capital
improvement plan.

The state has taken significant steps to address pension underfunding,
which had been a credit issue. Several reform measures were adopted in
the fiscal 2011 legislative session to address funding gaps. Unfunded
cost of living adjustments were eliminated, reducing all seven state
systems’ unfunded liabilities by a combined one third; the minimum age
for retirement was raised for all new employees; a portion of all future
surplus revenue and one-time funds was dedicated to the fiscal
restoration of the systems; employer and employee contribution rates are
now set to meet the annual actuarially calculated required contribution
(ARC); and other actions were taken to restore system integrity.

For fiscal 2013 on a reported basis, OPERS’ (state’s largest system)
funded ratio was a solid 81.6% and TRF’s (teacher’s) funded ratio was a
weaker 57.2%. Using Fitch’s more conservative 7% discount rate
assumption (instead of the 7.5% rate assumed by OPERS and 8% for TRF),
the funded ratio for OPERS would be 77.3%, while for TRF it would be
51.6%. The state overfunded its required contribution to the systems in
fiscal years 2012 and 2013. On a combined basis, the state’s debt and
pension liabilities are about average for U.S. states rated by Fitch at
6.5%, below the median of Fitch-rated states.

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

In addition to the sources of information identified in Fitch’s report
‘Tax-Supported Rating Criteria’, this action was additionally informed
by information from IHS Global Insight.

Applicable Criteria and Related Research:

–‘Tax-Supported Rating Criteria’ (Aug. 14, 2012);

–‘U.S. State 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. State Government Tax-Supported Rating Criteria

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

Additional Disclosure

Solicitation Status

http://www.fitchratings.com/gws/en/disclosure/solicitation?pr_id=819662

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