DALLAS – Odessa, Texas took a one-notch downgrade, following in the footsteps of its Permian Basin sister city of Midland.
Moody's cut Odessa to Aa3 from Aa2 Thursday, keeping a negative outlook. Midland took a similar one-notch downgrade three days earlier.
The two cities represent the heart of the West Texas oil producing region that boomed until prices began a precipitous decline in mid-2014.
"While the price of oil based on West Texas Intermediate has increased recently to just over $40 per barrel as of April 2016, up from a current cycle low of $27 in February 2016, Moody's expects soft prices over the next three years topping out in the mid-$40 range," analyst Denise Rappmund wrote in the April 21 report.
Producers in the historically oil-rich Permian Basin enjoy a lower break-even price than those in some of the shale plays elsewhere. Moody's sees the break-even price for larger producers in the region at about $35 to $45 per barrel.
Throughout Texas, the rush of drillers and producers to bankruptcy court and mass layoffs has created a new sense of caution as sales tax revenues have fallen, particularly in Houston and Midland-Odessa.
"We expect continued downward trends in key economic indicators such as employment and sales tax," Rappmund said. "However we anticipate a notable lag in any impact on Odessa's tax base."
Moody's rates Odessa's fiscal management as "strong." The city has survived numerous booms and busts, with the most significant coming in 1986, when a deep regional recession virtually wiped out the Texas banking industry and shattered real estate markets statewide.
Odessa will be able to maintain adequate reserves at or above its formal policy for 85 days, Rappmund said.
"The city budgets conservatively, specifically with respect to economically sensitive sales taxes, which represent an increasing share of the city's total operating revenues," she wrote.
As of fiscal 2015, sales taxes accounted for 41% of operating revenues. City officials told Moody's that they do not assume additional growth in sales tax when completing a budget, and have realized annual surpluses during the booming economy.
As the economy began to slow in early 2015, the city incorporated a 10% drop in sales tax receipts into its fiscal 2016 budget. While fiscal 2015 sales taxes came in above budget, 2016 is trending slightly below budget, Rappmund said.
"Assuming no change in trend, receipts for the full year will be below budget," Rappmund said. "The city will face fiscal challenges as the population continues to demand services while revenue sources erode."
The city's net direct debt burden is slightly above-average for the rating category at 1.3% of fiscal 2016 full value, Moody's said. Self-supporting debt associated with the water and sewer fund, totaling $59.8 million, has been backed out resulting in $76.3 million in debt supported by the tax base.
In fiscal 2012, the water and sewer system's net revenues were insufficient to cover associated debt service, Rappmund noted.
Texas House Speaker Joe Straus, R-San Antonio, this week warned legislators in a letter that the weakening economy will make the 2017 legislative session much more challenging than the 2015 session. The 2015 session came on the heels of the most economically bountiful years in the state's history.
