SAN FRANCISCO — Fresno, the fifth largest city in California, is walking a financial tightrope.
The city is facing cash-flow problems that will likely lead to more layoffs and service cuts as early as next week, while it struggles under the weight of high labor costs and a slow economic recovery in one of the hardest hit regions in the country.
“We have had to be very, very tight on how we deal with our budget,” Fresno city manager Mark Scott said in an interview. “We just don’t want to see this become the kind of situation that Stockton and San Bernardino are struggling with, and we shouldn’t have to because we have a different kind of problem.”
Fresno, with a population of more than a half million in the heart of the state’s Central Valley, is grappling with near-term budget problems after it watched its economy fall off a cliff during the recession.
Scott noted that Fresno doesn’t have the same long-term liabilities that Stockton and San Bernardino are trying to tackle as part of their Chapter 9 bankruptcy cases.
The pension fund is more than 100% funded on an actuarial basis, it hasn’t given out costly retiree medical benefits, and its long-term debt load is considered manageable, he noted.
“We don’t have a reason to look at bankruptcy as a solution to long-term liabilities,” Scott said.
But the city’s short-term financial problems are still serious, as highlighted by Moody’s Investors Service Jan. 23, when it downgraded more than $300 million of Fresno’s general-fund-supported debt to speculative grade.
The city is suffering from a major cash- flow problem, operating with about $25 million in negative fund balances that are ultimately the responsibility of the general fund, according to the city manager.
According to Scott, the budget solutions are so narrow this year that the city will likely discuss next week cutting $1 million out of the current budget amid a referendum drive that delayed a residential garbage contract. The outsourcing deal had been expected to generate $1.5 million this year and $2.5 million per year thereafter in franchise revenue, while reducing user rates.
Fresno faced a $16 million deficit in its fiscal 2013 budget due in part to further drops in property tax revenue, unrealized labor concessions, and delay in implementing the commercial garbage contract.
The city has tackled more than $100 million of budget deficits over three and a half years, cutting its workforce by 25% citywide, officials said.
Moody’s has cut Fresno’s issuer rating four notches to A3, most recently in July; that rating was Aa2 in October 2011. The recent downgrades left most of Fresno’s lease-supported obligations, pension obligation bonds and judgment bonds at Ba1.
Fitch Ratings dropped Fresno to BBB-plus in November, a two notch cut since its first downgrade in August 2011 to A-minus from A. Standard & Poor’s cut the city to BBB in August after dropping it to A from AA in September.
Fresno had aggregate outstanding debt — which includes all funds — of more than $950 million as of June 30, 2010.
Scott said there have been no discussions about not paying the city’s debts.
And even amid the downgrades, investors have yet to be spooked enough out of Fresno bonds.
The city’s joint-powers authority sold $52.7 million of lease revenue bonds in 2004 to fund capital projects. Tax-exempt debt from that deal maturing in 2034 traded on Jan. 30 at an average of just below its initial offering price of 98% of par and just above its coupon rate of 5%, according to disclosure data.
“Are there still enough issues to be concerned about to really avoid it?” said John Hallacy, head of municipal research for Bank of America Merrill Lynch. “We mentioned earlier that Fresno was under pressure, but we didn’t go so far as to say not to participate.”
Moody’s said in its Jan. 23 report that Fresno will likely be forced to make more budget cuts because it has limited options for raising revenue, and those cuts could prove more difficult for city leaders to accomplish.
In California, local governments have few options for raising revenue because tax increases must be approved by voters. One of the few options available to Fresno to balance the budget is reducing employee compensation through negotiations with labor unions.
In a July report, Citi municipal analysts said Fresno was “in the crosshairs” because it shared similar problems with the other cities that have filed for Chapter 9, namely high fixed costs, limited ability to raise revenue and exposure to a difficult economy.
The report said long-term labor contracts with the police union have locked in compensation at a level no longer sustainable. It said the police contract precludes layoffs and holds compensation constant in 2013 and 2014 before raising pay 4% in 2015.
“In our view, reductions in public employee compensation remain one of the only available options to achieve fiscal balance,” Citi said.
Scott said the recent downgrade by Moody’s helped reignite negotiations with one of the city’s employee unions, but not the police union.
Emphasizing the urgency of situation, Scott sent an email to the City Council last week saying: “I know I keep saying this, but this is serious business, and time is of the essence. We don’t have the flexibility to pick and choose our options. It’s an all-of-the-above fiscal plan.”
Fresno sits in the middle of the Central Valley, one of the most hard-struck areas of the country during the recession.
The unemployment rate in Fresno County was 14.9% in December, compared to 9.7% statewide. The area has also been in the top 20 of metropolitan foreclosure rates in the country over the last year, although it fell out of the top 20 by the end of last year, according to RealtyTrac Inc.
Stockton topped the 2012 list with one out of every 25 homes in foreclosure.
“Fresno’s economy hasn’t experienced quite the up and down that Stockton’s has,” said Jeffrey Michael, director of the Business Forecasting Center at the University of the Pacific in Stockton. “They certainly had a bubble and bust, but the level of inflation wasn’t as severe in Fresno.”
Michael said the recession papered over some of the chronic economic problems in the Central Valley that are still embedded, including disproportionately low-wage jobs, a less educated workforce and high unemployment.
Because it’s too far from the San Francisco Bay Area and Los Angeles, Fresno didn’t see the same kind of housing speculation push as did Stockton and San Bernardino.
Even so, Fresno still has a difficult climb out from the fallout from the housing bust because Proposition 13 limits base-year property values to no more than a 2% increase per year after a property is sold. So when values drop, and houses sell at lower-than-previous prices after foreclosures or short sales, it takes a long time for taxes to recover.
Scott said the city “celebrated” because property taxes remained flat this year. He said Fresno will see a $2 million higher increase in sales taxes this year than it had expected, mostly from higher fuel prices and a spike in car sales, which is unlikely to be a long-term trend.
One bright spot on the horizon is that California is moving forward with a multi-billion dollar plan to build high-speed rail across the state, which will start in the Fresno region. It is expected to be a major economic boon.
“People are not going to come to an area where they feel the government can’t handle its own business; the last thing we need is to give people evidence of that,” Scott said. “What we want to do right now is to build Fresno’s economy.”