DALLAS – Houston's general obligation bond rating received a one notch downgrade to Aa3 from Moody's Investors Service, which left the outlook at negative, citing fiscal strains amid falling revenues, high fixed costs and a prolonged slump in the energy market.
The downgrade came Thursday afternoon as the nation's fourth-largest city prepares to issue $600 million of public improvement bonds that includes about $493 million of refunding. The negotiated deal is scheduled for March 22.
"There will likely be some nominal costs associated with this downgrade in the form of slightly higher interest rates for our planned refinancing," Mayor Sylvester Turner said of the downgrade. "However, the refinancing will still yield considerable savings. I remain confident that the steps we are taking today will create fiscal stability for the city tomorrow."
Houston Controller Chris Brown estimated that the downgrade could cost the city about $1 million to $1.5 million in lost savings. Still, the city expects net present value savings of about $48 million on the $493 million refunding.
The new rating applies to about $3 billion of outstanding bonds, Moody's said.
"The rating recognizes the positive actions taken by the new mayor and his plan to engage several stakeholders to modify the city's fixed costs and generate additional revenues, all within the next 18 to 24 months," Moody's analyst Adebola Kushimo wrote in the report. "These plans signal a change from past initiatives, and positive movement on the plans will be key to stabilizing the credit profile."
Newly elected Mayor Sylvester Turner, who took office in January, has acknowledged the fiscal straits, calling for decisive action as sales tax revenue falls and the city loses property tax revenue to successful assessment challenges from businesses.
"There are well documented financial pressures ahead of us," Turner said in a January statement on new budgeting measures. "We must make fundamental changes in how we manage our resources and in how we use them to deliver the services Houstonians not only expect, but also deserve."
Turner expects to present a fiscal year 2017 budget by the end of April that closes a revenue shortfall of between $150 million and $160 million, or 7% of fiscal year 2015 operating expenditures.
The budget assumes oil prices fall to $19 per barrel by the end of the year, and go down further to $18.79 per barrel by the second quarter in 2017, Moody's said. In recent days, oil futures have recovered from a low of around $27 per barrel to $38 as of March 16.
City officials note that Houston's diverse economy shields it from some of the effects of falling oil prices. Houston's medical sector has become one of the largest in any major city.
Also, refineries and chemical plants on the east side of the city can prosper in a low-priced environment, even as the exploration and production companies on the west side of the city cut payrolls.
The city's Finance Department anticipates sales tax revenue falling by 3.3%, following the 4.6% expected for the current fiscal year.
One chronic problem facing the city stems from growing pensions costs and liabilities, which are compounded by significantly limited revenue raising flexibility, according to Moody's. Fixed costs accounted for more than 30% of the budget in fiscal year 2015.
"Costs have grown significantly over the past five years, and are expected to grow absent any pension reform," Kushimo said. "Management, under the new mayor, has identified initiatives to address the structural imbalance and stem the increase in long-term liabilities."
Strong population growth that averaged 7.6% over the past five years has prompted heavy investment in the city and suburbs. In fiscal year 2016, assessed values grew 10.1% to $206.1 billion, marking the third year of double digit growth, Moody's said.
However, recent economic performance will challenge assessed valuation growth over the next two to three years, analysts said. As of Feb. 1, the Dallas Federal Reserve reported a decrease in home sales to 6,500, from a high of about 7,200 homes in months prior. Weakness was noted in higher priced and luxury homes.
