San Francisco upgrade driven by pension management

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Moody's Investors Service has upgraded San Francisco's general obligation bonds to Aaa citing its effective management of pension and retiree health liabilities, particularly in contrast to other large cities.

Tuesday's one-notch upgrade comes ahead of plans to price $251 million in bonds competitively on March 20.

Moody’s has a “tread water” indicator that tracks whether a city is paying down current pension service costs and principal, said Alexandra Cimmiyotti, a Moody’s analyst who co-authored the report with lead analyst Lori Trevino.

“They are exceeding our tread water contributions,” Cimmiyotti said. “The majority of cities are below our tread water indicator. It’s another strength we saw here.”

The city plans to price $76.71 million in Series 2018A GOs for improvements to neighborhood parks and waterfront open spaces and $174.6 million in Series 2018B GO bonds designated to repair or rebuild streets and sidewalks or mass transit projects. The preliminary offering documents are scheduled to be released March 13.

The rating agency also upgraded San Francisco’s lease-backed obligation ratings to Aa1 from Aa2 or to Aa2 from Aa3, depending on the essentiality of the assets securing the obligations.

The upgrades affect $2.3 billion in general obligation bonds and $1.4 billion in lease-backed obligations.

“This is a recognition of the steps the city has taken in recent years to establish financial policies and of all the pension reforms we have done through ballot measures,” said Nadia Sesay, San Francisco public finance director. “We are thrilled to see that reflected in the ratings.”

The city hopes the ratings change will translate to lower interest rates when they price the bonds, but Sesay said it is hard to say how much of an impact a ratings upgrade from one agency will have. The city is rated by three – and reports from Fitch and S&P were expected this week, she said.

Later on Wednesday, S&P Global Ratings affirmed its AA-plus rating but revised the outlook to positive. Fitch Ratings assigns the GOs AA-plus ratings.

Voters approved several charter amendments in 2008 and 2013 that made pension and retiree health benefits less generous and required employee contributions, said Trevino, Moody’s lead analyst for San Francisco.

Until 2009, Trevino said, the city had provided lifetime retiree health benefits for anyone who worked for the city for five years. At that time, the city changed the program so that employees could only receive that benefit if they worked for the city for a longer period and based it on a sliding scale, she said.

The changes reduced the pension liability relative to the size of the city's operations and the city also created a plan to fund the other-post employment benefits liability, Trevino said.

The percentage of the city’s payroll in the lower benefit tier, implemented in 2009, is 39% for fiscal 2017, which is projected to grow to 54% in fiscal 2019, according to Moody's. This will slow the growth of the liability and the city’s OPEB costs, and result in a decline the OPEB costs starting in 10 years.

The San Francisco Employees’ Retirement System is currently 77% funded with $11.3 billion in assets as of fiscal year 2017, Trevino said.

“Most cities have low funding for OPEB and San Francisco has come up with a plan to reduce the liability,” Trevino said. “To go from 40% to 50% funded in two years is pretty significant.”

The city will also have enough in the OPEB trust fund in 10 years to be able to self-fund, she said.

The changes to San Francisco's pension fund only applied to future employees, but they did not have benefits as generous as some cities and counties in the California Public Employees Retirement System, Trevino said.

The upgrade also pointed to the long-term strengthening in the city’s economy, tax base and socioeconomic profile that is consistent with Aaa-rated cities and counties, but which could have been negated without effective liability management, according to the report.

The city’s median family income is 165% above the U.S. and the per capital median family income is 180% above the U.S., Trevino said.

“These are numbers that have been improving over the last decade,” Trevino said. “We just see strengthening in socioeconomic factors along those metrics. It speaks to the ability of residents to support city services and debt service, much of which is voter approved.”

City officials were also lauded for longer-term planning, including five-year forecasting, which enables them to make adjustments well in advance, she said.

The city also has budget stabilization reserves of $32.3 million, rainy day reserves of $78.3 million and rainy day one-time reserves of $47.3 million, according to the Moody’s analysts.

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Municipal bond ratings Public pensions Primary bond market San Francisco City & County California