Texas will kick-start its fiscal year with an $8 billion note deal

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Texas will issue $8 billion of tax and revenue anticipation notes next week as it prepares for the beginning of its fiscal year Sept. 1 under a record budget.

The sale scheduled for Aug. 21 will be the largest since 2012 when the state issued $9.8 billion for the second year in a row.

Like most states, Texas issues the annual notes to cover cash-flow gaps, especially to school districts that represent one of the largest sectors of state spending and need funding at the front end of the fiscal year. Texas revenues were so strong in 2015 and 2016 that it did not need to issue notes.

With top ratings from four agencies, the notes are payable from amounts transferred into a note fund administered by State Comptroller Glenn Hegar.

An additional layer of comfort comes from the state’s economic stabilization fund, commonly known as the “rainy day fund” that is expected to reach $15.6 billion by the end of the fiscal year.

“With the increase in energy prices, the state has seen growth in the ESF balance,” wrote Kroll Bond Ratings Agency analysts led by managing director Paul Kwiatkoski. “However appropriations of $6.1 billion were approved as part of the supplemental budget approved at the same time as the FY 2020-21 biennium budget, implying a projected FYE 2021 balance closer to $9.5 billion.”

Texas voters approved a constitutional amendment creating the rainy day fund in 1988, two years after a collapse of oil prices devastated the state’s banking and real estate sectors, among others. The fund comes from severance taxes imposed on oil and gas production and unencumbered general revenue fund balances at the end of the fiscal year.

Over the last six years, the balance in the ESF has increased from $6 billion to $11 billion. About $5.3 billion is unallocated. The legislature can tap the fund to cover unanticipated operating deficits.

While Texas economists keep a keen eye on oil prices and drilling rig counts, Texas weathered a more than 60% downturn in oil prices from 2014 to 2016 with minimal effects.

“As a result of the state's robust economic growth over the two years, particularly related to the rebound in the upstream oil sector, its biennial revenue estimate gave lawmakers considerable flexibility to crafting Texas' 2020-2021 biennial budget,” S&P Global Ratings analyst Oscar Padilla wrote.

While assigning ratings to the short-term debt, analysts take a long-term look at Texas’ economic status, which by all four accounts is solidly triple-A.

“Affirmation of the Aaa rating assigned to Texas' general obligation bonds and the constitutional appropriation bonds reflects multiple strengths, including a growing economy, large reserves, good fiscal management and low bonded debt, offset by high pension liabilities,” said Moody’s analyst Nicholas Samuels.

The Aaa rating applies to about $18.6 billion of outstanding general obligation bonds and $4.2 billion of state highway fund first tier bonds.

Texas issues its general obligation debt through a variety of issuers including the Texas Public Finance Authority, the Texas Water Development Board, the Texas Higher Education Coordinating Board, the Texas Veterans Land Board, the Texas Transportation Commission, and the Texas Economic Development Bank.

In June, Hegar certified a $250.7 billion budget passed by the 86thLegislature and signed into law by Gov. Greg Abbott as House Bill 1.

Hegar said then that the most recent total revenue projection released in May included an upward revision of $518 million and accounted for the passage of online marketplace legislation, which added about $550 million in additional sales tax revenue.

“We’ve seen tremendous growth in Texas over the last year and a half, which allowed lawmakers to make historic investments in education and provide much-needed property tax relief,” Hegar said. “Uncertainty in the global economy, however, as well as increasing unpredictability surrounding international trade policy at the federal level, may have dampening effects on the Texas economy in the coming years.”

The upcoming budget grew 4.9% or $11.86 billion greater than the preceding biennium, with public education funding growing 20% or $12.18 billion. The general revenue funded portion, representing nearly $119 billion of the total, is $10.3 billion or 9.5% higher than the current biennium.

With the new money available for the next two fiscal years, lawmakers applied $5 billion toward cutting property taxes on homes and businesses and $6.5 billion for educational reforms, including a 20% hike in schools’ baseline per-student funding.

While school districts got a lift in funding, the state’s cities were handed legislative hardships in the form of a 3.5% cap on revenue growth and bans on fees for right-of-way access by cable companies and red-light cameras. In recent years, Texas lawmakers have made increasing inroads in local ordinances.

Dallas officials estimated in a recent budget presentation that the loss of the telecommunications franchise fee will cost $6.6 million next year and $9 million for the 2021 fiscal year. The ban on red-light cameras represents another $1 million loss this year and $2.4 million next year. City officials said the lost revenue comes amid plans to provide raises for police and firefighters after a flood of retirements and difficulty in recruitment of new officers.

While the state’s major cities pinch pennies to keep up with growth, the state is enjoying a bountiful year, with sales tax collections hitting records for 21 consecutive months.

This year’s notes sale should provide no major challenge, as issues in past years were heavily oversubscribed.

Texas plans capital expenditures of $36.7 billion over the biennium and $83.6 billion over the five-year planning period. The spending includes federal funds. More than 66% of those expenditures are earmarked for the Texas Department of Transportation. Education can claim about 26%, according to KBRA.

Like other states, Texas is playing catch-up on pension obligations, but legislation passed in this year's session added flexibility while increasing contributions from the state and its employees.

Total FY 2018 fixed costs, which included debt service for non-self-supporting general obligation and revenue debt, pension contributions and pay-as-you-go OPEB contributions, totaled $6.3 billion or 5.5% of total FY 2018 general government expenditures, according to KBRA, which considers that ratio to be low.

"KBRA views the state’s debt and continuing obligations as consistent with a AAA rating determinant rating," analysts said.

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