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Rating Action:

Moody's affirms Aa3 on California's general obligation bonds and revises outlook to positive

23 Jul 2018

New York, July 23, 2018 -- Moody's Investors Service has affirmed the Aa3 rating on the State of California's outstanding general obligation bonds. Moody's has also affirmed the A1 rating on the state's outstanding lease debt, its outstanding appropriation debt, and outstanding school fund apportionment lease revenue bonds. Moody's also affirmed the A3 rating on outstanding debt of certain state regional centers. At the same time, Moody's has revised the state's outlook to positive from stable. California's net tax-supported debt, as of May 2018, approximated $87 billion.

RATINGS RATIONALE

The Aa3 incorporates California's position as a massive and diverse economy that has performed strongly relative to the rest of the nation over the past several years. This performance supported robust revenue growth and the accumulation of healthy liquidity. The rating balances the state's improved financial position against its exposure to a highly volatile revenue structure and its vulnerability to changes in federal policy and funding, especially with regards to healthcare. The rating further considers long-term liability and fixed cost burdens that are slightly higher than state medians, as well as a legislative supermajority requirement to raise new revenue.

The A1 rating on the state's lease debt reflects a one notch distinction from the GO rating to incorporate the more essential nature of the state facilities financed with the debt and a strong legal framework consisting of a continuing appropriation of lease payments and a debt service reserve fund that mitigates risk of abatement in the event of damage to the financed facilities.

The A1 rating on the state's enhanced tobacco settlement bonds reflects a one notch distinction from the GO rating to incorporate the strong legal structure, as well as the risk of appropriation by the state to cure a deficiency between pledged Tobacco Master Settlement Agreement revenue and debt service. The rating also reflects the essential use of the original bonds to address a fiscal 2004 operating deficit.

The A1 rating on two series of school funding apportionment lease revenue bonds (Oakland Unified School District and Vallejo City Unified School District) reflects a one notch distinction from the state's GO rating to incorporate the state's appropriation of essential school fund, certain amounts of which are then deposited directly with the bond trustee.

The A3 rating on debt issued by certain state regional centers reflects a three notch distinction from the state's GO rating to incorporate the very weak legal framework associated with the bonds and the more essential nature of the developmental disability services provided by the centers. The state annually appropriates contractual payments to the centers, with the centers themselves or their associated nonprofit foundations ultimately responsible for paying debt service.

RATING OUTLOOK

The outlook for the State of California is positive and reflects the state's strongly performing economy and finances. Continued fiscal discipline in a healthy revenue environment or retention of reserves despite slowed revenue growth could support a higher rating within the next one to two years.

FACTORS THAT COULD LEAD TO AN UPGRADE

- Demonstrated commitment over the next one to two years to continued fiscal discipline that maintains structural budget balance and healthy budgetary reserves, and fortifies the state's capacity to weather an economic downturn

- Governance changes that enhance the state's flexibility to respond to negative revenue variances in a timely manner

FACTORS THAT COULD LEAD TO A DOWNGRADE

- Budgetary imbalance or use of non-recurring revenue to meet spending needs that constrains the state's overall operating flexibility

- Weakened liquidity that increases the state's vulnerability to a drop in tax revenue

- Substantial growth in the state's debt and pension burden arising from significant borrowing, weak or negative investment performance, or a considerable slowdown in economic activity

- Changes in federal policy linked to a reduction in funding for state initiatives, such as Medicaid expansion

- An increased likelihood that the state will financially intervene in cases of local government distress

LEGAL SECURITY

The principal of and interest on all state general obligation bonds are payable from moneys in the general fund of the state treasury, subject under state law only to the prior application of moneys in the general fund towards the state's public school system and public institutions of higher education.

The state's lease debt is secured by lease rental payments made by the state to various entities, including the State Public Works Board. The payments are supported by the state's continuing appropriation, but are subject to abatement in the event of certain damage to financed facilities.

The state's enhanced tobacco settlement bonds are secured by a pledge of 43.43% of the state's annual receipts from the Tobacco Master Settlement Agreement, certain dedicated reserve funds, and a backup agreement of the state to seek general fund budget appropriations if necessary.

The outstanding school fund apportionment lease revenue bonds are secured by certain state appropriations for school districts, with the state agreeing to deposit certain funds

appropriated to the Oakland Unified School District and the Vallejo City Unified School District directly with the respective bond trustees.

Debt issued by the state's regional centers is secured by gross revenue received by the centers from the state, subject to annual appropriation, pursuant to contracts the state maintains with each regional center for the provision of developmental disability services.

USE OF PROCEEDS

Not applicable.

PROFILE

The State of California is by far the largest state in the US. Its $2.7 trillion gross domestic product accounts for 14% of the nation's economy. Its population of 39.5 million accounts for 12% of the nation's population.

METHODOLOGY

The principal methodology used in the general obligation ratings was US States and Territories published in April 2018. The principal methodology used in the lease and appropriation ratings was Lease, Appropriation, Moral Obligation and Comparable Debt of US State and Local Governments published in July 2018. Please see the Rating Methodologies page on www.moodys.com for a copy of these methodologies.

REGULATORY DISCLOSURES

For ratings issued on a program, series or category/class of debt, this announcement provides certain regulatory disclosures in relation to each rating of a subsequently issued bond or note of the same series or category/class of debt or pursuant to a program for which the ratings are derived exclusively from existing ratings in accordance with Moody's rating practices. For ratings issued on a support provider, this announcement provides certain regulatory disclosures in relation to the credit rating action on the support provider and in relation to each particular credit rating action for securities that derive their credit ratings from the support provider's credit rating. For provisional ratings, this announcement provides certain regulatory disclosures in relation to the provisional rating assigned, and in relation to a definitive rating that may be assigned subsequent to the final issuance of the debt, in each case where the transaction structure and terms have not changed prior to the assignment of the definitive rating in a manner that would have affected the rating. For further information please see the ratings tab on the issuer/entity page for the respective issuer on www.moodys.com.

Regulatory disclosures contained in this press release apply to the credit rating and, if applicable, the related rating outlook or rating review.

Please see www.moodys.com for any updates on changes to the lead rating analyst and to the Moody's legal entity that has issued the rating.

Please see the ratings tab on the issuer/entity page on www.moodys.com for additional regulatory disclosures for each credit rating.

Matthew Butler
Lead Analyst
State Ratings
Moody's Investors Service, Inc.
7 World Trade Center
250 Greenwich Street
New York 10007
US
JOURNALISTS: 1 212 553 0376
Client Service: 1 212 553 1653

Emily Raimes
Additional Contact
State Ratings
JOURNALISTS: 1 212 553 0376
Client Service: 1 212 553 1653

Releasing Office:
Moody's Investors Service, Inc.
250 Greenwich Street
New York, NY 10007
U.S.A
JOURNALISTS: 1 212 553 0376
Client Service: 1 212 553 1653

No Related Data.
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