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Rating Action:

Moody's downgrades Chicago, IL to Baa2; maintains negative outlook

Global Credit Research - 27 Feb 2015

Baa2 applies to $8.3B of GO debt, $542M of sales tax debt, and $268M of motor fuel tax debt

New York, February 27, 2015 -- Moody's Investors Service has downgraded to Baa2 from Baa1 the rating on the City of Chicago, IL's $8.3 billion of outstanding general obligation (GO) debt, $542 million of outstanding sales tax revenue debt, and $268 million of outstanding or authorized motor fuel tax revenue debt. We have also downgraded to Speculative Grade (SG) from VMIG 3 the short-term rating on the city's outstanding Sales Tax Revenue Refunding Bonds, Variable Rate Series 2002. The outlook on the long-term ratings remains negative.

Concurrently, we have affirmed the A2 and A3 ratings on the City of Chicago's outstanding senior and second lien water revenue bonds and have downgraded to A3 and Baa1 the ratings on the city's outstanding senior and second lien sewer revenue bonds. The outlook on these ratings also remains negative. Details on the water and sewer rating actions are discussed in separate rating reports.

SUMMARY RATING RATIONALE

The Baa2 GO rating incorporates expected growth in Chicago's already highly elevated unfunded pension liabilities and continued growth in costs to service those liabilities, even if recent pension reforms proceed and are not overturned in legal appeal. The city's tax base is significantly leveraged by the direct debt and pension obligations of the city, as well as indirect debt and pension obligations of overlapping governments. The rating also reflects credit attributes, including the city's broad legal authority to tap into its large and diverse economy for new revenue, management's efforts to control growth in other operating costs, and the healthy state of current financial reserves.

The Baa2 sales tax rating primarily rests on the lack of legal segregation of pledged sales tax revenue from the general operations of the city. While the city deposits collected revenue in a legally segregated fund, the collection of revenue is not segregated from the city's operations. This lack of separation caps the sales tax rating at the city's GO rating, despite very strong coverage of maximum annual debt service (MADS) by pledged revenue. Fiscal 2013 pledged sales tax revenue provided a very strong 15.7 times MADS coverage on secured bonds. The short-term SG rating on the Series 2002 sales tax bonds is based on the long term Baa2 rating and the conditional liquidity support associated with the bonds.

The Baa2 motor fuel tax rating also primarily rests on the lack of legal segregation of pledged revenue from the general operations of the city. Thought the city deposits the collected revenue in a legally segregated fund, the collection of revenue is not legally segregated from the city's operations. While the city directs the State of Illinois (A3 negative) to deposit pledged motor fuel tax revenue with the designated trustee, such direction is not outlined in legal ordinance. Fiscal 2013 pledged motor fuel tax revenue provided an adequate 2.5 times MADS coverage on secured bonds. The state's allocation of motor fuel tax revenue to municipalities is ultimately subject to annual appropriation.

OUTLOOK

The negative outlook reflects our expectation that the city's credit quality could weaken as unfunded pension liabilities grow and exert increased pressure on the city's operating budget. We expect substantial growth in unfunded pension liabilities even if the city's recent pension reforms survive an ongoing legal challenge. Court determination that the city's pension reforms violate the state constitution will likely hasten the rate at which unfunded liabilities and pension costs grow. Regardless of outcome of the legal challenges to pension reforms, we expect Chicago's unfunded pension liabilities - and the costs of servicing those liabilities - to continue to grow, placing significant strain on the city's financial operations absent commensurate growth in revenue and/or reductions in other expenditures.

WHAT COULD MAKE THE RATINGS GO UP (or revise the outlook to stable)

• Actions that successfully halt the growth of unfunded pension liabilities

• Growth in revenue or reductions in other operating expenditures that enable the city's operating budget to absorb increased pension costs

• Significant reduction of direct and overlapping debt and unfunded pension obligations

• Demonstrated legal separation of the collection of pledged sales tax and motor fuel tax revenue from the city's general operations (sales tax and motor fuel tax ratings)

WHAT COULD MAKE THE RATINGS GO DOWN

• Determination by the IL Supreme Court that the State of Illinois's pension reform package is unconstitutional, which, depending on the court's rationale, could increase the risk that the city's own pension reform would be overturned

• Determination by a court of law that the city's reform of its Municipal and Laborer plans is unconstitutional

• Continued growth in the city's unfunded pension liabilities

• Growth in direct and overlapping debt

• Narrowing of the city's financial reserves

OBLIGOR PROFILE

The City of Chicago, with a 2010 US Census population of 2.7 million, is the largest city in the State of Illinois and the third most populous city in the US.

LEGAL SECURITY

Chicago's GO bonds are secured by the authorization and pledge to levy a tax unlimited as to rate and amount to pay debt service. The city's $300 million of outstanding CP bank bonds are secured by the city's GO full faith and credit pledge, but do not benefit from a dedicated levy.

The city's sales tax revenue bonds are secured by a senior lien on both the city's local home rule sales tax revenue and the city's share of the State of Illinois's sales tax collections.

The city's motor fuel tax revenue bonds are secured by a senior lien on 75% of the city's annual allocation of state motor fuel taxes as well as additional revenues pledged by the city that primarily consist of dock licensing fees collected from tour boats operating on the Chicago River.

USE OF PROCEEDS

Not applicable.

RATING METHODOLOGY

The principal methodology used in the general obligation rating was US Local Government General Obligation Debt published in January 2014. The principal methodology used in the special tax rating was US Public Finance Special Tax Methodology published in January 2014. The principal methodologies used in the short-term rating was Variable Rate Instruments Supported by Conditional Liquidity Facilities published in May 2013 and US Public Finance Special Tax Methodology published in January 2014. Please see the Credit Policy 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 rating action on the support provider and in relation to each particular 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
Asst Vice President - Analyst
Public Finance Group
Moody's Investors Service, Inc.
100 N Riverside Plaza
Suite 2220
Chicago, IL 60606
U.S.A.
JOURNALISTS: 212-553-0376
SUBSCRIBERS: 212-553-1653

Rachel Cortez
Vice President - Senior Analyst
Public Finance Group
JOURNALISTS: 212-553-0376
SUBSCRIBERS: 212-553-1653

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

Moody's downgrades Chicago, IL to Baa2; maintains negative outlook
No Related Data.
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