Fitch Rates Pearland, TX's Limited Tax Obligations 'AA'; Outlook Stable

Fitch Ratings has assigned an 'AA' rating to the following obligations of Pearland, Texas:

--$31.6 million permanent improvement and refunding bonds, series 2016A;

--$14.1 million certificates of obligation (COs), series 2016.

The bonds are scheduled for sale the week of May 2 via negotiation. The COs are scheduled for sale May 23 via competition. Proceeds from the bonds and COs will be used to fund various public improvements within the city. Bond proceeds will also be used to refund a portion of the city's outstanding debt for debt service savings.

In addition, Fitch has affirmed the following ratings at 'AA':

--the city's Issuer Default Rating (IDR);

--$202.2 million in outstanding permanent improvement bonds;

--$39.1 million in outstanding COs.

The Rating Outlook is Stable.

SECURITY

Permanent improvement bonds are voted general obligations of the city. The bonds and COs are both payable from a property tax levy that is limited to $2.50 per $100 of assessed valuation. The COs are additionally payable from a limited pledge of net revenues of the city's waterworks and sewer system.

KEY RATING DRIVERS

The 'AA' rating reflects Fitch's expectation that the city will maintain healthy financial flexibility throughout the economic cycle due to its strong revenue raising ability and ample fiscal cushion despite a relatively high fixed cost burden. Fitch expects that long-term liabilities will remain moderate based on population growth trends and capital needs.

Economic Resource Base:

Pearland is located just south of Houston's outer loop, mostly in Brazoria County. The city experienced rapid population growth in the last decade, rising to approximately 111,000 in 2016. New residential development is occurring at an increasingly rapid pace along with commercial development as the city transitions from a bedroom community to a more active participant in the strong and diverse Houston metropolitan statistical area economy. Wealth levels are above average, and unemployment is low.

Revenue Framework: 'aaa' factor assessment

Fitch expects the city to realize continued solid revenue growth based on existing trends and economic development planned and underway. Revenue raising capacity is strong, supported by ample taxing capacity.

Expenditure Framework: 'a' factor assessment

Pearland is in a growth and development mode with spending that generally tracks revenue growth. Carrying costs are high due to debt service costs, although this is somewhat mitigated by a lack of labor pressure and above-average amortization of debt.

Long-Term Liability Burden: 'aa' factor assessment

The city's long-term liabilities are a moderate burden on resources, and Fitch expects they will remain so based on defined capital plans, rapid amortization, and well-funded pensions.

Operating Performance: 'aaa' factor assessment

The city's solid reserve levels and expenditure flexibility leave it well positioned to address cyclical downturns. Conservative budget practices support the city's plans to preserve financial flexibility.

RATING SENSITIVITIES

Management of Growth: Sustained, uncontrolled expenditure growth that outpaces revenue generation or a material increase in the burden of long-term liabilities could result in a rating downgrade. Conversely, reduction in the overall burden of fixed costs as the city matures could result in an upgrade.

CREDIT PROFILE

Revenue Framework

Pearland receives approximately 30% of its operating revenues from sales taxes, followed by charges for services (23%) and property taxes (21%). Fitch expects that increases in the city's property and sales tax bases will mirror the expanding commercial and residential sectors in the city and region, generating revenue growth that continues to outpace the U.S. economy.

The city's general fund revenues have grown at a rate well in excess of both U.S. GDP and CPI over the past 10 years.

The city's tax rate of $0.71 ($0.22 of which is for operations) provides ample rate capacity below the legal limit of $2.50 per $100 of taxable assessed valuation (TAV).

Expenditure Framework

General fund spending is led by public safety at half of total expenditures. This line item is expected to remain high given population growth prospects.

Fitch expects that the pace of spending is likely to remain in line with the city's strong revenue growth trends.

Pearland's carrying costs for debt service, pension, and other postemployment benefits are elevated at 28.6% of fiscal 2015 spending. These costs are almost entirely for debt service and reflect a debt amortization of 62% in 10 years. Providing spending flexibility in another area of the budget, management retains strong control over employee headcount and does not negotiate labor contracts with employee groups.

Long-Term Liability Burden

The city's long-term liability burden is moderate at 17% of personal income and is expected to remain around this level given extensive capital plans. Overall debt totals $1 billion, 10.8% of market value, including overlapping municipal utility and school district debt. The city's five-year capital improvement plan includes $120 million of tax-supported debt issuance, compared with amortization of $75 million within that same period.

Pensions are provided through the Texas Municipal Retirement System, an agent multiple-employer defined benefit plan. Under GASB Statement 68, the city reports a fiscal 2015 net pension liability (NPL) of $16.6 million, with fiduciary assets covering 85% of total pension liabilities at the plan's 7% investment return assumption. The NPL of the plan represents a very modest 0.2% of the city's fiscal 2015 market value. The city administers a single-employer retiree health care plan with an unfunded liability representing just 0.1% of market value.

Operating Performance

The city has maintained a robust financial cushion despite some growth-related spending pressure, and maintains a healthy fund balance to sustain an economic downturn. General fund reserves, which totaled 33% of spending at fiscal 2015 year-end, are well above the city's 17% reserve policy, a level that would still be consistent with Fitch's 'aaa' assessment of financial resilience given the limited sensitivity of the city's revenue stream to a moderate economic downturn scenario.

Management has been proactive in maintaining operational balance while consistently funding pension requirements and outperforming conservative budget assumptions. The city has demonstrated a commitment to supporting financial flexibility, and Fitch expects that such practices would continue throughout the economic cycle.

Additional information is available at 'www.fitchratings.com'.

In addition to the sources of information identified in the applicable criteria specified below, this action was informed by information from Lumesis and the Municipal Advisory Council of Texas.

Applicable Criteria

U.S. Tax-Supported Rating Criteria (pub. 18 Apr 2016)

https://www.fitchratings.com/creditdesk/reports/report_frame.cfm?rpt_id=879478

Additional Disclosures

Dodd-Frank Rating Information Disclosure Form

https://www.fitchratings.com/creditdesk/press_releases/content/ridf_frame.cfm?pr_id=1003707

Solicitation Status

https://www.fitchratings.com/gws/en/disclosure/solicitation?pr_id=1003707

Endorsement Policy

https://www.fitchratings.com/jsp/creditdesk/PolicyRegulation.faces?context=2&detail=31

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