Fitch Ratings, one of the nation’s “Big Three” credit rating agencies, has ranked the City of West Hollywood’s major bond issues “AA+,” its highest rating, and called out WeHo’s strong financial management and the new construction of hotels and other properties as contributors to the city’s future growth and stability.
The rating came in Fitch’s recent review of the city’s 2009, 2013 and 2016 lease revenue bonds as well as of the city’s overall financial operations. A lease revenue bond (LRB) is a form of debt that is secured by payments made by the party leasing the facilities financed by the bond issue. In the city’s case, that party would be the West Hollywood Public Financing Authority, which is a legal structure through which projects such as the robo garage are funded. The high Fitch rating means investors are likely to buy the city’s bonds at relatively low interest rates, with confidence that they will be repaid.
The WeHo bonds reviewed by Fitch are:
— $11 million issued in 2009 for capital improvement projects;
— $18 million issued in 2013 to fund capital improvement projects such as the City Hall robo garage and improvements at the city-owned Werle Building.
— $85 million issued in 2016, including bonds for Phase II of the West Hollywood Park Master Plan (the remainder of the $95-million project will come primarily from city capital project reserves), for additional improvements to the city’s Werle Building and to refinance the city’s 2009 Series B LRBs (which will provide approximately $500,000 per year in savings).
In its announcement of the rating, Fitch cited the city’s “strong financial management practices.” The full rating evaluation is available online.
“The city benefits from stable financial operations,” it said. “It came through the recession with a fiscal 2010 unreserved general fund balance of $60 million (88% of spending) and has subsequently grown the unrestricted general fund balance to $118 million (142% of spending) in fiscal 2016. This is well in excess of the city’s minimum 25% general fund reserve policy requirement. The city has consistently ended each year with a net operating surplus after transfers.” The general fund is that pot of money generated from various taxes and fees that are not required to be spent on specific projects and over which the City Council and City Manager have more discretion.
The Fitch analysis noted that West Hollywood’s general fund revenue growth “has outpaced inflation and national economic performance. Fitch expects continued above-average revenue growth supported by ongoing tax base gains and commercial expansion.” In its analysis, Fitch also noted that “the city’s long-term debt and pension liabilities are moderate relative to its economic resource base.”
Fitch’s analysis noted that that WeHo’s economic base consists of businesses “fairly concentrated in tourism-related sectors, with a significant number of upscale hotels, restaurants, nightclubs and shops. Other major employment sectors include entertainment, arts, and design. Economic indicators are good overall.”
West Hollywood’s property tax base also is somewhat concentrated, Fitch said, with 15% of the value of all property in the city in the hands of just 10 property owners. The overall value of property in the city is a high $299,000 per capita “reflective of high local wealth levels,” the evaluation said. It said the city is projecting further growth in local property values in the medium term.
The growth in the city’s tax base looks strong, Fitch said, because new hotels and apartments and shops, restaurants and offices are opening in West Hollywood. It noted several new hotels in particular. “When the new 286-room James Hotel opens shortly, it will be the largest hotel in the city. A new 105-room Kimpton hotel is scheduled to open in summer 2017, while a new Marriott Edition hotel under construction is due to open in spring 2018.”
“The projected value of new development combined with anticipated appreciation of existing properties has led the city to project annual (property value) growth of between 4% and 7.4% through fiscal 2022.”
In the 2016 fiscal year, “taxes generated 68% of total general fund revenues and were derived from diverse sources, dominated by economically sensitive transient occupancy taxes (24%), sales taxes (17%) and franchise taxes and business license taxes (6%),” the evaluation said. “Property taxes represented a stabilizing revenue source at 21% of total general fund revenues.” The transient occupancy tax is more commonly known as the hotel room tax.
Propositions 13 and 218 limit the ability of California cities to raise taxes. “However, the city does have sufficient independent legal ability to raise locally controlled fees and charges to offset Fitch’s projected revenue decline in a moderate national recession,” the evaluation said. “To raise revenues, the city has increased various fees based on a cost of services study completed in 2016 and plans to convert existing static bus shelter advertising to digital and launch a pilot digital billboard.”
The Fitch analysis noted that West Hollywood also has some flexibility in its spending because, as a contract city, it can negotiate somewhat. Twenty-two percent of West Hollywood’s spending is on critical services such as public safety (the city spends more than $19 million a year for public safety services from the L.A. County Sheriff’s department, for example). But Fitch said, “the city has the flexibility to reduce the remaining 19% as needed. Additionally, 5% of the general fund budget is allocated to capital improvements which could be deferred if necessary. City officials advise that a further 5% in general operating expenditures could likely be eliminated with minimal impact on current service levels.”
Fitch said that, given the city’s record of ending each fiscal year with a revenue surplus, it expects that to continue. It also called out the fact that West Hollywood’s five-year contracts with employee unions have pay raises tied to inflation, “with a floor of 1.75% and a ceiling of 3.25% each year… The estimated five-year cost for remuneration increases is approximately $1.5 million, easily absorbable given the city’s revenue strength and ample expenditure flexibility.”
“In line with previous years’ precedent, the city expects to end fiscal 2017 ahead of budget,” the Fitch analysis said. “City officials advise that all major revenue streams have increased by 5% at midyear, and the city’s hotels are performing at over 80% occupancy with an average daily rate around $300. While the city budgeted a general fund drawdown of almost $6 million for capital projects and debt service costs in fiscal 2017, it expects that most of that budgeted drawdown will be covered by an operating surplus. Similarly, the city expects operating surpluses in fiscal years 2018 and 2019 will cover budgeted drawdowns for capital projects in both years.”