Fitch Rates Montana's 2007D Building Program GOs 'AA'; Upgrades GOs to 'AA'.

SAN FRANCISCO -- Fitch rates the State of Montana's (the state) $11,720,000 general obligation (GO) long-range building program bonds, series 2007D, 'AA'. The new issue will be sold competitively on or about July 12. Piper Jaffray serves as the state's financial advisor. Fitch has also upgraded the state's $209 million in outstanding GO bonds to 'AA' from 'AA-'. The Rating Outlook for all GO debt is Stable.

The upgrade is based on the state's conservative financial practices along with strong revenue performance, as evidenced by recent actions to address pension and education funding, two longstanding credit concerns. The rating also reflects the state's growing economic diversity, low debt burden, and high financial reserve levels, a necessity given the state's history of revenue volatility.

Recent legislative and budget actions mark the second round of the state's efforts to bring funding of its two largest pension systems' to an actuarially sound basis. Through a combination of contribution increases, a cost of living adjustment reduction for new employees, and lump-sum contributions, the Public Employees' Retirement System (PERS) and Teachers' Retirement System (TRS) unfunded actuarial accrued liabilities (UAALs) now will amortize over 30.2 and 33.2 years, respectively.

The state expects to end its fiscal 2006-2007 biennium with a high $459 million general fund balance, a very strong 26% of fiscal year spending. Much of this balance will be used for one-time expenditures through the end of the fiscal 2008-2009 biennium, including a $50 million contribution to the teachers' retirement system, $120 million in tax refunds, and $180 million in capital projects. The use of the accumulated reserves for one time purposes prevents the state's currently strong revenue performance from being institutionalized as higher spending. The budget prudently keeps ongoing spending within projected revenue collections, with appropriation growth reflecting higher commitments to priority areas, predominantly education and pensions. Education funding could again become a spending pressure, given that the plaintiffs in a 2003 court decision continue to seek further action.

The budget projects a fiscal 2009 year-end fund balance of $183.3 million, a prudent 9.5% of fiscal 2009 spending. Montana's high fund balance level is a key credit strength given the state's history of revenue volatility. Montana's revenue volatility largely results from reliance on personal and corporate income taxes and taxes resulting from energy extraction, although a recent tax restructuring has added some diversity.

The state also maintains several trust funds, which Fitch believes enhance the state's fiscal stability. The trusts support spending that would otherwise fall to other general fund resources, and could provide flexibility in an extreme emergency. The largest fund, the coal severance tax trust, holds a sizable $738 million at fiscal year end 2006. The fund receives one-half of coal extraction taxes, and the corpus cannot be used without approval by three-quarters of each house of the state's legislature. A portion of the interest on the fund flows to the state's general fund. Five other trusts totaled a combined $624 million at fiscal year end 2006, dedicated to purposes such as parks, natural resources programs, and enhanced health care services.

The state's economy is performing well, marked by consistent job growth, low unemployment, and increasing diversification. Employment growth has exceeded U.S. levels during this decade, and rose 3.1% in 2006, compared to 1.8% for the U.S. Job growth continues, with May 2006 employment up 2.5% over the prior year. Much of the state's wealth and economic activity is resource-based, although the percentage has decreased over time. Recent growth in tourism and financial and professional services has been strong, providing more stable, albeit lower paying, jobs. Currently, the mining and construction sectors also are performing well, shoring up wages. Personal income growth has been strong in recent years, and rose 6.9% in 2006, compared to 6.3% nationally. Nonetheless, the state remains poorer than average, with 2006 personal income per capita at 85% of the U.S. level.

The state's debt burden is low, amortization is rapid, and issuance practices are conservative. Along with about $55 million in appropriation-backed obligations and other debt, net tax-supported debt is low at $463 per capita and 1.5% of personal income. Through two state entities, the state maintains debt programs for local government and health facility loans that are well managed and have not needed to draw on state resources available as a back-up security.

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