Fitch Rts California's $1.5B GOs 'A'; Negative Rtg Watch.

Business Editors

NEW YORK--(BUSINESS WIRE)--Oct. 23, 2003

Fitch Ratings assigns an 'A' rating to $1.5 billion State of California various purpose general obligation bonds, expected Oct. 29 through negotiation with a syndicate led by Bank of America Securities LLC and Jackson Securities. The 'A' rating on $30.2 billion outstanding general obligation bonds is affirmed. The ratings remain on Rating Watch Negative. The new bonds will be due Nov. 1, 2008-33; call features are yet to be determined.

The 'A' rating reflects the moderate burden of debt and the fundamental strength of its economy as well as the continuing financial pressures. The Rating Watch Negative indicates the potential for further deterioration in financial position.

California had faced a projected deficit of $38 billion for fiscal years 2003 and 2004. Budgetary actions to address the deficit included nearly $20 billion in non-recurring items, particularly $10.7 billion in deficit funding and $2 billion bonds for pension funding, underscoring California's reliance on the credit markets for operations as well as for sizeable capital needs.

Expenditures were reduced some $4 billion through re-imposition of a vehicle license tax benefiting local governments that the state had suspended. Although a balanced budget for this year was achieved, a gap of over $8 billion in 2004-05 has been identified, reflecting that the state has yet to absorb the loss since fiscal 2001 of 25% of the yield from its personal income tax.

Although first quarter revenues exceeded estimates and revenue anticipation notes currently being issued will provide adequate cash for operations until June, other risks have been heightened by the legal challenges to the pension and deficit bonding. Even should the state eventually prevail, there may be financial complications from timing. If the pension bonds are not validated the general fund deficit, already up by $500 million as a pension payment has been made from cash, would increase by a further $1.4 billion. Should the deficit bonds not be valid, liquidity considerations arise as proceeds are intended to retire $11 billion outstanding revenue anticipation warrants due in June.

A new administration is taking office following the gubernatorial recall vote. While no formal budget agenda has been made public, tax reduction is a priority, perhaps starting with the vehicle license tax, a step that would increase the general fund deficit by some $4 billion if local governments are held harmless. Press reports indicate that the governor-elect may be evaluating the form of the planned one-half cent sales tax security for the deficit bonds. Until policies to be pursued are made clearer, credit considerations will continue to be based on achievement of the budget in place.

The state's economy has been affected by the recession, with employment showing slight declines from the previous year, particularly in manufacturing. Still, tax collections in the first three months of the fiscal year are 3.3% above estimates, with the personal income tax ahead by 6.4%. Net tax-supported debt amounts to $46.8 billion, or 4.1% of personal income, higher than in previous years but still moderate.