Nov 14 - Fitch Ratings has affirmed the following bonds of Royal Oak, MI (the city): --$25.5 million limited tax general obligation (LTGO) bonds at 'AA'; --$2.6 million Royal Oak Building Authority limited tax general obligation (LTGO) bonds, series 2005 at 'AA'. The Rating Outlook is Stable. SECURITY The Building Authority Bonds are secured by cash rental payments paid by the city to the building authority. The city's limited tax full faith and credit has been pledged towards making rental payments. The LTGO bonds are secured by the city's full faith and credit general obligation limited tax subject to applicable constitutional, statutory and charter limitations. KEY RATING DRIVERS POSITIVE ECONOMIC PROFILE: The city's above-average socio-economic profile is characterized by an affluent population and unemployment levels which are well below state and national averages. DECLINES IN VALUATION POSE CHALLENGE: After a period of steady growth, the city's taxable value (TV) has been declining since 2010, though declines are easing. Declines in TV have pressured operations, particularly given the city currently levies the maximum property tax rate. Partially offsetting this concern is the recently approved public safety millage. PRUDENT, CONSERVATIVE MANAGEMENT: Management has demonstrated a record of conservative budgeting and maintains a prudent fund balance policy. SIZEABLE PENSION AND OPEB COSTS: Pension and other post-employment benefit (OPEB) costs consume a large portion of the city's general fund budget, constraining other spending reduction options. Fitch will monitor the direction of these costs, as they may become a pressure on the rating. MODERATE DEBT LEVELS: The city's overall debt levels are moderate with above average amortization. Capital needs, which are funded internally, are manageable, and management has limited future debt issuance plans. CREDIT PROFILE STRONG SOCIOECONOMIC PROFILE TEMPERED BY DECLINES IN TAXABLE VALUE Royal Oak is an affluent Detroit suburb located in south-eastern Oakland County 10 miles north of downtown Detroit. The city is a mature, highly developed community experiencing redevelopment. Manufacturing employers have shown stability; two of the city's top taxpayers have expanded operations. Overall tax base concentration is low with the top 10 taxpayers accounting for less than 6% of total TV. Foreclosure rates are improving; the city reported 270 (annualized) foreclosures in fiscal 2012 compared to 339 foreclosures in fiscal 2011. Property tax collections remain strong, at around 99%. Unemployment rates continue to improve, with the September 2012 rate of 5.4% below the rate of the prior year, and well below the state and national averages of 8.2% and 7.6%, respectively. The city's per capita money income is strong at 148% of the state level and 136% of the national level. STABLE FINANCIAL POSITION BOOSTED BY RECENT MILLAGE INCREASE Property taxes are the city's main revenue source, comprising approximately 54% of total general fund revenue in fiscal 2011. Property tax revenue declined 7% in fiscal 2011 over the prior year, and fiscal 2012 projects another 3% decrease. State shared revenue (approximately 14% of general fund revenue), which has been steadily declining since 2001, has leveled out in recent years. The constitutional portion has been relatively stable while the statutory portion (economic vitality incentive program or EVIP) is now distributed based on meeting certain performance-based criteria and has been steadily decreasing since 2001. The city reports that they are in full compliance with the new EVIP provisions and has therefore budgeted for the full EVIP funding in fiscal 2013 at approximately $582,000, a decrease of 83% from fiscal 2001 funding amounts. After budgeting for the use of approximately $2.3 million of general fund balance in fiscal 2011, in addition to transfers in of $2.6 million, the city appropriated a much lower $364,000, ending the year with a $6.5 million general fund balance, equal to a strong 19% of spending. Fiscal 2011 expenditures were lower than budget due primarily to employee concessions and attrition. In fiscal 2012, a one-time PEG (public access cable) fee recognition of $445,000, which will be restricted in the general fund reserves, combined with $700,000 less in spending, resulted in a general fund balance higher than budget, at $7.8 million or 23% of general fund spending. In November 2012, voters approved a new 3.975-mill five-year public safety levy. The city plans to levy 3.475 mills for the first two years, and management reports this is expected to generate just over $7 million in additional revenue annually. The approval of the millage will allow the city to replenish general fund reserves, hire additional police officers, and give the city much needed financial flexibility and alleviate significant financial pressure the city would had faced absent the increase. City management now projects a general fund balance of $10.8 million at the end of fiscal 2013, equal to 31% of budgeted spending. PENSION AND OPEB COSTS CREATE PRESSURE Most full-time employees are covered under the city of Royal Oak Retirement System, a single-employer defined benefit plan. In fiscal 2011, the city's pension contribution was $4.6 million or the equivalent of 13% of fiscal 2011 general fund spending. This equaled 100% of the ARC. The city will continue to face budgetary pressure from rising pension costs due to investment losses and increasing labor expenditures. The city's single-employer defined benefit healthcare plan is administered by the city's administration. In fiscal 2011, the contribution was $7.3 million or a very high 21% of general fund spending. Even at that very high level the payment was only about one-half of the ARC. The unfunded OPEB liability of $112 million equals a sizable 2.4% of full value. When adding in debt service, carrying costs for pension, OPEB and debt service is high at 37% of fiscal 2011 general fund spending inclusive of debt service. Fiscal 2012 and 2013 funding is anticipated to continue to increase, although Fitch expects the newly-approved millage to absorb at least some of the increased payment. In addition the city has instituted changes in both pension and OPEB benefits, which are expected to somewhat offset the rising trend in pension and OPEB costs. MANAGEABLE DEBT LEVELS The direct debt burden is low at $1,091 per capita and 1.3% of full value as the city funds the majority of its capital improvements through operations. Overall debt levels are more moderate at $2,427 per capita and 3.0% of full value, primarily consisting of debt for local schools. Amortization is above average, with 71% of principal retired in 10 years. The city's five-year capital improvement plan (CIP) totals a reasonable $80.5 million. The debt burden is expected to remain manageable due to the city's limited future debt issuance plans, which include roughly $550,000 in general obligation bonds supported by special assessments for sidewalk improvements.