Summary

:

Cincinnati, Ohio; General Obligation; Miscellaneous Tax
Primary Credit Analyst: Caroline E West, Chicago (1) 312-233-7047; caroline_west@standardandpoors.com Secondary Contact: Carol A Hendrickson, Chicago (1) 312-233-7062; carol_hendrickson@standardandpoors.com

Table Of Contents
Rationale Outlook Related Criteria And Research

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Summary:

Cincinnati, Ohio; General Obligation; Miscellaneous Tax
Credit Profile
US$28.0 mil unltd tax urban redev imp GO bnds ser 2012D due 12/01/2037 Long Term Rating AA+/Negative New

US$19.9 mil unltd tax various purp GO rfdg bnds ser 2012F due 12/01/2023 Long Term Rating AA+/Negative New

US$5.0 mil unltd tax urban redev GO bnds (streetcar sys) ser 2012E due 12/01/2032 Long Term Rating Cincinnati econ dev Long Term Rating Cincinnati GO Long Term Rating Cincinnati GO (MBIA) Unenhanced Rating Cincinnati GO Unenhanced Rating
Many issues are enhanced by bond insurance.

AA+/Negative

New

AA/Negative

Affirmed

AA+/Negative

Affirmed

AA+(SPUR)/Negative

Affirmed

AA+(SPUR)/Negative

Affirmed

Rationale
Standard & Poor's Ratings Services revised its outlook to negative from stable on Cincinnati, Ohio's existing general obligation (GO) bonds. At the same time, Standard & Poor's assigned its 'AA+' long-term rating to the city's series 2012D unlimited-tax general obligation (GO) urban redevelopment improvement bonds, series 2012E unlimited-tax GO urban redevelopment bonds, and series 2012F unlimited-tax GO various purpose refunding bonds. Standard & Poor's also affirmed its 'AA+' ratings on the city's previously rated GO debt. Finally, Standard & Poor's affirmed its 'AA' long-term rating on the city's nontax revenue bonds, which are rated one notch below the GO debt rating due to the limited nature of the security. The outlook revision reflects our view of the city's revenue losses, which are contributing to a forecasted structurally-imbalanced budget for 2013; we understand that management will consider revenue increases, expenditure reductions, and one-time sources, but these possible changes have not yet been implemented, and we believe the structural gap could result in a significant usage of general fund carryover reserves to balance the budget. The 'AA' nontax revenue bond rating reflects our view of the city's: • Large and diverse economic base that underlies its long-term financial strength and overall creditworthiness; • Coverage levels of 1.4x maximum annual debt service (MADS) using 2011 actual nontax revenues of $11.7 million

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Summary: Cincinnati, Ohio; General Obligation; Miscellaneous Tax

on all parity debt; and • The pledge of non-tax revenues. The 'AA+' ratings on the city's GO bonds reflect our view of the city's: • Deep and diverse economic base; • Maintenance of strong reserves, although budget forecasts for 2013 and 2014 indicate the possibility to use a significant portion of general fund carryover reserves, given forecasted structural imbalances; and • Financial management practices that we consider good. The city's unlimited-tax GO pledge secures the series 2012D, 2012E, and 2012F GO bonds. The city may also covenant to annually appropriate other revenue, including tax increment financing (TIF) revenues, to pay debt service on the 2012E bonds. The city will use the series 2012D and 2012E GO bond proceeds for capital improvements related to its new streetcar project. The series 2012F bond proceeds will refund various outstanding bonds for interest-cost savings. Cincinnati has a population of 296,943 (2010) and is the center of a substantial economic base. The economy is characterized by a diverse industrial base that is also experiencing growth in the biotechnology, financial services, and health care sectors. According to the U.S. Bureau of Labor Statistics, the city's unemployment rate was 9.4% in 2011, above the state (8.6%) and national (8.9%) averages. Through September 2012, the city's unemployment rate was improved at 7.9%. Leading employers in the metropolitan area include: • • • • • • • • Kroger Co. (corporate headquarters, 19,000 employees); University of Cincinnati (15,374); Procter & Gamble (corporate headquarters, 12,500); Children's Hospital Medical Center (12,332); TriHealth Inc. (10,197); Mercy Health Partners (8,817); Archdiocese of Cincinnati (7,500); and GE Aviation (7,400).

The city's assessed value (AV) fell by 8.3% in 2012 to $5.3 billion as a result of the sextennial reappraisal. Current projections indicate that AV will be essentially flat for the next two years and then increase in the next triennial revaluation for 2015. The estimated market value of the city's tax base is $15.3 billion, or $51,413 per capita, which we consider adequate. In addition, we consider income levels adequate, with median household effective buying income at 76% and 71% of state and national levels, respectively. The city relies on economically sensitive income tax receipts, which typically account for about 65% of general fund revenues, to fund its operations. As part of planning and budget processes, the city routinely adjusts its forecasts and uses outside consultants and economists to project income tax revenues. Income tax revenues gained 5.1% in 2011 (beating the 1% budgeted decrease) compared with drops of 0.6% in 2010 and 5.5% in 2009. For 2012, the city budgeted for a 2.5% increase in income tax revenues; however, revenues so far are below forecast by 1.1% or $2.3 million. The city levies an income tax at a rate of 2.1% and allocates 1.55% of that amount to the general fund and the

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Summary: Cincinnati, Ohio; General Obligation; Miscellaneous Tax

remaining to capital, infrastructure, and transit. In our view, the city's finances are strong based on recent audited results; however, a large budget gap forecast for 2013 will likely pressure finances if management does not take immediate steps to reduce or eliminate the structural imbalance. In fiscal 2011, based on generally accepted accounting principles (GAAP), the general fund balance increased by $14.4 million to end with a total balance of $99.8 million, which we consider very strong at 30.2% of expenditures. The combined unassigned and assigned portion of the general fund balance totaled $90.5 million, or 27.4% of expenditures, which we view as very strong. The unassigned balance included $20 million of the working capital reserve (6.0% of expenditures), which is within the city's policy to maintain at least 5% to 8% in this portion of the general fund reserves. The operating surplus in 2011 came from positive variances in both revenue and expenditures; city income tax came in 6.2% over projection, while expenditures were under budget by 2.7%. The reserve growth occurred after three consecutive years of general fund drawdowns in 2008, 2009, and 2010. The city's original 2011 budget, on a non-GAAP budgetary basis, had called for a $15.1 million use of reserves while the actual budget-basis results showed an increase of $4.3 million, so the final performance was considerably better than initial projections. The budget for fiscal 2012 (on a non-GAAP budgetary basis, excluding the working capital reserve) indicates an operating deficit in the general fund of $13.8 million that would more than halve the balance to $8.5 million, or 2.3% of expenditures (after cancellation of prior years' encumbrances). The budget does include a $1 million transfer to the working capital reserve, $10.6 million in lower revenue from the state, an increase in the pension contribution, and expenditure adjustments. At this time, management indicates that current performance shows the balance declining by $7.8 million instead of the budgeted $13.8 million, in part due to total revenue coming in above budget. For example, estate tax revenues are currently $6.2 million over budget. However, in addition to appropriating part of the general fund cash balance for operations, an $11 million one-time revenue source was also used to help close the budget gap. Beginning in 2013, the city will switch to a June 30 fiscal year-end to better coordinate with the state budget cycle and also the two-year terms of the city council members. The city anticipates issuing a six-month financial statement to cover Jan. 1, 2013 through June 30, 2013, and then a full-year audit for fiscal year 2014 (July 1 through June 30). While we do not anticipate that a change in fiscal year will impact the city's credit quality, we believe that a partial-year audit for 2013 may not provide a clear picture of the city's financial status, and that the full-year fiscal 2014 audit will likely be the first financial statement to articulate the city's standing. The city is facing continued financial pressure going into the partial fiscal year 2013 (January 2013 through June 2013) and full fiscal year 2014 (July 2013 through June 2014). The estate tax will be eliminated as of January 2013 (the city projects to receive $7.2 million in calendar year 2013 and zero in calendar year 2014) and costs continue to rise. The current 2013 forecast shows a structural imbalance that could use most of the city's general fund carryover balance reserves (which exclude the working capital reserve), on a budgetary basis. This forecast includes 2% income tax growth, the estate tax reduction, and continued cuts in local government fund revenue from the state. Management indicates that the city council will approve a partial-year fiscal 2013 budget before Dec. 31, so potential budget adjustments have not yet been identified and approved, although we understand they will be considered. For fiscal year 2014, the forecast again shows a sizeable structural imbalance. Officials have indicated a willingness to

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Summary: Cincinnati, Ohio; General Obligation; Miscellaneous Tax

consider revenue increases, expenditure reductions, and/or one-time sources to address the gap. If the general fund carryover balance is spent down in 2013, officials will have to make adjustments to the budget for fiscal 2014, as they cannot approve a budget in which expenditures exceed revenues plus existing reserves. Potential adjustments available to the city council include an unvoted property tax increase and other revenue enhancements. The city has also requested proposals for a lease of city-owned parking assets, which could result in one-time revenue for the city. In addition, anticipated casino revenues of approximately $10 million may be available for the city's use in calendar year 2014. However, in our view, while one-time revenue sources may be a short-term budget solution, they are not a stabilizing credit factor for correcting an imbalanced budget; neither do we find the use of casino revenue, which we believe is volatile, for operations as a structural budget solution. We consider the city's financial management practices "good" under our financial management assessment (FMA) methodology. This indicates that practices exist in most areas although not all may be formalized or regularly monitored by governance officials. Highlights include using a two-year budget format that includes long-term planning, a formal capital improvement budget that covers the current fiscal year and the next five years, and formal fund balance policies. We consider overall net debt levels moderate at $4,306 per capita and moderately high at 8.4% of estimated market value. Carrying charges in fiscal 2011 were moderate, in our view, at 11.9% of total governmental funds expenditures less capital outlay. The city will retire all debt by 2038. Future city debt plans include issuing $43 million in GO bonds, $8 million in GO bonds with an income tax pledge, and $50 million in water revenue bonds for capital improvements. City employees are covered by one of three pension plans. Two are state plans, the Ohio Police and Fire Pension Fund (OP&F) and the Ohio Public Employees Retirement System (OPERS). The city paid 100% of the annual required contribution for the two state plans in fiscal 2011, totaling $30.8 million. The city also has the Cincinnati Retirement System (CRS), a cost-sharing, multiple-employer defined benefit pension plan. There are four employers who contribute to the plan: the city (comprising a majority of plan members), and certain employees of the University of Cincinnati, University Hospital, and Hamilton County. The plan covers both pension and retiree health benefits. As of Dec. 31, 2011, the pension plan's unfunded actuarial accrued liability was $728.4 million, an increase over the prior year due to underperforming investments and a reduced discount rate, with a funded ratio of 67%. In fiscal 2011, the annual required contribution was $54.9 million, which the city contributed $31.2 million. The health care or other postemployment benefit (OPEB) portion of CRS had a healthy fiscal 2011 funded ratio of 104%. The OPEB annual required contribution for fiscal 2011 was $19.9 million, $2.1 million of which the city contributed. Beginning in 2012, the city instituted a stepped increase to its pension contributions beginning with an 18% contribution in 2012 (from 17% the prior year) rising to 24% in 2015 while also directing no further contributions to the health care trust until the pension trust is stabilized. Combined, if the city had made all of its pension and OPEB annual required contributions in 2011, expenditures would have totaled 15.4% of total governmental expenditures. Based on the city's actual pension and OPEB expenditures, these costs were 9.3% of total government expenditures in 2011.

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Outlook
The negative outlook reflects our view that the city will be pressured to maintain its historical reserve level given the structural imbalance currently in the fiscal 2013 (partial year) and fiscal 2014 (full year) forecasts. If management can effectively reduce or eliminate its structural imbalance for fiscal 2013 and fiscal year 2014, either through structural expenditure reductions or revenue enhancements, the outlook may return to stable. However, if reserves are significantly drawn down to cover an operating imbalance for partial-year fiscal 2013, and if expenditures continue to exceed revenues in fiscal 2014 (with or without the use of one-time solutions, which we view as only a short-term budget fix), we could lower the rating.

Related Criteria And Research
• USPF Criteria: GO Debt, Oct. 12, 2006 • USPF Criteria: Non Ad Valorem Bonds, Oct. 20, 2006 Complete ratings information is available to subscribers of RatingsDirect on the Global Credit Portal at www.globalcreditportal.com. All ratings affected by this rating action can be found on Standard & Poor's public Web site at www.standardandpoors.com. Use the Ratings search box located in the left column.

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