Fitch Gives USVI Bonds Negative Outlook; Deems Continued Borrowing As Unsustainable Path

ST. CROIX — U.S. ratings firm Fitch has affirmed its USVI issuer default rating (I.D.R.) (the territory’s general credit rating) at B+ and the ratings on multiple gross receipt tax and rum cover-over (matching fund) bonds — a combined total of $2.1 billion — at BB, which is essentially junk status. Fitch also gave the territory’s bonds a negative outlook.

The action comes on the heels of the Senate’s approval of a $247 million debt financing measure, $147 million of which is to be used for government operations. The bill was signed into law by Governor Kenneth Mapp on November 7 at a Public Finance Authority meeting, where swift action was taken by the P.F.A. in authorizing the borrowing  — which is expected to be secured by December 15.

The negative outlook was given after the territory was advised by bondholders that it would need to place a lien on its bonds before it could receive borrowing at rates that are not low, but not extremely high. The Senate did as it was told and made the lien retroactive, meaning all current and future bonds will include the lien that forces the government of the Virgin Islands to forego its financial obligations — even essential ones — until its debtors are paid.

Essentially, the U.S. Virgin Islands has been noosed to its debtors, and peradventure the territory were to suffer financial calamity — which has been projected by Fitch and other firms if Virgin Islands leaders fail to find viable solutions for balancing its budget compared to the annual borrowing of hundreds of millions of dollars — because of the lien, the territory would suffer even more financial damage, as it would not be allowed to financially service its own needs before paying its debtors. And reneging on the lien agreement to meet essential needs would permanently damage the territory’s borrowing standing.

Here’s Fitch on the territory’s current financial position: “Financial operations have been strained and structurally imbalanced for many years, maintained largely by cash flow borrowing and by long-term debt issuance in support of operations. Budget imbalance is expected to persist over the next several years, despite plans to increase revenues and exercise expenditure restraint. While the USVI retains some ability to respond to fiscal stress, its operations are poorly positioned to absorb routine economic cyclicality or other shocks without further impairing its long-term liability position,” the ratings firm said its release, issued Thursday.

It added: “The USVI’s B+ I.D.R. reflects the significant financial and economic pressures confronting the USVI that are compounded by an extremely high liability burden. A severely unbalanced operating budget has led to multiple years of borrowing to fund ongoing operations, including proceeds from the current bond issues. Budget imbalance is expected to continue over the medium term despite the government’s plans to seek revenue enhancements and implement austerity measures. The debt burden of the USVI has escalated as a result of extensive borrowing for operations, as well as the exponential growth in the unfunded liability (UAAL) of the USVI pension system due to inadequate annual contributions. The funded ratio for the Government Employees Retirement System (GERS) was 19.6% as of the pension system’s October 2015 valuation report.”

Fitch also noted the territory’s high reliance on government for most public services as a problem. And while the territory, Fitch says, has tried to rein in expenditures through head-count deductions and other expense initiatives, “it has been unable to eliminate a large structural budget gap that is estimated at 20% of its budgeted expenditures.”

Fitch believes the USVI’s ability to adjust budgeted expenditures to meet changing fiscal circumstances is constrained. Although expenditure-control initiatives have frequently been pursued in the context of annual budgets or in response to underperformance, USVI actions have often shifted spending needs into future periods, Fitch says. Actual pension contributions are consistently budgeted far below actuarially-required levels ($72 million vs. $200 million in fiscal 2015), raising the pension system’s liability and elevating future required contributions. With continued reliance on debt to cover operations, debt service consumes a greater share of key revenue sources than it if debt were solely pursued for capital purposes. For fiscal 2015, carrying costs for debt, actual other post-employment benefit spending, and the pension ARC totaled $636 million, equivalent to 41% of USVI governmental fund appropriations in that fiscal year.

Long-Term Liability Burden

According to Fitch, the USVI’s burden of debt and pensions is extremely high relative to resources. Fitch estimates net tax-supported debt and unadjusted, unfunded pension obligations attributable to the USVI at 204% of 2014 personal income. Net tax-supported debt as of Aug. 1, 2016, at about $2 billion, equated to 90% of 2014 personal income, while unfunded pension liabilities of $2.58 billion equaled about 114% of personal income. Under the GASB 67 standard for pension systems, GERS maintains assets sufficient to cover only 19.6% of projected liabilities as of Sept. 30, 2015 and reports a depletion date in fiscal 2023.

Fitch views the depletion of GERS’s pension assets as becoming an increasingly likely scenario over the intermediate term. All else being equal, asset depletion would expose the USVI’s budget to the additional burden of covering current retiree benefits from operating resources. Based on fiscal 2015 GERS figures, Fitch estimates this additional burden (net of current contributions) at $145 million, a figure likely to rise over time.

Operating Performance

The USVI’s financial resilience is very limited, Fitch says. It carries an unrestricted fund deficit of $74 million that equated to 10.8% of revenues in fiscal 2015, leveraging of significant revenue streams reduces resources available for operations, and the high fixed costs for debt service and pensions noted earlier reduce its ability to respond to cyclical weakness. At present, the USVI does not carry a budget reserve.

The ratings firm said that the USVI has been unable to materially strengthen its fiscal position during the current economic expansion given ongoing fiscal uncertainty, economic and revenue setbacks such as the sudden closure of HOVENSA, and the limitations posed by its stressed fiscal operations. While Fitch believes the current administration is committed to improving fiscal sustainability, challenges abound and budgetary balance remains many years away despite plans to enhance revenues and implement austerity.