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Fitch Downgrades Tucson, AZ's Rio Nuevo MFD COPs; Affirms City GOs & COPs; Outlook Stable

--$12.6 million COPs (City of Tucson Convention Center Expansion Project), series 2009 to 'A+' from 'AA-'.

The Rating Outlook on the Rio Nuevo COPs is revised to Stable from Negative.

In addition, Fitch affirms the following city of Tucson ratings:

--$262.6 million COPs outstanding at 'AA-';
--$238.3 million general obligation (GO) bonds outstanding at 'AA'.

The Rating Outlook on these city obligations is Stable.

KEY RATING DRIVERS:
--COP Rating Adjusted: The downgrade of the Rio Nuevo COPs reflects the appropriate relationship between the COPs rating and the ratings on the city's GOs and COPs.
--Tucson's Improved Financial Profile: The Outlook revision to Stable from Negative on the series 2009 COPs reflects the city's stabilized financial position, as evidenced by recent Fitch's rating action. (The city's GO and COP ratings were affirmed by Fitch and the Outlook revised to Stable from Negative on May 26, 2011.)
--Financial Challenges: Pressure exists due to certain economically sensitive revenue sources that will be generating significantly less monies over the near term than had been collected several years ago.
--Affordable Debt Levels: The city's debt load is manageable, and the pace of GO and COP debt repayment is well above average; the five-year CIP is little changed from previous plans and remains sizable at about $1 billion.
--Diverse Regional Economy: Despite higher unemployment and a weaker housing profile, Tucson's economy remains diverse and relatively stable, with a good mix of higher education, military and services employment.

SECURITY:
The Rio Nuevo COPs and the city COPs are secured by lease payments from the city, subject to annual appropriation. The series 2009 COPs leased property consists of the improved property comprising the Tucson Convention Center. The GO bonds are secured by an unlimited ad valorem tax levied against all taxable property in the city.

CREDIT PROFILE:
The city of Tucson's general fund reported an increase in reserves for fiscal 2010 of $7.4 million, which bettered earlier projections and boosted the unassigned fund balance to $22.8 million or slightly more than 5% of spending. This result followed a net loss for fiscal 2009 of $18.3 million and a $23 million drawdown in reserves the prior year. This result, which was aided by better than expected local sales tax revenues and extensive spending reductions, led to the recent Outlook revision to Stable from Negative for the city's GO bonds and COPs and was the primary factor in the similar revision of the Outlook on Rio Nuevo's COPs.

The city has responded on a variety of fronts to losses in both local sales tax and state shared revenues, including the elimination of more than 900 positions since fiscal 2009, salary freezes, benefit adjustments, city-wide department spending cuts and various revenue enhancement measures. The fiscal 2011 budget continued with these efforts, with a 3.5% base salary reduction for all employees, the equivalent of nine furlough days, continued deferral of minor capital projects, and further departmental spending reductions. The current fiscal 2011 projection is for both local and state shared sales tax revenues to exceed budget by 4%. State shared income tax revenues are expected to be 2.5% below the original budget total due to the annual adjustment from cash basis to accrual basis. Operating reserve levels are expected to remain essentially unchanged. The fiscal 2012 budget includes another 5% cut in general fund spending, a 2% increase in local sales tax revenues, and no use of reserves to balance the budget. Fitch will continue to monitor the city's efforts to restore structural budgetary balance and notes that any further deterioration in the city's overall financial profile, a prolonged delay in restoration of reserves and additional reliance on one-time revenues and debt restructurings would not be consistent with the current rating level and likely would result in additional rating action.

Both direct and overall debt levels of the city are moderate. In addition, amortization of GO and COP debt is well above average at nearly 75% retired in 10 years. The city's $1 billion five-year capital improvement plan is consistent with the previous plan; the major spending categories are transportation, city courts, environmental services, public safety, and water.

Rio Nuevo was formed in 1999 by the cities of Tucson and South Tucson for the purpose of developing and redeveloping downtown Tucson. The district comprises 658 acres and stretches from downtown Tucson along Broadway Boulevard, encompassing Park Place Mall and El Con Mall, the second and third largest shopping malls in the city. The district's master plan included cultural, residential, commercial, office and mixed-use development.

Concern over the focus and direction of the district's capital program led the state legislature in 2009 to change the board selection authority from the two cities to state officials and expanded the board membership from four to nine. A performance audit completed in September 2010 (as required by statute) suggested the focus of the district's capital plan was broader than statutorily defined for an MFD and that control and direction of district affairs by the prior board was lacking. The audit proposed a number of recommendations to re-direct the district's efforts, provide greater board oversight, and re-define the roles and responsibilities of both the district and city. Negotiations are ongoing between Tucson and the new district board regarding identification and allocation of physical and financial assets, and payment responsibility for various capital project invoices.

Tucson is the second most populous city in Arizona, with a 2010 census population of 520,116. At more than 50% built-out, growth of the city's residential base has slowed from its peak in 2001, when it recorded 3,800 single-family home permits; only 390 new housing permits were issued in 2010. The Tucson housing market experienced less rapid rates of price appreciation than other Arizona municipalities, and the most recent residential delinquency and foreclosure rates are below the national averages.

Services, military, and government are the area's prominent employment sectors. The military presence in the Tucson area is substantial with U.S. Army Intelligence Center and Fort Huachuca, and Davis-Monthan Air Force Base. Public sector employment is led by state and local government agencies and public and higher education, including the University of Arizona main campus, which employs nearly 12,000. Raytheon Missile Systems is the largest private employer in Tucson, with a staff of 11,850. Retail trade, manufacturing, and tourism also are important components of the local economy. Unemployment levels historically have been below those of the state and nation. The April 2011 rate of 8.7% was down from 9.6% recorded in the same period last year and was consistent with both the state and U.S. averages for the month. Also, local personal income levels traditionally have trailed those of the state and nation.

Additional information is available at www.fitchratings.com.

In addition to the sources of information identified in Fitch's Tax-Supported Rating Criteria, this action was additionally informed by information from Creditscope, University Financial Associates, S&P/Case-Shiller Home Price Index, IHS Global Insight, Zillow.com, and the National Association of Realtors.

Applicable Criteria and Related Research:
--'Tax-Supported Rating Criteria', dated Aug. 16, 2010;
--'U.S. Local Government Tax-Supported Rating Criteria', dated Oct. 8, 2010.

For information on Build America Bonds, visit www.fitchratings.com/BABs.

Applicable Criteria and Related Research:
Tax-Supported Rating Criteria
http://www.fitchratings.com/creditdesk/reports/report_frame.cfm?rpt_id=548605
U.S. Local Government Tax-Supported Rating Criteria
http://www.fitchratings.com/creditdesk/reports/report_frame.cfm?rpt_id=564566

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