Fitch Revises Outlook on Eastside USD, California to Negative; Affirms 'A+' GOs

SAN FRANCISCO--(BUSINESS WIRE)--Fitch Ratings has affirmed the following general obligation (GO) ratings for the Eastside Union School District, CA (the district) as part of its continuous surveillance effort:

--$11.7 million GO bonds at 'A+'.

Fitch has also revised the district's Rating Outlook to Negative from Stable.

RATING RATIONALE:

--The Negative Outlook reflects a declining revenue environment and forecasted weakening of the district's healthy reserve balances;

--The district's limited tax base has come under stress due to a high housing foreclosure rates; assessed values have fallen significantly;

--The local economy is weak with high unemployment and low wealth levels;

--Though it came into the economic downturn with healthy reserves, the district expects to spend them down to low levels to sustain educational programs;

--The district is very dependent on the state of California for funding, leading to significant revenue volatility and uncertainty;

--The weaknesses are somewhat offset by a sparing use of debt and stable enrollment.

FACTORS THAT MAY TRIGGER A DOWNGRADE:

--Failure to maintain a healthy general fund balance that's adequate to offset weaker aspects of the district's credit profile, including its limited economy, small tax base and heavy reliance on state aid;

--Unwillingness to make spending cuts to realign ongoing expenditures with reduced state education spending;

--Continued declines in assessed values and further weakening of the local economy.

SECURITY:

The bonds are backed by unlimited ad valorem property taxes on property in the district.

CREDIT SUMMARY:

The 'A+' rating reflects the Eastside Union's stable enrollment, low debt and historically sound fund balances. The rating is constrained by the district's weak economy, limited tax base and dependence on state funding. The Negative Outlook reflects the district's plan to draw down fund balances and a marked deterioration in the local economy. The district serves about 3,100 students in grades K-8 in northern Los Angeles County. The district's population is just less than 17,000 and it includes unincorporated rural areas of the county and a portion of the city of Lancaster.

The district's economy and tax base are weak. Lancaster's unemployment was well above state and national averages at 18.1% in November. The school district's median household income has averaged about 80% of state levels in recent years. The housing downturn has hit the region particularly hard with foreclosures and mortgage delinquencies above the national average. Assessed value (AV) fell 23% over the past two fiscal years (2009 and 2010). While AV remains well above levels anticipated at the time that the bonds were issued and remains quite adequate to support the debt, the district's housing market is among the weakest in the state and unlikely to return to prior peak valuations in the near term.

The district's debt burden is low, partially offsetting concerns about its economy and tax base. Direct debt as a percentage of assessed value is 1.1%, while debt per capita is about $900. Amortization is rapid with 73% of debt repaid over the next ten years. The district has no further issuance plans. Due to low income levels, the district qualifies for hardship funding from the state of California. Hardship funding is designated to fund capital improvements, with management expecting state funding to be adequate to meet its near-term capital needs.

The district's finances have been pressured by reductions in state funding, upon which it is heavily dependent. The district entered the recession with a financial cushion and has maintained healthy reserves due to federal stimulus dollars. But the district has not reduced ongoing expenditures to match reduced ongoing revenues, and its most recent three-year financial forecast shows significant deficit spending that would reduce reserves to an unhealthy level after the expiration of federal stimulus programs. Unreserved fund balance declined to 14.7% of expenditures in fiscal 2010 from 15.1% a year earlier.

The district expects to spend reserves down to just 3.7% by the end of fiscal 2013. Fitch believes that the district's reliance on state aid and limited local economic resources necessitate higher fund balances than might otherwise be necessary at the current rating level. Low wealth levels and California's restrictive legal framework severely limit the district's revenue raising options. While policymakers have thus far avoided significant cuts in staffing and programs, spending cuts may be necessary to maintain the district's financial health, absent a meaningful recovery in state education funding. Fitch believes the district has adequate financial flexibility and time to balance future-year budgets if policymakers chose to do so. However, failure to make necessary adjustments may precipitate a downgrade by Fitch.

Additional information is available at 'www.fitchratings.com'

In addition to the sources of information identified in the Tax-Supported Rating Criteria, this action was additionally informed by information from Creditscope, University Financial Associates, LoanPerformance, Inc., IHS Global Insight, Los Angeles County, CA, and the City of Lancaster, CA.

Applicable Criteria & Related Research:

--'Tax-Supported Rating Criteria' (Aug. 16, 2010);

-- 'U.S. Local Government Tax-Supported Rating Criteria' (Oct. 8, 2010).

ALL FITCH CREDIT RATINGS ARE SUBJECT TO CERTAIN LIMITATIONS AND DISCLAIMERS. PLEASE READ THESE LIMITATIONS AND DISCLAIMERS BY FOLLOWING THIS LINK: HTTP://FITCHRATINGS.COM/UNDERSTANDINGCREDITRATINGS. IN ADDITION, RATING DEFINITIONS AND THE TERMS OF USE OF SUCH RATINGS ARE AVAILABLE ON THE AGENCY'S PUBLIC WEBSITE 'WWW.FITCHRATINGS.COM'. PUBLISHED RATINGS, CRITERIA AND METHODOLOGIES ARE AVAILABLE FROM THIS SITE AT ALL TIMES. FITCH'S CODE OF CONDUCT, CONFIDENTIALITY, CONFLICTS OF INTEREST, AFFILIATE FIREWALL, COMPLIANCE AND OTHER RELEVANT POLICIES AND PROCEDURES ARE ALSO AVAILABLE FROM THE 'CODE OF CONDUCT' SECTION OF THIS SITE.