Fitch Rates Dallas ISD, TX's Series 2016 A & B ULT School Bldg Bonds 'AAA' PSF/'AA+' Underlying

AUSTIN, Texas--()--Fitch Ratings assigns an 'AAA' rating to the following Dallas Independent School District (ISD), Texas' (the district) unlimited tax (ULT) bonds:

--$294.3 million ULT school building bonds, series 2016A;

--$277.5 million multi-modal ULT school building bonds, series 2016B-1-B5.

The 'AAA' long-term rating reflects the guarantee of the Texas Permanent School Fund (PSF; bond guarantee program is rated 'AAA' by Fitch).

The series 2016A ULT bonds are scheduled for a competitive sale Feb. 9. The series 2016B multi-modal ULT bonds will be sold via negotiation March 1. Proceeds will be used to construct, equip and renovate district-wide school facilities and pay issuance costs.

Fitch also assigns an underlying 'AA+' rating to the series 2016 A & B bonds and affirms its 'AA+' underlying rating on the district's $2.3 billion in outstanding ULT debt as well as to the $218 million in outstanding maintenance tax notes, taxable series 2013 and 2015.

The Rating Outlook is Stable.

SECURITY

The series 2016 A & B bonds are payable from the district's levy of an unlimited ad valorem tax on all taxable property within the district and also carry the Texas PSF bond guaranty (for more information on the Texas PSF, see 'Fitch Affirms Texas PSF Rating at 'AAA'; Outlook Stable', dated Aug. 5, 2015).

Outstanding maintenance tax notes are payable by a separate, limited property tax for operations ($1.04 per $100 taxable assessed valuation (TAV)) levied against all taxable property within the district.

KEY RATING DRIVERS

STRONG FINANCIAL POSITION MAINTAINED: The high 'AA+' rating reflects the district's strong financial position and ample flexibility characterized by very sound fund balance and liquidity levels. Management's conservative budgeting and tightened spending controls have contributed to consistent, sizeable operating surpluses over the last six fiscal years.

SOUND ECONOMIC PERFORMANCE: Dallas benefits from its status as a regional economic and cultural hub. Steady job and income growth, tax base and housing market gains, and labor market diversity underpin the city's strong economy.

BELOW-AVERAGE DEMOGRAPHICS: Wealth levels remain somewhat below average and the poverty rate is elevated, reflecting a sizable low-income populace concentrated in the city.

LONG-TERM LIABILITIES WILL GROW: Debt ratios are above average and will likely increase over the near- to medium-term given debt issuance plans and the slow rate of amortization. Mitigating factors include a low tax rate for debt service, budget capacity to support the additional debt, and modest retiree benefit costs.

NO RATING DIFFERENTIAL: Fitch does not distinguish between the unlimited and limited tax ratings due to the district's significant financial flexibility.

RATING SENSITIVITIES

STABILITY OF FISCAL TREND: Fitch views maintenance of fiscal balance and stability in the district's reserve cushion as key mitigants to debt levels that are poised to increase and the district's slightly below-average socio-economic profile.

CREDIT PROFILE

Dallas ISD serves a student population of roughly 160,400, making it the second-largest school district in the state and 14th largest in the nation. Enrollment growth is modest. The district serves the majority of the city of Dallas, as well as all or portions of 11 area cities and towns, with a total estimated population of approximately 1.3 million.

STEADY SURPLUSES BUILD STRONG FISCAL POSITION

General fund results in fiscal years 2010-2015 featured positive annual operating margins after transfers and corresponding increases in fund balance. This steady improvement in the district's financial performance (which was notably achieved in the face of two years of state funding cuts) was largely attributable to staffing-related expenditure reductions and conservative budgeting practices. Maintenance of vacant positions and tightened departmental spending controls allowed operations to outperform the balanced budgets.

The district closed fiscal 2015 with a net surplus of nearly $15 million after transferring out the bulk of the year's surplus operations ($43 million) for capital spending as prioritized by the board. Unrestricted reserves totaled $350 million or 26% of spending, well above the board's policy threshold requiring two months spending in reserves. The district's liquidity position was also robust. General fund cash and investments totaled $403 million or about 3 1/2 months of fiscal 2015 operating expenditures.

BREAK-EVEN RESULTS PROJECTED AT FISCAL 2016 YEAR-END

The $1.4 billion fiscal 2016 general operating budget was adopted as balanced with local property taxes contributing the bulk (60%) of the district's operating revenue and enrollment assumed to remain fairly flat. Average salary increases of 3% and 4% for staff and teachers, respectively, that totaled about $30 million, were also included. Management currently expects break-even results at year-end, which Fitch believes may yet improve given recent fiscal trends and the likelihood of additional salary savings due to management's historically conservative budgeting and spending practices. Year-end results should also reflect reimbursement from proceeds of the current bond issues of the $43 million advanced from the general fund in fiscal 2015 for capital spending.

The district does not practice formal out-year budget forecasting, but generally expects spending to increase and margins to narrow as service levels are enhanced to address academic performance goals. Despite the lack of forecasting, Fitch believes the district will continue to preserve its presently strong financial position under the assumption management will continue its fiscal practices to date that have contributed to a much-improved financial track record despite various budgetary pressures.

ROBUST DALLAS ECONOMY AND TAV GAINS

Dallas, together with its sister-city Fort Worth, is an economic and cultural hub for the southwestern U.S. Dallas is the third largest city in Texas and headquarters for a broad array of corporate entities, serving as a nationally recognized technology, trade, and health service center. The city exhibited good resiliency during the national recession and shifted into economic expansion earlier than many other parts of the country. Top employers in the education, government and health services sectors lend stability to the city's employment base.

District socioeconomic indicators are mixed with relatively low unemployment, sound tax base wealth per capita, but slightly below-average income levels and a high occurrence of poverty. As of November 2015, the city's unemployment rate was a low 4.0%, a decrease from 4.6% a year ago. Employment gains during this period were modest at roughly 1%. Fiscal 2016 taxable assessed value (TAV) growth was comparable to the prior year's, increasing about 7% to $91 billion, and preliminary fiscal 2017 estimates from the appraisal district project a similar gain. Fitch believes prospects for continued economic and TAV growth for the area remain favorable.

MANAGEABLE DEBT BURDEN DESPITE LARGE GO BOND PROGRAM

Fitch expects the district's direct and overlapping debt burden to rise given future borrowing plans. District voters recently approved by a solid 60% margin a very large, $1.6 billion GO bond authorization that is expected to meet the district's significant capital needs over the next 8-10 years. Debt-to full-market value in fiscal 2016 was slightly above average at 5.3%.

Consistent annual TAV growth of 4-7% is projected over the next 10 years in order to support the district maintaining as a maximum its current $0.24 per $100 TAV debt service tax rate while supporting a rising debt service schedule. Fitch believes this may be slightly optimistic given the lengthy period of expected growth. Principal amortization remains slow at 35% retired in 10 years, inclusive of this issuance.

However, the district does have budget capacity for additional debt. The fixed debt service burden on the budget is affordable at 9.2% of total governmental expenditures in fiscal 2015 and the growth to projected maximum annual debt service (MADS) will be sizeable but manageable, estimated at 17% of fiscal 2015 governmental fund spending. The current 24-cent debt service tax rate provides ample headroom under the state's statutory 50-cent tax rate limitation for new debt issuance.

The series 2016B multi-modal ULT bonds will have a variable interest rate in order to minimize the impact to its debt service tax rate, which Fitch believes does add incremental risk to the district's credit profile. Management expects to maintain no more than 25% of its total outstanding debt as variable rate in line with the district's debt management policies, which Fitch believes is reasonable.

The notes are structured with an initial fixed-rate term of one-five years, a soft put back to bondholders in lieu of liquidity support, and the option to periodically reset the rate to a long-term fixed basis. The bonds are subject to optional and mandatory redemption by the district, and following the initial rate period, the district can change the interest rate mode and rate period. Bondholders will be required to tender their bonds under certain conditions on specific dates.

The risk to the district is in the case of a failed remarketing, whereby the district would pay an elevated interest rate. Fitch considers the risk of a failed remarketing minimal based on the district's rating, which indicates strong market access, as well as the district's strong financial position.

STATE FUNDING PENSIONS CONTRIBUTE TO MODERATE CARRYING COSTS

Fitch's concern about the district's overall long-term liabilities is lessened in part by its low retiree cost burden. The district participates in the Texas Teachers Retirement System (TRS), a cost-sharing multiple employer defined benefit plan. The state assumes the vast majority of Texas school districts' net pension liabilities and the corresponding employer contributions.

However, like all Texas school districts, the district is vulnerable to future policy changes by the state - as evidenced by a relatively modest 1.5% of salary contribution requirement effective fiscal 2015. Legislative changes in 2013 increased the state's annual contributions, although it remains to be seen whether this improves TRS' ratio of assets to liabilities over time.

Under GASB 68, the district reports its share of the TRS net pension liability (NPL) at $248.8 million, with fiduciary assets covering 83.3% of total pension liabilities at the plan's 8% investment rate assumption (approximately 75% based on a more conservative 7% investment rate assumption). The NPL represents less than 1% of the district's fiscal 2016 market value. Other post-employment benefit (OPEB) contributions paid by the district are also nominal as the state and employees also pay the bulk of these costs. Carrying costs for debt service, pensions and OPEB are presently low at 11% of fiscal 2015 governmental spending, but Fitch estimates they will increase to a more midrange 19% once the authorized debt is fully issued.

TEXAS SCHOOL FUNDING LITIGATION

A Texas district judge ruled in August 2014 that the state's school finance system is unconstitutional. The ruling, which was in response to a consolidation of six lawsuits representing 75% of Texas school children and was the second such ruling in the past two years, found the system inefficient, inequitable, and underfunded. The judge also ruled that local school property taxes are effectively a statewide property tax due to lack of local discretion and therefore are unconstitutional.

The Texas attorney general has appealed the judge's latest ruling to the state supreme court. If the state school finance system is ultimately found unconstitutional, the legislature would likely follow with change intended to restore its constitutionality. Fitch would consider any changes that include additional funding for schools and more local discretion over tax rates to be a credit positive.

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, IHS Global Insight, Bond Council, the Texas Municipal Advisory Council.

Fitch recently published an exposure draft of state and local government tax-supported criteria (Exposure Draft: U.S. Tax-Supported Rating Criteria, dated Sept. 10, 2015). The draft includes a number of proposed revisions to existing criteria. If applied in the proposed form, Fitch estimates the revised criteria would result in changes to less than 10% of existing tax-supported ratings. Fitch expects that final criteria will be approved and published by the end of the first quarter of 2016. Once approved, the criteria will be applied immediately to any new issue and surveillance rating review. Fitch anticipates the criteria to be applied to all ratings that fall under the criteria within a 12-month period from the final approval date.

Applicable Criteria

Exposure Draft: U.S. Tax-Supported Rating Criteria (pub. 10 Sep 2015)

https://www.fitchratings.com/creditdesk/reports/report_frame.cfm?rpt_id=869942

Tax-Supported Rating Criteria (pub. 14 Aug 2012)

https://www.fitchratings.com/creditdesk/reports/report_frame.cfm?rpt_id=686015

U.S. Local Government Tax-Supported Rating Criteria (pub. 14 Aug 2012)

https://www.fitchratings.com/creditdesk/reports/report_frame.cfm?rpt_id=685314

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https://www.fitchratings.com/gws/en/disclosure/solicitation?pr_id=998847

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Contacts

Fitch Ratings
Primary Analyst
Rebecca C. Moses
Director
+1-512-215-3739
Fitch Ratings, Inc.
111 Congress Avenue, Suite 2010
Austin, TX 78701
or
Secondary Analyst
Shane Sellstrom
Analyst
+1-512-215-3727
or
Committee Chairperson
Amy Laskey
Managing Director
+1-212-908-0568
or
Media Relations
Elizabeth Fogerty, +1 212-908-0526
elizabeth.fogerty@fitchratings.com

Contacts

Fitch Ratings
Primary Analyst
Rebecca C. Moses
Director
+1-512-215-3739
Fitch Ratings, Inc.
111 Congress Avenue, Suite 2010
Austin, TX 78701
or
Secondary Analyst
Shane Sellstrom
Analyst
+1-512-215-3727
or
Committee Chairperson
Amy Laskey
Managing Director
+1-212-908-0568
or
Media Relations
Elizabeth Fogerty, +1 212-908-0526
elizabeth.fogerty@fitchratings.com