SAN FRANCISCO--(BUSINESS WIRE)--Fitch Ratings has assigned the following ratings to Napa Valley Unified School District, CA's (the district) obligations:
--$150 million general obligation (GO) bonds, election 2016, series 2016A 'AAA';
--Issuer Default Rating (IDR) 'A+'.
The distinction between the 'AAA' rating on the bonds and the 'A+' IDR reflects Fitch's assessment that bondholders are legally insulated from any operating risk of the district.
The Rating Outlook is Stable.
The bonds are expected to sell via negotiation on or around Nov. 16. Proceeds will be used to finance the repair, upgrading, acquisition, construction and equipping district sites and facilities.
The bonds are secured by an unlimited ad valorem property tax on all taxable property in the district.
KEY RATING DRIVERS
SPECIAL REVENUE ANALYSIS: The 'AAA' unlimited tax GO bond rating is based on a dedicated tax analysis without regard to the district's financial operations. Fitch has been provided with legal opinions by district counsel that provide a reasonable basis for concluding that the tax revenues levied to repay the bonds would be considered 'pledged special revenues' in the event of a district bankruptcy.
STRONG TAX BASE; LOW DEBT: The economic resource base supporting the GOs is diverse, growing at a healthy pace and unlikely to erode significantly in downturns. Tax rates are low, and debt is moderate relative to the assessed value (AV).
TAX BASE DRIVES GO RATING: The district's 'AAA' series 2016A GO bond rating could come under downward pressure in a significant and long-lasting decline in the district's tax base and economy, which Fitch believes is very unlikely.
ENROLLMENT DRIVES REVENUES: The 'A+' IDR could come under downward pressure if the district revenue growth weakened on a sustained basis due to enrollment declines, particularly if the declines led to weakening of operating performance. The rating could come under upward pressure if the district increased its reserve safety margin on a sustained basis.
Growth prospects for pledged revenues are very strong and track changes in taxable values in the district. Taxable assessed value is growing at a healthy pace again after two very small declines during the Great Recession (a 1.1% drop in fiscal 2010 and 0.6% in 2011), which were the only declines in the past 18 years. The tax base expanded at a compound annual growth rate of 3.7% over the past decade and 6% over the past 15 years.
The ability to make debt service payments is unlikely to be reduced by expected cyclical variations in the tax base and economy. There is no taxpayer concentration, with the top 10 taxpayers accounting for just 3.9% of secured AV and no single payer accounting for more than 1%. Relatively stable residential properties make up more than 80% of AV.
Tax-supported debt is quite moderate relative to the size of the tax base. Property tax-supported debt equals less than 3% of assessed value. Tax rates are low and unlikely to rise to a level that pressures the rating even under relatively severe stress scenarios. The general tax rate of 1% of AV is set by Proposition 13 and may not be increased. The debt service tax levy (which varies automatically with debt service and AV changes) is low at just 0.15% of AV for 2017 for all taxing jurisdictions and 0.11% for the district's debt. Fitch believes the tax base is very unlikely to suffer losses that would meaningfully erode repayment capacity.
DEBT SERVICE LEVY VIEWED AS 'SPECIAL REVENUE'
Fitch believes that taxes levied for bond repayment would be considered pledged special revenues under the U.S. bankruptcy code and therefore the lien on pledged revenues would survive and would not be subject to the automatic stay (i.e., payment interruption) in the event the district were to file for bankruptcy. Fitch has reviewed and analyzed legal opinions provided by district counsel and believes they provide a reasonable basis to conclude that these revenues would be treated as pledged special revenues due to certain provisions of the state constitution (primarily proposition 13) that limit and direct the use of pledged property tax revenues for bond repayment.
As a result, Fitch analyzes these bonds as dedicated tax bonds. This analysis focuses on the district's economy, tax base and debt burden without regard to financial operations because Fitch believes that bondholders are insulated from any operating risk of the district. Fitch typically calculates the ratio of available revenues to debt service for dedicated tax bonds, but the unlimited nature of the tax rate pledge on the district's bonds eliminates the need for such calculations.
IDR KEY RATING FACTORS
The 'A+' IDR reflects the district's solid expenditure flexibility and strong oversight framework from the State of California balanced against a constrained revenue environment and fairly limited reserves relative to expected revenue volatility.
Economic Resource Base
The district serves about 18,000 students and provides education services from child to adult age education in California's Napa County. The area is predominately known for its vineyards and wineries, making agriculture and tourism its largest economic drivers. The district is also located in the Greater Bay Area providing a diverse job market for residents.
Revenue Framework: 'a' factor assessment
The district is largely reliant on formulaic pupil funding from the State of California. Fitch expects revenue growth to continue above the rate of inflation but below the level of U.S. GDP growth.
Expenditure Framework: 'aa' factor assessment
The expenditure framework is typical, with solid expenditure flexibility. Formulaic limits on teacher pay increases keeps salary costs manageable and in line with discretionary revenue growth. The fixed cost burden is moderate.
Long-Term Liability Burden: 'aa' factor assessment
Fitch expects the debt burden to remain moderate relative to the district's economic resource base as the district issues additional authorized GO bonds over the next eight years.
Operating Performance: 'a' factor assessment
Financial resilience is adequate throughout the economic cycle. Fitch believes the district's finances could become stressed in a downturn, but would recover.
IDR CREDIT SUMMARY
Agriculture and tourism surrounding the wine industry are major components to the local economy. Healthcare, manufacturing, and retail sectors are also significant employers in the local economy. New commercial and residential developments have recently been completed or are underway. Several residential projects in various development phases will add to the population and contribute to the predicted growth of 700 students in the district within the decade.
While the economy is largely concentrated in the tourism and agriculture industries, the top 10 taxpayers account for roughly 4% of total AV. Median household income is strong at 133% and 115% of the national and state averages, respectively.
While the local tax base supporting the bonds is somewhat limited, the district's operating revenues benefit from the much broader economic resource base of the state of California (IDR 'AA-'/Outlook Stable). California's economy is unmatched among U.S. states in its size and diversity and is generally stable despite a considerable presence in industries prone to cyclicality. Growth in the state economy has been strong since the state recovered from the most recent, very severe recession.
The district depends on the State of California for about 85% of its revenues. State funding provides a strong economic base for district operating revenues, constitutional priority for education funding, and minimum funding levels. The state's tax structure makes funding somewhat more volatile than typical municipal revenues, though. Variations in enrollment can exacerbate the volatility of state funding.
Fitch expects revenue growth to continue to outpace inflation but fall below the level of national GDP growth. Gains in funding are driven by strong state revenue prospects and mixed enrollment trends. District enrollment is expected to first plateau and subsequently rise over time with new residential developments boosting enrollment.
The district has benefited somewhat from the implementation of the Local Control Funding Formula, which provides additional funding based on the district's unduplicated count of students who are in foster care, in poverty, or English language learners. The district has a moderate unduplicated count of 50% of its student body.
The district has some ability to manage its enrollment through inter-district transfers from students living in nearby school districts with mutual agreement with the districts, somewhat offsetting concerns about near-term enrollment decline. American Canyon, the district's fast growing community with several planned residential developments and schools, abuts communities from which the district has historically received more transfer requests than it chose to accept. Accepting more inter-district transfers could stabilize both enrollment numbers and state funding.
The district has no meaningful independent revenue flexibility due to California Proposition 13 tax limitations. The district may not raise its operating property tax rate under any circumstance, and it may only raise other taxes with a vote of the people.
The district's expenditure framework is typical for a California school district and a relatively strong part of the credit profile. Expenditures are dominated by labor costs, particularly spending on teacher salaries and benefits.
The natural pace of spending growth is expected to be in line with revenues. The district and its teachers have agreed to a formula that allocates a fixed percentage of general revenue funds (minus legal and supplemental obligations) to teacher compensation. This formula has provided a notably strong matching between the district's largest expenditure and its revenues.
Expenditure flexibility for the district is solid. The relatively fixed carrying costs of pensions, other post-employment benefits (OPEB), and debt service are a moderate 13% of government funds expenditures. The district's collective bargaining is manageable and standard for a California school district. Management must meet and confer to negotiate contract terms with its unionized workforce, but the elected school board can impose terms in the rare instances when the parties cannot agree to terms. Such impasses have been uncommon in the district due to the formula-based allocation of revenues available for teacher salaries. The district also has a sizeable number of temporary teachers, providing flexibility to reduce the workforce in periods of stress. The district's primary means of controlling costs are adjustments to the number of teacher work days and class sizes.
Long-Term Liability Burden
The long-term liability burden is moderate at about 11% of personal income. The district's direct general obligation bond debt equals about 58% of the burden. The remaining 42% is evenly divided between net pension liabilities (adjusted for Fitch's standard 7% rate of return assumption) and overlapping debt. The district participates in two state sponsored pension plans that are adequately funded and expected to gradually improve their funded positions through rising contribution rates.
The district will have an additional GO bond authorization remaining after the current bond sale. District officials plan to issue the balance of the bonds gradually over seven to eight years, managing issuance to limit the impact on property tax rates. Amortization is slow with just 25.2% of bonds repaid over the next decade, but Fitch expects the overall long-term liability burden to remain in the moderate range even after all of the approved bonds are issued.
The district's reserve safety margin is adequate to withstand typical cyclical stresses, though its finances could become stressed in downturns. The district targets fund balance reserves at 7.5% spending or higher, but management allows reserves to fluctuate slightly above and below the target in the near future. Unrestricted fund balance equaled 7% of expenditures and transfers out at the end of fiscal 2015, the most recent audited results. The Fitch Analytical Sensitivity Tool (FAST) suggests the district may see revenue declines of about 4% in a typical recession.
The district's unrestricted general fund balance (the sum of committed, assigned and unassigned) fell to 7% of spending in 2015 from 11% in fiscal 2014. Fitch expects unrestricted fund balance to fluctuate around 7% over the next few years.
Budget management in times of recovery is solid with conservative budgeting, no unusual deferrals of required spending and long-term budget, capital and enrollment forecasting. The district has recently implemented five-year financial forecasts that go beyond the basic three-year requirements for California school districts, and it targets reserve balances of about 7.5% of spending (albeit with considerable tolerance for deviations from the target). The district does not build very large reserve safety margins in preparation for cyclical downturns, but it has quickly rebuilt expenditure flexibility after past recessions.
The district also benefits across the business cycle from a very strong financial oversight framework for California school districts. Under California Assembly Bill 1200, school districts must file financial reports with county offices of education at least three times a year. The filings must include multiyear budget projections, and both county and state officials are empowered to intervene and restore budget balance if the district cannot show that it can meet state minimum fund balance standards over a three year time horizon. During severe economic stress, county officials with stay and rescind powers can step in to oversee financial decision making. In extreme cases, state overseers can remove management and elected board members if a state loan is required to maintain solvency. The oversight system provides a strong lower limit to school district performance in the state.
Additional information is available at 'www.fitchratings.com'.
In addition to the sources of information identified in Fitch's applicable criteria specified below, this action was informed by information from Lumesis and InvestorTools.
U.S. Tax-Supported Rating Criteria (pub. 18 Apr 2016)
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