Fitch Downgrades King City Union School District, CA's GOs to 'A' from 'A+'

NEW YORK--()--Fitch Ratings has downgraded the following ratings for King City Union School District, California (the district):

--$893,000 general obligation (GO) series 2007B bonds to 'A' from 'A+';

--$3.7 million GO series 2007C bonds to 'A' from 'A+';

The Rating Outlook is Stable.

SECURITY

The GO bonds are secured by an unlimited ad valorem tax on all taxable property within the district.

KEY RATING DRIVERS

DOWNGRADE DRIVEN BY DECLINING RESERVES: The downgrade reflects a downward shift in financial flexibility due to the loss of Quality Education Investment Act (QEIA) state funding.

ADEQUATE FINANCIAL PROFILE: During a time of state fiscal distress, the district maintained passable financial performance. The improving state funding environment is expected to strengthen finances in the near future. The 'A' rating and Stable Outlook reflect Fitch's expectation that structural balance will be regained in fiscal 2014 and reserves will be maintained at the reduced level.

WEAK LOCAL ECONOMY: The local economy is heavily concentrated in the agriculture and food processing industries. Economic indicators are below average.

DECLINE IN CASH: Large state deferrals have led to declines in general fund cash levels. The governor's fiscal 2014 state budget, if adopted, would reduce deferrals and thus improve the district's cash levels.

MANAGEABLE LONG TERM LIABILITIES: Overall debt levels are moderately low. Carrying costs are very affordable but are expected to grow with expected increases in pension costs.

RATING SENSITIVITIES

FINANCIAL PRESSURES: Inability to regain structural balance in the near term would likely result in reserve levels inconsistent with the current rating.

CREDIT PROFILE

The district is located in the Salinas Valley of Monterey County (the county, Fitch implied GO 'AA'), which is about 145 miles south of San Francisco. The district is coterminous with King City, which is largely geographically isolated. The district serves around 2,200 K-8 students.

ADEQUATE FINANCIAL PROFILE

Management's heavy restructuring of the district's budget in fiscal 2009 has driven passable financial performance over the last few years. After operating at a surplus in fiscal 2010 and fiscal 2011, the district had a deficit of $638,000 (3.3% of total general fund spending) in fiscal 2012. Unrestricted fund balance decreased to 11.5% of spending, which, while still sound, is slightly below the district's strict 12% fund balance policy.

The district's fiscal 2013 second interim report projects a $1.7 million operating deficit (after transfers) equal to 8.2% of spending, driven by the discontinuation of $1.0 million in QEIA funding at the end of fiscal 2012. Teachers that had been funded with QEIA money were paid for with general fund reserves in fiscal 2013. Fitch believes the district will regain structural balance in fiscal 2014 given the improving state funding environment and projected QEIA related staff reductions. While class sizes will likely rise following such layoffs, Fitch believes the district maintains a degree of expenditure flexibility under current class size guidelines.

WEAK CASH LEVELS DRIVEN BY STATE DEFERRALS

Like many California school districts, the district has been experiencing cash shortfalls due to state deferrals. In fiscal 2012, general fund cash fell to $430,000 and accounts receivable grew to $4.7 million. In fiscal 2013, the district issued $3.3 million in tax revenue anticipation notes (TRANs). Fitch expects the district to have to continue issuing TRANs in the near future, but also expects future cash flow to improve if the state begins to aggressively pay down deferrals, as proposed in the governor's budget.

ENROLLMENT GROWTH

District enrollment has been trending upwards due to incoming kindergarten classes exceeding outgoing eighth grade classes. A charter school closed in fiscal 2012, which allowed the district to recapture around 300 students. Fitch positively notes enrollment gains because state revenue limit funding is allocated based on average daily attendance.

WEAK LOCAL ECONOMY WITH BELOW AVERAGE SOCIOECONOMICS

Socioeconomics are below average, which is typical for areas dependent on agriculture. Low educational attainment drives low district per capita money income that is 55% and 58% of state and national averages, respectively. However, district median household income is on par with national averages. County unemployment is 12.5%, which is higher than both state and national averages.

District assessed value (AV) has remained stable over the last several years. In fiscal 2013, AV grew by 0.4%. According to Zillow, county home prices appear to have bottomed out but are still significantly lower than pre-recession highs. Top ten taxpayers are concentrated, representing over 22% of total AV.

MANAGEABLE LONG-TERM OBLIGATIONS

Overall debt levels are moderately low at $1,979 per capita and 2.6% of AV. Amortization is average, with 52.2% of principal retired in ten years. The district has no imminent capital or borrowing plans.

The district participates in California Public Employees' Retirement System (CalPERS) as well as the more poorly funded California State Teachers' Retirement System (CalSTRS) pension systems. Contribution rates for CalPERS are actuarially based, but those for CalSTRS are set by statute and have not been increased to reflect recent years' investment losses. Fitch expects the district's contribution rate for both plans will rise over the coming years, perhaps significantly, after the legislature begins to address the system's growing unfunded liabilities.

Total carrying costs for debt service, pension, and other post-employment benefits are currently low at 8.8% of governmental (less capital) funds spending. The district does not offer any post-employment retirement benefits.

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, National Association of Realtors, Zillow.

Applicable Criteria and Related Research:

--'Tax-Supported Rating Criteria' (Aug. 14, 2012);

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

Applicable Criteria and Related Research:

Tax-Supported Rating Criteria

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

U.S. Local Government Tax-Supported Rating Criteria

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

Additional Disclosure

Solicitation Status

http://www.fitchratings.com/gws/en/disclosure/solicitation?pr_id=793261

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Contacts

Fitch Ratings
Primary Analyst
Gary Huang
Analyst
+1-212-908-0315
Fitch Ratings, Inc.
One State Street Plaza
New York, NY 10004
or
Secondary Analyst
Andrew Ward
Director
+1-415-732-5617
or
Committee Chairperson
Jessalynn Moro
Managing Director
+1-212-908-0608
or
Media Relations:
Elizabeth Fogerty, New York, +1 212-908-0526
Email: elizabeth.fogerty@fitchratings.com

Contacts

Fitch Ratings
Primary Analyst
Gary Huang
Analyst
+1-212-908-0315
Fitch Ratings, Inc.
One State Street Plaza
New York, NY 10004
or
Secondary Analyst
Andrew Ward
Director
+1-415-732-5617
or
Committee Chairperson
Jessalynn Moro
Managing Director
+1-212-908-0608
or
Media Relations:
Elizabeth Fogerty, New York, +1 212-908-0526
Email: elizabeth.fogerty@fitchratings.com