OREANDA-NEWS. Fitch Ratings has affirmed the following rating for Vacaville Unified School District, CA (the district):

--\$2.9 million general obligation (GO) bonds series 2005, refunding series 2005, and series 2007 at 'AA-'.

The Rating Outlook is Stable.

SECURITY
The bonds are payable from an unlimited ad valorem tax on all taxable property within the district.

KEY RATING DRIVERS

FINANCIAL BALANCE BY 2016: The recent improvement in the state's funding outlook and efforts by the district to reduce special education spending are expected to restore financial balance by fiscal 2016. Operating deficits in the past three audited fiscal years reflect volatility in state funding and growing costs for special education programs.

SOUND RESERVES: The district's unrestricted reserve has declined over the past three years but remained satisfactory at \$11.2 million (13% of spending) at the end of fiscal 2014 (unaudited). Liquidity levels are solid.

LIMITED EXPENDITURE FLEXIBILITY: The district's ability to contain labor costs and control special education spending will be critical in restoring financial balance as expenditure pressures from declining attendance, rising pension costs, and requirements mandated through the state's adoption of the Local Control Funding Formula (LCFF) continue to grow.

ADDITIONAL DEBT EXPECTED: Overall debt levels are expected to rise moderately with an expected issuance of approximately \$70 million in May 2015. Additional issuance plans under the recently approved \$194 million in GO authorization would increase debt levels to still manageable levels.

SOUND ECONOMIC INDICATORS: The city of Vacaville (the city) benefits from its proximity to the San Francisco Bay Area regional economy, its low unemployment rate, and above average wealth levels. Recent tax base growth has been spurred, in part, by a recovering real estate market and significant employment growth in the area.

RATING SENSITIVITIES:

ONGOING STRUCTURAL IMBALANCE: An inability to correct the current structural imbalance leading to materially weaker unrestricted reserve levels could result in negative rating action.

CREDIT PROFILE

The district serves more than 10,600 students and is located 40 miles southwest of Sacramento and sixty miles northeast of San Francisco.

ONGOING STRUCTURAL IMBALANCE

The district recorded operating deficits (after transfers) in each of the past three years including deficits of \$1.7 million (2% of spending) and \$2.7 million (3.5%) in fiscals 2014 and 2013, respectively. The structural imbalance has largely been driven by volatility in state funding and special education expenditures, which have increased significantly over the past several years.

Financial performance is expected to begin improving in fiscal 2015 due to the increased state funding and management's efforts to contain special education spending. Changes in the administration of the program, driven in part by an external consultant's report, are expected to result in meaningful savings that will reduce its impact on the district's operating results. Management expects the draw on unrestricted funds to be approximately \$1.2 million in fiscal 2015 before stabilizing in fiscal 2016. The rating assumes management is successful in balancing financial performance by 2016.

The district's unrestricted reserve declined to a still sound \$11.2 million or 13% of spending in fiscal 2014 from \$14.6 million (18.4%) in fiscal 2012. An additional decline of \$1.2 million, which is expected in fiscal 2015, would reduce the unrestricted reserve to a still adequate 11.5% of spending.

The district's ability to restore financial balance will be challenged by rising costs and pent up demand for salary increases by labor. Increased pension contributions to CalPERS and CalSTRS, additional costs associated with implementing LCFF requirements, and lost revenue from declining attendance are all expected to reduce the district's budgetary flexibility over the medium term. Labor negotiations, which are currently taking place for fiscal 2015, could have a significant impact on the district's financial performance depending on the size and timing of salary increases, if any.

ADDITIONAL DEBT PLANS

The district received voter approval for \$194 million in GO bonds in the November 2014 election. The first issuance under the new authorization, expected in May 2015, is a preliminary amount of \$70 million. An issuance of that size is expected to modestly increase overall debt to moderate levels. An issuance of the total authorized amount, which is not expected in the near term, would raise debt levels to somewhat high levels.

Overall debt levels with the expected \$70 million issuance in May are estimated at 2.7% of AV and \$3,363 per capita. Amortization of outstanding debt is slow with approximately 295 retired within 10 years.

SOUND ECONOMY; MODESTLY GROWING TAX BASE

The district benefits from its proximity to the large and diverse regional San Francisco Bay Area regional economy and employment markets. The district's per capita income is 16% higher than the national average and poverty rates are well below state and national levels. The city's 4.8% unemployment rate (November 2014) is below both the state (7.1%) and nation (5.5%) averages.

The district's AV increased by 7.9% in fiscal 2015. AV performance since 2009 has been somewhat volatile with moderate declines and limited gains. The strong performance in 2015 is driven by the city's above average employment growth and a recovering housing market along with some commercial and residential development. Fitch expects the additional development plans and continued economic growth to support at least stable to modestly positive AV performance over the near term.

The tax base is concentrated in Genentech, which represents approximately 8.9% of total AV.