Fitch Rates West Contra Costa USD, CA's Approx. $186.44MM Unlimited Tax GOs 'AA+'; Outlook Stable
OREANDA-NEWS. Fitch Ratings has assigned an 'AA+' rating to the following West Contra Costa Unified School District, California bonds:
--$60 million general obligation (GO) bonds, election of 2010, 2016 series D;
--$65 million GO bonds, 2012 election, 2016 series C; and
--Approximately $61.44 million GO refunding bonds, 2016 series A.
The bonds are expected to sell via negotiation on March 1, 2016. New money bond proceeds will fund existing educational facility renovations. Refunding bond proceeds will refund for interest savings certain outstanding GO bond maturities.
Fitch has also affirmed the existing 'A+' rating on the district's $968 million in outstanding GO bonds. That existing GO rating reflects the unsecured general credit quality of the district, and is the equivalent of an Issuer Default Rating (IDR). The distinction between the 'AA+' rating on the bonds being offered and the 'A+' issuer rating reflects Fitch's assessment that holders of the bonds being offered are legally insulated from any operating risk of the district. Fitch has not been provided with the supporting legal analysis to confirm the same conclusion for the district's outstanding bonds, and therefore is not applying the pledged special revenue approach to the outstanding debt.
The Rating Outlook is Stable.
The bonds are secured by unlimited ad valorem property taxes levied on all taxable property within the district.
KEY RATING DRIVERS
PLEDGED SPECIAL REVENUES: The 'AA+' rating on the bonds being offered is based on a dedicated tax analysis without regard to the district's financial operations. Fitch has been provided with a legal opinion by district counsel that provides 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.
LARGE, DIVERSE BUT MIXED ECONOMY: The local economy benefits from its proximity and access to the diversified Bay Area economy, but performance is mixed with some cities within the district continuing to experience elevated unemployment rates and below average income levels compared to surrounding areas.
HIGH DEBT BURDEN: The district's overall debt profile is weak, with high debt metrics and very slow amortization resulting from issuance of 40 year bonds and the existence of capital appreciation bonds. Debt is expected to remain high given future debt issuance plans and the slow amortization.
ISSUER RATING REFLECTS FINANCES: In addition to the above factors, the 'A+' issuer rating also reflects the district's expectation of declining reserves due to fixed cost growth outpacing rising revenues, some remaining expenditure flexibility and solid fiscal management including adherence to an adequate minimum reserve policy.
STABLE TAX BASE: The 'AA+' GO bond rating is sensitive to material changes in the district's tax base, economy and debt levels, which Fitch considers unlikely.
IDR SENSITIVE TO FINANCIAL PERFORMANCE: The 'A+' issuer rating is sensitive to the district's ability to maintain financial flexibility and reserves at the policy level.
The district is located approximately 15 miles northeast of San Francisco. It covers a large area in western Contra Costa County, including the cities of Richmond, El Cerrito, Hercules, Pinole, and San Pablo, along with several unincorporated areas. The district currently operates 37 elementary schools, two K-8 schools, six junior high schools, and six high schools, along with several continuation programs, adult education sites, and state-funded preschools.
The district's average daily attendance (ADA) was 27,742 in fiscal 2015, about the same level as fiscal 2010. However, competition from three new charter schools and demographic trends are expected to reduce ADA to around 27,324 in fiscal 2016 with additional declines expected in fiscals 2017 and 2018.
TAX REVENUE TO REPAY 2016 BONDS VIEWED AS 'PLEDGED SPECIAL REVENUES'
Fitch believes that taxes levied for repayment of the bonds being offered would be considered pledged special revenues under the U.S. bankruptcy code and therefore would not be subject to the automatic stay (i.e. payment interruption) in the event the district were to file for bankruptcy. As a result, Fitch analyzes these bonds as dedicated tax bonds. This analysis focused on the district's economy and its debt burden, without regard to the district IDR, because Fitch believes that bondholders are insulated from any operating risk of the district.
Fitch has reviewed and analyzed legal opinions provided by counsel for the district specific to the current offering. These opinions provide a reasonable basis to conclude that due to certain state constitutional provisions (primarily Article XIIIA and Proposition 39), which limit and direct the use of pledged property tax revenues, the revenues dedicated for repayment of the bonds being offered would be treated as pledged special revenues in the event of a district bankruptcy. The opinions are based on the specific facts of the series being offered. Fitch has not been provided with legal opinions for the district's outstanding bonds.
STRONG UNLIMITED DEDICATED REVENUE STREAM
The district's tax base is large and diverse, though performance through the recession was volatile. The tax base declined about 20% between fiscal 2009-2011 and then again in fiscal 2014 before showing solid recovery of 10.7% in fiscal 2015 and 8.5% in fiscal 2016. The fiscal 2016 $26.7 billion assessed valuation (AV) remains about 1.3% below the fiscal 2009 AV peak.
The tax base remains concentrated in Chevron, which owns a refinery in the city of Richmond. Chevron accounted for approximately 12.4% of total district AV in fiscal 2016. Some of the historical AV volatility is due to an August 2012 fire which damaged a portion of the refinery and the subsequent repair. In addition, the decline in oil prices is likely to have a negative effect on Chevron's valuation. Fitch expects that housing market gains over the near term should continue to support relatively stable AV performance.
HIGH DEBT BURDEN
Overall debt ratios are well above average at $7,742 per capita and 5.9% of AV. The district has successfully applied for and received waivers from the state's Board of Education to exceed bonding capacity limits, allowing the district to issue general obligation debt up to 5% of AV. While direct general obligation indebtedness of $968 million is 3.6% currently, the district expects to use some of its significant remaining general obligation authorization (approximately $333 million after this issuance) to address capital needs over the next several years.
SOUND ECONOMY WITHIN SAN FRANCISCO BAY AREA
The local economy is mixed but overall average with some areas outperforming others. While western Contra Costa County is well-positioned to participate in the San Francisco Bay Area's broad and diverse labor market, the unemployment and poverty rates vary significantly with the district. Current unemployment rate in the largest city of Richmond tends to trend well above the regional and national averages. However, the current jobless rate in Richmond is very healthy at 5.2% as of December 2015, below the state rate (5.8%) but above the national rate (4.8%).
'A+' ISSUER RATING REFLECTS ADEQUATE FINANCIAL POSITION; EVOLVING FINANCIAL PROFILE
The district's financial profile is evolving as current concerns regarding state funding volatility diminish with expectations for improved funding levels and more timely distribution of funds in the near term.
The district built up its unrestricted reserve during the recession to offset expected diminished state funding and potentially significant mid-year cuts. Now that state funding has improved, the district intends to gradually reduce its unrestricted reserve from the current 11% level before stabilizing near the district's 6% minimum unrestricted fund balance level, as established through board policy.
Fitch views the 6% minimum unrestricted reserve level as adequate for the rating, but notes that the reduced financial cushion will increase the importance of maintaining structurally balanced financial operations. In addition, it will place greater emphasis on controlling costs to retain budgetary flexibility in order to manage any future funding volatility, when it occurs.
IMPROVING REVENUES DESPITE ATTENDANCE DECLINE
The district's revenue performance is expected to continue improving despite the expected decline in ADA. The district benefits from the general improvement in state funding as well as the statewide adoption of local control funding formul (LCFF), which provides districts with higher percentages of targeted students (English learners, foster youth, and economically disadvantaged) with additional funds. Approximately 75% of the district's student body qualifies for additional funding under LCFF.
INCREASED SPENDING PRESSURES
Increased expenditures are expected to outpace revenue growth over the near term. The district is intentionally drawing down its unrestricted reserve balance to implement programs that are expected to be funded through on-going revenues as LCFF is phased in (expected in fiscal 2021).
The projected operating deficits over the next few years are largely driven by the district's growing financial commitments, including sizeable salary increases. The district recently agreed to a 12% salary increase for certificated staff over a two year period and 8% for classified. In addition, the deficits are a result of the district's somewhat aggressive implementation of LCFF/LCAP requirements, rising pension and other post-employment benefit (OPEB) contribution amounts, and other spending pressures. Management does have some financial flexibility through the ability to negotiate fewer teacher days and to cut optional community-oriented programs.
PENSION CONTRIBUTION INCREASES
In addition to salary increases, future budgetary pressure is expected to come from increasing pension contribution amounts that will be phased in over the next several years. The district participates in CalSTRS and CalPERS to provide defined pension benefits for teachers and classified employees, respectively.
The district is expected to pay increasing contribution amounts to both systems, but particularly CalSTRS where contribution amounts are projected to increase from $11.8 million in fiscal 2015 to $22.6 million in fiscal 2021. While increased costs are expected to be offset by projected increases in LCFF funding over the same timeframe, the rise in fixed costs will limit the district's discretion in utilizing the additional revenue.
SIGNIFICANT OPEB LIABILITY
The district successfully renegotiated its OPEB in fiscal 2010. Under the agreement, the district offers health insurance benefits that are capped according to several criteria, including employment start date and years of service.
The revised agreement reduced the district's unfunded actuarial accrued liability to approximately $353 million (July 1, 2014 valuation), down from $523 million at the end of fiscal 2007. Despite the reduction, the district's unfunded OPEB liability remains significant at 1.3% of fiscal 2016 AV and annual pay-go contributions (a sizable 5.5% of general fund spending in fiscal 2015) will continue to pressure the district's financial performance.