Fitch Downgrades Aspire Public Schools, CA's Revs to 'BB+'; Rating Watch Negative
Fitch Ratings has downgraded the rating on $93.3 million in California Statewide Communities Development Authority school facility revenue bonds series 2010 issued on behalf of Aspire Public Schools to 'BB+' from 'BBB'.
In addition, Fitch places the bonds on Rating Watch Negative.
The bonds are secured by rental payments made by Aspire Public Schools (Aspire, or APS) equal to debt service on the bonds; deeds of trust on five of the 10 financed facilities; and partial credit enhancement through a $17 million letter of credit, provided by PCSD Guaranty Pool I, LLC, the sole member of which is Pacific Charter School Development, Inc.
KEY RATING DRIVERS
LAWSUIT RISK WARRANTS DOWNGRADE: Five of the 10 Aspire schools financed with the bonds are the subject of a lawsuit in California state court. After reviewing court filings, Fitch believes the case poses a threat to the continued stable operation of these particular schools. Depending on the final outcome, Aspire might violate provisions of certain lease agreements, which could be events of default under the indenture for the bonds.
POOR DISCLOSURE: Fitch believes Aspire has not been fully transparent with Fitch regarding the possible implications of the ongoing lawsuit. In court filings, Aspire asserts serious ramifications for an adverse decision. Communication with Fitch regarding the lawsuit has been extremely limited, and not fully reflective of management's serious concerns as reflected in the lawsuit.
STRONG OPERATIONAL/FINANCIAL MANAGEMENT: Separate from the serious disclosure weakness, Fitch views Aspire's operational and financial management as strong. Academic performance across the network of Aspire schools remains impressive. In addition, Aspire has maintained positive operating performance despite reduced state funding.
STANDARD CHARTER RENEWAL RISK: Limited financial cushion, charter renewal risk, and reliance on per pupil revenues are credit concerns common in all charter school transactions. Philanthropic support helps limit Aspire's reliance on per pupil revenues relative to other charter schools.
WHAT COULD TRIGGER A RATING ACTION
ADVERSE LAWSUIT RESOLUTION: In a scenario described by Aspire's court filings, it would close five of the 10 schools financed with the bonds. These schools would then begin new charter applications that could take up to 30 months to process. APS also claims these schools could lose a substantial amount of annual funding. Such a scenario, or a similar one, could trigger further negative rating action.
ONGOING LAWSUIT THREATENS STATEWIDE BENEFIT CHARTER
In October 2007, the California School Boards Association, the California Teachers Association, the Association of California School Administrators, and Stockton Unified School District (collectively, the petitioners) filed a petition for a writ of mandate against the State Board of Education (SBE). The lawsuit challenged SBE's grant of a statewide benefit charter to Aspire. Five of the 10 schools financed with the bonds operate under this statewide benefit charter.
The lower court (Alameda County Superior Court) dismissed the case in May 2008. The petitioners appealed to the state's appellate court in July 2008 and the appellate court overturned the lower court decision in July 2010. The case was sent back to the lower court, which heard final arguments in December 2011.
NEGATIVE COURT DECISION POSSIBLE; REMEDIES UNCERTAIN
On March 15, 2012, the lower court issued a proposed statement of decision finding in favor of the petitioners. In the proposed statement the court wrote that it intended to direct SBE to 'set aside its approval of a statewide charter for Aspire.' The court requested briefs from all parties regarding the 'nature, scope, and timing of the relief to be ordered in this case.' Aspire's first and only public disclosure regarding the lawsuit came six days later via EMMA.
Fitch reviewed the proposed statement, as well as briefs and declarations filed since its issuance. Based on that review, Fitch believes there is a real possibility that Aspire may lose its statewide benefit charter, and have a limited amount of time to obtain new charters to keep the affected schools open. Loss of the charter, even for a short period, could impair Aspire's ability to continue operating the affected schools smoothly and to meet the terms of the bond documents.
According to declarations filed with the court by senior APS officials as part of the lawsuit, the ramifications of vacating the SBE's statewide benefit charter would be severe. They include 'closure of the current schools . . . loss of certain categorical funding [up to $1 million in the first year, and approximately $1,000 per certain K-3 students, or $300,000 annually] . . . possible breach of the covenants in the Aspire $93 million dollar bond issuance triggering accelerated payment of debt . . .'
LIMITED AND INSUFFICIENT DISCLOSURE
Under the bonds' continuing disclosure agreement, the lawsuit does not appear to qualify as a 'significant event.' However, given Aspire's significant concerns regarding the lawsuit, Fitch views the lack of communication until after the proposed statement of decision negatively. In addition, the March 21, 2012 disclosure statement made no reference to the serious risks, including possible default, cited by management in its declarations to the court.
The next hearing in the case is scheduled for June 8. Fitch will continue to monitor developments in the lawsuit and their potential ramifications for bondholders.
DAY-TO-DAY PERFORMANCE REMAINS STABLE
Aspire enrolled 11,996 students across 34 schools in fall 2011, making it one of the largest charter management organizations in the state and the nation. This represented a robust 21.4% rate of growth from the prior year, and included the opening of four new schools. Enrollment at the 10 schools financed with the bonds increased 19.1% to 3,784 in fall 2011. Both enrollment numbers exceeded Aspire's base case forecasts.
Demand for an Aspire education remains robust. Student retention for the financed schools was 86.6% in fall 2011, in line with historical trends. The waitlist for fall 2012 at the financed schools totaled a substantial 3,181 as of May 7. Consistently positive academic results are the key driver for student demand. Aspire's schools generally perform very favorably on state assessments when compared to other public schools, particularly those with similar demographics.
State funding, tied primarily to enrollment, remains the primary revenue stream. State funds provided 55.4% of fiscal 2011 operating revenues, in line with prior years. APS generated a solid 4.1% operating margin in fiscal 2011 across its entire network, despite persistent volatility in state funding. Fitch calculated a 10.5% margin for the financed schools. Support from grants and contributions have been an important offset to the uncertainty in state funding.
Interim results for fiscal 2012 indicate another strong year, due primarily to management's conservative budgeting. Through March 31, 2012 Aspire reported EBITDA of $13.6 million for its network and $6.1 million for the financed schools. This compares to $7.4 million and $7.1 million, respectively, at the same point last year. Management is prudently continuing its conservative budgeting for next year in light of the uncertain funding environment for California public schools.
STANDARD CHARTER SCHOOL RISK FACTORS
Aspire's available funds, cash and cash equivalents excluding state funds designated for future capital projects, totaled $2 million at the end of fiscal 2011. As percentage of operating expenses and outstanding debt, available funds equaled a very light 2.1% and 1.4%, respectively. While low, even for charter schools, Aspire's record of conservative and successful financial management partially mitigates this risk.
The financed schools operate under charters with five different authorizers - four local school districts and the SBE (under the statewide benefit charter). Charters for the financed schools expire between June 2013 and June 2017. Fitch communicated with three of the local authorizers who reported that the financed schools and Aspire were responsive to all regulatory requests. The local authorizers reported no outstanding issues threatening the charters.
Fitch was unable to contact the California Department of Education (CDE) to discuss the five SBE-authorized financed schools. Instead, Fitch reviewed materials from the SBE's January 2012 meeting. At that meeting the CDE recommended, and the SBE approved (by a vote of 6-1), renewal of APS' statewide benefit charter for a five-year term ending June 30, 2017. Fitch believes this reflects CDE and SBE's positive view of the five SBE-authorized financed schools and Aspire.
Fitch was also unable to contact the Sequoia Union High School District, which authorizes one of the financed schools. Fitch notes that this school's charter was renewed by the district last year for a standard five-year term.
LAWSUIT RISK AND POOR DISCLOSURE TRUMP CREDIT STRENGTHS
Fitch notes that Aspire's strong financial and operational management record are reflective of an investment-grade credit. Resolution of the lawsuit could take anywhere from several months to several years, dependent upon the extent and timing of possible appeals. If the final outcome does not negatively affect Aspire's operations, and management improves disclosure, the rating on the bonds could move back to investment-grade.
However, Fitch believes the real potential for significant operational disruptions, and the poor disclosure to-date, warrant the downgrade and Negative Watch.
Additional information is available at 'www.fitchratings.com'. The ratings above were solicited by, or on behalf of, the issuer, and therefore, Fitch has been compensated for the provision of the ratings.
In addition to the sources of information identified in the 'Revenue-Supported Rating Criteria' and 'Charter School Rating Criteria', this action was informed by information from the Alameda County Superior Court via its DomainWeb website.
Applicable Criteria and Related Research:
'Revenue-Supported Rating Criteria', June 20, 2011;
'Charter School Rating Criteria', August 10, 2011;
'Fitch Affirms Aspire Public Schools (CA) Facility Revs at 'BBB'; Outlook Stable', June 10, 2011.
Applicable Criteria and Related Research:
Revenue-Supported Rating Criteria
Charter School Rating Criteria
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