Nov 25 (The following statement was released by the rating agency)
Fitch Ratings assigns an 'AA' rating to the following Paradise Valley Unified School District No. 69 of Maricopa County, Arizona (the district) general obligation (GO) debt:
--$50 million school improvement bonds, project of 2011, series D (2014).
The bonds are scheduled for a negotiated sale the week of Dec. 2. Proceeds will be used for various campus improvements and to pay related costs of issuance. In addition, Fitch affirms its 'AA' rating on the district's approximately $258.8 million in outstanding GO debt.
The Rating Outlook is Stable.
The bonds are general obligations of the district payable from an unlimited ad valorem tax levied against all taxable property in the district.
KEY RATING DRIVERS
SOLID FINANCIAL POSITION MAINTAINED: The district's financial position remains sound, characterized by solid reserves and supported by management's projections of relatively balanced year-end financial performance. Modest improvement in state funding levels and recent renewal of existing operating property tax overrides supports Fitch's expectation of continued financial stability over the near term.
SOCIOECONOMIC INDICATORS ABOVE-AVERAGE: A large and stable enrollment base, above-average wealth characteristics, and the high educational attainment of residents underpin the district's strong demographic profile.
AREA'S SLOW PACE OF ECONOMIC RECOVERY: Rising home values, modest levels of new development, and growth in sales taxes generally realized by localities throughout the Phoenix metropolitan statistical area (MSA) since the recession point to a slowly strengthening economy. Fitch continues to view the long-term prospects of the Phoenix MSA favorably.
TAX BASE RECOVERY UNDERWAY: As a lagging market indicator, secondary assessed valuations (SAV) declines have moderated after a multiple-year slide in values as the regional economy has stabilized. The drop reversed previously rapid tax-base expansion. Taxpayer concentration is moderate.
DEBT PROFILE & OTHER LONG-TERM LIABILITIES FAVORABLE: Debt levels remain moderate despite significant loss in taxable valuation. Future capital needs are manageable even under fairly conservative, near-term tax base assumptions. The rapid pace of amortization largely drives the district's moderately high carrying costs.
SHIFT IN FUNDAMENTALS: The rating is sensitive to shifts in fundamental credit characteristics including material deterioration of the district's solid reserves and strong financial management practices. The district's history of maintaining solid reserves while addressing operating and capital needs indicates continued rating stability.
Located in the northeast portion of the Phoenix MSA, including a portion of Scottsdale (GO bonds rated 'AAA' by Fitch), this relatively mature district is one of the largest in enrollment in Arizona. Income/wealth metrics and educational attainment levels are well above average; median household income in the district exceeds that of the state and nation by at least 20%. Currently estimated at 31,500, average daily membership has remained fairly stable in recent years. Long-term prospects for additional enrollment growth exist in the more affluent, northern portion of the district. Roughly one-third of the district is currently state-owned land, which is yet to be developed but planned largely for residential use.
SLOW ECONOMIC RECOVERY EVIDENT
The Phoenix MSA continues its recovery from the severe effect of the recession and housing market collapse. Housing data reflects modest improvement in home values that have steadily recovered since the trough of the recession. Area cities have been reporting increased sales tax revenues for more than 12 months and employment totals are also showing some improvement. The unemployment rate has steadily trended downwards since its recent peak of 9.7% in 2010, although Fitch notes this is due in part to some loss of labor force. Unemployment on a year-over-year basis remained fairly stable at 7.4% in August 2013 and comparable to the U.S. (7.3%) but below that of the state (8.7%).
TAX BASE DECLINES SOFTEN
The district's tax base is largely residential and taxpayer concentration is moderate with the top 10 comprising 8.7% of SAV. Rising home values as well as ongoing residential and attendant retail/commercial expansion contributed to the very rapid run-up in assessed valuation through 2010, which peaked at $4.8 billion in SAV. The district experienced the first of several SAV declines in fiscal 2011, registering a 12% drop that was reflective of lagged market valuation declines two years prior. The pace of decline accelerated the next year, but has subsequently moderated over fiscal years 2013-2014.
For fiscal 2014, the SAV decline was comparable to management's previous projections at a moderate 6%, down to about $2.8 billion or a sizeable 42% loss in SAV from fiscal 2010. Initial estimates for fiscal 2015 SAV include a return to modest growth of no more than 5%, which Fitch believes is reasonable based on recent positive economic trends.
Proposition 117 was approved by Arizona voters in November 2012 as a constitutional amendment, which is expected to minimize some volatility in valuations by limiting annual increases in locally assessed existing property values to 5%, beginning in fiscal 2016 (2014 real property valuations). Fitch will continue to monitor the evolving impact of Proposition 117 as it reflects a significant change to the property assessment process.
STATE FUNDING IMPROVES IN LINE WITH ECONOMY
District funding is subject to the state's school funding equalization formula, which Fitch notes provides some revenue stability on a per pupil basis, but fairly modest local revenue-raising discretion and financial flexibility. The property tax revenue stream can be bolstered by temporary, voter-approved operating and capital property tax overrides that must be renewed every seven years to provide extra local funding.
Property taxes provide the largest portion of the district's operating revenues (just over 60% in fiscal 2012) while state funding contributes a lower 33%. Historically, the district has maintained all available overrides, which favorably continues to provide the district with added financial flexibility. The district recently renewed its existing operating overrides at full value, which generates about $21 million in additional property tax revenue.
The district's financial operations have been challenged in recent fiscal years by cuts to state aid and delays to education funding beginning in fiscal 2009 similar to other Arizona school districts, reflective of severe pressure on the state's revenues. In general, school district spending is largely controlled by the state through the annual expenditure budget, which is determined by formula and dictates the maximum amount of taxes districts can levy.
Nonetheless, district finances have largely regained their stable footing, assisted by spending cuts and the state's modestly positive general revenue trends that have slowly strengthened since the low point of the state's fiscal crisis. State funding remained stable at $58 million in fiscal 2012 and it was the first in the last four fiscal years without a state-mandated, mid-year budget cuts. Fitch believes that the slowly improving economic conditions bode well for further, modest state revenue gains and should result in a continuation of minimally stable levels of education funding.
The district's cash position has improved as well, reaching nearly $38 million or 2 1/2 months of general fund spending in fiscal 2012 after falling to a minimal $2.7 million in fiscal 2009. The general fund liquidity position was also bolstered by various fund balances (nearly $17 million) previously held outside of the general fund that were reclassified due to the implementation of GASB 54 beginning in fiscal 2011. The district typically issues tax anticipation notes at the start of its fiscal year to assist with its seasonal cash flow needs.
STABLE RESERVES PROJECTED AT FISCAL 2013 YEAR-END
Conservative budgeting and spending practices in addition to management's multi-year planning efforts have historically enabled the district to outperform preliminary financial projections. The district maintained $31.6 million in unrestricted general fund balance or a solid 17% of spending in fiscal 2012 after realizing a reduced but still sizeable drawdown of $10.7 million in support of the year's operations. Year-end projections for fiscal 2013 point to fairly level results with general fund balance totaling about $34 million on an unaudited basis.
FUTURE USE OF RESERVES PLANNED
The fiscal 2014 $193 million general operating budget is moderately structurally imbalanced and anticipates the use of about $7.8 million in reserves (about 4% of spending). The year's budget incorporates an additional $6.6 million in state funding based on inflationary factors as well as roughly $1 million in operational savings from closing two, low-enrollment elementary schools.
The district also expects to benefit from favorable state funding for district-sponsored charter schools as eleven elementary schools were converted to such beginning in fiscal 2014 given their existing comparability.
Year-to-date spending is reportedly at or below budget and management indicates surplus operations are likely despite the budgeted drawdown. Fitch believes this is reasonable given management's pattern of outperforming budget.
The district's multi-year general operating forecast over fiscal years 2015-2017 maintains modest structural imbalance, although Fitch notes the imbalance continues to narrow given management's attention towards reducing the gap through ongoing cost savings from expenditure reductions previously implemented and modestly improved state funding. The gap now totals $2.6 million in each of these three fiscal years. Although use of reserves is preliminarily projected as an offset, Fitch expects solid reserve levels will be maintained over the near-term given the prior financial performance of the district.
DEBT BURDEN & OTHER LONG-TERM LIABILITIES MODERATE
The district's debt position is sound. Debt ratios remain moderate despite multi-year SAV declines. Overall debt levels approximate $3,340 on a per capita basis and 3.8% of market value. Principal amortization is rapid with about 72% of tax-supported debt retired within 10 years.
Capital needs are manageable given currently stable enrollment trends. The district is also well placed to meet its capital needs given voter renewal of the district's annual capital override that generates about $6 million in property taxes in order to provide additional funding for critical 'soft capital' needs such as textbooks and technology.
This bond issuance is the fourth piece of a $203 million bond authorization approved by nearly 60% of the voters in November 2011. Management expects to exhaust the existing authorization in about a year with preliminary plans to seek a similarly-sized bond authorization in late 2015 or 2016. The district maintains sufficient bonding capacity over the near term given recently increased statutory limitations and despite near-term SAV growth assumptions that are constrained in part by future Proposition 117 SAV limitations.
The district's pension plan, as well as death, disability and health insurance benefits, is through the Arizona State Retirement System (a cost-sharing, multiple-employer plan) and its contributions equal 100% of the required amounts, which was $13.9 million in fiscal 2012 or about 4.3% of governmental spending. The actuarially funded position for ASRS as of June 30, 2012 was satisfactory at 75.7% using the state's 8% assumed rate of return. However, estimated funding of the state administered program falls to a below average 68% when a more conservative 7% investment return is assumed.
The district also offers post-employment healthcare benefits to retirees. Funding is done on a pay-go basis, although the district's annual contributions have trended upwards over the last three fiscal years. In fiscal 2012, the district's contribution totaled 94% of the annual OPEB cost.
The unfunded accrued actuarial liability at July 1, 2012 has declined to $17.5 million from $25.4 million a year ago due largely to freezing the district's reimbursement levels and increasing some employee contributions. A $4 million appropriation is included in the fiscal 2014 budget; this is expected to provide for both 100% of the annual required contribution and establishment of a trust in the near term. Carrying costs for the district (debt service, pension, OPEB costs) that are driven largely by the rapid pace of amortization totaled a manageable 20.5% of fiscal 2012 governmental spending and are expected to remain so even with probable pension actuarial required contribution increases.
TAX PROTEST YET TO BE SETTLED
A pending lawsuit between two top taxpayers in the district and the county assessor could result in a large liability to the district. The taxpayers (resort properties) represent about 2% of the district's tax base and, if resolved in favor of the lower assessment ratio currently under litigation, the district could be required to repay an estimated $27 million of back taxes, representing the disputed taxes for the period from fiscal year 2003 to the present.
The potential liability is large, but Fitch believes it is manageable given the state's obligation to pay the district roughly half the amount and the district's ability to refinance the obligation as unlimited ad valorem judgment bonds if necessary without affecting the district's debt capacity. An earlier summary judgment by the Tax Court had been in favor of the county's higher assessment ratio, but was later vacated by the state supreme court, which remanded the initial case back to the Arizona Tax Court for further proceedings consistent with its opinion.