Fitch Ratings has affirmed the 'AA-' rating of Temecula Valley Unified School District, California's (the district) bonds as follows:
--$35.8 million general obligation bonds, 2012 election, series 2013-A.
The Rating Outlook is Stable.
SECURITY
The bonds are payable from an unlimited property tax on all taxable property within the district.
KEY RATING DRIVERS
ADEQUATE FINANCIAL PROFILE: The district's financial position is benefitting from improved funding and liquidity levels as the state is in the process of paying off its remaining school funding deferrals, and Prop 98 funding levels have increased significantly. However, these benefits have largely been offset by growing expenditure pressures and reserve levels that have declined substantially.
ABOVE-AVERAGE ECONOMY: The district's local economy, located mainly in the city of Temecula, benefits from high wealth levels, unemployment materially below regional and state levels, and ready access to three large and diverse employment markets. However, the city experienced rapid growth during the housing boom and its tax base was significantly impacted by the recession.
ADEQUATE DEBT PROFILE: The district's debt burden is moderate, its other-post employment benefit (OPEB) liability is minimal, tax rate assumptions are reasonable, and carrying costs are low. However, the district is exposed to the poorly funded CalSTRS pension system with substantial scheduled rate increases through fiscal 2021, debt amortization could weaken with future planned issuances, and its capital plan is quite large, though flexible as to timing.
SATISFACTORY MANAGEMENT PRACTICES: The management team is quite tenured and has exhibited a willingness and ability to cut expenditures as necessary to maintain an adequate financial cushion. However, there is no formalized minimum fund balance policy and the board's financial intentions are unclear due to recent turnover.
RATING SENSITIVITIES
CONTINUED FUND BALANCE DRAWDOWNS: An inability or unwillingness to balance financial operations, leading to further material unrestricted fund balance declines could result in negative rating pressure.
CREDIT PROFILE
The district serves a population of 145,000 in the city of Temecula (the city), surrounding cities, and unincorporated communities in southwestern Riverside County. The city experienced rapid population growth prior to the recession, fueled by its affordability and ready access to the large and diverse employment markets of Los Angeles, Orange County, and San Diego. The city also has a significant tourism draw due to its wineries and a large casino.
DECLINING FUND BALANCES DESPITE FUNDING, LIQUIDITY IMPROVEMENT
The district's financial operations have produced deficits in each of the past three audited years, and management expects another year of imbalanced operations in fiscal 2015. General fund operations in fiscal 2014 produced a modest $84,000 deficit (after a one-time transfer in from a closed-out deferred maintenance fund), lowering the total and unrestricted general fund balances to somewhat low levels of $22.5 million (10.2% of expenditures and transfers out) and $16.4 million (7.4%), respectively.
Although revenues in fiscal 2015 increased for a second consecutive year since hitting trough levels in fiscal 2013, spending has increased by a similar magnitude. Recent spending growth is somewhat mitigated by enhanced service levels with related improvements to expenditure flexibility. Also, the state's payoff of most funding deferrals has materially improved the district's liquidity levels, substantially reducing external cash flow borrowing.
The district's first interim report forecasts a $4.8 million operating deficit in the current fiscal year, however much of the deficit reflects spend-down of restricted balances and expenditures are reported to be conservatively estimated. Management anticipates the actual deficit for the year at $1.5 million to $2 million.
Fitch is concerned by the district's fourth consecutive year of deficit spending and its dwindling general fund balance. The district faces substantial expenditure pressures, including scheduled pension rate hikes, service level restorations, and pent-up wage pressures. It remains to be seen whether the largely newly-constituted school board is willing to ratchet down expenditure growth to maintain reserves at or near current levels. Potential negative rating pressure exists should further deficits cause the unrestricted general fund balance to drop materially from current levels, pressuring the district's operating flexibility.
STRONG LOCAL ECONOMY DESPITE MAJOR HOUSING MARKET FLUCTUATIONS
Median household income levels are high at 143% and 154% of state and national levels, respectively. September 2014 unemployment fell to 5.8% from 7% the year prior. This compares favorably to the county and state unemployment rates and is roughly in line with the nation.
The city's real estate market was severely affected by the recession, with Zillow home values falling by nearly half between 2005 - 2009. Assessed valuations (AV) fell less dramatically, with declines of 13% and 1.4% in fiscal years 2010 and 2011, respectively. Home values have since recovered somewhat and AV has increased annually from fiscal years 2012 -2015. The AV gain in fiscal 2015 was pronounced at 9.2%, though AV has not yet recovered to pre-recessionary levels. Property taxpayer concentration levels are low.
ADEQUATE DEBT PROFILE, LARGE CAPITAL PLAN
The district's overall debt profile is adequate. Its debt burden is moderate at $3,040 per capita (2.6% of AV), and likely to remain so even after it exhausts its large $165 million GO authorization. Debt amortizes slowly, with 27% and 37% of principal retiring over five and 10 years, respectively (conservatively assuming final accreted interest is treated as principal). Amortization is modestly and negatively impacted by the district's partial use of capital appreciation bonds and convertible capital appreciation bonds.
The district's capital improvement master plan is very large at $325 million and includes new schools, renovations to existing schools, and other projects. The district plans to fund these improvements with GO issuances, community facility district financings, and state and federal funding. The plan is characterized as quite flexible and can move forward on the basis of funding availability.
SUBSTANTIAL SCHEDULED CALSTRS RATE HIKES
Carrying costs (debt, OPEB, and pension costs as a percentage of non-capital total governmental spending) are low at 9.8%, but may rise significantly due to CalSTRS pension contribution rate hikes and debt issuances in future years. The district participates in the poorly funded CalSTRS pension system, as do all districts in the state. As part of its fiscal 2015 budget, the state initiated a seven-year program of pension contribution rate hikes that is structured to fully fund the system's unfunded liability over a 32 year period. The rate hike, if enacted as currently scheduled, would substantially increase the district's contribution rates to 19.1% of wages from 8.25% in fiscal 2014.
The district's other post-employment benefits (OPEB) liability is minimal, as the plan is open to a very small group of managers.
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, and 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=978626
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