June 21, 2016 - 3:51 PM EDT
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Fitch Affirms Crystal City ISD, TX's IDR at 'A'; Outlook to Negative

Fitch Ratings has affirmed the following underlying ratings of Crystal City Independent School District, Texas at 'A':

--$50.6 million in outstanding unlimited tax bonds;

--Issuer Default Rating (IDR).

The Rating Outlook is revised to Negative from Stable.

SECURITY

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

KEY RATING DRIVERS

The district's reserves provide solid financial flexibility in spite of limited revenue raising ability and oil and gas price variability. Spending is pressured by a heightened mandate to meet state accountability standards. Fitch expects the district's conservative financial management practices to maintain operational balance through a typical economic downturn, as well as a temporary reduction in revenues related to a projected decline in mineral property values. The rating reflects the inherent volatility of oil and gas prices and Fitch's uncertainty regarding the viability of oil reserve levels over time; a material decline in the tax base will likely pressure both the district's tax rate and reserve levels. Given the current low oil price environment and significantly slowed drilling activity in the district, TAV is expected to contract over the near term.

The Negative Outlook reflects the risk of a steep, sustained tax base decline that would significantly pressure financial operations and expenditure framework. The Outlook also reflects operational risk related to the district's probationary accreditation status and the potential for loss of accreditation.

Economic Resource Base

The district serves a large and sparsely populated area in Zavala County, which is 100 miles southwest of San Antonio, and includes the commercial center and county seat of Crystal City. District enrollment has been fairly flat at around 1,800 students and is expected to remain so. The tax base was historically primarily composed of farming and ranching land.

The district experienced significantly increased oil exploration from 2011-2015 due to drilling activity in the Eagle Ford Shale formation. This activity did not generate notable population growth. TAV registered remarkable average annual growth of 21% for the 10 years through fiscal 2016, driven largely by increased oil and gas mineral values. Tax base concentration is very high, with the top 10 taxpayers representing over 60% of fiscal 2016 TAV. The top payers are led by oil production company EXCO Operating (43% of total TAV), and include mostly oil and gas companies. Valuation losses among top taxpayers will shift a portion of the debt service burden to residential properties.

Revenue Framework: 'a' factor assessment

Fitch expects solid revenue growth over the medium to longer term based on the flat enrollment trend. The district's independent ability to raise operating revenues is severely limited by state law.

Expenditure Framework: 'a' factor assessment

Fitch expects that expenditure growth is likely to continue outpacing revenue growth given accreditation pressure from the state to improve accountability metrics. Carrying costs for debt and pensions are low, and the district has strong control over workforce spending.

Long-Term Liability Burden: 'a' factor assessment

The long-term liability burden is elevated but moderate in relation to personal income. The burden is primarily in the form of direct debt. Fitch expects that this metric will likely remain in this range during the medium term given the slow pace of amortization and limited capital needs.

Operating Performance: 'aaa' factor assessment

Solid operating reserves provide a notable degree of gap-closing capacity throughout the average economic cycle. The district historically budgets conservatively, maintaining a fiscal cushion while addressing capital needs.

RATING SENSITIVITIES

Ability to Absorb Tax Base Declines: The combination of state support and solid reserves should enable the district to withstand operational pressures from energy-related TAV swings. Fitch expects that management will continue its strong financial management practices to endure temporary revenue swings. However, severe TAV declines will result in a higher debt service tax rate, limiting future borrowing capacity. Rapid and sustained TAV declines that result in erosion of the district's financial reserves would pressure the rating.

Instructional Deficiencies: The district is implementing a three-year plan to address instructional deficiencies identified by the state. Failure by the district to make required changes within this timeframe and avoid revocation of its accreditation would cease operational funding from the state and would result in a rating downgrade.

CREDIT PROFILE

District wealth levels are low in relation to state and U.S. averages. The county's unemployment and poverty rates are high, driven primarily by the large presence of migrant workers.

Revenue Framework

State sources comprise about one-half of operating revenues, followed by property taxes at 40%. Revenue growth is primarily a function of enrollment as the state seeks to ensure a certain level of per pupil spending for all state school districts and the district's revenue raising ability is limited. Enrollment has been relatively flat in recent years, though the revenue mix has shifted more heavily to local property taxes in response to rapid TAV growth.

The district's general fund revenues grew at a compound annual rate of 3.2% over the 10 years through fiscal 2014, marginally slower than U.S. GDP but faster than CPI. A projected TAV decline of 28% for fiscal 2017 (which was roughly the amount of tax base growth for fiscal 2016) will reduce revenues temporarily, but Fitch expects long-term revenue growth to continue above inflation based on the state's current funding formula, which would increase aid to meet target revenue per student in response to decreased local taxes in a flat enrollment environment.

The district's operating tax rate is at the legal limit of $1.17 per $100 of TAV. In 2006, voters approved an increase to the maximum allowed rate from the previous cap of $1.04.

The district's debt service tax rate increased in fiscal 2015 to $0.36 per $100 of TAV from $0.17 due to a 2015 bond issuance. Severe declines in TAV would pressure the rate closer to the state's statutory new issuance cap of $0.50, limiting the district's capacity for future borrowing. However, the debt service tax rate is unlimited.

Expenditure Framework

The district's spending profile is led by instruction at nearly one-half of general fund expenditures, and the district occasionally funds capital maintenance items from the general fund. In February 2016 the Texas Education Agency (TEA) assigned to the district a probationary accreditation status following three years at the status of 'Improvement Required'. The district will implement new instructional initiatives over the next two years under the guidance of a state-appointed monitor in order to address deficiencies identified by TEA.

Fitch expects the district's natural spending pace will likely trend above revenues in the near to medium term, given the state mandate to improve educational performance. Management projects a budget impact of up to $600,000 (3% of fiscal 2015 expenditures) for these initiatives.

The district will likely be required to maintain certain expenditures in order to keep its TEA accreditation. However, labor costs are not subject to collective bargaining and individual employment contracts are short. Carrying costs for debt service and postemployment benefits are affordable at 9% of governmental fund spending in fiscal 2015, providing a degree of expenditure flexibility. These costs are further reduced to 7% after factoring in state support for debt service, but management anticipates no debt service support in fiscal 2017 due to the high fiscal 2016 TAV used in state aid calculations.

Long-Term Liability Burden

Long-term liabilities are elevated at 33% of personal income, but still within the moderate range. The 2015 bond issuance met essentially all of the district's major capital needs, and the district has no plans for additional borrowing.

The district participates in the Teacher Retirement System of Texas (TRS), a cost-sharing multiple employer pension system. Under GASB 67 and 68, TRS's assets cover a reported 83% of liabilities as of fiscal 2015, a ratio that falls to 75% using a more conservative 7% return assumption. Contributions are determined by state statute, rather than actuarially, and historically have fallen short of the actuarial level. Recent reforms have lowered benefits and increased statutory contributions to improve plan sustainability over time.

The proportionate share of the system's net pension liability paid by the district is modest, representing less than 2% of personal income. The district's contributions are currently limited to 1.5% of salaries and the pension costs for salaries above the statutory maximum (total contribution of $187,000 in fiscal 2015).

Operating Performance

The district has grown its financial cushion to a high level despite flat enrollment and state funding cuts, and has solid expenditure flexibility to manage well through economic downturns. The unrestricted general fund balance grew to $9.9 million during fiscal 2015, or 43% of spending. Management projects a modest surplus in fiscal 2016, marking the seventh consecutive year of additions to fund balance. Preliminary budget estimates for fiscal 2017 point to a general fund deficit of about $5 million based on projected tax base decline, which would still maintain reserves above the safety margin that Fitch would look for under the moderate economic downturn stress evaluated using the Fitch Analytical Sensitivity Tool (FAST).

The district has demonstrated a commitment to supporting financial flexibility by building reserves during the most recent economic recovery. This includes an increase to the operating tax rate for fiscal 2016 in anticipation of a tax base decline the following year. Management's willingness to continue its conservative budget practices and make necessary spending adjustments in light of anticipated TAV declines will be integral to long-term credit quality.

Additional information is available at 'www.fitchratings.com'.

In addition to the sources of information identified in Fitch's applicable criteria specified below, this action was informed by information from Lumesis, InvestorTools, and the Municipal Advisory Council of Texas.

Applicable Criteria

U.S. Tax-Supported Rating Criteria (pub. 18 Apr 2016)

https://www.fitchratings.com/creditdesk/reports/report_frame.cfm?rpt_id=879478

Additional Disclosures

Dodd-Frank Rating Information Disclosure Form

https://www.fitchratings.com/creditdesk/press_releases/content/ridf_frame.cfm?pr_id=1007815

Solicitation Status

https://www.fitchratings.com/gws/en/disclosure/solicitation?pr_id=1007815

Endorsement Policy

https://www.fitchratings.com/jsp/creditdesk/PolicyRegulation.faces?context=2&detail=31

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Fitch Ratings
Primary Analyst
Shane Sellstrom
Associate Director
+1-512-215-3727
Fitch Ratings, Inc.
111 Congress Avenue
Austin, TX 78701
or
Secondary Analyst
Jose Acosta
Senior Director
+1-512-215-3726
or
Committee Chairperson
Laura Porter
Managing Director
+1-212-908-0575
or
Media Relations:
Elizabeth Fogerty, New York, +1 212-908-0526
Email: [email protected]


Source: Business Wire (June 21, 2016 - 3:51 PM EDT)

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