October 14, 2015 - 11:03 AM EDT
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Fitch Rates Northwest ISD, TX's ULTs 'AAA' TX PSF/'AA' Underlying; Outlook Stable

Fitch Ratings has assigned an 'AAA' rating to the following Northwest Independent School District, Texas (the district) unlimited tax (ULT) bonds:

--$88.2 million ULT bonds, series 2015B.

The bonds are scheduled for negotiated sale the week of Oct. 19. Proceeds will be used to refund a portion of the district's outstanding ULT debt for interest savings.

Fitch has also assigned an 'AA' underlying rating to the bonds and affirmed the 'AA' underlying rating on the following outstanding bonds (pre-refunding):

--$765.6 million in outstanding ULT bonds.

The Rating Outlook is Stable.

SECURITY

The bonds are payable from an unlimited property tax levy of the district, and also carry the Texas PSF bond guarantee (for more information on the Texas PSF see 'Fitch Affirms Texas PSF Rating at 'AAA'; Outlook Stable', dated Sept. 4, 2014).

KEY RATING DRIVERS

STRONG FINANCIAL PROFILE: General fund reserves and liquidity remain solid, maximizing the district's financial flexibility. Management's sound and proactive fiscal practices have historically enabled annual operating surpluses despite a trend of rapid enrollment growth.

GROWING, SOMEWHAT CONCENTRATED ECONOMY NEAR DALLAS-FORT WORTH: The district benefits from its proximity to the employment base of the Dallas-Fort Worth (DFW) metro area, as well as its location near the Barnett Shale natural gas field. Wealth and employment indices exceed state and national averages.

TAV RESTORED: Residential and commercial development returned taxable assessed valuation (TAV) to previous peak levels in fiscal 2015 and mitigated losses in the previous four years from low natural gas prices. The district's growth prospects are positive given the availability and affordability of land.

HIGH DEBT BURDEN: Capital needs from rapidly growing enrollment will continue to drive already high debt levels. The fixed cost burden is tempered in part by the district's overall financial flexibility, some remaining tax rate cushion below the statutory $0.50 tax rate ceiling for new debt, and limited pension and OBEB liabilities.

RATING SENSITIVITIES

DETERIORATION OF FINANCIAL CUSHION: The district is sensitive to a material deterioration of solid reserve levels that provide ample financial flexibility in a high growth environment. The Stable Outlook reflects Fitch's expectation that such decline is unlikely in the near term.

GROWING DEBT BURDEN: The district's rating is sensitive to a substantial increase in the already elevated debt levels. Capital plans are affordable given tax base and enrollment growth assumptions, but issuance beyond current expectations would put downward pressure on the rating.

CREDIT PROFILE

The district is located in the northwest part of the DFW metropolitan area and encompasses a large 232 square miles that include 16 rural communities in Denton, Tarrant, and Wise counties. Population and enrollment growth have been rapid since 2000 spurred by the availability of affordable land and location within the broad DFW metro. Median household income is well in excess of regional, state, and national averages, and the county unemployment rate has fallen to a low 3.6% as of July 2015 compared to the state (4.3%) and nation (5.6%).

The district typically adds between 1,000-1,500 new students per year, although that figure fell slightly to 833 (4.1% increase in enrollment) for the current fiscal year. Annual enrollment gains have remained in line with demographic studies that project steady increases in student enrollment, and the district has recently pared down projections slightly to 6% from 7% through fiscal 2018 in light of the modest slowdown. District enrollment totaled just fewer than 21,000 students in fiscal 2016.

FINANCIAL PROFILE A CREDIT POSITIVE

Financial performance has been strong historically, characterized by operating surpluses, solid reserves, and ample liquidity. Sound management has helped to navigate the operating pressures associated with rapid enrollment growth, changes in the state funding formula, and cuts to state funding.

Audited fiscal 2014 results were better than the budgeted $2.7 million deficit, ending the year with an $11 million operating surplus (roughly 8% of the year's spending). Management reports this excess was due to the budgeting of positions that remained vacant, and expects personnel costs to be more accurately budgeted going forward. Unrestricted general fund reserves at fiscal 2014 year-end rose to a high $71.6 million or 50% of spending, well above the district's informal target of 33%. General fund liquidity also remained solid at nearly $81 million, or about seven months of spending.

For fiscal 2015, unaudited results point to another year of surplus despite the $1.8 million budgeted net operating deficit after transfers, typical for the district. Management reports no actual variances from the balanced fiscal 2016 budget year-to-date.

UNCERTAINTY SURROUNDING STATE FUNDING

The district's current financial forecast projects annual operating gaps that grow to a substantial $23 million (13% of projected revenue) in fiscal 2018 due to the expiration of a state tax relief program. Approximately 30% of Texas school districts still received this type of tax relief funding in fiscal 2014. While the forecasted imbalance is material, the district has also built up very high reserves in preparation of this funding uncertainty. Given management's history of conservative budgeting practices and prudent financial management, Fitch believes the district will make necessary expenditure adjustments in order to preserve their strong financial posture in the long term.

STRONG RESIDENTIAL AND COMMERCIAL GROWTH

The district's tax base is somewhat concentrated in mineral values, but they comprised only 10% of fiscal 2015 TAV, down from a much higher 22% in fiscal 2011. Diversification in the tax base is a result of strong residential and commercial growth that mitigated losses in TAV caused by several years of low natural gas prices. Modest annual average TAV declines of just 2% over fiscals 2011-2014 were more than restored in fiscal 2015 with almost 9% growth. The district projects similar growth of 7.5% annually through fiscal 2019 and then moderating to 1% growth by fiscal 2025. Fitch views the near-term growth assumptions as optimistic but believes continued residential and commercial development will add to TAV in coming years.

Top 10 taxpayer concentration is down slightly but remains above average at 21% in fiscal 2015, led by Devon Energy Corp at a sizeable 7% (Fitch Issuer Default Rating 'BBB+'/Outlook Stable). Devon Energy has held the place of top taxpayer since 2002, and the Barnett Shale accounts for approximately a third of the firm's overall production from a geographic perspective. While TAV losses pose minimal operational risk given the current school funding formula, TAV declines could apply pressure to the district's already high debt profile and capital plans.

HIGH DEBT LEVELS

Debt levels are high at $12,332 per capita and 6.7% of market value. Principal amortization is slow with about 37% retired in 10 years. Inclusive of this refunding, annual debt service is projected to rise steadily from $52 million in fiscal 2016 to reach maximum annual debt service (MADS) at $64 million in 2028. The district's debt profile is primarily comprised of fixed-rate debt with some use of capital appreciation bonds and a low amount (2% of outstanding principal) of variable rate bonds. While the high debt burden is a credit concern, Fitch notes that the fixed cost burden is tempered in part by the district's overall financial flexibility, some remaining tax rate cushion below the statutory $0.50 tax rate ceiling for new debt, and limited pension and OBEB liabilities.

The district has $130 million in unissued but authorized debt from the 2012 referendum, and management reports it is undergoing a comprehensive internal review of capital needs and respective funding sources. Management has made a commitment to voters to maintain the debt service tax rate at the current $0.4125 throughout the issuance of the 2012 authorization, which was raised from $0.335 in fiscal 2014. Fitch will continue to monitor the district's ability to address capital pressures in relation to its tax base and budgetary flexibility as it implements its growth-related capital plan.

OTHER LONG-TERM LIABILITIES MANAGEABLE

The district's pension liability is limited to its participation in the state plan administered by the Teachers Retirement System of Texas (TRS), a cost-sharing multiple-employer plan. The district's annual contribution to TRS is determined by state law, as is the contribution for the state-run post-employment benefit healthcare plan. The district's cost for pension and other post-employment benefits (OPEB) represented less than 1% of governmental fund expenditures in fiscal 2014, as plan contribution amounts are principally paid by the state and district employees.

The state's payment of district pension costs is an important credit strength as it keeps overall carrying costs affordable in the face a growing debt burden. Carrying costs for the district (debt service, pension, and OPEB costs) consumed a manageable 15% of governmental fund spending in fiscal 2014, however rise to 21% of fiscal 2015 budgeted spending when it reaches MADs in 2028. Fitch will continue to monitor the level of state support for school district pension payments, noting pension contributions for all districts in the state increased to 1.5% on the statutory minimum portion of payroll from 0% beginning in fiscal 2015.

TEXAS SCHOOL FUNDING LITIGATION

For the second time in the past 18 months a Texas district judge ruled in August 2014 that the state's school finance system is unconstitutional. The ruling, which was in response to a consolidation of six lawsuits representing 75% of Texas school children, found the system inefficient, inequitable, and underfunded. The judge also ruled that local school property taxes are effectively a statewide property tax due to lack of local discretion and therefore are unconstitutional.

Following a similar ruling in February 2013, the judge granted a motion to reopen the lawsuit four months later after state legislative action that partially restored state funding levels and made other program changes. Fitch expects the state will appeal the latest ruling to the state supreme court. If the state school finance system is ultimately found unconstitutional, the legislature will be directed to make changes to the system to restore its constitutionality. Fitch would consider any changes that include additional funding for schools and more local discretion over tax rates to be a credit positive.

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

Fitch recently published an exposure draft of state and local government tax-supported criteria (Exposure Draft: U.S. Tax-Supported Rating Criteria, dated Sept. 10, 2015). The draft includes a number of proposed revisions to existing criteria. If applied in the proposed form, Fitch estimates the revised criteria would result in changes to fewer than 10% of existing tax-supported ratings. Fitch expects that final criteria will be approved and published by Jan. 20, 2016. Once approved, the criteria will be applied immediately to any new issue and surveillance rating review. Fitch anticipates the criteria to be applied to all ratings that fall under the criteria within a 12-month period from the final approval date.

In addition to the sources of information identified in Fitch's Tax-Supported Rating Criteria, this action was additionally informed by information from Creditscope, University Financial Associates, S&P/Case-Shiller Home Price Index, IHS Global Insight, National Association of Realtors, Underwriter, Bond Counsel, Underwriter Counsel, Trustee, US Federal Government (non-public information), and the Municipal Advisory Council of Texas.

Applicable Criteria

Exposure Draft: U.S. Tax-Supported Rating Criteria (pub. 10 Sep 2015)

https://www.fitchratings.com/creditdesk/reports/report_frame.cfm?rpt_id=869942

Tax-Supported Rating Criteria (pub. 14 Aug 2012)

https://www.fitchratings.com/creditdesk/reports/report_frame.cfm?rpt_id=686015

U.S. Local Government Tax-Supported Rating Criteria (pub. 14 Aug 2012)

https://www.fitchratings.com/creditdesk/reports/report_frame.cfm?rpt_id=685314

Additional Disclosures

Dodd-Frank Rating Information Disclosure Form

https://www.fitchratings.com/creditdesk/press_releases/content/ridf_frame.cfm?pr_id=992255

Solicitation Status

https://www.fitchratings.com/gws/en/disclosure/solicitation?pr_id=992255

Endorsement Policy

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

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Fitch Ratings
Primary Analyst
Leslie Ann Cook
Analyst
+1-512-215-3740
Fitch Ratings, Inc.
111 Congress Ave, Ste. 2010
Austin, Texas 78701
or
Secondary Analyst
Rebecca Meyer, CFA, CPA
Director
+1-512-215-3733
or
Committee Chairperson
Arlene Bohner
Senior Director
+1-212-908-0554
or
Media Relations:
Sandro Scenga, New York, +1 212-908-0278
Email: [email protected]


Source: Business Wire (October 14, 2015 - 11:03 AM EDT)

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