Fitch Affirms Edna ISD, TXs ULT Bonds at AA-; Outlook Stable

Fitch Ratings takes the following rating action on Edna Independent School District, Texas’ (the district) unlimited tax (ULT) bonds:

–$21.7 million of ULT bonds affirmed at ‘AA-‘.

The Rating Outlook is Stable.

SECURITY

The bonds are direct obligations of the district, secured by an unlimited tax pledge levied against all taxable property within its boundaries.

KEY RATING DRIVERS

VERY HIGH RESERVES: Unrestricted fund balance is expected to remain at 60% of spending or higher through fiscal 2013, even after cash-funding major capital improvements. State budget cuts have been successfully-managed.

OIL & GAS CONCENTRATION: Local economic activity centers on oil and gas exploration and agriculture. The district’s proximity to the broader economy of the city of Victoria coupled with the addition of two new gas processing plants somewhat mitigates concerns over the narrow economic base.

MIXED SOCIOECONOMIC INDICATORS: Per capita income levels are below average, while market value per capita is high due to highly-valued farmland. The unemployment rate is low and the area continues to add jobs.

AFFORDABLE DEBT BURDEN: Key debt ratios are considered moderate by Fitch and the annual carrying cost is affordable. The district has no future borrowing plans and remaining capital needs will be funded with resources on-hand.

CREDIT PROFILE

Edna ISD sits approximately 90 miles southwest of Houston (general obligation (GO) bonds rated ‘AA’; Stable outlook) and 25 miles northeast of Victoria (GO bonds rated ‘AA’; Stable Outlook) in Jackson County. The primary population center of this rural district is the city of Edna (2010 population of 5,500) and the district serves approximately 1,400 students.

ECONOMY BASED IN OIL & GAS ACTIVITY AND AGRICULTURE

This small district has a limited economy based predominantly in agriculture (rice, soybeans, and corn) and oil and gas interests. The district’s proximity to the Eagleford Shale, one of the largest shale plays in the U.S., has spurred recent employment and enrollment gains within the district, though the district’s own mineral values have declined markedly due to lower well productivity and weak natural gas prices from increased drilling activity and supply.

Mineral values have fallen to 8% of the district’s fiscal 2012 taxable assessed value (TAV) from 27% in fiscal 2007. The district’s $372.1 million fiscal 2013 tax roll has contracted by a cumulative 15.7% from its peak valuation in fiscal 2009, with gains in residential and land values offsetting some of the mineral declines. Fitch notes importantly that budget exposure to TAV volatility is mitigated by the state’s target revenue funding system that subsidizes declines in local revenue with additional state aid.

A positive consequence of the declining mineral values has been moderation in top taxpayer concentration; the top 10 payers now comprise a moderate 11% of TAV, down from very high 32% in fiscal 2007. Industry concentration persists, with seven of the top 10 payers oil and gas companies.

The addition of two new gas processing plants (DCP and Boardwalk) is expected to add significantly to the district’s fiscal 2014 tax roll. Portions of the plants’ values will be abated for general fund taxing purposes over a 10-year period while the full values will be taxable for debt service, as allowed under state-authorized economic incentive agreements.

EMPLOYMENT & ENROLLMENT GAINS ASSOCIATED WITH OIL/GAS ACTIVITY

Area employment indicators, available at the county level, are positive. Employment in Jackson County grew 4.5% from 2009 to 2011 and 2.8% during the 12-month period ending October 2012. The corresponding unemployment rate declined to a relatively low 4.9% from 6.4% year-over-year. Income levels are below average but the district’s market value per capita is a high $105,000.

Enrollment has recently and unexpectedly increased, up 2% in fiscal 2012 and 8% in fiscal 2013. Management notes the increase is in large part due to increases in the oil and gas labor force, which suggests that some of the enrollment upswing may be temporary given the finite life of the wells and drilling activity. Management expects additional but less significant enrollment gains in the near term. Fitch views management’s conservative budgeting of enrollment-driven state aid as key to maintaining budgetary balance and long-term credit quality.

HISTORY OF FAVORABLE OPERATING RESULTS & ROBUST RESERVES

A $2 million operating surplus after transfers in fiscal 2011 marks the fourth of the last five fiscal years with positive operating results. The unrestricted general fund balance improved to $10.7 million or a very robust 102% of spending, although $4 million remains committed for construction costs currently underway.

Fitch notes that the district has preserved its solid operating reserves despite annual pay-as-you-go capital outlays from the general fund to subsidize bond program costs; capital outlays have totaled $8.8 million since fiscal 2007.

SUCCESSFUL NAVIGATION OF STATE AID CUTS IN 2012

State budget cuts moderately reduced the district’s operating revenues in the 2012-2013 fiscal biennium but were offset by savings from an early resignation incentive program, cuts to campus and other discretionary budgets, and $260,000 of one-time federal aid. Close-monitoring of the budget and increased attendance-based state aid yielded a $1.2 million estimated increase to fund balance in fiscal 2012 (unaudited; Aug. 31 fiscal year).

MAINTENANCE OF HIGH RESERVES CRITICAL TO RATING STABILITY

The current-year fiscal 2013 $16 million general fund budget includes a $4 million appropriation of committed fund balance to subsidize construction costs of a new high school. Officials also plan to use an additional $580,000 to add classrooms to the elementary campus to accommodate enrollment gains. Net of these one-time appropriations, the recurring expenditure budget is up only 1.5% from the 2012 adopted budget to include raises for staff and some new personnel.

Operating reserves would decline to an estimated $7.3 million after the planned capital outlays, equal to approximately 61% of budgeted 2013 recurring expenditures and comfortably above the district’s formal fund balance floor of three months (25%) of operating expenditures. District reserves have been maintained well above the policy level for some time, and Fitch views this as a critical offset to concerns over the modest, volatile resource base and heightened enrollment volatility.

MANAGEABLE DEBT BURDEN

The district’s debt burden is moderate with net direct and overlapping debt equal to $2,671 per capita and 2.5% of market value. The annual carrying cost is affordable at 9% of budgeted fiscal 2013 general fund and debt service expenditures. Fitch considers the rate of debt retirement to be just below average at 44% retired in 10 years.

The district does not have any remaining debt authorization and has no current plans to seek authorization. Remaining capital needs are manageable and consist of parking lot and roof repairs, likely to be funded with available general fund resources in the near term.

PENSION & OPEB LIABILITIES NOT A CREDIT PRESSURE

The district fully-funds it’s statutorily required contributions for pension and other post-employment benefits (OPEB), both of which are provided through the Teacher Retirement System of Texas (TRS), a cost-sharing multiple employer plan. TRS remains well funded at 74.5% utilizing Fitch’s more conservative 7% investment rate of return assumption.

Audited pension and OPEB contributions in fiscal 2011 totaled $150,000 or a modest 1.4% of general fund spending. This nominal annual required pension and OPEB contribution is a result of the state’s significant contributions made on-behalf of districts.

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, LoanPerformance, Inc., and IHS Global Insight.

Applicable Criteria and Related Research:

–‘Tax-Supported Rating Criteria’, dated Aug. 14, 2012;

–‘U.S. Local Government Tax-Supported Rating Criteria’, dated Aug. 14, 2012.

Applicable Criteria and Related Research:

Tax-Supported Rating Criteria

U.S. Local Government Tax-Supported Rating Criteria