Fitch Rates Alvin ISD, TX Series 2014A&B ULT Bonds 'AAA' PSF; 'AA' Und.; Outlook Stable

Fitch Ratings assigns an 'AAA' rating to the following Alvin Independent School District, TX (the district) bonds:

--$68.7 million unlimited tax (ULT) schoolhouse bonds, series 2014A;

--$102.7 million variable rate ULT schoolhouse bonds, series 2014B.

The 'AAA' rating is based on the guarantee provided by the Texas Permanent School Fund (PSF), whose bond guaranty program is rated 'AAA' by Fitch.

Fitch also assigns an 'AA' underlying rating to the series 2014A and 2014B bonds and affirms the 'AA' underlying rating on the district's approximately $305 million outstanding parity bonds.

The series 2014B bonds are scheduled to sell Jan. 8 via negotiated sale, with the sale of the series 2014A bonds approximately two weeks later. Proceeds will be used to construct and renovate various school facilities and to pay related costs of issuance.

The Rating Outlook is Stable.

SECURITY

The bonds are payable and secured by an unlimited property tax levied against all taxable property within the district. The bonds are also insured as to principal and interest repayment from a guaranty provided by the PSF.

KEY RATING DRIVERS

STRONG FINANCIAL POSITION: The district's strong financial profile is characterized by conservative budgeting and consistently large financial reserves despite periodic pay-go capital spending and operating pressures associated with rapid enrolment growth trends.

ELEVATED DEBT BURDEN: Overall debt ratios are very high, especially relative to the district's market value. Fitch believes ratios will remain elevated given expectations of growth-related capital needs that will necessitate future borrowings. The maximum debt service tax rate anticipated in support of the district's authorized bonds preserves some tax rate cushion below the state's test for new issuance. Carrying costs are low and are expected to remain manageable despite an ascending debt service schedule

STRONG REGIONAL ECONOMY: The district benefits from its close proximity and improved transportation corridors to the Houston metropolitan statistical area (MSA). Residents have easy access to a large employment market that continues to outperform the nation in terms of population, employment, and income growth.

CONTINUED TAX BASE EXPANSION: Some of Fitch's concerns about the district's increasing debt load are mitigated by a trend of strengthened annual taxable assessed value (TAV) growth since fiscal 2012 from a broadening tax base. A mix of residential, attendant retail and commercial development, and the district's own growing energy sector have contributed to TAV growth recently, outpacing enrollment gains. Taxpayer concentration is moderate.

RAPID ENROLLMENT GROWTH ONGOING: Fitch believes that ample developable land and affordable home prices will aid ongoing enrollment growth, demonstrating the need for continued strong financial and debt management practices.

RATING SENSITIVITIES:

ANTICIPATED CAPITAL PRESSURE CAPS RATING: Fitch does not expect any positive rating action over at least the near- to intermediate-term given the rating is sensitive to the district's already very high overall debt levels. The maintenance of budgetary balance and solid reserve levels is necessary to mitigate credit concerns over the above-average debt, very slow amortization, and some taxpayer concentration.

CREDIT PROFILE

PROXIMITY TO HOUSTON SUPPORTS LONG-TERM GROWTH PROSPECTS

The district is located 25 miles southeast of Houston in the northern portion of Brazoria County (GO bonds rated 'AA+' by Fitch) and within proximity to the expansive Houston medical center.

RAPIDLY GROWING POPULATION, ENROLLMENT BASE

Aided by its easy access to Houston's employment base, ample developable land, and affordable home prices, the district's population is currently estimated at about 109,200. Rapid, 5% annual average growth since 2000 exceeds population gains made by the county and Houston MSA for the same time period. Nonetheless, only about one-third of the district is currently built-out. Wealth/income and educational attainment metrics in the district are generally comparable to those of the MSA, state & U.S. Annual enrollment growth over the last five fiscal years (fiscals 2009-2014) has averaged a fairly rapid 4.5%. District enrollment currently totals 19,850 and management anticipates full build-out to occur over the next 25-30 years or at roughly 57,000-60,000 students.

ENERGY SECTOR AND CHEMICALS DOMINATE COUNTY'S ECONOMY

As a complement to the strong metro economy, activity in the county centers on chemical manufacturing and petroleum processing with the presence of several other industries including fishing, tourism, government, and agriculture. The county benefits from the Port of Freeport, the 16th largest port in the U.S. in terms of foreign tonnage, which provides critical transportation access for the region's industries. Dow Chemical Co. is the largest employer in the county, with 4,300 employees. While the economy is dominated by the chemical and energy sector, the essentiality of these industries and the ongoing diversification of the regional economy somewhat offsets concerns regarding economic concentration. Year-over-year unemployment levels reflect a modest uptick to 6.3% in October 2013 from 6.1% in October 2012 due to slightly stronger labor force growth than employment growth during that time period. Nonetheless, the county's unemployment rate remained generally in line with the MSA (5.9%) and state (6.0%), and below the nation (7.0%).

STRONG FINANCES MAINTAINED DESPITE ENROLLMENT PRESSURES

The district's historically strong financial performance is notable for the consistent general fund balance gains realized in a high enrollment growth environment and despite the state funding cuts realized over the last biennium (fiscals 2012-2013). The district posted general fund operating surpluses in four of the last five fiscal years. Management's conservative budgeting of enrollment growth and adherence to established financial policies have enabled such results.

The district recorded a large net surplus of $16.6 million (equal to 12.5% of spending) at year-end fiscal 2012, well above the $5.5 million previously projected. This was largely attributable to better than budgeted expenditure savings from prior cuts made in addressing state funding cuts and the increased state aid received as true-up from the prior year's conservative enrollment assumptions. General fund liquidity rose in fiscal 2012 to $74.4 million in cash and investments or slightly over 6.5 months of spending from $61.6 million recorded in fiscal 2011. Unrestricted general fund balance increased to a high $71.7 million or 54% of spending in fiscal 2012, well above the district's formal fund balance policy to maintain reserves between 17% and 25% of spending. Fitch believes that the district's policy of committing reserves above 25% of spending for pay-go capital funding is a credit positive and recognizes that reserves may be maintained at a level closer to the policy maximum over the long term.

FISCAL 2013 RESULTS INCORPORATE 10-MONTH AUDIT & SIGNIFICANT PAY-GO CAPITAL SPENDING

An expected change to the district's fiscal year end to June 30 from August 31 was implemented by management in fiscal 2013, resulting in a 10-month audit. In general, the shorter timeframe typically reflects a slightly more favorable financial position given the incomplete picture of a full year's revenues and expenditures. The fiscal 2013 audit recorded a roughly $13 million operating surplus that was used as pay-go capital spending and transferred out to the capital projects fund largely in support of various bond projects. Unrestricted general fund reserves held steady at about $71.5 million at fiscal 2013 year-end.

ADDITIONAL PAY-GO CAPITAL SPENDING EXPECTED TO RESULT IN MODEST DRAWDOWN IN FISCAL 2014

For fiscal 2014, the $164 million operating budget was adopted as structurally balanced. Increased state aid from improved per pupil funding levels in the current biennium (fiscals 2014-2015) provided the bulk of support for the roughly $20 million increase or about 14% in year-over-year spending largely for additional teachers and staff as well as a 3% cost of living adjustment. Management currently expects to use a portion of its reserves as planned in the 2013 capital program for some of the district's more modest capital needs. District officials expect the planned drawdown to be a reduced $5.6 million or about 8% of the prior year's unrestricted reserves given projections of $7.3 million or roughly 4.5% of budgeted spending in cost savings year-to-date.

The district prepares multi-year budget forecasts, which Fitch views as favorably unusual and proactive for a Texas school district. The district's current financial forecast projects modest annual drawdowns of reserves for capital projects (no more than 6% of budgeted spending) over the near term (fiscals 2015-2017) under what Fitch believes may be feasible but somewhat optimistic annual TAV growth assumptions of 6%-10%. These assumptions factor in the various residential, retail and commercial projects reportedly underway or planned, and a large CO2 recovery plant yet to hit the tax rolls. Operating performance is assumed to tighten in fiscal 2017 given the opening of several new campuses, although these preliminary projections still anticipate a solid fund balance position of $58.5 million or 29.5% of operational spending.

TEXAS SCHOOL DISTRICT LITIGATION

In February 2013, a district judge ruled 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 unsuitable and arbitrarily funds districts at different levels...' The judge also cited inadequate funding as a constitutional flaw in the current system.

The judge reopened the lawsuit in June 2013 after state legislative action that partially restored state funding levels and made other program changes. A new trial date of Jan. 6, 2014 has been set. 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 a positive credit consideration.

TAX BASE GROWTH STRENGTHENS

The district's tax base is predominately residential. A growing population base largely in the western portion of the district continues to fuel residential development and TAV gains due in part to close proximity and improved transportation corridors to the Houston MSA. Notably the district's taxable resources continued steady, albeit modest growth during the recession, beginning to strengthen after fiscal 2012. TAV grew by a healthy 4% in fiscal 2013 and a mix of residential, attendant retail/commercial development, as well as the district's own growing energy sector led to strong TAV growth of 8% in fiscal 2014 that outpaced the year's enrollment gains.

Taxpayer concentration is moderate at just under 11% in fiscal 2014, led by top taxpayer Denbury Onshore LLC, at 5.3%. The company invested almost $1 billion for the construction of a high-pressure compression system designed to inject carbon dioxide into the previously dormant oil field. Its success has resulted in a very healthy uptick in mineral values, which are projected to level off over the near term while a newly productive field with a reported 20-year life has been established.

DEBT PROFILE LIKELY TO REMAIN PRESSURE POINT

Overall debt levels are high, which is not unlike other rapidly growing Texas school districts, although the ratio is very high relative to market value at 13.2% in fiscal 2014 (or about $7,450 on a per capita basis). These debt ratios do not consider state support. Despite unfavorable debt ratios, the district's fixed-cost burden for its debt service is relatively low at about 7.9% of governmental spending in fiscal 2012. The modest burden is aided by state debt service aid (about 31% of ULT debt service in fiscal 2012) received by the district due to its comparatively lower per pupil property wealth and the slow pace of amortization. Amortization is slow with about 36% of principal retired in 10 years, inclusive of these planned issuances. All of the district's currently outstanding debt is fixed rate and does not include the use of capital appreciation bonds.

These new money offerings comprise most of the larger than originally projected $212.4 million bond authorization approved by a stronger 68% of district voters in November 2013. District officials had previously intended to approach voters for roughly $136 million in school facility needs. The current $252 million capital program relies heavily on the recent bond authorization to fund a broad list of district-wide capital needs and it is largely directed towards full completion of the district's third high school (which will not be built in phases as previously anticipated), renovation/construction of two elementary school facilities, and replacement/remodeling of two junior high school facilities. The district expects to issue an additional $69 million in about a year that includes all of the district's remaining, unissued bond authority from 2009 and 2013 to complete the projects. The capital program also incorporates the aforementioned pay-go capital spending from the general fund in fiscals 2013 and 2014.

Evidence of the district's growth-related capital pressures is apparent given the expanded debt and capital plans since Fitch's last review. To that effect, the district's debt profile will include variable-rate debt with this issuance in order to minimize the impact to its debt service tax rate, which Fitch believes does add incremental risk to the district's credit profile. Management expects to maintain no more than 20% of its total outstanding and authorized debt as variable rate, which Fitch believes is reasonable and is roughly the amount added by the series 2014B bonds.

The series 2014B adjustable-rate issue is initially structured as term bonds in three maturities of about $35 million each with initial rate periods for each maturity varying from one to five years (starting with the longest-dated maturity). The bonds will bear interest at a fixed rate for the duration of the initial rate periods, and therefore no liquidity provider will be required for the initial period. The bonds are subject to optional and mandatory redemption by the district, and following the initial rate period, the district can change the interest rate mode and rate period. Bondholders will be required to tender their bonds under certain conditions on specific dates. In the event of a failed remarketing, the tender will be rescinded, the bonds will remain outstanding, and bondholders will receive a stepped interest rate (capped at 8%) until the bonds are successfully remarketed or redeemed.

Issuance of all existing debt authority under the planned debt structure mentioned above and utilizing what Fitch believes to be reasonable albeit somewhat optimistic TAV growth assumptions, anticipates a maximum increase to the debt service tax rate of roughly $0.08 per $100 TAV. This increase is projected to bring the debt service tax rate up to $0.3730 per $100 TAV by fiscal 2015, which remains below the maximum promised voters and preserves some tax rate cushion as compared to the Attorney General's $0.50 per $100 TAV test for new money issuance.

Management indicates initial plans to re-examine enrollment trends in about a year which, if trending at a higher than average pace, could lead district officials to seek further bond authority from voters as soon as 2015. Capital needs are likely to include new elementary school facilities that will confront capacity constraints the soonest under current enrollment trends by fiscal 2017. Fitch believes that a trend of faster than anticipated enrollment growth in conjunction with slower than expected TAV growth could heighten the existing pressure on the district's debt profile. Fitch will continue to assess the district's capital needs and debt plans and their effect on the already high key debt ratios, diminishing tax rate capacity for new debt, and overall budget flexibility as the district's debt profile continues to evolve.

OTHER LONG-TERM LIABILITIES MANAGEABLE

Retiree pension and healthcare benefits are provided through the Teacher 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 consistently funds its annual required contributions. District employees contribute to TRS for pensions at 6.4% of annual payroll, and the state pays the local district's contributions (6.4% of payroll in fiscal 2013), with the exception of district contributions for probationary employees and for benefits on employees' salaries that exceed the TRS statutory minimum. Other post-employment benefit (OPEB) contributions paid by the district are nominal as the state and employees also pay the bulk of these costs. Total pension and OPEB contributions made by the district in fiscal 2013 totaled less than 1% of governmental fund expenditures.

TRS is adequately funded at 81.9% as of Aug. 31, 2012, though Fitch estimates the funded position to be lower at 73.8% when a more conservative 7% return assumption is used. The state's payment of district pension costs is an important credit strength as it keeps overall carrying costs manageable in the face of a high and growing debt burden. Carrying costs for the district (debt service, pension, OPEB costs, net of state support) totaled a low 8.3% of governmental fund spending in fiscal 2013 due in part to slow principal amortization, and they are expected to remain manageable despite an ascending debt service schedule. Starting next fiscal year (2015), pension contributions for all districts in the state will rise to 1.5% on the statutory minimum portion of payroll, from zero, increasing carrying costs further. Increases in district funding requirements beyond fiscal 2015 could create additional budget pressure.

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 informed by information from CreditScope, Texas Municipal Advisory Council, and IHS Global Insights.

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=813512

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