Fitch Rates College Station ISD, Texas ULTs 'AAA' PSF/'AA+' Underlying; Outlook Stable

Fitch Ratings assigns an 'AAA' rating to the following College Station Independent School District, Texas' (the district) unlimited tax (ULT) bonds:

--$83.5 million ULT school building bonds, series 2014.

The 'AAA' enhanced rating reflects the guarantee of the Texas Permanent School Fund (PSF; bond guarantee program rated 'AAA' by Fitch).

The bonds are scheduled for competitive sale on Jan. 21. Proceeds will be used to fund facility maintenance, construction projects, technology upgrades, vehicle and bus purchases, and pay the costs of issuance. This bond sale exhausts all of the district's ULT debt authority granted by voters in a November 2013 election.

Fitch also assigns an underlying 'AA+' rating to the series 2014 bonds and affirms its 'AA+' underlying rating on $201.3 million of outstanding parity ULT debt.

The Rating Outlook is Stable.

SECURITY

The bonds are secured by the Texas PSF guarantee. The bonds are also secured by and directly payable from an unlimited ad valorem tax levied against all taxable property within the district.

KEY RATING DRIVERS

SOUND FINANCIAL RESOURCES: The district's sound financial profile features a strong fund balance and liquidity position despite mixed operating results in the past several years. This robust fiscal cushion tempers the risks associated with expense pressures linked to the opening of new facilities.

STABLE UNIVERSITY-CENTERED ECONOMY: Texas A&M University, one of the largest universities in the state, is the economic engine for the area and continues to drive economic expansion. Local wealth and income levels are below average due to the large student population. The jobless rate is low.

ELEVATED DEBT BURDEN: Debt burden ratios are high and will remain elevated over the medium term given the need for additional debt issuance and moderate amortization rate. Mitigating factors include good tax rate capacity to support additional debt and strong community support for bond propositions.

AFFORDABLE LEGACY COSTS: The state funds the bulk of retiree pension and healthcare costs, resulting in very low costs to the district for these benefits. Fitch considers the state-administered school employee pension system to be adequately funded.

RATING SENSITIVITIES

CONTINUED STRONG FINANCIAL POSITION: The rating is sensitive to shifts in fundamental credit characteristics, including the district's strong financial position and management practices, which are key mitigants to concerns over a high and growing debt burden.

CREDIT PROFILE

The district is located in east-central Texas approximately 90 miles equidistant from Houston and Austin. The district serves the city of College Station, which is most notably home to Texas A&M University, the flagship campus of the Texas A&M University System (system revenue bonds rated 'AA+'; Stable Outlook).

District enrollment totaled 11,643 to begin fiscal 2013 and increased by a 3.7% annual average in the last five years. Officials expect this rate of growth to persist in the near term.

FINANCIAL RESOURCES PROVIDE GOOD FLEXIBILITY

The district's fiscal cushion has remained very strong over a period of several years of somewhat uneven operating performance. Total fund balance oscillated between 40%-50% of spending from fiscal years 2008 to 2012. During this period budgets were pressured by the increased operating costs associated with the opening of new school facilities as well as state funding cuts beginning in fiscal 2012. District officials actively managed expenses through a combination of staff reductions - chiefly through attrition - and other discretionary spending adjustments.

Fiscal 2013 unrestricted general fund balance declined to 39% of expenditures ($32.6 million), down $3.5 million on the year due to an operating deficit resulting largely from state funding cuts and expenses associated with additional staff to support enrollment growth. The size of the deficit budget was tempered by a small shift of the debt service tax rate to the general fund in fiscal 2013. The general fund tax rate is now at the statutory maximum without voter approval ($1.04); however, the district retains some flexibility within the maximum permitted with voter approval ($1.17). The year-end deficit was narrowed slightly from the $4.7 million deficit that was originally budgeted, as management has historically used conservative assumptions in its budgeting practices.

FUND BALANCE TO REMAIN ROBUST DESPITE ANTICIPATED DEFICITS

The fiscal 2014 $85.1 million general fund budget was adopted with another operating deficit of $3.9 million. The deficit reflects start-up costs for the new high school, including additional staff, totaling $4.6 million. The district received additional funding this year as a result of an improved state funding environment and is applying its additional revenues to a 4% pay raise for staff. Under current forecasts fund balance would fall to $28.9 million or 34% of budgeted spending to conclude fiscal 2014. However, the year-end budget deficit may narrow some given higher than budgeted enrollment gains that have occurred this year (5.5% versus 3% budgeted).

Out-year budget forecasts demonstrate the appropriation of fund balance for operating costs through at least fiscal 2015. The anticipated deficits are driven chiefly by the costs of opening additional campuses. Management currently projects fund balance to bottom-out at $24 million, which at more than 25% of current spending levels would still provide a satisfactory fiscal cushion relative to the district's overall credit profile and risks associated with the high debt burden.

Fitch expects that draws on fund balance will likely slow as continuing enrollment gains yield additional operating revenues and keep required wealth transfer payments, which have declined in the last three years, at lower levels. However, annual deficits beyond and/or larger than current forecasts would signal a greater degree of structural budget imbalance and could place downward pressure on the high rating.

ECONOMY BENEFITS FROM UNIVERSITY PRESENCE

The area economy benefits significantly from the presence of Texas A&M University, whose fall 2013 enrollment surpassed a record 53,000. The university's growth continues to drive economic expansion and housing development. Near-term prospects for continued growth are good, as undergraduate applicant demand is strong and the university was recently awarded a multi-billion-dollar grant from the Department of Homeland Security to establish a major pandemic vaccination center.

Additional area business expansions include the August 2013 opening of a new hospital and the city's rezoning of the area near the hospital as a medical corridor for planned medical related businesses. District management also reports that there is active development of residential subdivisions and multi-family housing underway.

Area unemployment levels are typically well below those of the state and nation, and the metro area's October 2013 unemployment rate of 4.9% is very low relative to the state's 6% and nation's 7% unemployment rates. Per capita income of residents is only 77% of the national norm but this is due to the large student population and discounts income from outside sources.

Taxable assessed value remains on a positive trajectory, registering a 4.4% average annual rate of growth from fiscal years 2010-2014. Continued annual growth of at least 3% is projected, reflecting the expected residential and business expansions.

HIGH DEBT LEVELS REFLECT ENROLLMENT-DRIVEN CAPITAL NEEDS

The district's overall debt levels increase to $5,410 per capita and 7.4% of full market value with this issuance, which Fitch considers to be above average. Debt service costs consumed 16% of general government expenditures in fiscal 2013 but will rise to a more burdensome 21% of spending in fiscal 2015. The series 2014 bonds are structured so that total debt service increases 31% next year (fiscal 2015), requiring up to a 6.1% tax rate increase depending on tax base gains. Principal amortization is average with 50% retired within 10 years. Fitch's concerns over the growing debt and tax burden are tempered by the historically strong community support for recent bond elections; this authorization received approval from 69% of voters.

Debt levels are likely to increase further due to enrollment-driven capital needs. Management anticipates the need for three additional campuses to support projected enrollment gains of 3% annually, which is what has been the five-year historical trend. Additional debt authority may be sought from taxpayers sometime in 2016 or 2017. The district's projected debt service tax rate of up to $0.36 in fiscal 2015 would remain sufficiently below the state's statutory $0.50 tax rate ceiling for new money debt issuance.

OTHER LONG-TERM LIABILITIES MANAGEABLE

Retiree pension and healthcare benefits are provided to employees through the Teacher Retirement System of Texas (TRS), a cost-sharing multiple employer plan. 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. District employees contribute to TRS for pensions at 6.4% of annual payroll, and the state pays the local district's contributions (6% 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 a very low 0.7% of governmental fund expenditures.

The state's payment of district pension costs is an important credit strength as it keeps overall carrying costs reasonable in the face of a high and growing debt burden. Fixed costs for long-term liabilities will rise to a moderate 21% of governmental fund spending in fiscal 2015 and most of this is for debt service. 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 would create additional budget pressure.

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.

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, University Financial Associates, S&P/Case-Shiller Home Price Index, IHS Global Insight, National Association of Realtors.

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=813541

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