Dallas School District Dropped to A-Plus Ahead of $105M Refunding

DALLAS - As it prepares to bring a refunding deal to market for the first time with its new finance team, the Dallas Independent School District had its credit downgraded by both Moody's Investors Service and Standard & Poor's last week.

The board of the second-largest school system in Texas will meet this week and finalize details of a $105.1 million issuance of general obligation bonds to refund Series 1999 bonds that may price as early as next week. Merrill Lynch & Co. is senior manager for the upcoming negotiated sale.

First Southwest Co. and Estrada Hinojosa & Co. are co-financial advisers to DISDt and Vinson & Elkins LLP and West & Associates LLP are co-bond counsel.

Moody's lowered its underlying rating on the district to A1 from Aa3, citing "ongoing concerns regarding the reduction in financial flexibility that is a product of structurally unbalanced budgets, as well as the district's financial reporting shortcomings."

Standard & Poor's downgraded its rating to A-plus with a negative outlook from AA-minus due to "the district's continued financial deterioration."

The lower ratings may necessitate that DISD purchase private insurance for the refunding bonds. Texas schools usually bring bonds to market wrapped by the state's triple-A rated Permanent School Fund, but that bond guarantee program was suspended earlier this year because of a decline in the value of the fund.

Fitch Ratings assigned an AA-minus rating to the DISD refunding earlier this month and said the financial profile of the district "has deteriorated due to an unanticipated significant drawdown in reserves in fiscal 2008."

Officials drew down the general fund by $59.9 million last year, pushing the balance down to $60.2 million, or roughly half that of fiscal 2007. With another drawdown expected this year, the general fund balance will be about $30.7 million, or significantly below the optimal level of $147.4 million, according to Moody's.

Meanwhile, DISD's executive chief financial officer, Larry Throm, recently told the board of trustees that the district may need to secure a $100 million line of credit to cover operating costs until state funding is received.

Boyd London, managing director at First Southwest, said the need to acquire the loan stems from the timing between the district's fiscal year end and when the state funds become available.

"The DISD uses June 30 as its fiscal year-end and tax collections don't start coming in until December and January, so the line of credit would carry them through until the state funding comes in," he said.

Leo Lopez, who manages the Foundation School Program for the Texas Education Agency, said DISD will receive its next payment from the state in late August.

London said the board supports Throm's efforts to reshape the district's financial integrity and anticipates he will soon have a policy in place to rebuild the general fund.

DISD has been plagued by a series of revelations concerning its financial missteps over the past few years, including discovery in the summer of 2006 of misuse of district-issued debit cards by hundreds of employees.

Early last year, officials formally launched a strategy to transform the district's financial operations and named Throm executive CFO. Steve Korby was named CFO and Tom Canby, a former managing director of financial audits for the Texas Education Agency, was added as a consultant.

The team plans to implement controls and improve efficiencies while attempting to develop a comprehensive five-year plan.

Last fall, the district disclosed an $84 million budget shortfall for fiscal 2009 and subsequently cut about 1,100 positions.

Superintendent Michael Hinojosa said the financial problems ultimately fall at his feet.

"As the district's chief executive officer, it is my duty to take whatever immediate, prudent, and financially responsible action I am empowered to take to address this matter and save the district dollars," Hinojosa said at the time. "The lack of adequate systemic financial controls and the district's inability to reconcile accounts, input budget data, and control staff allocations created this deficit. This is totally unacceptable."

Throm came to DISD from the Austin Independent School District, where he oversaw a significant increase in the general fund balance over the past few years. Analysts at Standard & Poor's, which rates the Austin ISD AA-plus, said that district's 2008 fund balance of $130 million is double that of fiscal 2006 and a sharp increase from prior years, "when budgetary pressures necessitated the planned drawdown of reserves."

DISD communications director Jon Dahlander said that is exactly what Throm is trying to do now in Dallas, adding that he has brought in a new budget director, a new head of financial services, and a new purchasing director.

Moody's analysts said the downgrade also reflects the district's "substantial future borrowing plans."

Voters within the district approved a $1.35 billion bond package in May 2008 and officials have sold $400 million of that authorization so far, with plans to issue the balance in annual sales over the next three years. DISD has about $1.7 billion of debt outstanding.

The bond package that was approved last year calls for 15 new schools, 12 additions, and about $500 million of renovations to more than 200 campuses. Many of the district's 229 schools are more than 50 years old. DISD, which currently serves about 160,000 students, is the 12th-largest school district in the country.

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