Moody's Downgrades Detroit Public Schools, MI to B3

Moody's Investors Service has downgraded to B3 from B2 the issuer rating of Detroit Public Schools, MI (DPS). The issuer rating is based upon an implicit general obligation unlimited tax (GOULT) security and, while the majority of the district's outstanding debt is secured by a voter-approved GOULT pledge, those bonds do not carry the B3 rating. The district's $1.6 billion of outstanding GOULT bonds are further secured by the state's School Bond Qualification and Loan Program (SBQLP). Moody's maintains the enhanced Aa2 programmatic rating on those bonds. The Michigan constitution requires the state to lend a school district sufficient funds to make timely debt service payments, if necessary, on qualified bonds.

Additional debt of the district includes $108 million due to the Michigan School Loan Revolving Fund (SLRF) for loans issued to pay debt service on qualified GOULT bonds and $325 million of outstanding long-term state aid revenue bonds. Repayment of SLRF loans is secured by the district's GOULT pledge, while debt service on the revenue bonds carries a pledge of state aid. The outlook on the issuer rating remains negative.

SUMMARY RATING RATIONALE

The B3 issuer rating primarily reflects a continuance of operational imbalance that further challenges the district's ability to address its accumulated General Fund deficit. A long-term trend of declining enrollment has contributed to annual loss of operating revenue and, while the year-over-year fall in enrollment in fiscal 2014 was much more moderate compared to earlier years, there is little indication that the district's student population will fully stabilize in the near term. Management has made concerted efforts to reduce costs and align annual expenditures with revenue, but material improvement in the district's financial position will likely require stabilization of current enrollment and revenue trends, a prospect that remains weak in the current economic environment of the City of Detroit (Caa3 negative).

The rating additionally incorporates the district's very high debt burden and an operating budget that is constrained by an elevated amount of fixed costs. Absent additional corrective action, financial operations could face growing stress tied to limitations on the district's ability to borrow for short-term cash flow needs. The maintenance of a negative outlook reflects the expectation that operational stress, balance sheet weakness, elevated leverage, and economic challenges will continue to exert growing pressure on the district's underlying credit quality.

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