CHICAGO – The Chicago Board of Education will sell $500 million of general obligation bonds next week for ongoing construction and maintenance projects hoping the strong municipal market will cushion the impact of two downgrades on its borrowing costs.
Standard & Poor’s on Tuesday downgraded the board’s rating to A-plus from AA-minus in response to the Chicago Public Schools’ decision to drain its reserves to balance its proposed fiscal 2013 budget and other fiscal pressures. It assigned a stable outlook.
“The downgrade reflects the board’s budgeting of all of its unreserved operating reserves in its proposed 2013 budget and the challenges the board faces to return to balanced operations and maintain adequate reserves amid the state’s fiscal woes, rising pension payments, and higher costs associated with a longer school day,” said Standard & Poor’s credit analyst John Kenward.
Fitch Ratings revised its outlook for the board’s A-plus rating to negative from stable Monday. Moody’s Investors Service recently downgraded its rating to A1 from Aa3 and warned of further action by assigning a negative outlook. The action impacts a total of $6 billion in debt.
CPS chief executive Jean-Claude Brizard last month presented a $5.2 billion fiscal 2013 budget that relies on a property tax hike, operating cuts and all of the district’s unreserved fund balance to erase a $665 million gap.
The budget relies on a total of $432 million in reserves. It will exhaust all of its $349 million unrestricted balance, draw $25 million from a restricted fund balance and tap a reserve of $58 million in Illinois state fiscal 2012 funds that are not used.
The board is not slated to vote on the spending plan until its monthly meeting this month, a week after the bonds are sold. Members of the financing team are stressing to investors that the district is required under statute to maintain a balanced budget, so whatever final form the budget takes it will be balanced.
CPS has long maintained a healthy fund balance. It was cited as a credit strength while the district worked to rebuild its eroded credit after the state handed control of CPS back to the city in 1995. It has also provided a stable liquidity cushion that helped the district weather chronic delays in state aid payments.
The district further faces a financial reckoning next year when its deficit will balloon to $1 billion due to growing personnel and debt service costs and a spike in required pension payments after the expiration of a state-approved pension holiday.
The sale set for Aug. 14 is being senior managed by Goldman Sachs and Loop Capital Markets LLC. Chapman and Cutler LLP and Greene and Letts are bond counsel. Public Financial Management Inc. and Peralta Garcia Solutions LLC are advising the district.
The bonds are secured by state aid and a GO pledge. The securities are backloaded – another negative in raters’ view -- with serial maturities between 2036 and 2041 and a term bond in 2042 to accommodate CPS’s existing debt service schedule, said members of the financing team.
The deal will mark one of the board’s last large sales for some time, as it intends to dramatically scale back its capital spending to about $100 million to $200 million annually through 2017 compared to $500 million to $700 million in recent years.
Favorable factors supporting the rating include the board’s strong financial management, successful management of its mammoth capital program, and the city’s deep and diverse economic base, Standard & Poor’s wrote.
Its challenges, however, are daunting. In addition to the impending pension hike, the district carries a moderately high debt burden as a percentage of market value, it has just a limited ability to raise revenues because of property tax caps, and faces delays in state aid and potential aid cuts.
Contentious teacher contract talks also pose a threat. The district has offered only a 2% annual raise in a four-year contract and teachers have threatened to strike. The district and teachers recently announced a separate $45 million agreement that calls for the district to hire additional teachers as it incorporates a longer school day pushed by Mayor Rahm Emanuel in the upcoming school year.
Fitch said its negative outlook stems from the looming pension hike and labor dispute. “Fitch recognizes the district’s history of effectively addressing budgetary gaps but believes the upcoming combination of pressures is exceptionally difficult,” analysts said.
Analysts also consider the district’s debt structure a weakness with only about 31% to be paid off in 10 years as the administration has in recent years pushed off debt payments to help deal with deficits. A reduction in its floating-rate portfolio to 23% of overall debt from 49% several years ago is considered a positive.
CPS officials have defended the use of reserves in the budget stressing that the additional $1 million to $2 million anticipated in interest rate costs is worth avoiding devastating classroom cuts. CPS spokeswoman Becky Carroll on Tuesday sought to focus on the positive comments in the Standard & Poor’s review while also stressing that the district faces a difficult balancing act.
“We are committed to making the tough decisions necessary to move the District toward long-term financial stability, while also protecting and investing in priorities that are necessary to boost our children’s academic achievement,” she said.