Outlook eases for Chicago Public Schools

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CHICAGO -- With more than a half billion dollars of new funding taking shape, Chicago Public Schools received some rare good rating news as students headed back to the classroom this week.

Moody's Investors Service concluded a review for a possible downgrade launched in July late Tuesday by affirming the Chicago Board of Education's B3 rating and shifting the outlook on the deep-junk rating to stable from negative.

The rating agency also concluded a review of Chicago's ratings by affirming the junk Ba1 rating on more than $8 billion of Chicago's general obligation, sales tax, and motor fuel bonds, and about $3 billion of water and sewer debt rated in the low-investment grade Baa category. It left a negative outlook on the bonds. The city review stemmed from its governance ties to CPS and pledge to help the district stabilize its finances.

The CPS action impacts $5.3 billion of the district’s roughly $7 billion of GO debt. The district stopped asking Moody's to rate new deals several years ago.

Moody's concerns over the school district's strained liquidity, debt costs, and overall distressed condition remains. But a recent state funding package that lifts CPS aid and pension support by about $300 million and authorizes it to bypass state imposed property caps to raise another $150 million along with a city funding commitment has eased near-term strains.

The district's $5.75 billion fiscal 2018 budget approved by the board last month relied on $569 million of new city and funding.

"The B3 rating and stable outlook on the district's GOULT debt reflects the district’s financial distress that will likely persist but not materially worsen in the coming year given new state and local revenues," Moody's wrote. "The additional revenue should balance the district's operations in fiscal 2018, but will leave little margin to rebuild liquidity from its currently extremely weak position."

Mayor Rahm Emanuel's administration said Tuesday -- after release of the Moody’s report -- that its support would come in the form of helping to cover CPS security costs while discussions are ongoing over how to make up the remaining support CPS is relying on to balance its strained books.

“While the final numbers are still being run from the bill, the city will build into its 2018 budget support for $70-80 million in CPS school security costs,” said mayoral spokesman Adam Collins. “The city will work with CPS to eliminate the remaining gap, which is between $40-$50M, in the weeks and months to come though we fully expect CPS will see savings from interest and through refinancing debt.”

CPS will also continue to make further administrative efficiencies. Collins added that the administration can provide the support and erase its own $114 million shortfall “without a citywide tax increase.”

The district’s cash flow crunch is not expected to ease. The board approved up to $1.55 billion of cash flow borrowing in fiscal 2018 at its August meeting and another $385 million in refunding bonds.

“Liquidity will remain precarious, requiring continued market access for cash flow borrowing to maintain operations,” Moody’s said, adding that the district likely faces budget gaps in future years without further adjustments.

Rising pension costs, a declining enrollment trend and overlapping tax base that's highly leveraged between debt and pension obligations of the overlapping governments pose negative factors. The district will pay nearly $800 million toward pensions this year, up $52 million.

In addition to the infusion of new money, credit strengths remain the district’s links to the city and its GO ad valorem alternate revenue GO structure that puts in place a levy on new borrowing which the district then abates.

The state’s overhaul of school funding formulas approved last month after Gov. Bruce Rauner and his fellow GOP legislators reached agreement on a compromise package with the General Assembly’s Democratic majority allowed aid to resume flowing to all districts in Illinois.

Under the legislation Public Act 100-0465, CPS will gain about $71 million under the new evidence-based funding model. CPS also will now receive about $221 million to help cover its normal pension costs for teachers, funding that will be included in the state pension code.

The package also lifts the district’s property tax cap which is limited to the lesser of 5% or inflation and had capped the 2018 increase to about $70 million. The new authority to help cover pensions could provide the district up to $150 million of new tax revenue on top of its current $2.8 billion levy. The increases this year are on top of the reinstatement last year of a $250 million teachers’ pension tax levy and a $45 million capital improvement tax levy.

The Chicago Civic Federation in a review of the legislation noted the benefits, calling it “an important step in the right direction for CPS” by providing pension parity with other districts that already receive help covering pensions and it “could also alleviate some of the pressure on the city of Chicago to come up with funding to close CPS’ budget gap.”

But, like Moody’s, it warned CPS’ structural issues remain.

“CPS is in a severe cash flow crisis because it no longer has reserves to cover periods of cash shortfalls due to the timing of revenues and expenditures, which forces the district to rely on short-term borrowing,” the report said. “Additionally, CPS has an increasing debt burden and continues to use long-term borrowing to free up cash for current operations.”

The district pays punishing yield penalties on all its borrowing. Its latest GOs sold this year landed at yields in the low to mid 7% range as the district added a new security feature known as a post default security mechanism that provides an intercept of state aid in the event of a default. Its GO sale last year landed at 8.5%. Its new capital improvement tax bonds landed at a high yield of 6.25%. CPS paid initial rates in the 6% range on the grant anticipation notes this year and they are reset at LIBOR plus 550 basis points. On its most recent TANs, it paid LIBOR plus 400 bp and its pays rates as high as 9% on some of its remaining $600 million of floating-rate debt.

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