While it remains a junk-bond credit, Pontiac City School District in Michigan won a two-notch upgrade recognizing gains in trimming its budget deficit.

On Thursday, Moody’s Investors Service upgraded the district’s issuer rating to B2 from Caa1 and the district’s general obligation limited tax ratings two notches to B3 from Caa2. The outlook is stable. The rating affects $8.3 million in outstanding debt.

Although the school district is still considered a high credit risk, Moody’s said the upgrade reflects the significant improvement Pontiac has made it its finances over the last five years.

Moody's upgraded Pontiac City School District in Michigan. Bloomberg

Pontiac entered in a consent agreement with the state in 2013 after the district’s deficit had ballooned to $45 million from $38 million in just one year.

The district’s severely pressured cash flows led it to miss a May 2013 debt service payment. The missed payment sparked downgrades from Moody’s. The district fully repaid its bond insurer, with interest, in June 2014, resulting in a recovery rate of 100%.

The district has since reduced its deficit by roughly $22 million and its cash flows have significantly improved supported by two large state emergency loans, strengthened financial management, and operational adjustments, according to Moody’s.

The district’s debt load includes $20 million in outstanding emergency loans via the State of Michigan, $13.4 million of GOLT debt issued via the Michigan Finance Authority and $10.5 million of GOLT debt secured by its sinking fund levy.

It has also reported a slight uptick in enrollment in the current year, increasing 56 students to a total student count of 4,230. That’s a positive reversal from the severe enrollment declines the district suffered between 1999 and 2017 when enrollment dropped by 67%.

“The district's long-term solvency is largely dependent on its ability to slowly grow enrollment as assumed in its financial and operating plan,” Moody’s said.

The district’s fiscal 2018 budget reflects an operating surplus of $532,000, driven by increased revenue from modest enrollment growth and reduced general fund debt service following a recent refinancing. The fiscal 2019 budget reflects a $1.2 million surplus, assuming a 1% increase in enrollment and $99 increase in per pupil funding.

The district closed fiscal 2017 with $4.1 million in cash but Moody’s noted that it relies heavily on short-term borrowing to maintain sufficient year-round cash balances for operations. For the current fiscal year, the district borrowed $6.8 million in state aid anticipation notes and plans to reduce its borrowing to $4.5 million in fiscal 2019. The district's has drawn $8.3 million of the available $14.4 million on its current tax anticipation notes to date, and expects to draw the full amount of by fiscal year-end.

In March 2017, voters approved a 2.87 mill sinking fund levy which generates approximately $7 million annually for five years.

The district is located in the city of Pontiac, about 30 miles from Detroit. The city exited state oversight in 2017. The school district has six elementary schools, a middle school and a high school.

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