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REVISED: MOODY'S ASSIGNS Aa3 UNDERLYING RATING AND Aa2 ENHANCED (MSDE) RATING TO DULUTH ISD NO. 709'S (MN) $5 MILLION SERIES 2010C CERTIFICATES OF PARTICIPATION AND ASSIGNS A1 RATING TO SERIES 2010D CERTIFICATES OF PARTICIPATION

17 Sep 2010

AFFIRMS UNDERLYING Aa3 RATINGS ON OUTSTANDING GO DEBT AND FULL TERM COP DEBT AND UNDERLYING A1 RATING ON OUTSTANDING COP DEBT SUBJECT TO ANNUAL APPROPRIATION

Primary & Secondary Education
MN

Moody's Rating

ISSUE

UNDERLYING
RATING

RATING

Full Term Certificates of Participation, Series 2010C

Aa3

Aa2

  Sale Amount

$5,000,000

  Expected Sale Date

09/21/10

  Rating Description

Certificates of Participation (MSDE)

 

Certificates of Participation, Series 2010D

NA

A1

  Sale Amount

$1,605,000

  Expected Sale Date

09/21/10

  Rating Description

Certificates of Participation

 

Opinion

NEW YORK, Sep 17, 2010 -- Moody's Investors Service has assigned an Aa3 underlying rating and a Aa2 enhanced (MSDE) rating with a stable outlook to Duluth Independent School District No. 709's (MN) $5 million Full Term Certificates of Participation, Series 2010C and a A1 underlying rating to the district's $1.6 million Certificates of Participation, Series 2010D. Concurrently, we have affirmed the Aa3 underlying rating on the district's outstanding general obligation debt and the district's full term certificates of participation (COPs) and affirmed the A1 rating on the district's COPs that are subject to annual appropriation.

RATINGS RATIONALE

The enhanced Aa2 rating and stable outlook is due to the additional security provided by the State of Minnesota's School District Credit Enhancement Program (MSDE). Under the MSDE loan program, established and designed by the State of Minnesota, the Series 2010C Full Term COPs are secured by the state's pledge of an unlimited appropriation from its General Fund (the state's general obligation debt is rated Aa1 with a stable outlook) should the district be unable to meet debt service requirements. The appropriation mechanism allows for continuing unlimited advances from the state's General Fund to avert default for qualified school districts.

District repayment is either from State aid withholding or a required special school district levy outside normal levy limits. Key program components also include third-party notification of pending deficiency. Under Minnesota statutes, if the district believes it is unable to make a timely debt service payment, it must notify the Department of Education at least 15 working days prior to the due date. The Commissioner, after consultation with the district and the paying agent, and the verification of information, will notify the Commissioner of Finance who issues a warrant and authorization for direct payment to the paying agent. Should a district fail to notify the state of an impending non-payment of debt covered by the program, the paying agent will undertake notification. The agent is to notify the State directly, three days prior to the payment date of the needed amounts. State funds equal to the request are then transferred directly to the paying agent. If the State makes a payment on behalf of a district, the district must submit a plan to the Commissioner of Education specifying the steps the district intends to take to resolve current and future funding problems.

Post sale, the district will have $70 million of outstanding general obligation debt and $222 million of outstanding certificate of participation debt. Proceeds of the Series 2010C COPs will finance ongoing facilities improvements as a part of the district's master facilities plan and the Series 2010D COPs will finance the acquisition of equipment.

The district's underlying Aa3 general obligation rating reflects: the district's location in Duluth (GO rated Aa2, stable outlook), a regional economic center in northeastern Minnesota that is home to both a significant Great Lakes port and the second largest campus of the University of Minnesota; declining enrollment; satisfactory, though steadily narrowing, General Fund reserves; and high debt levels that are driven by the district's sizeable master facilities plan. The district's Series 2010C COPs as well as its outstanding full term COPs are rated Aa3, similarly as its general obligation debt, due to the rental payments are funded from a separate, statutorily authorized lease levy and are not subject to annual appropriation, in effect an absolute and unconditional obligation of the district. The district's A1 rating on the Series 2010D COPs and similar outstanding COP debt reflects the underlying general obligation rating of the district as well as the risk of annual non-appropriation.

DULUTH SERVES AS A REGIONAL ECONOMIC HUB IN NORTHEASTERN MINNESOTA; DISTRICT ENROLLMENT DECLINES CONTINUE

Located on the shore of Lake Superior, 150 miles north of the Twin Cities metropolitan area along Interstate-35, the district serves the City of Duluth and portions of the surrounding areas outside the city limits in St. Louis County (GO rated Aa2). Duluth serves as an economic hub, home to Northeastern Minnesota's major educational, health care and retail presences. Duluth is home to a significant port on Lake Superior, the Port of Duluth. According to the Duluth Seaway Port Authority, the port is ranked 16th nationally by total cargo volume, and ships mostly ore, coal and grain, with approximately 2,000 jobs dependent on the port. Mining, an economically sensitive sector, is a significant component of the regional economy, bringing along with it a degree of vulnerability for local employment during periods of declining economic activity. Duluth is also home to three institutions of higher education, including the second-largest campus of the University of Minnesota (Revenue rated Aa1, stable outlook), all of which provide considerable economic stability to counteract the vulnerability of the area's industrial sector. The health care industry also supports Duluth's economy, as the city's top employers include St. Mary's Clinic, St. Luke's Hospital, and Benedictine Health System.

The City of Duluth's population has declined precipitously, with the 2008 estimated population of 85,220 representing a 16% decline from the 1970 census count. Nearly one fifth of the district's population is students, a population that usually has below average incomes and will depress an entity's income indices. At 82% and 84% of the state's average, the district's per capita income and median family income reflect the student presence; however, those indices have declined relative to those medians over the past thirty years (despite slight increases between 1990 and 2000), a trend that should not be influenced by the student population. Although St. Louis County's unemployment rate has risen in recent years, the June 2010 unemployment rate of 7.4% was below that of the nation (9.6%) for the same time period.

Reflecting the general demographic pressures of Northeastern Minnesota and the general disruptions that have come with the district's significant master facilities plan, district enrollment has been steadily declining. Enrollment, currently 9,260 students (school year 2010), has fallen just under 3% on average annually since 2006, with the preceding five year period posting declines of a similar magnitude. An increasing negative margin with open enrolled students has added to the declines, and district officials believe it's due the general disruptions caused by its master facilities plan. Officials expect continued decreases, though at a somewhat slower pace for the next several years, after which time, enrollment levels should stabilize.

SATISFACTORY, THOUGH STEADILY DECLINING, GENERAL FUND RESERVES

We believe that although declines in reserves over the past several years have not led to declines in the district's credit quality, continued declines in reserves that significantly impair the district's financial flexibility could pressure credit quality. For the past five years, the district has steadily drawn down its General Fund reserves. At the close of fiscal 2004 reserves were just under 30% ($29.7 million) of the district's annual revenues. At the close of fiscal 2009 reserves had declined to 18% ($18.6 million) of the district's annual revenues. Declines in reserves were mostly due to the district's steady enrollment declines that have led to stagnant state revenues not keeping pace with growing expenditures, but ongoing costs related to its extensive master facilities plan have contributed too. In November 2008, district voters approved a five year renewal of a $365 per pupil excess operating levy but did not approve the district's request for an increase in the per pupil amount. The resulting structural imbalance has led to planned use of the General Fund balance for operations during the past five years. For fiscal 2010, officials expect the General Fund reserves declined by $2 million to $2.5 million but officials expect the General Fund unreserved and undesignated balance to remain constant at $7 million. As its master facilities plan has continued, the district has been spending down its reservations for various programs within its reserved fund balance but has been targeting maintaining a $7 million unreserved, undesignated fund balance. Although overall reserves have declined over the same time period, the unreserved, undesignated portion has not. At the close of fiscal 2003 the General Fund's unreserved, undesignated balance was $7.3 million; at the close of fiscal 2009 it was $7.1 million. Again for fiscal 2011 officials are expecting a decline in the overall fund balance of $1 million to $1.5 million but that the unreserved, undesignated balance will remain at $7 million. Despite the drawdowns, the fiscal 2009 General Fund balance was adequate on both a nominal basis and as a percentage of General Fund revenues (18%). The General Fund balance's declining trend is expected to stabilize by fiscal 2013, when operational efficiencies to be generated from the district's master facilities plan should be realized. District policy calls for the maintenance of a minimum undesignated General Fund balance of 10% of annual budgeted expenditures.

State aid, which is largely based on enrollment, is the district's primary source of revenue, comprising 79% of General Fund revenues in fiscal 2009. Less than 9% of the district's General Fund revenues are derived from property taxes. Budget challenges with the State of Minnesota has lead to delays in state aid payments to Minnesota school districts. While the state has not yet reduced the per pupil funding amount, the state has announced several forms of payment delays to school districts in order to alleviate the state's budget and cash flow pressures. Prior to fiscal 2010, school districts typically received 90% of their annual state aid in the current fiscal year, with the remaining 10% received in the subsequent fiscal year. Effective fiscal 2010, this proportion shifted from 90%/10% to 73%/27%. Although this shift will increase cash flow borrowing by many Minnesota school districts, Duluth ISD 709 officials had not planned to cash flow borrow as the result of this shift. However, in January 2010, the state announced that the scheduled March and April 2010 payments to nearly two-thirds of Minnesota's school districts, including Duluth ISD 709, would be delayed until May 30, 2010. Approximately $9.2 million of the district's scheduled March and April payments will be delayed, and officials did cash flow borrow to offset this unexpected delay. The district's Aa3 general obligation rating currently incorporates the considerable vulnerability of the district's dependence on challenged state aid.

HIGH DEBT LEVELS DRIVEN BY SIZEABLE MASTER FACILITIES PLAN

For the past several years, the district has embarked on a master facilities planning initiative to achieve greater operational savings. As envisioned, the plan would address the district's building and infrastructure needs for the next several decades. It involves the closing and consolidation of some buildings, renovation of others, and construction of new buildings. In total, project costs are estimated at $295 million. Of this amount, $277 million has been funded with debt issued in 2008 and 2009. The first issuance, $59 million of general obligation bonds, was issued in January 2008; the second issuance, $111 million of certificates of participation, was issued in May 2008; and the third and final issuance, $107 million of certificates of participation, was issued in September 2009. Although the district did not expect to issue additional debt in support of the plan, the Series 2010C and Series 2010D COPs are also financing the district's master facilities plan due to lower than expected interest earnings on reserves for the past couple years as the plan has progressed. Favorably, the master facilities plan should result in cost efficiencies derived from a consolidated system of fewer facilities and new and updated buildings, which would also likely translate to a favorable impact on the district's balance sheet. Though the aggregate amount borrowed is substantial, we do not expect an impact to credit quality given the extensive nature of the master facilities plan, including the life of the buildings and assets financed, and the strong position it puts the district in regards to the condition of its facilities for the near future as principal on the debt will be paid down. All of the district's debt is in fixed rate mode, and the district is not a party to any interest rate swap agreements.

KEY STATISTICS FOR INDEPENDENT SCHOOL DISTRICT NO. 709

2009 Full value: $6.7 billion

2000 Census population: 94,803 (2.2% increase since 1990 Census)

2010 Enrollment: 9,260 (3% average annual decrease since 2006)

2009 Full value per capita: $72,320

1999 Median family income, a % of state: 83.9% (95.4% of US)

1999 Per capita income, as a % of state: 82.4% (88.6% of US)

St. Louis County unemployment rate (06/10): 7.4% (MN at 6.8%, US at 9.6%)

Fiscal 2009 General Fund balance: $18.6 million (18.2% of General Fund revenue)

Post sale general obligation debt: $70 million

Post sale certificates of participation debt outstanding: $222 million

Overall debt burden: 5.9% (4.3% direct)

Payout of principal (10 years): 42.3%

PRINCIPAL METHODOLOGIES

The principal methodology used in rating Duluth Independent School District No. 709, MN was The Fundamentals of Credit Analysis for Lease-Backed Municipal Obligations published in October 2004. Other methodologies and factors that may have been considered in the process of rating this issuer can also be found on Moody's website.

REGULATORY DISCLOSURES

Information sources used to prepare the credit rating are the following: parties involved in the ratings, public information, confidential and proprietary Moody's Investors Service's information, confidential and proprietary Moody's Analytics' information.

Moody's Investors Service considers the quality of information available on the credit satisfactory for the purposes of assigning a credit rating.

MOODY'S adopts all necessary measures so that the information it uses in assigning a credit rating is of sufficient quality and from sources MOODY'S considers to be reliable including, when appropriate, independent third-party sources. However, MOODY'S is not an auditor and cannot in every instance independently verify or validate information received in the rating process.

Please see ratings tab on the issuer/entity page on Moodys.com for the last rating action and the rating history.

The date on which some Credit Ratings were first released goes back to a time before Moody's Investors Service's Credit Ratings were fully digitized and accurate data may not be available. Consequently, Moody's Investors Service provides a date that it believes is the most reliable and accurate based on the information that is available to it. Please see the ratings disclosure page on our website www.moodys.com for further information.

Please see the Credit Policy page on Moodys.com for the methodologies used in determining ratings, further information on the meaning of each rating category and the definition of default and recovery.

Analysts

David Horton
Analyst
Public Finance Group
Moody's Investors Service

Rachel Cortez
Backup Analyst
Public Finance Group
Moody's Investors Service

Henrietta Chang
Senior Credit Officer
Public Finance Group
Moody's Investors Service

Contacts

Journalists: (212) 553-0376
Research Clients: (212) 553-1653


Moody's Investors Service
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New York, NY 10007
USA

REVISED: MOODY'S ASSIGNS Aa3 UNDERLYING RATING AND Aa2 ENHANCED (MSDE) RATING TO DULUTH ISD NO. 709'S (MN) $5 MILLION SERIES 2010C CERTIFICATES OF PARTICIPATION AND ASSIGNS A1 RATING TO SERIES 2010D CERTIFICATES OF PARTICIPATION
No Related Data.
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