EDUCATION

S&P downgrades Muncie Community Schools' bond rating

Seth Slabaugh
The Star Press

MUNCIE, Ind. — S&P Global Ratings has lowered the rating on bonds issued by Muncie Community Schools in 2014 by four notches, from "BBB+" to "BB."

Bob Coddington, the new chief financial officer for MCS, speaks during a school board meeting Tuesday evening.

The downgrade reflects S&P's view of the school district's depleted reserves in key operating funds; long history of operating deficits; backlog of unpaid bills and inter-fund borrowing; very limited opportunities for growth in property tax revenue; declining enrollment; and low household incomes in Muncie.

The new ranking is further proof that "this is far and away the most pressing economic development problem in Muncie," Ball State University economist Michael Hicks told The Star Press. "Every economic dollar spent elsewhere is wasted as long as the local public schools are in crisis."

MCS is being transparent about the downgrade. The Star Press learned about it because it is on the agenda for the next school board meeting on Tuesday.

The lower bond rating could affect the school district's ability to borrow money to cover cash flow, according Hicks.

"I think this ranking validates the wisdom of both the superintendent's cost reduction plan presented last spring and the Legislature's decision to take control of the corporation's finances," Hicks said, speaking of the state's move to install an emergency manager at MCS.

RELATED: Michael Hicks: Hard truths on school funding in Indiana

Bob Coddington, the school district's chief financial officer, noted "Our bond rating is not based on our bond payment schedule, because we have made every payment. We have never been late on a payment."

A bond issue is a type of loan that must be repaid with interest. In this case, MCS issued $10 million in bonds to make improvements to school buildings.

However, as S&P noted in its latest report on MCS, "To stay afloat, the district's management pooled all funds, including the debt service and bond proceeds funds, which resulted in draws of $9.5 million on the 2014 general obligation bond proceeds fund. That fund has not been replenished, and officials put a hold on the project(s) that the bond proceeds were intended to finance."

RELATED: Muncie Schools: $9.3 million for repairs is gone

Coddington's understanding is that the downgrade will not affect the school district's ability to borrow cash from lenders by issuing short-term tax anticipation warrants or notes that are repaid when property taxes are collected.

"In the past year the district had no difficulty obtaining bank loans for short-term borrowing … " S&P reported. "Given the district's financial stress, it is not certain that they will continue to have access to external liquidity."

Hicks noted that the downgrade puts MCS in the same rating category as Bolivia and Gauatemala.

The Republic of Guatemala's "BB" rating reflects "high political fragmentation," high poverty levels, weak government institutions and "immense social needs," while the rationale for the "BB" rating assigned to the Plurinational State of Bolivia included low export prices for natural gas.

The good news for MCS, according to Hicks, is that the district's cash and budget crisis "can be overcome with a couple years of sound financial management, and a slowing decline of student enrollment."

MCS remains on S&P's CreditWatch, "given the uncertain cash position and the potential inability for the district to make timely payments for debt service and ongoing operating expenses." As a result, it's possible for the rating to be lowered again if management or the interim emergency manager "fails to make meaningful progress in restoring the budgetary balance and cash flow further weakens … "

Other highlights from the S&P report:

• "Enrollment is a key driver of general fund revenue. General fund operations of Indiana school corporations rely almost entirely on state tuition support, which is determined on a per-pupil basis. The district's … enrollment declines have accelerated recently as the district lost virtually 17 percent of its enrollment base since 2012. Enrollment totaled 5,650 in 2016-17. Management … expects to only have 4,880 students by 2020."

• " … Nearly 49 percent of assessed value in the district is tax-exempt due to the presence of two large not-for-profit entities (Ball State and IU Health Ball Memorial Hospital). In addition, development  opportunities are minimal due to economic challenges, so tax growth opportunities are limited. Tax base limitations create a very significant circuit-breaker tax credit impact on the property tax-supported funds (debt service, capital projects, transportation and bus replacement). Circuit-breaker losses in … tax-supported funds required the school to use general fund cash to cover expenses in those  funds."

• " …The ending general fund reserve position declined unexpectedly to negative 17 percent at the end of 2016, from positive 1 percent at the end of 2015. We also learned that the district didn't repay $7.7 million of $10 million tax anticipation warrants in 2016 … Management repaid 2016 tax anticipation warrants and issued $7.6 million of tax anticipation warrants in 2017. It plans to continue to rely on such warrants and potentially inter-fund advances for at least several years."

• " …In response to the budget crisis, the school corporation's board implemented budget reduction measures in 2015 and 2016, including staff layoffs, voluntary retirements, benefit adjustments, compensation reductions, and school closings … The actual implementation risk was greater than we thought as the district faced considerable resistance from its labor unions."

• "Unable to reach consensus with its labor unions and faced with a mounting cash and budget crisis, the district approached the state for cash loans. During the 2017 legislative session, the state … designated Muncie Community Schools as a fiscally impaired school corporation and allowed the state to assign an interim emergency manager. It is our understanding that the school district opposed the move."

• " We think that while an emergency manager has the potential to provide tools for more effective and timely financial improvements, the role is virtually untested in the state of Indiana." 

• "Overall net debt is moderate … With 100 percent of the corporation's direct debt scheduled to be retired within 10 years, amortization is rapid … (Pension) plans are well funded, so pension pressures in the state are minimal."

Contact Seth Slabaugh at (765) 213-5834.