OREANDA-NEWS. Fitch Ratings has affirmed its 'AA-' rating on the following outstanding general obligation (GO) bonds issued by Atwater Elementary School District, CA.

--\$2.7 million GO bonds, election 2004, series A.

The Rating Outlook is Stable.

SECURITY

The bonds are payable from an unlimited ad valorem tax pledge on all taxable property within the district.

KEY RATING DRIVERS

STRONG FINANCIAL PROFILE: The district's strong financial profile reflects annual operating surpluses, healthy reserves, a good degree of expenditure flexibility, and management's conservative financial policies and practices.

VERY WEAK ECONOMY: The local economy has a concentration in agriculture, a high unemployment rate, and below average wealth levels.

VULNERABLE, CONCENTRATED TAX BASE: Taxable assessed value (TAV) contracted by 21.3% from fiscal 2008 through 2012 though did recover about 5.6% in fiscal 2014. The district's tax base reflects the area's concentration in agriculture and related industries.

MIXED DEBT PROFILE: Debt ratios are expected to remain low to moderate with no debt issuance plans; however, outstanding debt service (including capital appreciation bonds) increases moderately resulting in very slow amortization. District OPEB costs are low and the plan is closed but pension costs will rise significantly as the state addresses recent underfunding of the teachers' pension system (CalSTRS).

RATING SENSITIVITIES

FINANCIAL WEAKENING: Maintaining a strong financial profile is necessary to retain the current rating given other credit weaknesses, including the weak local economy.

CREDIT PROFILE

The district provides public education for grades kindergarten through eight to approximately 4,800 students in Merced County. Located in California's San Joaquin Valley, approximately nine miles northwest of downtown Merced, the district covers approximately 50 square miles and includes nearly all of the city of Atwater and some surrounding unincorporated areas.

STRONG FINANCIAL PROFILE
The district's financial performance remained solid in fiscal year 2014 with a solid operating surplus (after transfers) of approximately \$2.2 million (6.1% of spending). Financial results were buoyed by the state's new local control funding formula (LCFF) which provides additional funding to schools with a large population of 'targeted students'. The district's unduplicated percentage of such students is about 87% which should result in continued gains in LCFF funding until the state reaches its targeted level of funding.

The district maintained its healthy financial position through the recent recession by making proactive expenditure reductions in fiscals 2009 and 2010, which reduced staffing levels and healthcare benefits. Since that time, the district has added back a few positions but operating revenue continues to exceed operating costs.

The unrestricted general fund balance increased in fiscal 2014 to \$11.1 million or a healthy 30.3% of spending. Reserve levels are projected to remain at healthy levels despite planned spending of about \$7 million over the next three fiscal years on major maintenance for one of the district's middle schools. Fitch views positively the district's ability to fund its capital needs through general fund revenues and reserves.

CONSERVATIVE FINANCIAL PRACTICES
The district's conservative budgeting practices, as demonstrated in annual outperformance of budgetary projections, are a credit strength. In addition, Fitch views the district's 15% unrestricted fund balance policy positively as financial reserves provide an important cushion given the state's history of volatile and uncertain funding levels and a source of funding of some major maintenance projects.

FINANCIAL FLEXIBILITY
The district's financial profile is expected to remain strong based on the district's prospects for increased state funding and its expenditure flexibility. For example, if needed, the district would be able to increase class sizes, reduce school days, and make other spending adjustments.

WEAK ECONOMY; CONTRACTING TAX BASE
The local economy is very weak. Historically reliant on agribusiness, Atwater's economy has diversified to some extent due to its good access and proximity to the city of Merced and the University of California, Merced. Atwater's October 2014 unemployment rate was notably higher at 10% than comparable state (7%) and national (5.5%) averages. However, solid job growth over the same period (2.1%) brought it down from 12.2% in October 2013. Wealth levels also appear to be well below average with per capital income at 65% of the state's average and approximately 85% of the student body eligible for the free/reduced school lunch program.

The district's tax base reflects the area's agricultural concentration with six of the top 10 property tax payers from agricultural and food processing industrial sectors. The district's top 10 taxpayers comprise approximately 16.5% of total AV.
The district's AV declined by a cumulative 21.3% between fiscal 2008 and fiscal 2013. However, AV regained stability in fiscal 2013 and growth in fiscal 2014, increasing by 5.6%. Fitch views additional modest to moderate TAV gains as likely given that home prices gained about 13% in 2014 and the district reports some new residential and commercial development.

MIXED DEBT AND LONG TERM LIABILITY PROFILE
The overall debt burden remains moderate at ABOUT 3.4% of TAV despite the significant tax base contraction. Outstanding direct debt amortizes at a very slow rate with approximately 22.5% of principal retired within 10 years.

The district has no plans for additional debt issuance and has budgeted to use general fund reserves towards deferred capital needs. The district does not expect to have significant capital needs following completion of the improvements scheduled for fiscal 2017.

The district's fiscal 2014 carrying costs (for debt service and post-employment benefits including pensions) were low at 9% of governmental spending (11% when maximum annual debt service is used). Pension costs make up about half of carrying costs, but will rise significantly due to CalSTRS pension contribution rate hikes in future years.

The district participates in the poorly funded CalSTRS pension system, as do all districts in the state. As part of its fiscal 2015 budget, the state initiated a seven-year program of pension contribution rate hikes that is structured to fully fund the system's unfunded liability over a 32-year period. The rate hike, if enacted as currently scheduled, would substantially increase the district's contribution rates to 19.1% of wages from 8.25%. The district's audited CalSTRS expenditures in fiscal 2014 equaled 3.5% of governmental expenditures. If the district had hypothetically paid at the full phase-in contribution rate of 19.1%, the cost would have increased to about 8%.