OREANDA-NEWS. Fitch Ratings has assigned an 'AAA' rating to the following Canutillo Independent School District, Texas (the district) unlimited tax (ULT) bonds:

--\$8.15 million ULT refunding bonds, series 2015.

The 'AAA' rating is based on a guarantee provided by the Texas Permanent School Fund (For more information on the Texas Permanent School Fund, see 'Fitch Affirms Texas PSF Rating at 'AAA'; Outlook Stable' dated Sept. 4, 2014.)

The bonds are expected to price via negotiated sale the week of Feb. 23. Proceeds will be used to refund outstanding debt for interest cost savings.

Fitch also assigns an underlying rating of 'AA-' to the series 2015 bonds and affirms the 'AA-' underlying rating on the district's \$102.1 million ULT bonds outstanding (pre-refunding).

The Rating Outlook is Stable.

SECURITY

The bonds are payable from an unlimited tax levied against all taxable property within the district. The PSF guaranty applies to all outstanding bonds of the district except the series 2006 ULT school building and refunding bonds.

KEY RATING DRIVERS

SOUND FINANCIAL PROFILE: Ample general fund reserves reflect conservative budgeting and cost management, supplemented by voters' approval of a permanent maintenance and operations (M&O) tax rate increase.

STEADY REGIONAL ECONOMIC GROWTH; WEAK INCOME LEVELS: Residential and commercial development continues to expand westward towards the district from El Paso, creating healthy gains in taxable assessed valuation (TAV). Nonetheless, wealth indicators remain below average and the unemployment rate is higher than the state.

ABOVE-AVERAGE DEBT: Overall debt levels are high and will be pressured by ongoing facility needs based on current enrollment projections. A moderate debt service tax rate provides adequate borrowing capacity over the medium term.

RATING SENSITIVITIES

ADEQUATE RESERVES AMIDST GROWTH PRESSURES: Failure to maintain structural balance and adequate reserves as the district faces growing enrollment pressures could lead to negative rating action.

CREDIT PROFILE

The district is located in the less developed northwestern corner of El Paso County (GO bonds rated 'AA'/Stable Outlook), serving a population of about 27,700 over 67 square miles that include portions of the City of El Paso and neighboring rural areas.

ENROLLMENT GAINS EXPECTED TO CATCH UP WITH TAV TRENDS
The district receives residual enrollment growth from El Paso and nearby Santa Teresa, New Mexico, a significant commercial hub and port of entry into Juarez, Mexico. Officials expect the current average daily attendance (ADA) of 5,518 students to grow by 20% in the next five years due to the availability of affordable land, the extensive transportation network traversing the district, and master planned development projects currently underway.

In fact, ADA has flattened in recent years and actually declined by a modest 1.2% in fiscal 2015. ADA declines are apparent in most area school districts due to the fading impact of Ft. Bliss' expansion in 2011-2012. The district also attributes this trend to a modest number of student transfers to adjacent El Paso Independent School District, which recently approved open enrollment and has schools in closer proximity to the district's growth corridor. Management expects ADA will resume growth upon the opening of new district schools in the affected area and the ramp up of new home construction district-wide. The district reports that 7,300 homes are planned within the district, more than 1,250 of which are expected over the next two years.

The district's \$2.1 billion tax base increased more than 6% annually between fiscal 2009 and 2014, reflecting the economic impact of the \$5 billion Fort Bliss military base expansion and an influx of international investment that muted the effects of the recession. Expectations for additional near term growth are supported by extensive commercial and residential development currently underway.

Taxable values declined by a modest 1.4% in fiscal 2015 due to a legal challenge from its largest taxpayer, the El Paso Outlet Center Holding LLC. The outlet center successfully sued the county appraisal district to reduce its TAV by a large 33%, reducing its percentage of total TAV to 3.6% from 5.3%. Two other major district taxpayers, Hoover, Inc. (1.6% of TAV) and Leviton MFG Co Inc. (1% of TAV), both closed their manufacturing plants due to relocations overseas. These losses will likely be offset in the near term by continued residential building and commercial projects, which include a \$120 million teaching hospital (scheduled to open in fall 2016) and a new wing at the outlet center.

IHS Global Insights points to the region's younger-than-average population as a strength, supporting strong service sector growth. However, relatively low skill levels limit high-paying job growth. The city's latest unemployment rate of 5.8% for November 2014 is improved from the prior year, almost on par with the national average (5.5%) but well above the state (4.6%) for the same period.

SOUND FINANCIAL PROFILE
The district generally outperforms the budget and maintains strong general fund balance levels. State funding comprises 60% of total revenues, a function of enrollment growth and the district's property poor classification. After a shift in the district's fiscal year boosted the district's financial cushion in fiscal 2011, the district posted two consecutive years of general fund net surpluses, aided by conservative budgeting, recurring cost savings, and additional revenue associated with the M&O tax rate increase to \$1.17 from \$1.04 per \$100 TAV. The M&O tax rate is at the statutory cap, limiting further ad valorem tax revenue growth aside from TAV appreciation.

In fiscal 2014, the district's audit posted a large \$6.8 million (11.5% of spending) general fund net deficit due mostly to \$4.2 million of pay-go capital outlays and a \$1.2 million property tax rebate. The deficit was also due to a state aid decline of \$2.7 million or 8.7%, resulting from the state's one-year lag in recognizing the reappraisal loss. Despite the drawdown, the unrestricted general fund balance remained solid at \$10.8 million or 18% of spending and transfers out.

Officials report that year to date fiscal 2015 revenue and expenditures are on track to produce balanced results despite the unexpected decline in ADA. Although the district budgeted state aid revenues based on a large 4.9% gain in ADA, the district did not increase staff to that level and maintained its student to teacher ratio at the 22:1 maximum allowed by the state. A true-up of state aid revenues at fiscal year-end is expected to reallocate the overpayment of state aid, which the district has set aside. The true-up will be partially netted against the restoration of last year's state aid decline. The budget funds modest 1.5% pay hikes and includes only three administrative positions for a new elementary school scheduled to open this fall.

Preliminary fiscal 2016 budget considerations include the addition of only seven teachers for the new elementary school, as the bulk of its teaching staff will be reallocated from existing campuses. Likewise, management reports the school will primarily serve students currently attending other district campuses pursuant to redrawn school boundaries.

ABOVE AVERAGE DEBT/CONTINUING CAPITAL NEEDS
The district's overall debt is above-average at \$5,973 per capita and 8.5% of market value. However, due partly to state support for debt service and a slow principal amortization rate (29% in 10 years), debt service carrying costs were low at 6.2% of governmental spending in fiscal 2014.

In May 2013, the district exhausted its 2011 bond authorization. The 2011 bond program was projected to bring the district's debt service tax rate to \$0.41 per \$100 of TAV, based on reasonable TAV and enrollment growth assumptions. The rate has climbed to only \$0.36, and as a result the district retains adequate debt capacity in relation to the attorney general's tax rate cap of \$0.50 for new debt issuance.

Fitch expects the district's overall debt ratios to remain elevated due to enrollment growth pressures and slow debt amortization. A facilities master plan, scheduled for completion this fall, will guide the decision regarding the size of the next bond election--planned in one to two years. Current school capacity is most pressured at the high school and elementary school levels, although the district reports that it has not been necessary to use portable classroom buildings.

AFFORDABLE PENSION BENEFITS
The district's pension liabilities are limited to its participation in the state pension plan administered by the Teachers Retirement System of Texas (TRS). The district's annual contribution to TRS is determined by state law, as is the contribution for the state-run post-employment benefit healthcare plan. However, school districts are susceptible to future funding changes by the state as evidenced by a new, relatively modest employer contribution requirement of 1.5% of salary effective fiscal 2015.

At Aug. 31, 2013, TRS reported a funding level of 81%, and funding was still satisfactory at 73% using a 7% investment return assumption. Including debt service, pension and other post-employment benefit contributions, district payments on long-term liabilities were modest at 7.2% of governmental spending in fiscal 2014 (net of 17% state support for debt service).

TEXAS SCHOOL DISTRICT LITIGATION
For the second time in the past two years a Texas district judge ruled in August 2014, that the state's school finance system is unconstitutional. The ruling, which was in response to a consolidation of six lawsuits representing 75% of Texas school children, found the system inefficient, inequitable, and underfunded. The judge also ruled that local school property taxes are effectively a statewide property tax due to lack of local discretion and therefore are unconstitutional.

Following a similar ruling in February 2013, the judge granted a motion to reopen the lawsuit four months later after state legislative action that partially restored state funding levels and made other program changes. The Texas attorney general has appealed the judge's latest ruling to the state supreme court. If the state school finance system is ultimately found unconstitutional, the legislature will be directed to make changes to the system to restore its constitutionality. Fitch would view positively any changes that include additional funding for schools and more local discretion over tax rates.