OREANDA-NEWS. Fitch Ratings has affirmed the 'A+' rating on the following Kernville Union School District's general obligation (GO) bonds:

--\$2.7 million, series 2004A.

The Rating Outlook is Stable.

SECURITY

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

KEY RATING DRIVERS

SOUND FINANCIAL POSITION: The district's financial position is sound, characterized by solid fund balances and historically surplus operations. However, the district expects to use accumulated reserves for capital over the near term.

LIMITED ECONOMY: The limited local economy is reliant on tourism and agriculture, and as a result, wealth levels are well below average. However, top taxpayers are diversified and the tax base performed adequately.

STATE DEPENDENCE: The district's dependence on the state of California for funding requires careful management of significant revenue volatility and payment deferrals. Recent state funding trends are positive for the district.

INCREASING CARRYING COSTS: The district's overall debt burden is moderate; however, direct debt amortization is very slow due to the extensive use of capital appreciation bonds (CABs) with escalating debt service. Retiree costs are currently manageable, though pension costs are scheduled to rise steeply as the state addresses underfunding in its teachers retirement system (CalSTRS).

RATING SENSITIVITIES

MATERIAL REDUCTION IN RESERVES: Fitch expects the district to remain structurally balanced and to maintain reserves comfortably above its 10% target. Material reduction to fund balance or deficit operations would result in negative rating pressure.

CREDIT PROFILE
The district encompasses approximately 295 square miles of northeastern Kern County (the county), almost 50 miles northeast of Bakersfield. The district is centered around the city of Lake Isabella.

SOUND FINANCIAL PERFORMANCE WITH NEAR TERM SPENDING PRESSURE
The district's financial performance has been sound, characterized by several years of moderate net operating surpluses despite volatile state funding. The district ended fiscal 2014 with a \$153,516 surplus (2% of spending), bringing its unrestricted fund balance to a solid \$2.4 million, or high 30% of spending. Despite increasing per pupil funding and increased enrollment, the district expects to draw on fund balance in fiscal 2015 to provide salary increases. The estimated deficit would bring unrestricted fund balance down to about \$2 million, or 22% of spending.

In addition, in fiscal 2016, the district plans to use about \$800,000 of accumulated reserves for a portion of its primary capital project, the kindergarten complex modernization. This, along with a conservatively forecast, modest operating deficit, could bring unrestricted fund balance to about \$1.1 million, or an adequate 13% of spending in fiscal 2017. Given the district's history of conservative budgeting, Fitch expects fund balance to remain comfortably above the district's 10% target.

District forecast revenues are aided by growing state per pupil revenues, particularly for districts that have a large proportion of students targeted under the state's relatively new Local Control Funding Formula (LCFF). In addition, the district's enrolment has reversed its decline, contributing to growing revenues. Furthermore, the district's revenue assumptions are fairly conservative so its actual results are likely to continue to outperform budget.

LIMITED LOCAL ECONOMY
The district had experienced sustained enrollment declines over the past decade largely as a result of the limited local economy. The trend appears to have reversed in fiscal 2014. Current school enrollment of approximately 869 is up from about 786 in fiscal 2012. The district is forecasting stable to growing enrollment as recent kindergarten classes have been larger than outgoing 8th grade classes. The local economy remains tourism-dependent given its proximity to Lake Isabella and Sequoia National Forest. Most of the county's economy is natural resource based; Kern is among the largest oil- and agricultural-producing counties in the nation. As a result of these two volatile sectors, county unemployment rates are consistently well above state and national levels (9.6% in November 2014).

The district reports that fiscal 2015 assessed valuation (AV) declined about 6.8% due to reductions in AV pursuant to proposition 8 which requires the assessor to reduce AV to the market value. This reduction reportedly reflects declines in value over several years which were not able to be incorporated because the number of sales had previously been below threshold levels to make adjustments. Prior to fiscal 2015, district AV had been quite stable.

According to Zillow, home prices were flat in the past year in the Lake Isabella area, supporting stable AV trends going forward. The top 10 taxpayers are a diverse mix of commercial, residential and agricultural businesses led by California Water Services Co., a private water company serving the region, which comprised 4.9% of district assessed value (AV) in 2014.

MIXED LONG-TERM OBLIGATIONS
Using estimates for overlapping debt and the full value of capital appreciation bonds (CABs), the district's overall debt burden is moderate at \$3,257 per capita or 3.9% of market value. The use of CABs with a rising debt service schedule reduces amortization to a very slow 24% in 10 years. Furthermore, maximum annual debt service [MADS] (fiscal 2040) on GO bonds of \$1.5 million (compared to \$355,864 in fiscal 2014), equals a high 17% of fiscal 2014 governmental spending, compared to 4% for fiscal 2014 GO debt service. Including the district's certificates of participation (COPs), debt service totals 7% of fiscal 2014 governmental spending.

The district is planning to issue its remaining authorization shortly to repay a portion of the COPs and to modernize its kindergarten complex. In addition, about \$800,000 in reserves on hand is expected to be used. Once this project is complete, the district reports not having additional capital needs.

The district participates in two state-sponsored employee pension plans and is likely to face ongoing increases in contribution rates to address current low funding levels. Funding for CalSTRS is a particular concern, as statutory contribution rates have been substantially below the level required to amortize existing obligations and most district employees are in this plan.

Total carrying costs including fiscal 2014 debt service, pension and OPEB costs consume a manageable 15.5% of governmental less capital spending. Using MADS, carrying costs would be a high 28% of fiscal 2014 governmental.