The credit ratings of 43 school districts in Michigan have been downgraded so far this year by Moody’s Investors Service as they struggle with falling revenue and rising costs.
It’s no wonder, say financial experts. Districts are grappling with declining enrollment, and they can’t generate enough revenue because state law bars them from raising local property taxes for operating funds above 18 mills on non-homestead properties.
A credit downgrade, which can raise a district’s cost to borrow money, hits hardest the districts that have to borrow large amounts.
There have been so many downgrades “because Michigan school districts don’t have revenue-raising flexibility and many are losing enrollment, which has a direct impact on revenues,” said David Jacobson, a spokesman for Moody’s Investors Service.
“Many have made significant expenditure cuts in recent years, including layoffs, keeping wages flat, or even cutting wages, and cuts to programs/increase in pay-to-play fees for extracurriculars. This has led to declines in financial operations — reserve levels in particular.”
Mike Addonizio, a school finance expert and professor of education at Wayne State University, says the Moody’s rating cuts reflect a long, steep recession in which Michigan fell behind many other states economically.
“Michigan is now a relatively poor state, ranking 41st among states in Gross State Product per capita,” he said. “That would impair the credit worthiness of local governments, including school districts.”
Districts being downgraded range from the state’s largest district, Detroit Public Schools, lowered from B3 to Caa1, to small rural districts such as the Morenci Area Schools, in Lenawee County, cut from Baa1 to Baa2.
Moody’s uses letters and numbers to signify credit risk. From lowest risk to highest risk, the rankings are Aaa, Aa1, Aa2, Aa3, A1, A2, A3, Baa1, Baa2, Baa3, Ba1, Ba2, Ba3, B1, B2, B3, Caa1, Caa2, Caa3, Ca, C. Anything below Baa3 is considered too risky to be a guaranteed investment.
Morenci Superintendent Mike McAran said the downgrade reflects the district’s struggle with declining enrollment and flat state aid payments.
The district’s K-12 student count has fallen from about 790 to 670 in the past five years. Morenci, which projects general fund revenue of just under $6.4 million for 2015-16, started the fiscal year with a fund balance of $285,360.
“For cash flow borrowing, we need $850,000,” McAran said. “If the fund equity was 10-15 percent, not 4.5 percent, the district would not have to borrow and pay back $850,000 with interest.”
McAran said the district is “very concerned” about rising interest rates.
“However, the district has other more pressing concerns: raising test scores, offering a full curriculum and full extracurricular package, managing special education costs, and while attracting new students,” he said.
1 district upgraded
Moody’s rates 203 school districts in Michigan annually.
Jacobson said as of Friday, the company had just one school district left to rate for this year and has upgraded just one district: Oak Park, from Baa3 to Baa2.
The Oakland County district has a $2.6 million general fund balance and about 4,500 students, up 1,100 from five years ago. Three years ago, the district had a $5.5 million deficit.
“Oak Park School District has earned an upgraded rating due to the district’s recent operating surpluses, positive enrollment trends over the past five years, and elimination of the deficit balance,” said Superintendent Daveda J. Colbert.
Moody’s downgraded the Farmington Public School District from Aa2 to Aa3 and said in a report about the rating that its “outlook remains negative.”
The Aa3 was assigned to $79.8 million of general obligation bonds, which are the most common in Michigan, according to Jacobson. Moody’s says “the negative outlook reflects the district’s ongoing trend of operating deficits and continued revenue pressure from persistent enrollment declines.”
Mary Reynolds, the district’s executive director of business services, said she has seen no impact from the downgrade.
“We had a very positive response from investors when we went to the bond market in June and had more than double the buyers needed
for the sale of the bonds,” she said. “We felt this was very positive.”
Moody’s downgraded Wayne-Westland Community Schools from A3 to Baa1 and maintained a negative outlook.
The Wayne County district said the downgrade will not affect students’ education.
“Debt service is separate from the district's operating fund,” said James Larson-Shidler, deputy superintendent of administrative and business services. “This does not impact classroom spending.”
He continued, “There are no plans for a bond issue at this time, so rising interest rates do not impact the district currently.”
Craig Thiel, senior associate with the Citizens Research Council, said the state’s method of funding schools puts districts under additional financial pressure as they struggle with lower birthrates and increased competition from charter schools, cyber schools and even other public districts under Schools of Choice.
“Michigan funds its public schools based on a per-pupil foundation grant,” he said. “This funding follows a student to the district of his/her choice. As students move from one district to another, they take the per-pupil funding with them.
“Districts are forced to recognize the funding change immediately in their budget, even if the cost of supplying education (in total) does not change with the exiting students,” Thiel said. “When districts are unable to ‘manage down’ in lock step with the decline in financial resources, they may be forced to dip into their rainy day reserves (if available) or operate in a deficit situation. The use of rainy day funds over a long period of time is not sustainable.”
According to Bloomberg Business, part of Bloomberg LP, a privately held financial software, data and media company headquartered in New York City, the credit deterioration of the districts illustrates the uneven recovery among school districts and other municipal borrowers more than six years after the U.S. recession ended.
Addonizio also pointed to the state’s shrinking pool of school-age children. Since 2002-03, he said, more than three-quarters of the state’s school districts have lost students .and enrollment has fallen by about 200,000, to just under 1.5 million.
“Michigan is one of only 13 states that lost K-12 enrollment between 1993 and 2011, and our losses have continued since then. These statewide losses are the result of demographics and families leaving the state. The school districts’ enrollment losses are compounded by the proliferation of charter schools in Michigan, which pull students from traditional districts,”Addonizio said.
David Arsen, a professor of education policy and educational administration in Michigan State University’s College of Education, attributes the credit downgrade to per-pupil state foundation aid, which he said “has not kept pace with inflation for over a decade.”
In June, lawmakers approved a $13.89 billion school aid bill that raises state spending 1.5 percent over the 2015 fiscal year, or $209.3 million more. But at the same time, payments to the Michigan Public School Employees Retirement System will rise $216.5 million, leaving districts to complain they got no net increase for classroom teaching.
“Most districts have implemented cost-reduction measures, and many hard-pressed districts have also drawn down their fund balances,” Arsen said. “The budget squeeze is especially sharp for districts that have lost enrollment due to resident population decline or loss of students to charter schools or other districts through interdistrict choice.”
“There’s no mystery or miracle cures here,” Arsen said. “Education is a labor-intensive service. If a district’s revenues decline, they typically have to curtail employee compensation and/or services.”
Layoffs, program cuts and other reductions “can lead to a death spiral of sorts as it signals to potential families and students that the district is flagging,” Thiel said.
“This might result in more students leaving, driving finances further into the red.”