Moody's Investors Service today slapped a "negative outlook" on more than $3 billion in Philadelphia School District debt.
Moody's already rates the district's general-obligation borrowing Ba1, "speculative grade" (junk), meaning there's an increased likelihood investors might not get paid; it's now considering a possible further rating cut, which could boost future borrowing costs for the cash-strapped, shrinking public school system.
"The negative outlook reflects the district's weak financial position including a large budget gap for fiscal 2013 and the likelihood of a deficit borrowing to close the gap later in the year," according to Moody's.
"The district closed most of its significant budget gap for fiscal 2012 through a variety of adjustments, including the use of both ongoing and one-time revenue enhancements and expenditure savings. The district has outlined a budget gap of over $200 million for fiscal 2013, driven by increasing expenditures related to charter school growth and a very limited ability to raise revenue.
"In addition, fixed expenditures related to mandates and personnel costs continue to pressure the district to balance its operations.
"The district issued deficit funding bonds early in the 2000s, and has depended on several occasions since that time, on moderate use of one-time revenues to finance operating costs.
"The district also has a weak demographic profile and high unemployment, modest property value growth, and a heavy burden of tax-supported debt with moderate exposure to variable rate debt and interest rate swaps" -- bets the district and its financial advisers made in the early 2000s that interest rates would go up (instead they stayed low, saving money on variable-rate bonds, but also increasing the district's obligation to pay its bankers and bank investor clients who bet the other way.)
Despite the district's low rating, Philadelphia school debt has still been sold at an "enhanced Aa2" investment-grade" rating thanks to the Pennsylvania School District Fiscal Agent Agreement Intercept Program, which forces Philadelphia to divert state school aid to pay bondholders before it pays for school programs.
Moody's is also considering cuts to Pennsylvania's state credit rating, currently Aa1, and is considering a cut to the state-"enhanced" school bond ratings as well.
Moody's blamed, in part, the difficulty of convincing Philadelphia City Council to raise taxes, along with the district's existing "above average debt burden," its weak cash reserves, and its reliance on borrowing to pay short-term expenses, boosting debt still further.