Closing 12% of Philadelphia Schools Creates Winners: Muni Credit

The Philadelphia school Kisha Javis’s daughter attends is among buildings that may close in June as the eighth-biggest U.S. district tackles deficits. Investors have backed the fiscal plan, pushing the district’s municipal bonds to a three-month high.

Officials facing a $1.35 billion spending gap over five years are set to vote tomorrow on a proposal to shut almost 12 percent of Philadelphia’s public schools. Javis and other parents say the district should find other ways to fix its finances.

“It’s not fair,” Javis, 27, said as she walked 5-year-old Kimyni home from kindergarten at Thomas M. Peirce School. “They need to step up.”

In the $3.7 trillion municipal market, the prospect of reduced spending has led buyers to push relative borrowing costs on some Philadelphia school bonds to their lowest since November, data compiled by Bloomberg show. The yield spreads may shrink more with the vote by the School Reform Commission, a panel that runs operations and is appointed by Pennsylvania’s governor and Philadelphia’s mayor.

Budget Balance

“This really helps them deal in the short term to get their budgets more and more in balance, which is usually good for credit ratings and potentially good for spreads as well,” said Paul Brennan, a senior portfolio manager at Chicago-based Nuveen Asset Management. The company oversees about $90 billion in munis.

The district of about 205,000 students isn’t alone in shuttering facilities as enrollment falls while the percentage of students attending publicly financed charter schools almost triples. Chicago, the nation’s third-largest district, will release a proposal this month on closing some of its schools.

The trend of closings that began in the past decade will probably continue, said Larry Eichel, project director of the Philadelphia Research Initiative at the Pew Charitable Trusts.

“There’s nothing to suggest that things are going to turn around dramatically,” said Eichel, who has researched the phenomenon nationally.

In 2000, Philadelphia public schools educated 200,000 students. This academic year, excluding charter schools, the institutions host about 150,000, school data show.

Annual Savings

The nation’s fifth-largest city anticipates saving $24.5 million a year by shutting 29 of its 249 buildings in June. The average building is 64 years old, according to a financial audit. More than 82 percent of students are “economically disadvantaged,” meaning they receive free or reduced-price lunches, school data show.

“It’s very likely” more schools would be closed over the next five years, said Fernando Gallard, a district spokesman, who said he couldn’t estimate how many.

“We are wasting money maintaining empty seats and empty space in our buildings,” Gallard said. “There is a better use for that money.”

Bond buyers view officials as trying to get a handle on their finances, said John Donaldson, director of fixed income at Radnor, Pennsylvania-based Haverford Trust Co., who manages $750 million in munis.

Return Reach

With yields still close to generational lows reached in December, investors are also seeking lower-quality debt for higher returns, he said.

“Demand for incremental yield is still very strong, but without some progress from the district you wouldn’t see that tightening,” Donaldson said. “The two go hand in hand.”

The yield spread on Philadelphia school bonds maturing in September 2038 was as little as 2.18 percentage points last month, the smallest difference over top-rated debt since November, Bloomberg Valuation pricing data show.

Because of a program that diverts state aid to school debt, Moody’s Investors Service rates the securities Aa3, fourth-highest. The bonds have an underlying grade of Ba1, the highest level of speculative grade.

“It is a tough political decision to say we’re going to close a bunch of schools,” Donaldson said. “There are going to be emotional ties. But they’re necessary from a financial side.”

Community groups say officials haven’t fully considered the consequences of closures on children and neighborhoods.

‘Downward Spiral’

“If you close the school down, you’re increasing the downward spiral of an already struggling neighborhood,” said Craig Robbins, executive director of Action United, a Philadelphia nonprofit group that urges a moratorium on the proposal.

Robbins said officials are responsible for the fiscal crisis because they “wildly expanded” charter schools, which receive district funding. In a financial filing for the year ended in June that was released last month, the district said it’s a “national leader in providing meaningful school choice to parents and students.”

A projected 29 percent of students will attend charter schools in fiscal 2013, compared with less than 10 percent in 2003, Moody’s said. In fiscal 2012, the district’s charter-school obligations increased by about $120.9 million, while the state eliminated $109.5 million in aid for charters, the filing said.

In a sign of its fiscal stress, the district, which has about $3 billion in debt, sold $300 million of bonds in October to plug a budget deficit.

Following is a pending sale:

NEW YORK CITY MUNICIPAL WATER FINANCE AUTHORITY plans to sell $517 million of tax-exempt revenue bonds as soon as next week. Proceeds will refinance debt, according to the authority. (Added March 6)

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