Texas’s Most ‘Dysfunctional District’ Plans Muni Market Comeback

  • Beaumont on the mend after cheating scandal, FBI probe
  • Still ‘taint’ after Moody’s raises rating, investor says

After surviving internal corruption and questions about the spending of bond money, the Beaumont Independent School District on the Texas Gulf coast is seeking to win back the trust of investors.

The district of about 19,000 students in the heart of Texas’s petrochemical industry plans to issue about $140 million in bonds through competitive bidding next week. Beaumont is seeking to take advantage of some of the lowest interest rates since the 1960s to refinance about half its debt. It last borrowed in December 2012.

While Moody’s Investors Service noted improved finances in raising the district’s rating one level to A3 on Aug. 15, investors may not be so soon to forget. That’s even with the issue being backed by the state’s $35 billion Permanent School Fund, which carries Moody’s top rating of Aaa.

“The taint typically takes a bit to go away after a scandal,” said David Jaderlund of Jaderlund Investments in Santa Fe, New Mexico. He doubts he will bid for the district’s new securities.

The district, labeled the state’s “most dysfunctional” by the Texas Observer in November 2014, has struggled through the many cycles of the energy industry. Ratings cuts by Moody’s, S&P Global Ratings and Fitch Ratings show how quickly finances can erode when day-to-day pressures are exacerbated by embezzlement, fraud and mismanagement. And how fast it can turn around.

“They’d gotten into a financial mess,” said Grayson Nichols, lead analyst for Moody’s on the district. “This has gotten a lot cleaner and more reliable because of new management.”

The changes the district has made, combined with the Permanent School Fund backing, are expected to help erase the taint on the district’s bonds, which will be sold through competitive bidding, said Cheryl Hernandez, chief financial officer.

“We’ve really been working hard to clean it up,” said Hernandez. The district has improved test scores, is rebuilding reserves and even has enough money to give raises and cut taxes, she said. “Everybody who was with the district before is gone.”

Operating Deficit

It all came to a head in February 2014, after Moody’s cut the district’s debt two levels to A1 from Aa2, citing Beaumont’s eroding finances. At the time, the Texas Education Agency, which oversees the state’s schools, was investigating district finances and contracting procedures and alleged cheating in state tests and reporting of attendance. The U.S. Attorney was also investigating district finances after indicting two officials for fraud in January 2014.

Moody’s warned at the time that the investigations could bring significant liabilities and further erode the district’s credit quality. Financial mismanagement and reductions in state aid had led to an operating deficit of $11.3 million for fiscal 2012, when the district had been predicting a $45 million surplus, Moody’s said. Less then two months later, Moody’s cut the district’s tax-backed debt three more levels to Baa1, in part based on a Texas Education Agency report that predicted a much larger operating deficit than expected.

Guilty Pleas

Devin Wayne McCraney, the district’s finance director, and Comptroller Sharika Baksh Allison, pleaded guilty in federal court in April 2014 to stealing more than $4 million. Other district employees also faced charges and filed guilty pleas.

In July 2014, then Commissioner of Education Michael Williams appointed a seven-member board of managers to oversee the district, replacing the elected board of trustees, to oversee restructuring. Debbie Ratcliffe, spokeswoman for the Texas Education Agency, declined to comment. According to a Moody’s Aug. 15 report, the district is expected to soon transition back to a new elected board under oversight of the education agency.

The appointment of new professionals with accounting experience and the new board were key to the quick turnaround, said Nakisha Burns, special assistant to superintendent John Frossard.

“The knowledge of the superintendent and the board allowed us to accomplish a lot of things in a short period of time,” said Burns.

Ratings Downgrades

Fitch downgraded the district to as low as BBB+, noting the increased role the state was expected to take in managing the district and its concern about lack of information about the district’s finances. S&P lowered the district to as low as BBB+, citing declines in fund balances due to three years of deficits.

Meanwhile, last year the district hired an accounting firm to look into whether the funds from $388.6 million of bonds approved by voters in 2007 were being spent properly. The audit hadn’t been concluded by the date of its Aug. 31, 2015, annual financial report.

The district probably won’t be returning to voters again anytime soon for more bond authorization, said Moody’s Nichols.

“They’re still trying to recover from the black eye,” he said.

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