Why Expansive School Choice Policies Make Credit Agencies Jittery

By Daarel Burnette II — February 11, 2020 3 min read
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States in recent years have been eager to expand the options parents have when choosing schools for their children, including through charters and open-enrollment programs. For some districts, though, losing hundreds of students at once can have a devastating impact on their credit scores.

Earlier this month, for example, S&P Global Agencies, a major credit-rating company, downgraded the credit rating for Wisconsin’s Palmyra-Eagle school district by two notches to junk status, making it increasingly difficult for the district to take out short-term loans to pay down a rising pile of bills. (Any loan the district does take out will likely have a high interest rate.)

The district, which unsuccessfully attempted to dissolve earlier this year, has lost almost half its enrollment in the last decade to surrounding, wealthier suburban districts as the state has expanded its open enrollment policies.

The situation in this mostly rural, southeastern corner of Wisconsin has drawn the attention of several credit-rating agencies and The Bond Buyer, a trade publication that writes about the municipal bond industry. (Palmyra-Eagle has about $13 million of bonds outstanding.)

Moody’s, which does not rate Palmyra-Eagle’s schools, but does rate more than 3,000 school districts across the nation, including several surrounding Wisconsin districts, wrote its own analysis of Palmyra-Eagle’s situation last month.

Analysts say Palmyra-Eagle is indicative of a larger trend of districts in states with expansive open enrollment policies or a rapidly growing charter sector. Because school funding is so heavily linked to student enrollment, revenue for districts in highly competitive areas is very volatile and unpredictable. These school choice policies, analysts say, have a compounding impact on districts’ budgets.

“As long as students can enroll out, that would be an ongoing risk for school districts,” said Andrew Truckenmiller, an S&P Global Ratings analyst.

Tricky Forecast

Chief financial officers working for districts in hypercompetitive markets are having a difficult time making revenue forecasts, analysts say, since students and their parents decide to transfer schools for a wide array of reasons. Districts don’t learn of the impact of school choice policies until school starts at the beginning of the year, long after they’ve crafted their budget. Other factors impacting district enrollment such as new housing developments, low birth rates, or the shuttering of a local factory are much more predictable.

Budget cuts often hurt the education product, which leads to a larger exodus of students, Moody’s pointed out.

The majority of America’s 13,000 school districts don’t face strong competition, analysts point out, and districts, for the most part, have had strong and/or improving credit ratings in the decade since the end of the Great Recession. Agencies look at a variety of factors when determining a district’s credit rating, including debt, liability, financial management, and the health of districts’ reserves.

In 2015, Moody’s downgraded more than 46 Michigan school district ratings because the districts were losing so many students to surrounding districts and charter sector which, that year, took in more than $1.2 billion in state aid.

The outlook is especially sobering in Wisconin, which has seen the use of open enrollment skyrocket since that option was first enacted in 1998. Last year, more 61,000 students enrolled in neighboring districts, almost double the rate of students who participated in the program in 2010 and up from just over 2,400 students when the program started.

Palmyra-Eagle faces $2 million budget deficit it needs to close before the start of next school year. Four members of its school board resigned last month after the state rejected its attempt to dissolve.

Analysts also point out that the state’s refusal to dissolve the district has placed the district in an even worse scenario.

“The ... denial of dissolution highlights the lack of structured state oversight for school districts in Wisconsin on the path to financial distress,” Moody’s analysts wrote.

Moody’s said in its commentary that states and districts can mitigate the impact of open enrollment on districts’ budgets. Minnesota, for example, allows districts to keep the property tax revenue a student would have generated if the student transfers to a charter school or surrounding district. And in Wisconsin, Twin Lakes School district, which last year lost almost a third of its students to open enrollment, has kept more than 55 percent of its revenue stashed away in its saving account, according to Moody’s. (An average district keeps around 15 percent of its revenue stored in savings accounts).

A version of this news article first appeared in the District Dossier blog.

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