This is shoddy reasoning that assumes that each school year is an independent trial. In reality, school years build on each other and usually success in the next year requires familiarity with and competence in the previous year's material, so a more reasonable assumption IMO would be that those kids' next year would if fact be closer to a normal distribution with a mean at the 17.5th percentile.

It's certainly arguable that some of the reason for the school's success is that they're selecting students into classrooms in which they're all 10th-25th percentile which lets the teachers zero out the effect of them having fallen behind without the stigma of being "the dumb class" if they were tracked that way inside another school. But if that's the case, isn't that a rather valuable effect?