WSJ
The bond markets are giving a new grade to America’s small colleges: A gentleman’s C.
Spooked by bad
news out of the higher-education sector in recent months, including
unexpected campus closures, potential mergers and poor enrollment
projections, some prospective buyers are steering clear of bonds being
sold by small, private colleges that don’t have national reputations,
schools that rely heavily on tuition revenue, and those in regions
facing population declines.
Moody’s Investors Service Inc. in September warned investors to expect closures at
public and not-for-profit colleges to triple by 2017 from an average of
five a year over the past decade, concentrated among the smallest
schools. Some small schools have experienced several years of shrinking
class sizes, which leaves fewer students paying for their relatively
high fixed costs, and have lost market share to larger universities,
Moody’s said.
Concerns about
market forces were at play at Roseman University of Health Sciences in
Henderson, Nev., when the school of about 1,500 students sought $67.5
million worth of bonds to pay for a new office and research building
last spring. The process took two to three times longer than usual, said
Ken Wilkins, the school’s vice president for business and finance.
Standard & Poor’s had downgraded the 16-year-old school’s debt in
February, and investors were asking about everything from the market
viability of the school’s academic programs to its possible responses to
increasingly far-fetched disaster scenarios.
“It felt excessive
at times, especially those questions which we affectionately began to
call the ‘asteroid questions,’” he said.
Roseman
ultimately sold the bonds at an average yield of 5.68% in April, about
three percentage points more than highly rated municipal bonds,
according to Thomson Reuters Municipal Market Data.
Roseman
joined colleges and universities that are selling more bonds than ever.
Schools including highly rated Stanford, Northwestern and the
California State University System have sold a record $32.7 billion
worth of debt through September, almost twice as much as in the same
period of 2014, according to data from Thomson Reuters. This “other”
college debt still is small compared with the market for student-lending
debt, which is $1.2 trillion.
Yet as many colleges and
universities are eager to tap the bond market to take advantage of low
interest rates, bond investors have grown wary of their debt.
Yields
on the S&P Municipal Bond Higher Education Index this week reached
2.55%, up from a low of 2.12% in February, and ahead of the broader
market’s 2.38%. Yields rise as prices fall. Investors often find some
extra yield in the higher education sector, which contains many
high-quality bonds but has grown increasingly risky when compared with
debt backed by essential services such as power or water, said Howard Cure, director of municipal research at Evercore Wealth Management.
“You can’t just buy bonds from your alma mater anymore, because you might end up getting the short end of the stick,” said Hugh McGuirk, head
of the municipal bond team at T. Rowe Price Group Inc. He said his firm
is generally avoiding small liberal-arts colleges and is sticking with
schools that have national brands and strong student demand, either
public or private.
Concerned
about volatility in the public markets, some low-rated colleges and
universities have been pursuing alternatives to bond issuance, such as
placing debt privately or borrowing directly from banks, says Lorrie
DuPont, head of the higher education finance group at RBC Capital
Markets.
Hawaii Pacific
University, a private school with campuses in Honolulu and Kaneohe,
Hawaii, opted in January for short-term bonds to finance the renovation
of a waterfront property, hoping that it can refinance the debt once its
credit rating—currently BB-plus by Standard & Poor’s—improves. The
school expects that the renovation will yield new retail and housing
revenue.
The school borrowed $32.5 million in a five-year deal at a 4.48% yield. Bruce Edwards, vice
president and chief financial officer, estimates that had the
institution opted for a more traditional 30-year bond, it would have
paid “a little bit north of 6%.”
All
the school’s new debt was bought by Nuveen, which had acquired a chunk
of the school’s $42 million issuance in 2013. While other investors
expressed interest, “they were going to need to do some lengthy due
diligence” and the school was looking for a fast close since
construction was already under way, Mr. Edwards said, and construction
deadlines outweighed questions over potential improvement in market
conditions later in the year.
For
schools without strong financial footing—or those in categories
perceived to be susceptible to financial pressure—the timing is far from
ideal. Many such institutions have put off facility upgrades since the
financial crisis and now face massive deferred maintenance backlogs, or
need cash to pay for capital projects that could make them more
attractive to potential students.
Moody’s
has been seeing undiminished demand to initiate ratings on smaller
colleges this year, the firm says, as schools fret about higher interest
rates on the horizon and look to access money through one outlet or
another.
McDaniel College in
Westminster, Md., is planning a private placement this fall to cover
about $3 million in new energy-saving and infrastructure upgrades. That
school last issued a bond in the public markets in 2006 and has funded
renovations and a new stadium with donations and cash on hand.
W.
Thomas Phizacklea, vice president for administration and finance, said a
private placement was more attractive because it allows the school to
avoid the upfront costs of issuing a bond in the public
markets—including fees for lawyers, accountants and ratings
companies—and provide more freedom when structuring debt-service
payments. Mr. Phizacklea said the school is near a 10-year bank deal and
has begun its cost-saving projects using available cash.
“I don’t think we’ll get a better rate” with a private placement, he said, “but I do think we’ll get more flexibility.”
Culled from wallstreet
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