OREANDA-NEWS. Fitch Ratings has affirmed the 'A' rating on the $28.1 million outstanding series 2010 Indiana Finance Authority revenue bonds issued on behalf of the Indiana Historical Society (IHS, or the society).

The Rating Outlook is Stable.

SECURITY

The series 2010 bonds are an unsecured general obligation of IHS, payable from all legally available funds. There is a cash-funded debt service reserve at maximum annual debt service (MADS).

KEY RATING DRIVERS

BALANCE SHEET STRENGTH: The 'A' rating remains supported by IHS's strong balance sheet ratios and indirect support from the state of Indiana (Issuer Default Rating of 'AAA'/Outlook Stable) for utility expenses.

REVENUE CONCENTRATION: IHS operating revenues are highly reliant on endowment earnings for both operations and debt service. There is limited flexibility from earned income and periodic gifts and grants. As such, IHS's above-average endowment draws remain a concern.

HIGH DEBT BURDEN: IHS has a high fiscal 2015 debt burden of 19.7%, which while not inconsistent with other Fitch-rated cultural institutions, limits expense flexibility. This is partially mitigated by unrestricted endowment that exceeds three times outstanding debt principal.

OPERATING DEFICITS: IHS has reported six consecutive years of operating deficits, through calendar 2015, which have been funded from unrestricted endowment. The society continues to work to moderate the deficits and the endowment draw, but it is a slow process. Fitch currently views IHS's significant balance sheet ratio strength as a mitigating factor, providing a cushion for the organization to manage expenses, build endowment, and return to more sustainable endowment draws over time.

RATING SENSITIVITIES

BALANCE SHEET STRENGTH: Significant declines in available funds ratios - which currently are strong relative to peer non-profit institutions - could trigger a negative rating action.

OPERATING DEFICITS: Failure of the Indiana Historical Society (IHS) to moderate operating deficits and demonstrate steady progress in returning to a sustainable endowment draw, and to grow endowment could lead to a rating downgrade over time.

DEBT CAPACITY: Fitch considers IHS as having no new debt capacity at the existing rating level; there are no debt plans at this time.

CREDIT PROFILE

Located in downtown Indianapolis, IHS was founded in 1830 as a private, nonprofit organization to collect, preserve, interpret, and share Indiana's history. The facility was constructed in 1999 on land leased from the state and contains several storage and research facilities, a library, exhibition space, meeting rooms and a theatre. The interactive 'Indiana Experience' exhibit opened in 2010.

Annual attendance has been increasing in recent years, and was 134,175 in 2015 (up from 107,566 in 2014). IHS's membership base is about 5,000. IHS has about 134 full - and part-time employees, and senior staff composition has been stable. Independent board members can number up to 33. The organization is currently studying fundraising feasibility, which management reports would likely focus on endowment and program support. IHS's last fundraising campaign ended in 2012, and raised $19.5 million.

STRONG BALANCE SHEET

IHS's rating remains supported by strong balance sheet ratios and a comparatively large unrestricted endowment relative to operations and outstanding debt. Available funds, defined by Fitch as cash and investments not permanently restricted, was $96 million at fiscal-year end Dec. 31, 2015, down from $104 million in fiscal 2014. Much of IHS's available funds are unrestricted endowment, which represented a very strong 809% of fiscal 2015 operating expenses (about $12 million) and 341% of outstanding debt ($28.1 million). Fitch views these ratios as strong for the rating category.

IHS investments consist of a fairly typical mix of equities (55%), cash and fixed income (21%), and alternative securities (24%). IHS's endowment had peaked at $122 million in 2007, but unlike most Fitch-rated institutions, the market value has not rebounded from pre-recession levels due largely to above-average endowment draws to support debt service. In addition, IHS contributed $10 million to prepay debt in 2010.

The IHS endowment draw is based on a rolling three-year average of market value and, including both operations and debt service, effectively ranged from 5.1% in fiscal 2010 to 7.05% in fiscal 2015. The effective draw rate for the fiscal year ending Dec. 31, 2016 is projected at 6.8%. Fitch views this rate as above average and not sustainable long-term given IHS's reliance on endowment spending for over half its annual operating revenue. University and cultural institution endowment draws are typically 4% - 6% of market value.

One of the society's 2013-2018 strategic plan goals is to reduce the operating portion of the endowment spend rate from 5% in fiscal 2015 to 4.25% by fiscal 2018. Management reports the fiscal 2016 budget assumed a 4.75% operating draw, and the 2017 budget will assume 4.5% operating draw. The all-in draw, including annual debt service, is expected to remain above average.

OPERATING DEFICITS

IHS budgets on a cash-basis, with balanced operating budgets. However, because budgets do not include debt service or depreciation and may include prior-year carry-over, audited IHS operating performance has been negative on a GAAP basis since fiscal 2010. Fitch expects similar negative GAAP results for fiscal 2016. Operating results in fiscal 2015 were negative $1.37 million (an operating margin of negative 13.1%), which compared to negative $2.1 million in fiscal 2014, negative $1.4 million in fiscal 2013, and negative $1.5 million in 2012.

IHS's operating profile is dominated by endowment-related income. On a GAAP basis, fiscal 2015 operating revenues included the endowment draw (47%), net assets released from restriction (20.5%), and non-cash state of Indiana support for utilities (13%). Gifts (8.4%), membership income and retail sales comprised a smaller 19% of operating revenues.

DEBT

Debt was $28.1 million at Dec. 31, 2015, all of which is the fixed-rate series 2010 refunding bonds, with essentially level debt service. MADS represented a high 19.7% of fiscal 2015 operating revenues, which is not uncommon among cultural institutions. Annual debt service was $1.9 million, only slightly lower than the $2.06 million MADS in 2040.

IHS's debt repayment plan is based on future fundraising and current use of unrestricted endowment. Per the audit, fiscal 2015 net income available for debt service (including only the operating portion of the endowment draw) generated MADS debt service coverage of only 0.4x. Annual debt service is essentially paid from unrestricted endowment. Fitch considers IHS's endowment ($96 million) solid relative to outstanding debt ($28.1 million). However, long-term growth in the spending power of that endowment is important as it is IHS's major revenue source.

At this time, due to the GAAP operating deficits and above-average endowment draws, Fitch does not view IHS as having any additional debt capacity at the current rating.