Fitch Rates Abilene Christian Univ, TX, Ser 2016A & Taxable 2016B Rev Bonds 'A-'; Outlook Stable
The bonds are expected to sell via negotiated sale the week of September 5. Proceeds of the fixed-rate 2016A and 2016B bonds, combined with $33.27 million series 2016C variable-rate bank loan (not rated by Fitch), will be used to refinance $89 million of various bank loans, terminate swap contracts, fund working capital, make various capital improvements on the Abilene campus and the Germany academic site, and pay issuance costs. Post issuance, the 2016A, 2016B and 2016C bonds will represent nearly all of ACU's outstanding debt.
The Rating Outlook is Stable.
The bonds are an unsecured general obligation of the university. Based on preliminary documents, the series 2016 bonds are not expected to have a debt service coverage test, a minimum liquidity requirement or debt service reserve fund.
KEY RATING DRIVERS
SOLID BALANCE SHEET: ACU's balance sheet at May 31, 2016 is strong for the rating category with available funds equal to 190% of expenses and 170% of pro forma debt. The balance sheet provides some cushion as ACU makes strategic investments that have resulted in multiple years of operating deficits.
OPERATING DEFICITS: ACU has reported negative operating margins for all but one of the last six years, including fiscal 2016. Projections for fiscal 2017 reflect break-even results, based on assumed growth in graduate and on-line enrollment and net income growth at the ACU-Dallas campus. The university has been making strategic investments in recent years, although Fitch views operating results as weak compared to peers, and as a rating constraint.
STABLE UNDERGRADUATE ENROLLMENT: ACU's enrollment, which is principally undergraduate at the Abilene campus, has been relatively stable. The regional admissions market is highly competitive, leading to increased institutional aid and pressuring net tuition revenue in recent years. Additionally, university financial projections assume significant projected growth in graduate and on-line programs, which adds risk to ACU's demand profile.
MODERATE REVENUE DIVERSITY: Dependence on student revenue is about 71%, more diverse than many comparable private universities. However, financial aid has risen to 48%, which has limited net revenue growth.
ABOVE-AVERAGE DEBT BURDEN: Pro forma maximum annual debt service (MADS) burden is high at nearly 13% based on 2016 operating revenues. Excluding a 2018 bullet maturity being repaid from donor pledges, projected MADS is still moderately high, but more manageable at about 7%. The current refinancing simplifies a complicated mix of bank loans, which Fitch views favorably. ACU has no new debt plans at this time.
GENERATION OF OPERATING SURPLUSES: Failure of Abilene Christian University (ACU) to consistently improve operating margins and achieve positive MADS coverage could trigger a negative rating action. Fitch expects ACU to generate close to break-even margins on a GAAP basis in fiscal 2017, and positive margins thereafter.
HIGH DEBT LEVERAGE: ACU's high debt leverage is evidenced by insufficient pro forma MADS coverage and a high debt burden. Further growth in the MADS burden could negatively impact the rating, and Fitch believes that ACU is at its debt capacity.
MAINTAIN BALANCE SHEET: Solid balance sheet ratios and a $350 million endowment help offset ACU's negative operating margins and above-average MADS burden. Declines in balance sheet ratios relative to the rating category could pressure the rating.
ACU is a private, non-profit university founded in 1906 which is affiliated with the Church of Christ. The main campus is 250 acres, and students primarily attend full-time and live on or near the residential campus. ACU also has study abroad programs in Oxford, England; Montevideo, Uruguay; and Leipzig, Germany. Of 4,544 students enrolled for fall 2015 (4,267 full-time equivalent [FTE]), about 83% were undergraduate students.
ACU began participating in a Dallas learning and outreach center (ACU at CitySquare) in 2012 and in fall 2015, began leasing space for an academic site in Addison, TX, which is in the Dallas-Fort Worth Metroplex. This facility provides on-line, evening, and hybrid graduate degrees for adult and non-traditional learners. All ACU marketing, including ACU-Dallas, focuses on its core faith-based education. Graduate programs include education, ministry, nursing, engineering, and business.
ACU is accredited by the Southern Association of Colleges and Schools, and is in good standing. Various programs have additional professional accreditations.
ACU has a 33-member board of governors, a mix of civic, business and religious members. Members can serve up to five three-year terms, and are eligible for re-election after one year. Dr. Phil Schubert became ACU's eleventh president in 2010; he has been with the university for 23 years in a variety of roles including chief financial officer and director of strategic planning.
ENROLLMENT AND DEMAND
Headcount at ACU has historically been supported by undergraduate enrollment at the residential Abilene campus. Total ACU enrollment has increased modestly, but can be somewhat cyclical. Fall 2015 undergraduate FTE enrollment was 3,615, up 3.2% overall from fall 2011, but with periodic fluctuations during that time. Full-time graduate enrollment at the Abilene campus has been fairly stable over time, typically between 300-320.
Student quality is above the national average; average ACT scores for incoming freshmen are consistently about 24.4 (the national average is 21). Freshman applications have increased in each of the last five years. Matriculation rates have weakened, in part due to the resulting larger applicant pool that typically includes students with many academic options, but also due to a competitive regional market. Freshman matriculation rates were 27.5% in fall 2015, compared to nearly 60% in fall 2011. In view of ACU's faith-based academic focus, admissions statistics may incorporate some self-selection.
Substantial adult, on-line and evening enrollment growth is projected for the new ACU-Dallas academic center. Management projects increasing related enrollment from around 500 headcount to 2,650 in fiscal 2021. Fitch views this significant growth as both an opportunity and a challenge given the highly competitive regional market. Management reports that related expenses are flexible, significant resources have been focused on recruitment (some of which have contributed to recent operating deficits), and that overall, ACU-Dallas operations are projected to generate a profit over time.
ACU has greater revenue diversity than many peer private universities due to endowment income and campaign gifts. Net student revenue, including auxiliary income, has been about 71% of operating revenue in recent years, including fiscal 2016. The next largest revenue components in fiscal 2016 were net assets released from restrictions (10.6%) and endowment draw (7.1%).
ACU's operating margins, as adjusted by Fitch, have been negative in five of the last six years, including fiscal 2016. ACU's operating margins are weaker than those of peer Fitch-rated institutions, a factor that currently constrains the rating. Without positive operating margins, Fitch does not view ACU as having new debt capacity.
Margins in fiscal 2016 were negative $8 million (-6.6%); management reported that operations were better than originally projected, and included one-time ramp-up admissions and academic expenses for ACU-Dallas initiatives as well as at the Abilene campus. Operating margins were negative $6.8 million in fiscal 2015 (-5.9%), with flat net tuition revenue and increasing operating expenses (some of which were also related to strategic initiatives including ACU-Dallas).
Operations for fiscal 2017 are projected to be balanced on a GAAP basis. A primary assumption in those projections involves enrollment and net revenue growth in ACU-Dallas. To date management reports that fiscal 2017 budget projections remain on track.
Net tuition revenue growth for ACU has been fairly flat since fiscal 2013, largely due to pressures in tuition discounting and a competitive admissions environment. Positively, net revenue grew 8.2% in fiscal 2016. Fitch views ACU's ability to grow net tuition revenue, actively control expenses, and manage its discount rate to be critical in achieving balanced GAAP operating results.
ACU has a solid fundraising record. Currently there are two campaigns that are project specific. "Partnering in the Journey" was launched in 2012 with a goal of raising $50 million for scholarships; management reports that goal has been reached. The "Vision in Action" campaign was launched in 2014 with a goal of raising $45 million for science facilities (which goal has been achieved), and $50 million for athletic facilities (this fundraising component is continuing). The $33 million series 2016C variable-rate bank loan is bridge financing for legally binding pledges related to these recent goals. ACU's last campaign ended in 2008 and raised $150 million.
WEAK MADS COVERAGE
ACU has not achieved current debt service coverage in the last four years due to operating deficits (some of which were strategic). MADS coverage in fiscal 2016 is very poor at about 0.2x. Excluding a bullet maturity to be paid from legally pledged gifts, MADS coverage is only slightly better at about 0.5x. As a result, the university has had to draw down on internal reserves.
Operating deficits and negative MADS coverage are only partially offset by strong balance sheet ratios and a relatively large endowment of about $350 million at May 31, 2016. To sustain the 'A-' rating, Fitch expects ACU's MADS coverage (excluding the bullet maturity) to be consistently positive on a GAAP basis starting in fiscal 2017.
STRONG BALANCE SHEET
Available funds (AF; defined by Fitch as cash and investments less permanently restricted net assets) was $246 million at fiscal 2016, down from $287 million in fiscal 2015. The decline was a mix of investment market fluctuations, planned operating deficits, and internal bridge funding of some capital projects (some of which will be reimbursed from bond proceeds). Fiscal 2016 AF equaled a very strong 202% of operating expenses ($129 million) and 182% of pro forma debt (about $145 million). Fitch views ACU's balance sheet ratios as very strong for the 'A' rating category, partially off-setting the weak operating history.
AGGRESSIVE ENDOWMENT PORTFOLIO
ACU's endowment portfolio is very aggressive in Fitch's view. At May 31, 2016, endowment market value was $350 million. The percent of equities and fixed income investments was 27.6%, and alternative investments (absolute return, private equity, real assets and separately invested) was a high 72%. Investment liquidity relative to operating budget and the annual endowment draw is adequate.
MANAGEABLE DEBT LEVERAGE
ACU has no additional debt plans at this time, and Fitch believes ACU is currently at debt capacity. Post-issuance debt is projected at $145 million, 75% of which is fixed-rate debt with serial maturities. The 2016C variable-rate bank loan is expected to be repaid as pledges are collected, no later than 2027. The bank loan has no 'put' or reset requirement, and related loan documents do not impose any material additional covenants.
Above-Average Debt Burden
Pro forma MADS burden is high at nearly 13% based on 2016 operating revenues. Excluding a 2018 bullet maturity being repaid from donor pledges, projected MADS is still moderately high at about 7%. The series 2016C bank line is redeemable at any time.
The pro forma debt structure consolidates a complicated mix of bank loans, and eliminates various debt covenants. Post issuance, debt is about 75% serial fixed-rate; the series 2016C variable-rate bank loan is structured to allow prepayment when donor pledges are collected. Fitch expects ACU's debt burden to moderate over time.