A New Higher Education Model; Not A One-Size Fits All Solution

For years, our nation’s colleges and universities have been active muni market participants, enjoying successful marketing and placement of both tax-exempt and taxable debt. Although the sector had been contending with pricing and competitive headwinds even before the pandemic-driven lockdown, the sector offered a quality haven with diversification attributes. When considering a higher education credit for possible investment, there are five key components that define overall financial health: market and competitive position; financial resources; debt and other liabilities; operational profile; management and governance. With summer sessions largely removed from the calendar, the fall semester is fast approaching and is shaping up to offer a very different experience across the sector. Without the socialization and campus experience, the price of admission becomes more difficult to justify, particularly if the school in question is outside of the Ivy League world and reflects a more homogeneous grouping. Many schools have been offering on-line learning and have been adapting to shifting demographic patterns long before COVID-19 as an integrated part of their curriculum and are therefore more prepared to provide a virtual learning experience. Although we are not saying that in-person learning will be going away beyond the shutdown effects of COVID-19, we do recognize that the delivery model can change enough whereby a school’s financial operations can be impacted.

Over the years, colleges and universities have expanded their scope of operations into multiple business lines that extend beyond the more conventional and core academic and research focus and that have helped to offset declines in tuition revenue. As we continue to make credit assessments across the higher education sector, we have to alter our perceptions and we must have a comprehensive understanding of a college or university’s mission statement which, for many, may be forever changed. Given the uncertain future of the sector, we suspect that a number of providers will lack the resources, competitive footprint, business diversification, and the ingenuity to survive. In our view, the large majority of colleges and universities that issue municipal bonds will have the wherewithal to fully and timely meet their debt service requirements over the near-term. Nevertheless, we will be watching for signs of stress that may result in diminished credit quality, and we will follow the spread volatility for higher education relative to other muni sectors. We suspect that a number of public schools will be exposed to cuts in state aid as many states will have to contend with severe revenue displacement and likely draws on reserve accounts.

Scale and financial prowess will be key determinants of future credit standing and we continue to view the larger public and private institutions having market leadership and brand recognition with top-ranked academic programs, a responsive and adaptive management team, pricing flexibility, sound demand/selectivity metrics, and historically strong financial operations as those that are best suited to mitigate downgrade risk. As part of higher education credit analysis, we have observed a high degree of ratings stability prior to the emergence of COVID-19, yet sector trends have portrayed a more uneven trajectory among cohorts. Part of this reflects weaker revenue diversification and pricing power for a number of schools given rising competition and heavier per-student discounts, and efforts to contain college/university costs are considerably more challenging for many cohorts. Overall net tuition revenue growth has been softer, international student enrollment has shown declines given stricter immigration policy guidelines, levels of high school graduates have been flat to down, and a stronger economy had attracted more college age people into the workforce. Deferred maintenance and increasing age of plant will continue to pressure certain institutions.

Certain schools have a more difficult time advancing a strategic response to evolving conditions than others and we have also noted an uneven application of leverage with CAPX funding. Furthermore, variability in federal/state funding for research and other aid, investment performance, and philanthropic activity contributes to negative under-tones for the higher education sector. Today, colleges/universities must demonstrate their ability to differentiate their menu of academic offerings as well as the overall campus experience to remain competitive.

For a comprehensive portfolio evaluation of your municipal holdings, please contact your Oppenheimer Financial Professional.