Embed Size (px)
Citation preview
U.S. PUBLIC FINANCE
SECTOR IN-DEPTH5 May 2020
Contacts
Wesley Coggins +1.212.553.1927Associate Lead [email protected]
Christopher Collins [email protected]
Susan I Fitzgerald +1.212.553.6832Associate Managing [email protected]
Florence Zeman +1.212.553.4836Associate Managing [email protected]
CLIENT SERVICES
Americas 1-212-553-1653
Asia Pacific 852-3551-3077
Japan 81-3-5408-4100
EMEA 44-20-7772-5454
Privatized student housing - US
University support, debt coverage mitigatescoronavirus revenue impact in near termUniversity support and strong debt service coverage levels will mitigate both the decline inrental revenue as a result of the coronavirus outbreak and the need for most projects to taptheir debt service reserves to make debt service within the next six months. Many universitieshave vacated their privatized projects of almost all student tenants for the remainder ofthe spring semester in response to the coronavirus outbreak, with students being offeredprorated refunds for the remainder of their lease agreements. How the pandemic will affectpre-leasing and university enrollment for the fall semester remains uncertain.
» Many privatized student housing projects that have closed benefit from stronguniversity affiliation. Eighty-six percent of Moody's-rated operating projects are offeringeither refunds or credits to student tenants. Many of these projects are a central part ofuniversities' long-term strategic plans, and universities are consequently seeking to ensurethat these projects meet their debt service obligations by covering their refund costs.
» Projects that lack strong university affiliation will benefit from high debt servicecoverage ratios or sufficient short-term liquidity. Of the 37 rated projects notcurrently under construction, 16 will benefit from strong university support/affiliation andnine have high debt service coverage ratios (DSCRs) of at least 1.5x. Of the projects thatbenefit from neither strong university support or high DSCRs, six have sufficient short-term liquidity to meet debt service payments in the short-term, four are not offeringrefund payments, and two have ratings below investment grade that reflect preexistingchallenges.
» Impact of pandemic on demand for student housing is uncertain for fall semester.A continuation of online-only classes, a drop in university enrollment for the fall semester,and a shortening of the summer pre-leasing season will all be credit negative, should theyoccur. Additionally, financial performance and debt coverage levels will decline if projects'costs increase because of additional sanitizing of rental units or higher rental concessionscaused by softer demand.
MOODY'S INVESTORS SERVICE U.S. PUBLIC FINANCE
Many projects that have closed will benefit in the short term from strong university affiliationMany privatized housing deals are a central part of the university’s long-term strategic plan and consequently will benefit fromstrong university support and affiliation. This strong linkage has proven to be valuable during the coronavirus pandemic where manyuniversities have made an effort to ensure that their associated privatized projects will meet their debt service requirements bycovering the costs of refunds and credits offered to student tenants who were forced to vacate their units because of the outbreak.
Sixteen projects currently benefit either from an agreement established in the wake of the pandemic for the affiliated university tocover refund expenses or from an existing debt service guaranty or implied moral obligation on the part of the university that obligatesclose oversight and cooperation with the project. This strong university support prevents projects from having to tap their debt servicereserves (DSRs) in order to make debt service.
Texas A&M University-Corpus Christi, for example, has stated that student tenants who have moved out of the Islander HousingMiramar project (Ba1 negative) and Momentum Village - Phase I and Momentum Village - Phase II (B2 negative) projects will haveto fulfill the remaining terms of their spring semester lease. However, the university will offset the costs with a credit to the student'suniversity account. The University of Toledo (A1 negative) has agreed to compensate Collegiate Housing Foundation (CHF) – Toledo,LLC, the owner of the privatized Honors Academic Village project (Baa3 stable) on its campus, for lost rental revenue. The Universityof California, Irvine (UCI) has entered into a similar financial agreement with regard to UCI's East Campus Apartments project (Baa1stable).
Twenty of the 37 operating Moody's-rated privatized student housing projects mandated that almost all student tenants vacate theirunits for the remainder of the spring 2020 semester.1 These closures were made in conjunction with a shift to remote and onlineclasses for the affiliated universities. All of the closed projects are offering their student tenants either a prorated refund for theremaining term of each student's lease agreement or a credit to the student's account that will be applied next fall semester.
As shown in Exhibit 1, of the additional 17 projects have remained open and have not mandated students to vacate, 12 are offeringrefunds/credits for students who nonetheless move out, four are not offering refunds to those students, and one has not yet settled ona refund policy. In total, 32 of 37 operating projects will be offering refunds or credits to their student tenants.
Exhibit 1
86% of Moody's-rated privatized student housing projects are offering refunds or creditsAs of 4/20/20
Closed - offering refunds/credits2054%
Open - refund policy undecided13%
Open - not offering refunds411%
Open - offering refunds/credits1232%
Chart does not include the 11 rated projects that are currently under constructionSources: Moody's Investors Service, Electronic Municipal Market Access (EMMA)
This publication does not announce a credit rating action. For any credit ratings referenced in this publication, please see the ratings tab on the issuer/entity page onwww.moodys.com for the most updated credit rating action information and rating history.
2 5 May 2020 Privatized student housing - US: University support, debt coverage mitigates coronavirus revenue impact in near term
MOODY'S INVESTORS SERVICE U.S. PUBLIC FINANCE
Most student housing projects collect rental payments upfront at the beginning of each semester. The refund/credit total will thereforebe approximately three to four months’ worth of rent for semester lease terms and five months for calendar lease terms, depending onwhen the housing closed.2
Universities' financial support for privatized student housing underscores limitations of “risk transfer”
The willingness of some universities to provide financial support to privatized student housing projects underscores the limitations of risktransfer for these projects and reinforces our credit view that most should be included in a view of adjusted debt. For many universities, theopportunity to shift performance risk to the private partner is an attractive feature of a public-private partnership, including those for studenthousing. By embedding various contractual protections into long-term agreements, many universities believe that they are insulated againstproject underperformance regardless of cause.
However, universities are unlikely ever to be able to fully transfer project performance risks, even if they are not contractually obligated toprovide financial support under any conditions. This is particularly true during the current period, when universities are stepping in to providefinancial support to privatized housing projects. Student housing tends to be central to the residential experience and can materially enhanceor detract from a student's satisfaction of a university. Because student housing is so closely tied to the customer experience, it carriessignificant reputational and financial risks in the event of underperformance. Ultimately, the university has an interest in ensuring projectsuccess regardless of its legal structure, particularly those that are built on university owned land and primarily serve university constituents.
Like many industries, the higher education sector is confronting an unprecedented period of business disruption tied to the coronavirusoutbreak. To adhere to social distancing guidelines, universities were forced to pivot business models by moving all instruction and contentdelivery online. At this point, the timeline for restoring safe conditions to resume normal campus operations is unknown given uncertaintyaround the duration of the outbreak. All universities are grappling with varying degrees of negative financial impacts including revenue loss,wealth and liquidity declines, and operating performance weakening. While some universities are better positioned to absorb these negativefinancial impacts, none will be unscathed.
Projects that lack strong university affiliation will benefit from high debt service coverage ratios orsufficient short-term liquidityStrong debt service coverage levels and sufficient short-term liquidity in lieu of close university affiliation will prevent many of the 37rated operational projects from needing to tap their DSRs in order to make debt service within the next six months in response to lostrevenue from the pandemic.
A DSCR at or above 1.5x will act as a cushion for many projects in dealing with the refunds/credits shortfalls that will approximatelyrepresent 25% of total annual rental revenue for academic year lease projects and 40% for calendar year lease projects. Nine rateddeals that lack strong university affiliation have DSCRs of at least 1.5x. Even in the absence of strong university support, this debtservice coverage level sufficiently buffers them in the short term from the significant losses in revenue and, consequently, from havingto tap DSRs to meet debt service. A subset of projects have rate covenants which, if the annual DSCR dips below a specified level(typically 1.20x coverage), mandate that the project hire a financial consultant who will recommend operational changes to bringthe DSCR back above 1.20x. Many of the projects that trip these covenants may not need to make large operational changes if thepandemic – and the associated financial challenges – are only temporary. However, if these challenges extend beyond one semester (asdiscussed below) then major operational changes may become necessary.
Additionally, if a project lacks both university support and a strong DSCR it could rely on operating reserve, operating contingency,repair and replacement (R&R) or surplus funds as a source of short-term liquidity for debt service. Six Moody's-rated projects possessadequate funds to meet debt service over a six-month window. In many cases, however, projects set aside these funds to pay specificoperating expenses. Projects typically use R&R funds, for example, to address routine and emergency maintenance, while the surplusfund is often used to pay ground rent for a project. If a significant amount of R&R funds is diverted to pay debt service, a project willhave to defer maintenance needs, potentially hindering its desirability to prospective student tenants – especially in the case of olderprojects. Also, if the surplus fund is used for debt service, the project might fall behind on its ground lease and have to eventually make
3 5 May 2020 Privatized student housing - US: University support, debt coverage mitigates coronavirus revenue impact in near term
MOODY'S INVESTORS SERVICE U.S. PUBLIC FINANCE
up any delinquencies. However, ground rent payments are typically paid to the university and are seen as “soft” expenses, becauselease terms are amenable to workouts between the project and the university. With many projects, the ground lease is only paid whena project can meet a certain DSCR threshold. In these cases, projects that are struggling will be able to retain surplus.
Of the six projects that have neither high DSCRs, strong university support nor sufficient short-term liquidity to meet debt servicepayments, four have remained open and are not offering refunds, and two have ratings below investment-grade that already reflectthe impaired state of either the project or the affiliated university (see Exhibit 2). The 10 remaining projects below investment gradeare included in other categories: three are not providing refunds, three benefit from strong university support but are impaired in otherrespects, three are currently under construction, and one has sufficient short-term liquidity. Lastly, since the rent for the majority of theacademic year has already been collected, all 14 projects with an April debt service were able to make that payment without tappingDSRs.
Exhibit 2
Most rated projects will not need to tap DSRs to fund debt service in the short termAs of 4/20/20
Strong university support/affiliation1643%
Debt service coverage > 1.5X924%
Sufficient short-term liquidity616%
Below investment grade26%
Not providing refunds411%
Chart does not include of the 11 rated projects that are currently under constructionSource: Moody's Investors Service, Electronic Municipal Market Access (EMMA)
If a project does find itself in a position of having to draw down its DSR below maximum annual debt service (MADs) level it wouldresult in a substantially weaker credit profile. It is difficult for a project to replenish those reserves, especially when it is struggling togenerate enough rental revenue to cover both debt service and operating expenses.
Impact of pandemic on demand for student housing is uncertain for fall semesterA number of factors will determine both how robust student demand will be for projects in the upcoming fall semester and whethermedian project financial performance will decline going forward.
If the affiliated universities announce that fall semester classes will be online, student demand for on-campus housing will plummetand occupancy levels will suffer as a result. Even if the university were to hold in-person courses in the fall, any lingering concernsabout the pandemic would make some students reluctant to live on campus. Those concerns might also trigger some studentsto defer enrollment until the spring 2021 or fall 2021 semesters. In such a scenario, enrollment would decline in addition to theproject's occupancy suffering. The reduced tuition revenue from enrollment losses would likely prevent many affiliated universitiesfrom continuing to cover lost rental revenue on behalf of projects beyond the spring semester, particularly since in most cases theuniversities are not contractually obliged to provide financial support. Lastly, continued uncertainty over the status of the fall semesterwill shorten and dampen the summer pre-leasing cycle, which serves as a leading indicator of project demand.
Aside from upcoming occupancy and enrollment challenges, many projects still face hurdles in restoring their DSCRs and liquiditymetrics to pre-pandemic levels. Many projects are likely to face increased costs from the additional need for cleaning and sanitizingrental units. In response to potentially soft demand, many projects might offer rental concessions to boost occupancy levels.Additionally, if projects offered students credits in the fall rather than spring refunds, they have only delayed the inevitable revenue
4 5 May 2020 Privatized student housing - US: University support, debt coverage mitigates coronavirus revenue impact in near term
MOODY'S INVESTORS SERVICE U.S. PUBLIC FINANCE
shortfall to the fall semester. However, those projects will have the advantage of having foreseen the upcoming difficulties and will bein a better position to budget and manage operating expenses accordingly.
All of these factors increase operating expenses and reduce DSCRs and liquidity, leaving projects in a weaker position to deal with otheradverse events. The intensity of these challenges will determine whether the impact will last just one semester or instead persist overseveral, resulting in weaker credit profiles across the sector.
Lastly, projects coming online this fall also face the possibility of the demand and occupancy challenges described above. However,they will benefit from their capitalized interest accounts, which are typically funded to cover debt service throughout constructionand for six months afterward. The state governments for all 11 Moody's-rated projects under construction have declared constructionworkers essential during the pandemic and contractors have taken measures to ensure workplace safety.
Moody’s related publicationsSector Profile
» Medians - Number of stressed P3 projects increases, though sector is solid overall, May 2019
Sector Comment
» Federal aid provides modest support for universities coping with coronavirus, April 2020
Endnotes1 In most cases the students who were allowed to stay were international or had no other housing alternative.
2 Calendar leases are typically 12 months and academic leases are typically eight to 10 months. Six of the 37 projects that are not currently underconstruction have calendar year leases while the remainder operate under academic leases.
5 5 May 2020 Privatized student housing - US: University support, debt coverage mitigates coronavirus revenue impact in near term
MOODY'S INVESTORS SERVICE U.S. PUBLIC FINANCE
© 2020 Moody’s Corporation, Moody’s Investors Service, Inc., Moody’s Analytics, Inc. and/or their licensors and affiliates (collectively, “MOODY’S”). All rights reserved.
CREDIT RATINGS ISSUED BY MOODY'S INVESTORS SERVICE, INC. AND/OR ITS CREDIT RATINGS AFFILIATES ARE MOODY’S CURRENT OPINIONS OF THE RELATIVE FUTURECREDIT RISK OF ENTITIES, CREDIT COMMITMENTS, OR DEBT OR DEBT-LIKE SECURITIES, AND MATERIALS, PRODUCTS, SERVICES AND INFORMATION PUBLISHED BY MOODY’S(COLLECTIVELY, “PUBLICATIONS”) MAY INCLUDE SUCH CURRENT OPINIONS. MOODY’S INVESTORS SERVICE DEFINES CREDIT RISK AS THE RISK THAT AN ENTITY MAYNOT MEET ITS CONTRACTUAL FINANCIAL OBLIGATIONS AS THEY COME DUE AND ANY ESTIMATED FINANCIAL LOSS IN THE EVENT OF DEFAULT OR IMPAIRMENT. SEEMOODY’S RATING SYMBOLS AND DEFINITIONS PUBLICATION FOR INFORMATION ON THE TYPES OF CONTRACTUAL FINANCIAL OBLIGATIONS ADDRESSED BY MOODY’SINVESTORS SERVICE CREDIT RATINGS. CREDIT RATINGS DO NOT ADDRESS ANY OTHER RISK, INCLUDING BUT NOT LIMITED TO: LIQUIDITY RISK, MARKET VALUE RISK, ORPRICE VOLATILITY. CREDIT RATINGS, NON-CREDIT ASSESSMENTS (“ASSESSMENTS”), AND OTHER OPINIONS INCLUDED IN MOODY’S PUBLICATIONS ARE NOT STATEMENTSOF CURRENT OR HISTORICAL FACT. MOODY’S PUBLICATIONS MAY ALSO INCLUDE QUANTITATIVE MODEL-BASED ESTIMATES OF CREDIT RISK AND RELATED OPINIONS ORCOMMENTARY PUBLISHED BY MOODY’S ANALYTICS, INC. AND/OR ITS AFFILIATES. MOODY’S CREDIT RATINGS, ASSESSMENTS, OTHER OPINIONS AND PUBLICATIONS DONOT CONSTITUTE OR PROVIDE INVESTMENT OR FINANCIAL ADVICE, AND MOODY’S CREDIT RATINGS, ASSESSMENTS, OTHER OPINIONS AND PUBLICATIONS ARE NOTAND DO NOT PROVIDE RECOMMENDATIONS TO PURCHASE, SELL, OR HOLD PARTICULAR SECURITIES. MOODY’S CREDIT RATINGS, ASSESSMENTS, OTHER OPINIONS ANDPUBLICATIONS DO NOT COMMENT ON THE SUITABILITY OF AN INVESTMENT FOR ANY PARTICULAR INVESTOR. MOODY’S ISSUES ITS CREDIT RATINGS, ASSESSMENTS ANDOTHER OPINIONS AND PUBLISHES ITS PUBLICATIONS WITH THE EXPECTATION AND UNDERSTANDING THAT EACH INVESTOR WILL, WITH DUE CARE, MAKE ITS OWN STUDYAND EVALUATION OF EACH SECURITY THAT IS UNDER CONSIDERATION FOR PURCHASE, HOLDING, OR SALE.
MOODY’S CREDIT RATINGS, ASSESSMENTS, OTHER OPINIONS, AND PUBLICATIONS ARE NOT INTENDED FOR USE BY RETAIL INVESTORS AND IT WOULD BE RECKLESSAND INAPPROPRIATE FOR RETAIL INVESTORS TO USE MOODY’S CREDIT RATINGS, ASSESSMENTS, OTHER OPINIONS OR PUBLICATIONS WHEN MAKING AN INVESTMENTDECISION. IF IN DOUBT YOU SHOULD CONTACT YOUR FINANCIAL OR OTHER PROFESSIONAL ADVISER. ALL INFORMATION CONTAINED HEREIN IS PROTECTED BYLAW, INCLUDING BUT NOT LIMITED TO, COPYRIGHT LAW, AND NONE OF SUCH INFORMATION MAY BE COPIED OR OTHERWISE REPRODUCED, REPACKAGED, FURTHERTRANSMITTED, TRANSFERRED, DISSEMINATED, REDISTRIBUTED OR RESOLD, OR STORED FOR SUBSEQUENT USE FOR ANY SUCH PURPOSE, IN WHOLE OR IN PART, IN ANYFORM OR MANNER OR BY ANY MEANS WHATSOEVER, BY ANY PERSON WITHOUT MOODY’S PRIOR WRITTEN CONSENT.
MOODY’S CREDIT RATINGS, ASSESSMENTS, OTHER OPINIONS AND PUBLICATIONS ARE NOT INTENDED FOR USE BY ANY PERSON AS A BENCHMARK AS THAT TERM ISDEFINED FOR REGULATORY PURPOSES AND MUST NOT BE USED IN ANY WAY THAT COULD RESULT IN THEM BEING CONSIDERED A BENCHMARK.
All information contained herein is obtained by MOODY’S from sources believed by it to be accurate and reliable. Because of the possibility of human or mechanical error as wellas other factors, however, all information contained herein is provided “AS IS” without warranty of any kind. MOODY'S adopts all necessary measures so that the information ituses in assigning a credit rating is of sufficient quality and from sources MOODY'S considers to be reliable including, when appropriate, independent third-party sources. However,MOODY’S is not an auditor and cannot in every instance independently verify or validate information received in the rating process or in preparing its Publications.
To the extent permitted by law, MOODY’S and its directors, officers, employees, agents, representatives, licensors and suppliers disclaim liability to any person or entity for anyindirect, special, consequential, or incidental losses or damages whatsoever arising from or in connection with the information contained herein or the use of or inability to use anysuch information, even if MOODY’S or any of its directors, officers, employees, agents, representatives, licensors or suppliers is advised in advance of the possibility of such losses ordamages, including but not limited to: (a) any loss of present or prospective profits or (b) any loss or damage arising where the relevant financial instrument is not the subject of aparticular credit rating assigned by MOODY’S.
To the extent permitted by law, MOODY’S and its directors, officers, employees, agents, representatives, licensors and suppliers disclaim liability for any direct or compensatorylosses or damages caused to any person or entity, including but not limited to by any negligence (but excluding fraud, willful misconduct or any other type of liability that, for theavoidance of doubt, by law cannot be excluded) on the part of, or any contingency within or beyond the control of, MOODY’S or any of its directors, officers, employees, agents,representatives, licensors or suppliers, arising from or in connection with the information contained herein or the use of or inability to use any such information.
NO WARRANTY, EXPRESS OR IMPLIED, AS TO THE ACCURACY, TIMELINESS, COMPLETENESS, MERCHANTABILITY OR FITNESS FOR ANY PARTICULAR PURPOSE OF ANY CREDITRATING, ASSESSMENT, OTHER OPINION OR INFORMATION IS GIVEN OR MADE BY MOODY’S IN ANY FORM OR MANNER WHATSOEVER.
Moody’s Investors Service, Inc., a wholly-owned credit rating agency subsidiary of Moody’s Corporation (“MCO”), hereby discloses that most issuers of debt securities (includingcorporate and municipal bonds, debentures, notes and commercial paper) and preferred stock rated by Moody’s Investors Service, Inc. have, prior to assignment of any credit rating,agreed to pay to Moody’s Investors Service, Inc. for credit ratings opinions and services rendered by it fees ranging from $1,000 to approximately $2,700,000. MCO and Moody’sinvestors Service also maintain policies and procedures to address the independence of Moody’s Investors Service credit ratings and credit rating processes. Information regardingcertain affiliations that may exist between directors of MCO and rated entities, and between entities who hold credit ratings from Moody’s Investors Service and have also publiclyreported to the SEC an ownership interest in MCO of more than 5%, is posted annually at www.moodys.com under the heading “Investor Relations — Corporate Governance —Director and Shareholder Affiliation Policy.”
Additional terms for Australia only: Any publication into Australia of this document is pursuant to the Australian Financial Services License of MOODY’S affiliate, Moody’s InvestorsService Pty Limited ABN 61 003 399 657AFSL 336969 and/or Moody’s Analytics Australia Pty Ltd ABN 94 105 136 972 AFSL 383569 (as applicable). This document is intendedto be provided only to “wholesale clients” within the meaning of section 761G of the Corporations Act 2001. By continuing to access this document from within Australia, yourepresent to MOODY’S that you are, or are accessing the document as a representative of, a “wholesale client” and that neither you nor the entity you represent will directly orindirectly disseminate this document or its contents to “retail clients” within the meaning of section 761G of the Corporations Act 2001. MOODY’S credit rating is an opinion as tothe creditworthiness of a debt obligation of the issuer, not on the equity securities of the issuer or any form of security that is available to retail investors.
Additional terms for Japan only: Moody's Japan K.K. (“MJKK”) is a wholly-owned credit rating agency subsidiary of Moody's Group Japan G.K., which is wholly-owned by Moody’sOverseas Holdings Inc., a wholly-owned subsidiary of MCO. Moody’s SF Japan K.K. (“MSFJ”) is a wholly-owned credit rating agency subsidiary of MJKK. MSFJ is not a NationallyRecognized Statistical Rating Organization (“NRSRO”). Therefore, credit ratings assigned by MSFJ are Non-NRSRO Credit Ratings. Non-NRSRO Credit Ratings are assigned by anentity that is not a NRSRO and, consequently, the rated obligation will not qualify for certain types of treatment under U.S. laws. MJKK and MSFJ are credit rating agencies registeredwith the Japan Financial Services Agency and their registration numbers are FSA Commissioner (Ratings) No. 2 and 3 respectively.
MJKK or MSFJ (as applicable) hereby disclose that most issuers of debt securities (including corporate and municipal bonds, debentures, notes and commercial paper) and preferredstock rated by MJKK or MSFJ (as applicable) have, prior to assignment of any credit rating, agreed to pay to MJKK or MSFJ (as applicable) for credit ratings opinions and servicesrendered by it fees ranging from JPY125,000 to approximately JPY250,000,000.
MJKK and MSFJ also maintain policies and procedures to address Japanese regulatory requirements.
REPORT NUMBER 1225160
6 5 May 2020 Privatized student housing - US: University support, debt coverage mitigates coronavirus revenue impact in near term
MOODY'S INVESTORS SERVICE U.S. PUBLIC FINANCE
CLIENT SERVICES
Americas 1-212-553-1653
Asia Pacific 852-3551-3077
Japan 81-3-5408-4100
EMEA 44-20-7772-5454
7 5 May 2020 Privatized student housing - US: University support, debt coverage mitigates coronavirus revenue impact in near term
