RATING AGENCIES APPROACH TO UNIVERSITIES

1
RATING AGENCIES APPROACH TO UNIVERSITIES
Canadian Association of University Business
Officers Conference June 15, 2004

• Paul Calder, Director
• Canadian Public Finance
• Infrastructure Group

2
What is a Rating and Why is it Important to a
University Issuer?

• SP provides an independent view of the credit
  quality of a given borrower/issuer?
• Ratings are a composite measure of the
  probability of issuer default.
• Ratings assess the ability and willingness of a
  borrower to meet its debt obligations according
  to contractual terms.
• SP ratings are linked to timely payment and not
  the prospect of principal recovery given a
  payment default.
• Ratings benefit issuers by increasing the
  universe of potential investors can have a
  positive pricing impact by increasing investor
  demand.

3
SP Credit Rating Categories
SP long-term rating categories

• AAA
• AA (/-)
• A (/-)
• BBB (/-)

gtgt investment grade
BB (/-) B (/-) CCC, CC and C (/-) D
(default)
gtgtnon-investment grade
4
Standard Poors Ratings

• Higher Education relatively new rating category
  in Canada.
• New investment asset class as well.
• Standard Poors has 7 public ratings on
  Canadian Universities?
• A few more ratings are expected but sector seems
  to be maturing?

5
Standard Poors Ratings

• Issuer
• Queens University
• University of Toronto
• McMaster University
• McGill University
• University of British Columbia
• University of Guelph
• York University

• Rating
• AA/Stable
• AA/Stable
• AA/Stable
• AA-/Stable
• AA-/Positive
• AA-/Stable
• AA-/Negative

6
Capital Market Debt Outstanding (C, millions)

• University of Toronto 360
• McGill University 150
• University of British Columbia 125
• Queens University 90
• McMaster University 150
• University of Guelph 100
• York University 300
• University of Ottawa 150
• Concordia University 200
• Simon Fraser University 150
• Université de Québec a Montréal 150

7
Characteristics of Canadian University Capital
Market Financing to date

• Senior unsecured debt offerings.
• Few restrictive covenants (i.e. no additional
  issuance or DSCR tests, no DSRF).
• Long-term (30-50 year maturities) with bullet
  principal payment profile.
• Discretionary sinking fund provisions.
• Generally tight pricing off provincial bond
  benchmarks (25-40 basis points).
• Strong institutional investor demand.
• Fewer ratings in Canada relative to other
  countries (less mature capital market and
  established banking relationships).

8
Rating Challenges

• Rising cost environment (staff, energy,
  insurance, pension contributions, post-retirement
  benefits)
• Deferred capital expenditures / maintenance
• Significant provincial fiscal pressures - impact
  on tuition policy and grant funding support?
• Fundraising (increasing participation rates and
  growing donor fatigue)
• Potential asset weakness
• Pension
• Endowment
• Regulated fee setting
• Revenue-expenditure mismatch?

9
Participants in a Hypothetical Bond Financing
(examples in parentheses)

• Rating agencies (SP)
• Debt issuer (University of Saskatchewan)
• Investment banker / underwriter (TD Securities)
• Commercial banks (RBC)
• Consultants / advisors (Deloitte Touche)
• Investors (Greystone Capital)
• Legal counsel (Cassels Brock)

10
Key Rating Factors

• Demand
• Finances
• Capital plan and debt burden
• Management and governance
• Endowment and development
• Balance sheet / liquidity analysis
• Covenant / legal package

11
Key Ratios Measures

• Acceptance, matriculation rates
• Registrations to applications
• Geographic draw, student quality and attrition
  measures
• Various debt ratios
• Cash flow and liquidity measures
• Unrestricted financial assets
• Operating margin
• Revenue diversity / expenditure flexibility
• Unfunded pensions and post-retirement benefits

12
Provincial Rating Linkage to Public Institutions

• Important reference point for a university rating
  due to financial support and policy framework.
• Hard to analytically de-couple a universitys
  rating from the underlying provincial obligor.
• Ratings above the provincial general obligation
  rating are the exception, not the norm.
• Ability to service debt obligations independent
  of provincial support?
• Rating selection is bias to date .

13
System Differences (to the U.S.) Contributing to
Strong Canadian University Ratings

• No private or for-profit institutions (less
  competition, stronger aggregate system demand
  profile).
• No history of defaults or financial
  re-structurings leading to lender loss.
• Positive and durable demographic student demand
  trend in most provincial jurisdictions, but
  variations exist.
• Off-set partly by variability in government
  policy and funding frameworks in many provincial
  jurisdictions.

14
Rating Distribution in Canada

• Public Universities - April 2004
• (7 SP ratings)
• AA 1
• AA 2
• AA- 4
• A 0
• BBB 0

AA range ratings in aggregate attest to
selection bias among higher educ. universe.
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Rating Distribution in the U.S.

• Public Universities - April 2004
• (400 SP ratings)
• AAA 2
• AA 33
• A 53
• BBB 12

Ratings penetration in U.S. about 40 for public
institutions much smaller in Canada (market
maturity issue).