Fitch Affirms Montgomery College's (MD) Lease Revs at 'AA'; Outlook Revised to Stable

NEW YORK--()--Fitch Ratings has affirmed its 'AA' rating on approximately $57.8 million of Montgomery County Revenue Authority (MCRA) lease revenue bonds (the bonds) issued on behalf of Montgomery College (MC or the college), consisting of:

--$15 million tax-exempt and taxable lease revenue bonds (Montgomery College Goldenrod Building Acquisition) series 2011A and series 2011 B;

--$27.2 million lease revenue bonds (King Street Art Center Project) series 2005 A;

--$15.5 million lease revenue bonds (Takoma Park/Silver Spring Parking Garage Project) series 2008 A.

The Rating Outlook is revised to Stable from Negative.

In accordance with Fitch's policies the college appealed and provided additional information to Fitch that resulted in a rating action on the series 2005 A bonds that is different than the original rating committee outcome.

SECURITY

The series 2011 A and B bonds are secured by a general obligation of the college under a lease agreement. The college and county are parties to a sublease under which the county pays half of the lease payments which is available to pay debt service for the life of the bonds, although such amounts are not pledged for such purpose.

The series 2008 A are secured by transportation fee revenues, and the series 2005 A bonds are secured by facility fee revenues. The series 2008 and series 2005 are additionally secured by a mortgage and debt service reserve funded to maximum annual debt service (MADS).

KEY RATING DRIVERS

OPERATIONS DRIVE OUTLOOK REVISION: The Outlook revision reflects incremental improvement in the college's operations based on fiscal 2013 results, with generally stable results anticipated in fiscal 2014 based on interim financial results. MC's fiscal 2015 operating budget plan anticipates further improvement in financial performance.

RATING AFFIRMED: The 'AA' rating primarily reflects MC's sound market position and key role in the state of Maryland's education planning and economic development, which drives significant operating and capital support from the state (rated 'AAA'/Stable Outlook by Fitch) and Montgomery County (rated 'AAA'/Stable Outlook). Offsetting factors include a history of negative, though improving, GAAP-based operating margins, exposure to fluctuations in state and county support, and vulnerability to shifting enrollment and economic cycles.

ENROLLMENT SOFTENING: The college is confronting declining enrollment primarily due to shifting county demographics and improving economic conditions. Operating stability is predicated on the college's ability to adjust tuition and fee rates as necessary, prudently budget for declining enrollment, and realize the projected levels of county and state support.

LIMITED BUT ADEQUATE LIQUIDITY: The college's liquidity continues to provide a limited cushion relative to operations, a feature not uncommon among community colleges. Available funds provide sound coverage of pro forma debt which is viewed favorably by Fitch and meets expectations for the 'AA' rating.

LOW DEBT BURDEN: The majority of the college's recent capital projects have been funded by state and county appropriations resulting in a very low debt burden. Further, improved operations have resulted in pro forma MADS coverage from fiscal 2013 unrestricted operating revenues of 2.1x. Pro forma MADS includes the planned issuance of transportation fee revenue bonds expected in mid-fiscal 2015.

RATING SENSITIVITIES

REVENUE PRESSURES: The rating is sensitive to material shifts in funding support from county and state sources. To the extent that adverse shifts in the aforementioned areas materialize and impose significant, prolonged stress on operating performance and financial resources, downward rating movement is possible.

DIMINISHING DEMAND PROFILE: A significant decrease in semester credit hours may adversely affect pledged revenues on the series 2005A facility fee revenue bonds and series 2008A transportation revenue bonds. The college's inability to sufficiently offset enrollment losses by adequately setting rates to generate at least the projected coverage levels presented to Fitch for fiscal 2014 through fiscal 2018 could lead to a downgrade of either or both of the respective bonds.

CREDIT PROFILE

In operation since 1946, the college is the second largest higher education institution in the state, after the University System of Maryland (USM; tuition revenue bonds rated 'AA+'/Stable Outlook), and is the primary state provider of two-year associate degrees and technical certificates. The college is a feeder of transfer students to USM, and a growing source of various training and continuing education programs underscoring its key role in the state. The institution, offering 75 associate degree programs and 60 certificate programs, operates three campuses located throughout the county in Takoma Park/Silver Spring, Rockville, and Germantown. Headcount enrollment at the college in fall 2013 is essentially flat since fall 2009 levels, at 26,155 students.

NARROWING OPERATING DEFICIT DRIVES OUTLOOK REVISION

The Outlook revision to Stable from Negative reflects improvement in the operating deficit in fiscal 2013 over the prior year to negative 3.1% on an adjusted accrual (GAAP) basis from negative 5.8%. The college's operating margin is typically solidly negative before revenue adjustments for non-capitalized expenses (capital appropriation funds used for operations) which are included in operation of plant. The narrowing deficit in fiscal 2013 is attributable to an increase in state and county funding over the prior year coupled with mid-year budget revisions. The improvement in fiscal 2013 is viewed favorably after declining state and county appropriations and a one-time bonus payment made to employees in fiscal 2012. Additionally, Fitch notes that it is the college's policy to meet the county request for the college to reserve monies from the current budget to fund future budgeting periods, which could impact operations.

Further, projections for fiscal 2014 show the deficit stabilizing but slightly down at negative 3.4%, with the college's fiscal 2015 operating budget plan reflecting significant improvement due to increased support from the state and the county and an increase in tuition rates which is expected to offset declining enrollment and stabilize net tuition revenues at or close to current levels. Projections provided reflect still negative but closer to break-even results for fiscal 2015. The county's credit strength together with its strong and consistent financial support (under the state regulated County Maintenance of Effort) is a key driver of the college's 'AA' rating. The large, affluent service area and significant county support partially offset the college's weaker financial attributes.

IMPROVED LOCAL SUPPORT

The college fills an integral position in the higher education system of the state and the economic operation of the county. Local support from the state and county is a key revenue source for the college accounting for 53% of operating revenues in fiscal 2013, down from 58.1% in fiscal 2009. Appropriations at both the state and county level increased a total $2.4 million in fiscal 2013 versus a decrease of $4 million in fiscal 2012. Estimates for fiscal 2014 reflect further improvement in support for operations (4.1%, or $5.9 million) with more significant growth expected for fiscal 2015 under the proposed budget. An increase of approximately $21 million from both the state ($3 million) and the county ($17.8 million) is anticipated in fiscal 2015.

The state and county have also historically provided significant capital appropriations (totaling $198.8 since fiscal 2009) to mitigate MC's space deficiency, which has contributed to a very low debt burden. The capital appropriations have also shown improvement, with capital support increasing to $58.3 million in fiscal 2013 versus $35.6 million in fiscal 2012. Estimates provided reflect an increase in capital support for fiscal 2014 to $63.6 million.

Fitch will continue to monitor growth and consistency in state and county appropriations, as well as growth in federal grants and contracts, which will be needed as enrollment declines over the next several years. Fitch views revenue estimates for fiscal 2014 positively, reflecting improvement in total state and county support for operations with more significant growth expected for fiscal 2015.

MANAGEABLE ENROLLMENT SHIFTS

Enrollment at MC, like many community colleges, has generally moved in tandem with unemployment levels and improvements in the economy, with several years of growth beginning to show signs of reversal. After peaking at 7.5% in 2010, the state annual unemployment rate has generally trended downward, registering 6.6% in 2013 per the Maryland state archive. After increasing to 27,453 in fall 2012, headcount enrollment dropped 4.7% in fall 2013 to 26,155 reflecting the sharp decrease in enrollment hours taken (including credit and non-credit or distance education hours) in fiscal 2014. After historically meeting its enrollment projections and exceeding projected enrollment hours in fiscal 2012 which strongly drives coverage on the series 2005 A and series A revenues bonds, the college missed its fiscal 2013 projections. Fiscal 2014 projections reflect a 4.6% drop in credit enrollment hours to 517,278 from 542,186 in fiscal 2013, but partly offset by an increase in non-credit enrollment hours. Management is expecting credit enrollment hours to continue to decline for the next 3-4 years before stabilizing.

Enrollment of recent high school graduates in the Montgomery County Public Schools (MCPS) declined 3%-4%; such enrollment is the largest feeder into the college. However, according to management, traditional enrollment should improve as the population of elementary and middle school students in the county is growing rapidly. Despite the decline in enrollment credit hours, distance education non-credit enrollment continues to be healthy according to management.

Fitch expects the college can manage and prudently budget for the declining enrollment as enrollment projection models are developed one-to-two years in advance when revenue estimates are constructed for the budget. Fitch views positively MC's strong market position as the state's largest community college and the only community college in the county. As such, the college plays an integral role in the state higher education system and is the largest transfer institution to the university system of Maryland. Articulation agreements with all of the state's public institutions serve to encourage students to pursue baccalaureate degrees.

VERY LOW DEBT BURDEN; ADEQUATE COVERAGE

The college's pro-forma MADS due in fiscal 2028 represented a very low 2.1% of fiscal 2013 operating revenues. The college's improved operations in fiscal 2013 resulted in $12.1 million of net income available for debt service, providing 2.1x pro forma MADS coverage. Pro forma MADS (estimated at $5.8 million) includes $16 million of additional debt that the college expects to issue in mid-fiscal 2015 to fund construction of a parking garage payable from a mandatory transportation fee pledged to the bonds on parity to the series 2008A bonds. However, coverage is somewhat understated because debt service on the series 2011 A and B bonds is approximately equal to annual lease payments currently paid for use of the facility purchased with bond proceeds and operating revenues from the county's lease payments (guaranteed for the term of the bonds but not legally pledged) offset approximately 50% of combined debt service under the lease agreement.

Further, the dedicated fee revenues pledged to both the series 2005 bonds ($5.00 per credit hour facilities fee) and the series 2008 A bonds ($4.00 per credit hour transportation fee) generated 1.38x coverage and 2.3x coverage of actual debt service on the respective obligations in fiscal 2013. In addition to student transportation fees, other revenues pledged to debt service on the series 2008A bonds include faculty parking fees, parking fines, and interest earned on the Transportation Enterprise Fund. Projections provided reflect slightly lower coverage levels from these revenue sources in fiscal 2014 due to the projected decline in enrollment hours.

On the series 2008A bonds, the board approved a $1 transportation fee increase (to $5.00) for fiscal 2015 which will help offset the decrease in enrollment hours, and is expected to generate coverage of 2.66x. Fitch expects this coverage will decline in fiscal 2016 to 1.82x with the issuance of additional debt secured by the transportation fee and further projected enrollment losses but expects coverage will remain solid at over 2x when including other income in the transportation fund account. While no facility fee increase is anticipated for the series 2005A bonds at this time, a refunding of the bonds scheduled for early fiscal 2015 is expected to generate annual savings providing projected coverage of 1.4x in fiscal 2015; Fitch will continue to monitor coverage of the facility fee and transportation fee bonds and the impact of the negative enrollment trend on coverage levels. The college's strength is its ability to raise fees if needed, by vote of the board of trustees. An inability of the college to adequately adjust rates as needed and generate actual fee revenue sufficient to achieve the projected coverage levels presented could negatively impact the rating of the series 2005A and series 2008A bonds.

CONSISTENT LIQUIDITY LEVELS

Continued support for capital projects from the county and state have allowed the college to continue to improve its relatively low level of balance sheet resources. Available funds, defined by Fitch as cash and investments not permanently restricted, grew 2.5% in fiscal 2013, respectively, as state/county funds for capital projects completed or nearing completion were received. Over the past five fiscal years, available funds have increased a total of 64.2% to $91.3 million. Despite the recent improvements, available funds represent just 32.3% of total operating expenses, somewhat low for the 'AA' rating but a more robust 140.3% of total long-term debt. Available funds as a percentage of total pro forma long-term debt drops to 112.6% if Fitch conservatively includes the college's additional debt plans. Fitch still finds this level to be adequate to maintain the 'AA' rating.

Additional information is available at 'www.fitchratings.com'.

Applicable Criteria and Related Research:

--'U.S. College and University Rating Criteria' (May 12, 2014);

--'Fitch Rates Montgomery College (MD) Lease Revs 'AA'; Outlook Revised to Negative', dated June 17, 2013.

Applicable Criteria and Related Research:

U.S. College and University Rating Criteria

http://www.fitchratings.com/creditdesk/reports/report_frame.cfm?rpt_id=748013

Additional Disclosure

Solicitation Status

http://www.fitchratings.com/gws/en/disclosure/solicitation?pr_id=833241

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Contacts

Fitch Ratings
Primary Analyst
Nancy Faingar Moore
Director
+1-212-908-0725
Fitch Ratings, Inc.
33 Whitehall Street
New York, NY 10004
or
Secondary Analyst
Alexander Vaisman
Associate Director
+1-212-908-0721
or
Committee Chairperson
Joanne Ferrigan
Senior Director
+1-212-908-0723
or
Media Relations
Elizabeth Fogerty, New York, +1-212-908-0526
elizabeth.fogerty@fitchratings.com

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Contacts

Fitch Ratings
Primary Analyst
Nancy Faingar Moore
Director
+1-212-908-0725
Fitch Ratings, Inc.
33 Whitehall Street
New York, NY 10004
or
Secondary Analyst
Alexander Vaisman
Associate Director
+1-212-908-0721
or
Committee Chairperson
Joanne Ferrigan
Senior Director
+1-212-908-0723
or
Media Relations
Elizabeth Fogerty, New York, +1-212-908-0526
elizabeth.fogerty@fitchratings.com