Fitch Upgrades Vanderbilt University (TN) to 'AAA'; Outlook Stable

NEW YORK--()--Fitch Ratings has assigned a 'AAA' rating to $140.4 million of the Health and Educational Facilities Board of the Metropolitan Government of Nashville and Davidson County, Tennessee taxable revenue bonds, series 2016 issued on behalf of Vanderbilt University (VU).

The bonds are expected to sell via negotiation the week of Oct. 24. Bond proceeds will refund certain maturities of the outstanding 2009A bonds, finance certain capital projects and pay costs of issuance.

In addition, Fitch has upgraded its long-term ratings to 'AAA' from 'AA+' on the following bonds issued by the Health and Educational Facilities Board of the Metropolitan Government of Nashville and Davidson County, Tennessee on behalf of VU:

--$71.6 million revenue bonds, series 2009A;

--$34.2 million revenue refunding bonds, series 2012B (floating rate notes, five-year put structure);

--$106.2 million revenue refunding bonds, series 2012D.

Fitch has also affirmed its 'F1+' short-term rating on VU's $200 million taxable and tax-exempt commercial paper (CP) program.

The Rating Outlook is Stable.

SECURITY

The bonds are an unsecured general obligation of VU, payable from all legally available funds.

KEY RATING DRIVERS

REORGANIZATION DRIVES UPGRADE: The upgrade to 'AAA' is driven by a significant reduction of VU's debt and operating risk following the separation of Vanderbilt University Medical Center (VUMC) in April 2016. The sale of medical assets and activities to VUMC has dramatically decreased VU's leverage while reducing its exposure to inherently riskier healthcare operations. The 'AAA' rating reflects VU's superior balance sheet resources, excellent reputation and market position, solid operating results, and very low debt burden.

SUBSTANTIAL BALANCE SHEET RESOURCES: VU's available funds (cash and investments not permanently restricted) totaled $3.75 billion at June 30, 2016, and equaled 3.3x operating expenses and 6.9x pro forma debt, well exceeding 'AA' category peers. The $3.80 billion endowment provides consistent operating support through a sustainable spending policy.

EXCELLENT OPERATING PROFILE: A leading academic reputation drives very strong student demand, indicated by a national draw, very selective admissions, and high student quality.

SOLID FINANCIAL PERFORMANCE: Solid operating results, including an operating margin of 5.6% in fiscal 2016 with endowment support, are expected to continue. VU's revenue base is more diversified after the reorganization. Contractual payments from VUMC still account for about a quarter of VU's revenue (previously over two thirds), but payments depend much less directly on VUMC's patient care revenues.

VERY LOW DEBT BURDEN: VU's debt burden is dramatically lower after shedding approximately $850 million of VUMC-related debt post-reorganization. Pro forma maximum annual debt service (MADS) accounts for a very low 1.5% of fiscal 2016 operating revenues, and VU generated approximately 9x MADS coverage from operating cash flow. The series 2016 bonds will result in level debt service; all outstanding debt is fixed-rate or swapped to fixed. Capital and debt needs over the next five years are limited and very manageable.

LIQUIDITY: The 'F1+' rating reflects VU's ability to cover the maximum potential liquidity demands presented by its CP program by at least 1.25x from its available liquid resources, including cash, dedicated liquidity facilities and highly-rated liquid investments.

RATING SENSITIVITIES

VUMC ALIGNMENT: Vanderbilt University (VU) remains strategically aligned with the Vanderbilt University Medical Center (VUMC); post-reorganization contractual payments from VUMC for infrastructure, services, research and academic initiatives and trademarks/licensing will account for about a quarter of VU's operating revenue. Fitch believes VU has strong financial flexibility, but severe stress at VUMC could pressure VU's operating results.

INTERNAL LIQUIDITY EROSION: Erosion of available liquid resources supporting Vanderbilt's CP program to a level where such resources could no longer provide at least 1.25x coverage of the program's maximum authorization would cause a downgrade of the short-term rating.

CREDIT PROFILE

Vanderbilt is a private comprehensive university located in Nashville, TN. The university consists of 10 schools and colleges, with total enrollment of 12,587 in fall 2016. VU has an excellent academic reputation and a national draw, with approximately 92% of students coming from outside Tennessee and 68% from outside the southeast region. VU recently reorganized, and the previously consolidated VUMC, which had accounted for over two thirds of the consolidated entity's revenue base, became a separate legal entity.

REORGANIZATION IS CREDIT POSITIVE

In April 2016, VU transferred all assets and operations related to the medical center to VUMC, which is a separate legal entity neither controlled nor backstopped by VU. VU retained its medical school, nursing school, clinical master's programs and all other medical educational/academic activities. In exchange for VU's medical center assets and operations, VUMC paid VU $1.1 billion in cash, primarily from VUMC's own debt proceeds, and other consideration. VU used a portion of the proceeds to pay down approximately $850 million of debt.

The reorganization is a credit positive to VU, materially reducing both its leverage and its exposure to operating risk from VUMC's clinical enterprise. Under several permanent agreements, VUMC will continue to make payments to VU accounting for about a quarter of VU's total operating revenue, well below VU's pre-reorganization dependence on medical center activities for over two thirds of operating revenue. In addition, continuing payments from VUMC are tied largely to infrastructure and central services provided by VU or to academic and research initiatives. Only about one-third of ongoing VUMC payments will directly reflect patient care revenues or VUMC's overall operating performance.

SUBSTANTIAL BALANCE SHEET RESOURCES

VU's very strong financial profile is primarily supported by its improved and substantial level of balance sheet resources relative to debt and expenses. Available funds totaled $3.75 billion at June 30, 2016, covering operating expenses ($1.13 billion) by a very strong 3.3x and pro forma debt ($542 million, including operating leases and $100 million of new debt expected from the series 2016 bonds and near-term CP issuance) by a superior 6.9x, well in excess of 'AA' category peers rated by Fitch.

VU's $3.80 billion endowment ($1.18 billion permanently restricted) provides consistent operating support through a sustainable spending policy. Like other institutions with large endowments, Vanderbilt maintains significant (>50%) exposure to alternative and illiquid assets as part of its long-term investment strategy. However, a sophisticated investment management team, detailed oversight from the board and sound liquidity mitigate related risks.

EXCELLENT OPERATING PROFILE

VU has a leading academic reputation evidenced by very strong student demand and highly ranked undergraduate and graduate/professional programs. Continued application growth, very selective admissions (about 11% for freshmen) and strong matriculation rates (46%) also demonstrate deep student demand.

About 55% of VU's 12,587 students are undergraduates (mostly full-time), and overall enrollment remains stable. VU has no plans for significant growth, focusing instead on academic quality. The average SAT score of incoming freshmen was 1483 for fall 2016, far exceeding the national average. A freshman-sophomore retention rate of 97% and a six-year graduation rate of 92% further indicate academic strength. Tuition discounting is nominally high at 43.5% in fiscal 2016, as VU has need-blind admissions and commits to meeting all demonstrated need. However, a large portion of institutional aid is funded from endowment support dedicated to student aid.

VU also benefits from a track record of fundraising to support operations, capital investment and endowment growth. Its last campaign concluded in 2011, raising $1.94 billion versus a goal of $1.75 billion. Gifts and pledges have averaged approximately $150 million annually over the past five years.

SOLID FINANCIAL PERFORMANCE

VU's operating results are solid on a standalone basis, even though VUMC has been generally profitable. VU posted an operating margin of 5.6% in fiscal 2016, including endowment support, and management expects to generate 3%-5% operating margins going forward. While VU and VUMC remained consolidated for the first 10 months of fiscal 2016, Fitch's analysis is based on the fiscal 2016 audit showing activities as if they had been separated for the entire year.

VU's operating revenues are now more diverse, including net student fees (34.5%), grants and contracts (19.6%, reflecting significant research activity), and investment returns (10.1%, including endowment support and release of temporarily restricted net assets for operations). While healthcare exposure has declined significantly from over two-thirds prior to the reorganization, VU remains exposed to VUMC's performance through contractual payments that make up about 24% of VU's total operating revenue. However, approximately two-thirds of ongoing payments from VUMC reflect reimbursement for specific infrastructure and central services provided by VU to VUMC, or VUMC's contributions to support research and academic projects from which it benefits. These portions correspond to previously internal transfers that already occurred pre-reorganization. Approximately one-third of ongoing payments will reflect new revenue to VU and will depend directly on patient care revenues and the overall performance of VUMC.

VERY LOW DEBT BURDEN

VU's debt burden is dramatically lower after shedding the majority of its debt in the reorganization. Pro forma MADS accounts for a very low 1.5% of fiscal 2016 operating revenues, and VU generated approximately 9x MADS coverage from operating cash flow. The series 2016 bonds will result in a level debt structure; all outstanding debt is either fixed-rate or hedged by fixed payor swaps.

Series 2016 new money will fund on-campus student housing, expanding VU's residential college system to accommodate more upperclassmen. An additional $25 million of taxable CP issuance is expected to reimburse certain capital expenses for a recently completed academic project. Capital and debt needs over the next five years are limited and very manageable. VU will likely issue additional debt over the next five years for additional residential college student housing, but Fitch expects VU's balance sheet ratios and debt metrics to remains generally steady over that period due to solid operating cash flow, continued debt amortization and strong fundraising.

LIQUID RESOURCES SUPPORT SHORT-TERM DEBT

The 'F1+' rating is based on the availability of liquid resources including cash, dedicated liquidity facilities and highly liquid, highly rated securities to cover the maximum liquidity demands presented by VU's taxable and tax-exempt CP program. As of Sept. 30, 2016, VU maintains at least $1.16 billion of available liquid resources (discounted per Fitch's criteria), sufficient to cover its maximum potential liquidity requirements of $200 million by more than 1.25x.

As part of the reorganization, VU lowered the maximum authorization for its taxable and tax-exempt CP program to $200 million from $675 million. To minimize potential calls on its liquidity, the university limits the amount of CP notes that can come due on a given day to $50 million and in a given week to $100 million. Vanderbilt maintains up-to-date liquidation procedures detailing the process by which a need for internal liquidity would be managed.

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

Certain information informing the rating was provided by J.P. Morgan Securities, acting as underwriter.

Applicable Criteria

Fitch Internal Liquidity Worksheet (pub. 13 Jun 2013)

https://www.fitchratings.com/site/re/710906

Rating U.S. Public Finance Short-Term Debt (pub. 17 Nov 2015)

https://www.fitchratings.com/site/re/873508

Revenue-Supported Rating Criteria (pub. 16 Jun 2014)

https://www.fitchratings.com/site/re/750012

U.S. College and University Rating Criteria (pub. 12 May 2014)

https://www.fitchratings.com/site/re/748013

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https://www.fitchratings.com/creditdesk/press_releases/content/ridf_frame.cfm?pr_id=1013173

Solicitation Status

https://www.fitchratings.com/gws/en/disclosure/solicitation?pr_id=1013173

Endorsement Policy

https://www.fitchratings.com/regulatory

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or
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+1-212-908-0723
or
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or
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Email: elizabeth.fogerty@fitchratings.com

Contacts

Fitch Ratings
Primary Analyst
Tipper Austin
Associate Director
+1-212-908-9199
Fitch Ratings, Inc.
33 Whitehall Street
New York, NY 10004
or
Secondary Analyst
Joanne Ferrigan
Senior Director
+1-212-908-0723
or
Committee Chairperson
James LeBuhn
Senior Director
+1-312-368-2059
or
Media Relations:
Elizabeth Fogerty, New York, +1 212-908-0526
Email: elizabeth.fogerty@fitchratings.com