American Campus’ View on Moody’s March 2010 Special Comment

In March 2010, Moody’s Investors Service issued a Special Comment Paper, “Privatized Student Housing and Debt Capacity of US Universities”. American Campus believes that this update does not negatively impact our American Campus Equity (ACE®) program or our third-party development of on-campus student housing.  We believe the clarity provided may in fact facilitate greater opportunity in each of these areas. Following is our assessment.

1. There has been no material change to the manner in which Moody’s evaluates all “privatized” student housing transactions.
   
   
   1. All transactions are evaluated and taken into consideration when assessing a university’s credit profile regardless of the structure: university general obligation bonds; 100% project-based debt structures including 501(c)3 tax-exempt revenue bonds; equity-based structures, etc.
      
      
   2. No structure, in and of itself, guarantees a certain credit impact or outcome.  Whether that impact/outcome is negative, neutral or positive is determined on a case-by-case basis with many variables taken into consideration.   The variables include but are not limited to;  the local student housing market, university profile, product type, importance of project to the university’s core mission, transaction structure, financial qualifications and experience of transaction participants, risks associated with development and operation, operational performance metrics of the project, vested interests of the university and other parties in the project’s success.
      
      
   3. Moody’s determination of a credit impact is not static and could vary during the life of a project.
       
   4. Negative impacts to credit are more likely if:
      1. The project experiences financial stress relating to
         1. Development/Construction
         2. On-going operations
         3. Funding of on-going capital repairs and improvements
      2. And, if the university is likely to provide financial and operational support to the project during times of financial stress. 
         
         
2. To improve rating transparency, Moody’s eliminated the category of “Indirect Debt” related to student housing projects. The majority of previously completed 501(c)3 transactions were previously categorized as indirect debt.  ACC believes that the elimination of the indirect debt category may lead to more privatized student housing transactions of all types and less projects being structured under general obligation funding, as the standards for a project being included in “Direct Debt” are higher than they were for being included in “Indirect Debt”.  That is not meant to imply that a 501(c)3 transaction is considered differently in a university’s credit profile than it was previously. Rather the elimination of the indirect debt category may now encourage colleges and universities to evaluate privatized structures as a more viable alternative than in the past.
   
   
3. We believe that ACE transactions remain an attractive alternative and offer competitive advantages over 100% project-based debt transactions for those institutions that are the most risk adverse and want the lowest probability of a negative credit impact over the life of a project. This is due to the following facts:
   
   
   1. Equity-based transactions have a higher certainty of successful structuring and closing as they are not subject to the volatility of the tax-exempt market and availability of credit enhancement.
      1. Very few tax-exempt deals have closed in the last 2 years due to adverse market conditions.
      2. Present requirements imposed by credit enhancement providers on the universities to close transactions are the types of formal commitments that make a project more likely to be included as direct debt   (i.e. a contingent master lease payment obligation to ensure financial success or a university guarantee related to development/construction completion.)
         
         
   2. Equity-based structures have 10-15% lower total project cost than tax-exempt structures due to the elimination of costs associated with transaction structuring, financing costs, third-party service fees and reserve requirements.
      
      
   3. Equity-based structures have less risk for the university.
      1. Developer/Owner takes full risk for
         1. Development and construction
         2. Operating losses
         3. Capital reinvestment above and beyond reserves to maintain marketability and competitiveness of the project.
            
            
   4. Equity-based structures are less likely to encounter times of financial stress.
      1. Equity-based structures have significantly better performance metrics than 100% project-based debt structures.
         1. Lower loan to cost ratio - an equity-based structure typically has a maximum 50-75% debt of a lower total project cost vs. 100% debt of a higher total project cost in a tax-exempt structure
         2. Higher debt service coverage ratio –  typically 1.75x – 2.00x in an equity structure vs. typical 1.20x for 100% project-based debt structure
         3. Lower operational breakeven point: 50-70% for an equity structure vs. 80-90% for a 100% project-based debt project
         4. More flexibility to reduce rental rates to build occupancy while still achieving the breakeven point -
            1. Equity structures typically allow lowering rents 25-35%   vs. 10 to 15% in a 100% project-based debt structure.
               
               
   5. If events of financial stress do occur,  it is less likely that the university will have to financially or operationally support a project in an equity-based structure
      1. In a 100% debt tax-exempt structure, the university is the motivated party most likely to take action.
      2. In an equity structure, the owner is highly motivated to take action as their investment is fully at risk and any debt defaults impact the owner’s credit profile.
      3. The manager is fully vested as the owner in an equity deal vs. being a fee-based third-party provider in a 100% debt tax-exempt structure.
         
         
4. All the factors discussed in Item 3 above are among the factors taken into consideration by the rating agencies when they evaluate and consider these transactions in a university’s credit profile.
   
   
5. The elimination of the indirect debt category may now permit universities to purchase highly successful, stabilized ACE projects via 501-c-3 project-based revenue bonds without negatively impacting their credit capacity or being included in direct debt at the time of acquisition.
    
   1. The University would likely choose do to so only after major risk events have passed.
      1. After development/construction risk
      2. After initial lease-up risk
      3. After performance metrics have an established track record
          
   2. This also has benefits to the owner/developer regarding the potential to monetize an equity project as the university is always the party most interested in purchasing.  

Our Summary Viewpoint

We do not believe that Moody’s Special Comment results in any material changes for the privatized student housing sector.  They continue to use the same methodology in their evaluation of these transactions when assessing a university’s credit profile. They have confirmed that all projects are considered in a university’s credit profile and that each and every transaction may be viewed differently on a case-by-case basis.  No structure in and of itself guarantees a credit outcome.  Further, within the same classification of structure, whether 100% project-based, tax-exempt debt or equity-based, projects may be treated differently based on a myriad of factors. 

From a credit impact perspective, a successful project with strong operational and financial metrics and an experienced credit worthy partner would have a more favorable impact than a struggling project with poor operational and financial metrics where a university takes action to support the project.   Bottom line, institutions that are risk adverse and want the highest probability of a project that does not experience financial duress that would put them in a position of taking actions that might negatively impact their credit, will still find equity structures as the most desirable option.  For those institutions that have a higher risk tolerance and desire greater control and cash-flow, the 100% project-based debt structure will continue to be the most attractive option.  In summary – nothing has changed.

The views expressed above are those of American Campus Communities and do not claim to represent those of Moody’s Investor Service in any way.  Please note that the statements made herein are based on current expectations, estimates and projections about the industry and markets in which American Campus operates, management’s beliefs, and assumptions made by management.  These statements are not guarantees of future performance and involve certain risks and uncertainties, which are difficult to predict.