[September 21, 2016]

Fitch Affirms Baylor University, TX's Rev Bonds at 'A+'; CP Notes at 'F1+'; Outlook Stable

Fitch Ratings has affirmed its 'A+' long-term rating on the following bonds issued by or on behalf of Baylor University (Baylor), TX:

--$200 million taxable fixed-rate bonds, series 2012A, issued by Baylor University;

--$232.1 million Waco Education Finance Corporation fixed-rate revenue bonds;

--$91.1 million Clifton Higher Education Finance Corporation fixed-rate revenue bonds;

--$64.9 million Waco Education Finance Corporation variable-rate demand revenue bonds (underlying rating).

Additionally, Fitch affirms its 'F1+' rating on Baylor's $50 million authorized taxable commercial paper (CP) program.

The Rating Outlook is Stable.

SECURITY

The bonds and the university's CP program are unsecured, general obligations of the university.

KEY RATING DRIVERS

STABLE OPERATING PROFILE: Baylor's positive operating performance continues to support the rating, providing an adequate level of financial flexibility, particularly given the university's strong demand profile and enrollment. Both undergraduate and graduate enrollment have grown modestly over the last five years.

ADEQUATE BALANCE SHEET: The university's balance sheet provides an adequate financial cushion. Available funds (AF) ratios remain consistent with the 'A' rating category for Fitch-rated private colleges and universities, although slim for 'A+' rated peers. Baylor, however, is provided with additional financial flexibility by its $1.2 billion endowment, which is largely permanently restricted and not included in AF.

PLANNING PARTIALLY MITIGATES HIGH LEVERAGE: Baylor mitigates its very high maximum annual debt service (MADS) burden (35.7% in fiscal 2015) by engaging in long-term financial planning, including internal budgeting to build reserves to help manage its $320 million of total bullet maturities in 2042 and 2043.

SUFFICIENT LIQUID RESOURCES: The 'F1+' rating reflects the adequacy of Baylor's internal resources to cover the maximum potential liquidity presented by its taxable CP program. Such resources include cash and highly liquid investments, and exceed Fitch's 1.25x requirement for an 'F1+' rating.

RATING SENSITIVITIES

POSITIVE OPERATING MARGINS: Student-generated revenues account for more than two-thirds of Baylor University's operating revenues; and the rating could be negatively affected by pressured demand. Fitch will monitor how recent events stemming from a sexual assault incident on campus will affect enrollment levels.

BALANCE SHEET STRENGTH: Significant declines in balance sheet ratios could pressure the rating. However, growth in financial resources over time relative to peer institutions, from a mix of operating surpluses, endowment appreciation and gifts, could have positive rating implications.

SUFFICIENT LIQUID RESOURCES: A downgrade of the university's long-term rating below 'A+', or deterioration of self-liquidity below Fitch's 1.25x requirement for an 'F1+' rating, would lead to a downgrade in Baylor's short-term rating.

CREDIT PROFILE

Baylor was chartered by the Republic of Texas on Feb. 1, 1845 and is the oldest continuously operating institution of higher learning within the state. Management reports that it is the largest Baptist university in the world and offers undergraduate and graduate degrees to students at its campus in Waco, Texas. Most students originate from within the state, and student quality (as measured by average freshman SAT and ACT scores) well exceeds state and national averages. Baylor offers 142 undergraduate degree programs, 75 master's degree programs, and 41 doctoral programs. Professional programs include business, education, engineering, law, theology and nursing. About 85% of students are undergraduates, and most attend full-time.

NO IMMEDIATE RATING EFFECT FROM TITLE IX INCIDENTS

Baylor has recently gone through leadership changes stemming from the review of several Title IX incidents. In August 2015, a former Baylor football player was convicted of sexual assault of another Baylor student. After obtaining results of a voluntarily-commissioned external review in May 2016, the university's Board of Regents removed Ken Starr as President of Baylor. Mr. Starr subsequently resigned as Chancellor. Dr. David Garland was appointed as interim President in May 2016. Dr. Garland previously served as interim President in 2008-2010 and interim provost in 2014-2015. A Presidential search committee was appointed by the Board in Sept. 2016. Also as a result of the incident, the university suspended head football coach Art Briles in May 2016, reaching a mutual separation in June 2016; and Athletic Director Ian McCaw resigned in May 2016.

Management reports that Baylor has since added staff to Baylor's Title IX office and is investing in resources for student counseling, campus safety, and university security. Fitch will continue to monitor how the wake of the sexual assault scandal affects future student demand.

Baylor is not currently in a major comprehensive fundraising campaign, but has raised over $250 million for some capital projects as well as strategic program goals that include student retention, scholarships, and career placement initiatives. Fitch will also continue to monitor how the aforementioned sexual assault episode will affect Baylor's fundraising efforts.

SOLID STUDENT DEMAND

Baylor's enrollment and demand trends support the university's operating revenues, which remain favorable. Headcount enrollment has grown consistently sinc at least fall 2010, reaching 16,263 in fall 2014 and 16,787 in fall 2015. Management reports that fall 2016 full-time equivalent (FTE) enrollment grew to 16,654 from 16,511 in fall 2015 (which was approximately 500 FTEs above fall 2014). After dips in each category in fall 2015, freshman and transfer applications for fall 2016 each increased over the prior year reaching 34,661 and 1,348, respectively.

Fall 2015 freshman selectivity strengthened over fall 2014, with a 43.7% acceptance rate and 24.2% matriculation. Further, Baylor's fall 2015 freshman yield at approximately 3,400 students, compared to a budget of 3,200, is a credit positive. Management maintains that the goal is to allow for 3,200-3,250 entering freshman each year.

Fall 2016 freshman selectivity continued to strengthen over the prior year, with a 39.7% acceptance rate (the lowest level observed since at least fall 2010) and 25.5% matriculation (the highest level observed since at least fall 2010). While management budgeted for 3,250 students in fall 2016, approximately 3,500 students matriculated, indicating strong demand trends persist.

Management reports that as of Sept. 15, 2016, the level of applications for fall 2017 are stronger than the prior year(in part due to Baylor accepting the National Common Application for the fall 2017 cycle), despite publicity of the sexual assault incident during fiscal 2016. Fitch will continue to monitor how fall 2017 enrollment levels may be affected by the aforementioned events.

POSITIVE OPERATING MARGINS

Baylor's operating margin (including the endowment draw) averaged a positive but slim 2.3% in fiscal years 2011-2015, which contrasts with a stronger 3.7% average margin between fiscal years 2008-2010. However, operating results for the fiscal year ended May 31, 2015 were significantly stronger than fiscal 2014 on a full accrual basis at 6.9%, supported in part by an 11% increase in net tuition revenue driven by improved demand metrics.

Fitch considers Baylor's conservative, long-term financial planning (including a step-down tuition fee increase to address affordability) as a credit positive. Management reports that fiscal 2016 results will be positive, yet not as strong as fiscal 2015 due in part to one-time legal costs incurred.

WEAKENED THOUGH ADEQUATE LIQUIDITY

Baylor's available funds (AF; defined as cash and investments not permanently restricted) decreased in fiscal 2015 by almost 5% to $663 million. AF at May 31, 2015 was equal to 119% of operating expenses ($559 million) and 106% of outstanding debt ($623 million). Fitch views these ratios as still consistent with the 'A' rating category for private colleges and universities, despite a decreased AF level when compared with AF at May 31, 2014. Nearly half of Baylor's long-term investments ($1.2 billion at the end of fiscal 2015, which includes significant restricted net assets) were invested in alternative investments, which tend not to be liquid. Another 15% were held by outside trusts.

On an unaudited basis, management reports that AF at May 31, 2016 has declined over the prior year. As such, Fitch calculates that liquidity metrics have slightly weakened during (unaudited) fiscal 2016, although still consistent with 'A' category Fitch-rated private university peers.

HIGH DEBT LEVERAGE

Outstanding debt at May 31, 2015 totaled $623 million, including $15 million out of $50 million authorized CP. Of this total, only the CP and the $64.9 million series 2008A bonds were variable rate, about 13% of total debt. The series 2008A variable rate demand bonds are subject to a floating- to fixed-rate swap contract for a fixed rate of 2.48%. The $120 million series 2012 bonds and $200 million series 2012 taxable bonds are fixed rate, and structured with bullet maturities in 2042 and 2043. This highly deferred debt structure is somewhat mitigated by no new debt plans expected through the medium term, an internal funding plan for the bullet maturities, and the relative market value of the endowment ($1.2 billion).

Current debt service in fiscal 2015 was approximately $33 million, increasing to roughly $36 million by fiscal 2019 and staying at that level through 2036. MADS, however, is a very high $214.3 million in 2042 (the second bullet maturity is $120 million in 2043). The fiscal 2015 current debt burden was 5.4%, which Fitch considers moderate. The MADS burden (fiscal 2042) was 35.7%, which Fitch considers very high.

Management reports that Baylor has no new debt plans at this time, and expects to retain the size of its authorized $50 million CP program. Proceeds of the $320 million bonds issued in 2012 were used, in combination with gifts and internal funds, to construct a new football stadium (which opened in fall 2014), a new business building (which opened in fall 2015), and other academic, research facility and dormitory capital projects.

The 'F1+' rating is based on the availability of highly liquid, highly rated securities to cover the liquidity demands presented by Baylor's taxable CP program. The program has a maximum authorization of $50 million, and approximately $15 million is currently outstanding. As of Aug. 31, 2016, the level of available liquid assets was healthy and consistent with the minimum 1.25x coverage expectation for the 'F1+' short-term rating.

Baylor does not maintain any self-liquidity exposure to variable rate debt instruments aside from its CP program. At present, approximately $64.9 million of series 2008A VRDBs have bank liquidity support.

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

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

Additional Disclosures

Dodd-Frank Rating Information Disclosure Form

https://www.fitchratings.com/creditdesk/press_releases/content/ridf_frame.cfm?pr_id=1011992

Solicitation Status

https://www.fitchratings.com/gws/en/disclosure/solicitation?pr_id=1011992

Endorsement Policy

https://www.fitchratings.com/jsp/creditdesk/PolicyRegulation.faces?context=2&detail=31

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