MuniLand Higher Education Sector Outlook

SNW has a stable to slightly negative outlook on the municipal not-for-profit higher education sector. The NFP higher education sector represents about 3% of our municipal benchmark. It is not a major performance driver, but it does contain some of the highest quality names in the municipal market, which makes it an important sector to watch. The high relative credit quality is driven by the presence of large state institutions like the University of Texas and University of California. In addition, very wealthy institutions like Harvard and Stanford also have a material impact on the sector’s credit fundamentals. Because of the dominance of these big names we give the sector a stable to slightly negative credit outlook. The slightly negative outlook is because of secular population trends and cyclical affordability headwinds that may influence the performance and credit quality of the sector over the next 12 to 18 months. 

The Department of Education’s National Center for Education Statistics forecasts that the growth rate for high school graduation rates between now and 2025/26 will be about 5.5%. Positive growth is generally a sector positive, but its pace is expected to be significantly slower than the 1992 to 2005 period, which reflected the bulge in “Echo Boomers” graduating high school. What is more, the growth is not evenly distributed. The South and West regions are expected to grow in the high single digits, while the Midwest is projected to be flat (literally and figuratively) and the Northeast will likely see declines. Attracting students was relatively easy in the past, but now colleges and universities face a stiffer and more competitive market environment. Management must be more strategic in regions with less favorable secular demographic trends.

Declining tuition affordability and slow real income growth will pressure institutions with high tuitions. Affordability is a serious concern for private not-for-profit colleges. We can measure affordability concerns by looking at net tuition revenue, which is tuition revenue that subtracts student financial aid. This is a critical credit driver because low or negative net tuition growth is a potential credit negative if expenses cannot be controlled or alternative revenue sources cannot be developed. One way private universities can offset uncompetitive tuition cost is to increase endowment transfer so as to support revenue growth. However, endowments will likely see lower investment returns in the future due to lower expected returns and rich valuation for many asset classes. Nonetheless, higher education institutions with sufficient net tuition revenue growth that demonstrate pricing power typically have solid credit fundamentals and large moats protecting their market position. Also, relatively affordable institutions will likely continue to see solid student demand.

It is at the confluence of declining high school population trends, solid market position and affordability that we see value in the sector. Flagship public institutions can provide value where states are experiencing fiscal stress; secular demographic trends are limiting the total number of high school graduates, yet affordable tuition creates demand. Where these trends meet we continue find pockets of value in an increasingly rich municipal market. 

Source: National Center for Education Statistics, SNW AM Research