OREANDA-NEWS. Fitch Ratings has affirmed the 'BBB+' rating on approximately $30.3 million of outstanding educational facilities revenue bonds, series 2006 issued by the Mayor and Common Council of Westminster County, MD on behalf of McDaniel College (the college or McDaniel).

The Rating Outlook is revised to Negative from Stable.

SECURITY
The bonds are secured by a general, unconditional obligation of the college payable from legally available funds.

KEY RATING DRIVERS

HIGH/INCREASING DISCOUNTING: The Negative Outlook reflects limited revenue flexibility given the college's high and increasing tuition discount rate topping an estimated 49.8% in fiscal 2015. Enrollment pressures and a history of weak operating performance (on a full accrual basis) are additional credit concerns influencing the revision to Negative.

ENROLLMENT CHALLENGES PERSIST: Undergraduate enrollment, which drives the majority of net tuition and fee revenue, declined by 4% in fall 2015 from fall 2014 levels. According to management, current fall 2016 enrollment is behind last year. Given the highly competitive environment, Fitch expects enrollment challenges to persist. Graduate enrollment continues to decline, which is a concern; however, the declines appear to be relatively manageable form a budgetary perspective.

SOLID FINANCIAL CUSHION: McDaniel's balance sheet resources anchor the 'BBB+' rating and remain solid for the rating category. The financial cushion presently provides the college with sufficient flexibility to handle a disruption in operating revenues or unexpected increase in expenses, but could face pressure to the extent that operating deficits drive down balance sheet resources and materially impact coverage levels.

MANAGABLE DEBT BURDEN: The college's historical adequate debt service coverage and lack of debt-financed capital plans in the near term partly offsets McDaniel's moderately high debt burden.

VARIABLE-RATE RISKS: McDaniel's fairly significant variable-rate debt exposure (approximately 33% of outstanding debt) is partially mitigated by the college's level of available funds and history of managing the risks associated with this debt structure.

RATING SENSITIVITIES

EROSION OF FINANCIAL CUSHION: Declines in McDaniel College's balance sheet resources and/or an increase in debt resulting in lower debt service coverage ratios would be viewed negatively and would likely lead to a downgrade.

OPERATIONAL INSTABILITY: McDaniel College's failure to stabilize net tuition revenue and maintain stable enrollment will likely lead to continued negative GAAP operating margins and negative rating pressure.

CREDIT PROFILE
McDaniel College is a private liberal arts college located on 136 acres of land in Westminster, MD, approximately 31 miles northwest of Baltimore and 56 miles north of Washington, D.C. The college offers undergraduate degrees in more than 60 programs. It also offers a master of liberal arts and a master of science, as well as certificate degrees in more than 20 education-related specialties.

ENROLLMENT CHALLENGES PERSIST
Despite an increase (4.1%) in the number of new freshman matriculants, total undergraduate enrollment declined by 4% to 1,637 in fall 2015. Management attributes this to higher than expected attrition which occurred in July/August 2015. The budget for the fall 2016 freshman class is the same as fall 2015 - 432 students. Management reported that enrollment to date is behind last year.

Graduate enrollment declined for at least the fifth consecutive year to 1,481 from 1,567 (or down 5.5%). Although a credit concern, Fitch notes that enrollment declines in graduate programs appear to be relatively manageable, as a significant portion of graduate coursework is taught by adjunct and untenured full-time staff, which provides management with substantial budgetary flexibility. Management reports that graduate enrollment for spring and summer is up compared to last year.

Fitch believes enrollment growth will be a longer term challenge as McDaniel competes for students in a highly competitive environment.

INCREASING TUITION DISCOUNTING PRESSURES OPERATIONS
Typical of private colleges and universities, McDaniel remains heavily dependent on student-generated revenues for operations. This reliance underscores the importance of effective enrollment practices, including careful management of institutional aid. McDaniel's tuition discount rate continues to increase, reaching 49.8% in fiscal 2015, up from 41.9% in fiscal 2011.

In fiscal 2015, McDaniel generated a negative 6.8% operating margin (adjusted for full endowment payout), compared to a negative 2.2% in fiscal 2014. Unfavorable operating performance in fiscal 2015 was driven by a 2.8% decline in net tuition and fees, a significant revenue stream (58.2% of total unrestricted operating revenues in fiscal 2015), combined with a 3.5% increase in operating expenses and management's historical practice of not budgeting for depreciation.

Fitch views a negative GAAP-based operating margin unfavorably, but net operating income from operations continued to provide weaker but still adequate coverage of pro forma MADS of 1x in fiscal 2015. This compares unfavorably to an average of 1.7x for fiscal years 2011 through 2014. If operating deficits drive down balance sheet resources and continue to impact coverage levels, a rating downgrade would occur.

Management has budgeted for a breakeven year in fiscal 2016. As of March 31, 2016, the college is reporting a $534,000 surplus with positive variances in undergraduate tuition, room and board revenue and graduate tuition and fees.

SOLID FINANCIAL CUSHION
McDaniel's balance sheet resources continue to anchor the rating at 'BBB+'. As of June 30, 2015, available funds, defined by Fitch as cash and investments not permanently restricted, totaled $70.7 million. This covered fiscal 2015 operating expenses and pro forma long-term debt by 109% and 142%, respectively, and are considered solid for the 'BBB' rating category. Fitch notes that the college's balance sheet strength is partially a reflection of its strong fundraising efforts, with two successful capital campaigns completed in each of the past two decades. In April 2015, the board approved a $50 million 3-year fundraising plan to coincide with the college's 150th anniversary. Funds will be used for scholarships, faculty development and capital projects.

HIGH PERCENT OF VARIABLE-RATE DEBT
Approximately one-third of McDaniel's outstanding debt is variable-rate, which is considered relatively high for the 'BBB' rating category. This debt consists of a private bank placement held by BB&T Bank with a term expiring in 2020 (recently amended from 2017).

The variable rate on the loan is set at 124 basis points plus 68% of the one-month LIBOR rate reset on a monthly basis. While the college continues to benefit from a low interest rate environment, this debt structure exposes McDaniel to potential liquidity and refinancing risks. Concern related to the potential for debt repayment on an accelerated timeframe should the covenant package be violated is somewhat mitigated by McDaniel's sufficient balance sheet liquidity and satisfactory headroom under the financial covenants.

The college's debt burden is moderately high, with MADS equal to 6.8% of fiscal 2015 unrestricted operating revenues, in line with prior years.

The college is applying for a $5 million line of credit to initially fund near-term capital projects with full funding to be provided from grants and cash received from the college's strong fundraising efforts. In addition, the college plans to refinance the Fitch-rated series 2006 bonds later this year. The refunding will provide debt service savings with no extension of debt.