OREANDA-NEWS. Fitch Ratings assigns an 'AAA' rating to the approximately $220 million Board of Regents of the University of Texas System (UTS) Permanent University Fund (PUF) refunding bonds, series 2015B.

The series 2015B bonds are expected to sell via negotiation the week of July 20, 2015. Series 2015B proceeds, along with available monies of the Board, will permanently finance about $252 million of outstanding PUF commercial paper (CP).

At the same time, Fitch affirms the 'AAA' rating on approximately $1.56 billion of outstanding PUF bonds.

The Rating Outlook is Stable.

SECURITY

PUF bonds issued by UTS are secured by, and payable from, a first lien on and pledge of UTS's two-thirds interest in the available university fund (AUF). The AUF receives annual distributions from the PUF, which are required under the Texas constitution to be at least sufficient to pay debt service on outstanding PUF bonds and notes.

PUF CP issued by UTS is secured by and payable from a subordinate lien and pledge of UTS's two-thirds interest in the AUF. UTS utilizes its PUF CP program to finance eligible PUF capital projects on an interim basis. Post issuance, UT expects to have approximately $347 million of outstanding PUF CP.

KEY RATING DRIVERS

SUBSTANTIAL RESOURCE BASE: The PUF's highly diversified investment holdings ($17.3 billion market value at Aug. 31, 2014, excluding land value), supported by the expertise of the University of Texas Investment Management Company (UTIMCO), underpin the 'AAA' rating. Credit risks are minimal due to constitutional debt limits and strong debt service coverage.

DIVERSIFIED ASSET ALLOCATION: PUF assets are held in a mix of investment classes, including traditional securities and alternative assets. The fund supports dual goals of corpus preservation and stable annual distributions. The PUF's distribution target, as established by the UTS board, is 4.75% but may not exceed 7%. In recent years the distribution rate has been higher due to strong mineral receipts.

RATING SENSITIVITIES

MARKET VALUE CHANGES: The 'AAA' rating could be pressured by a decline in the market value of Permanent University Fund investments and/or issuance that bring the amount of outstanding PUF debt close to constitutional limits and significantly weakens annual debt service coverage. Fitch considers this unlikely at this time.

CREDIT PROFILE

BONDING AUTHORIZATION CONSTITUTIONALLY DEFINED

Under the Texas constitutional provision establishing the PUF, both UTS and Texas A&M University System (TAMUS) may issue bonds and notes payable from distributions from their respective shares of the PUF. Distributions are determined annually by the UTS Board and deposited into the AUF. UTS receives a two-thirds share of such AUF distributions, which secure UTS-issued PUF bonds (senior) and notes (subordinate).

Distributions are made from the total return on all investment assets of the PUF, including income attributable to the surfaces of PUF land. Distribution amounts are limited by the state constitution to 7% of the average PUF fair market value, with further limitations adopted by UTS board policy. The state constitution stipulates that the annual AUF distribution must at least equal debt service on PUF obligations of UTS and TAMUS.

SPENDING POLICY FACILITATES FLEXIBILITY

UTS policies provide for a more conservative annual distribution to the AUF, which is a target 4.75% of the average PUF market value for the trailing 12 quarters. In certain circumstances, as has been the case in recent years due to strong investment markets and robust leasing and royalty income related to oil and gas properties, the distributions have been somewhat higher.

For fiscal 2016, the UTS board approved a total AUF distribution of $772.8 million (approximately 5%), which compares to $764 million in fiscal 2015 (about 5.5%). For the fiscal year ending Aug. 31, 2014, the board made a supplemental distribution resulting in a $878 million total distribution (approximately 7%). Distribution amounts may also increase somewhat depending on income from PUF surface lands.

UTS's DISTRIBUTION SUPPORTS STRONG COVERAGE

UTS's approximately $607 million share of the fiscal 2014 AUF distribution covered UTS's fiscal 2014 PUF debt service of $97 million by 6.25x; this coverage includes a supplemental distribution. Coverage was equally strong in fiscal 2013 at 5.1x, and is projected to be similar in fiscal 2015.

CONSTITUTIONAL DEBT LIMIT PREVENTS OVERLEVERAGING

Total PUF obligations issued by UTS are constitutionally limited to 20% of PUF book value (excluding PUF lands), at the time of issuance; TAMUS's issuance is limited to 10%. As of Aug. 31, 2014, the most recent audit date, UTS's outstanding PUF bonds and CP notes totaled $1.96 billion, well within the constitutional limit of $2.7 billion. Post issuance, outstanding PUF debt and commercial paper is estimated at $2.1 billion.

Fitch expects UTS to continue PUF borrowing to fund eligible capital projects on either a temporary- or long-term basis. The constitutional limit ensures leverage will remain moderate. At this time, UTS expects to utilize the $750 million authorized CP program for interim financing, and then permanently finance the notes with PUF bonds. Post issuance, about $347 million of CP is expected to be outstanding; UT management expects to issue additional CP during the 2015 calendar year.