OREANDA-NEWS. Fitch Ratings has assigned an 'A' rating to $56,575,000 Texas State Technical College System (TSTC or the college) revenue financing system improvement and refunding bonds, series 2016.

The bonds are expected to sell the week of April 11, 2016 via a negotiated sale. Bond proceeds will be used for various capital projects within the system, to refund certain outstanding series 2008 and 2009 priority bonds, in addition to paying issuance costs.

The Rating Outlook is Stable.

SECURITY

The series 2016 bonds are special obligations of the Board of Regents of the Texas State Technical College System secured by and payable from a pledge of and lien on the Pledged Revenues. Pledged Revenues include income, receipts, rentals, rates, charges, fees, grants and tuition. Operating appropriations are specifically not pledged.

KEY RATING DRIVERS

STRONG STATE SUPPORT: The 'A' rating reflects TSTC's significant support from the state of Texas (rated 'AAA') for operations and capital projects to support its legislatively mandated mission to drive economic development through workforce education.

WEAK FINANCIAL PROFILE: TSTC's financial operations have weakened over the last few years, ending fiscal 2015 with a negative operating margin in conjunction with slim financial resources. The rating incorporates Fitch's expectations that operating results will improve toward break-even over the medium term.

MODERATELY HIGH DEBT BURDEN: TSTC's debt burden is moderately high, with pro forma maximum annual debt service (MADS) consuming 7% of fiscal 2015 operating revenues. However, this is manageable due to TSTC's conservative debt structure and about 11% of parity debt supported by the state through debt service reimbursements. Series 2016 new money will fund projects approved for state tuition revenue bond (TRB) appropriations equal to annual debt service.

RATING SENSITIVITIES

OPERATING TRENDS: The Stable Outlook incorporates Fitch's expectation that Texas State Technical College operations will steadily improve and return to positive operating margins by fiscal 2017. A sustained trend of balanced operations and improved balance sheet resources could lead to positive rating action.

CYCLICAL ENROLLMENT: As a technical school, Texas State Technical College's enrollment is sensitive to economic cycles. Inability to manage operations effectively through enrollment cycles could negatively pressure the rating.

CONTINUED STATE SUPPORT: The rating is dependent on ongoing state of Texas support financially and to Texas State Technical College's mission.

CREDIT PROFILE

Established in 1965, TSTC comprises nine campuses and one multi-institutional teaching center with the oldest and flagship campus located in Waco, Texas. TSTC is the only state-operated education system of two-year colleges in Texas. TSTC offers courses of study in technical education leading to certificates and Associate of Applied Science degrees, and has a legislative mandate to support economic development through workforce education. TSTC also provides technical education and training to business and industry, continuing education to the public, and training programs for community and state economic development.

TSTC's growth strategy is aimed at expanding into more populous areas of the state. Recently TSTC expanded its operations to East Williamson County, Ellis County, and Fort Bend County in response to increasing workforce demand.

To better manage TSTC's expansion plans, lower expenses and improve program delivery, in 2015 the four colleges of the system were consolidated into one single accreditation under the Southern Association of Colleges and Schools Commission on Colleges (SACSCOC).

CYCLICAL ENROLLMENT

TSTC enrollment is sensitive to economic cycles. After declining in fall 2012 and 2013, student credit-hour headcount increased by almost 3% in fall 2014, but then declined by 7% in fall 2015 to 11,322. The largest declines were at the Marshall (-15.2%) and West Texas (-13.1%) campuses. Management reports that part of the decline is due primarily to increased competition from community colleges, as well as economic cyclicality. Economic downturns, or reduced employment opportunities, typically bolster enrollment at schools such as TSTC.

TSTC leadership projects it will start growing enrollment beginning in fall 2016 (fiscal 2017) as the result of program enhancements and more aggressive recruiting. In addition, the new campuses in East Williamson County, Ellis County, and Fort Bend County should also support enrollment growth.

WEAKER OPERATIONS EXPECTED TO STABILIZE

TSTC revenues are diverse with strong support provided by the state. Fiscal 2015 operating revenues include state operating appropriations (a substantial 52%), state and federal grants and contracts (23%), and student tuition and fees (20%). State operating appropriations for fiscal years 2011 through 2015 were fairly stable; fiscal 2014 showed an 8.8% increase due to the receipt of $6.9 million in transition funding.

Job placement and student earnings drive the state funding formula for TSTC, which is unique in Texas higher education. Under the 'returned value' funding formula, the state allocates formula funding to TSTC based on results - state tax revenues generated as a result of TSTC's impact on the employment of its students. The model does not provide funding for new campus/academic site operations until the site is established, students are enrolled, trained, enter the workforce, and are employed for five years. However, TSTC is receiving state transition funding for these expansions, including $6.9 million in fiscal 2014 and $8.5 million appropriated for each of fiscals 2016 and 2017.

Historically, operating margins have been positive to break-even averaging 4.3% from fiscal 2011 to fiscal 2014. However, operations started declining in fiscal 2013 with the college posting a negative 3.3% margin in fiscal 2015. Weak results in fiscal 2015 were driven by lower net student fee revenue, decreased state appropriations and lower federal grants and contracts combined with higher one-time expansion expenses.

Management projects operations will stabilize in fiscal 2016 and return to at least break-even GAAP basis in 2017. Improvement is expected to be driven by increased tuition rates for fiscal 2016, a slight increase in overall enrollment, additional revenues from new academic locations, transition funding of $8.5 million in fiscals 2016 and fiscal 2017, increased Higher Education Assistance Fund (HEAF) monies along with administrative cost savings under a single accreditation model.

STATE SUPPORT TEMPERS SLIM FINANCIAL RESOURCES

TSTC's balance sheet ratios are weak for the rating category. At Aug. 31, 2015, available funds (defined by Fitch as cash and investments less certain restricted net assets) totaled $42.5 million, and were equal to a slim 26% of operating expenses and 41.8% of pro forma debt ($101.7 million, including the series 2016 bonds and outstanding bonds, leases and notes payable). The weak ratios are somewhat tempered by strong state operating support. However, failure to return to positive operating margins over time, and as projected by TSTC management, will pressure the rating.

INCREASED DEBT LEVELS BUT MANAGEABLE

Post issuance debt is about $102 million, including outstanding revenue financing system (RFS) bonds, about $41 million of new RFS debt, some operating leases, and notes payable. TSTC's pro forma MADS ($10.9 million in 2019) increases modestly with the series 2016 bonds, representing a moderately high 7% of fiscal 2015 operating revenues. Of the outstanding RFS bonds, about 11% is related to state-authorized tuition revenue bond academic projects, including most of the series 2016 bonds. As such, the state reimburses TSTC for related debt service (but does not pledge to do so).

Fiscal year 2015 net income available for debt service provides weak 0.8 x coverage of pro forma MADs. From fiscal years 2011 to 2014 debt service coverage ranged from 3.3x to 1.6x. Fitch expects coverage will improve to over 1x in fiscal 2017 as financial operations improve and new academic campuses generate revenue.

TSTC does not plan to issue additional parity RFS bonds at this time. Instead, it expects to issue about $27.5 million of debt within the next month secured by a separate, constitutionally provided revenue stream, and state HEAF grants. Higher Education institutions that receive HEAF appropriations (the college received $5,775,000 in fiscal 2015) can issue bonds payable from up to 50% of annual HEAF allocation. As of Aug. 31, 2015, TSTC had no outstanding HEAF bonds.

At this time, Fitch expects currently contemplated debt and capital plans to remain manageable at the current rating level due to a conservative (fixed-rate, descending) debt structure and strong state operating support.