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University of Texas' $625M Issue Not Half BAB

DALLAS - The University of Texas System is preparing the state's largest debt issue so far this year: $625 million of revenue bonds, including $330 million of Build America Bonds.

The taxable BABs would be the first for a university in Texas, and the total deal would be the largest for the UT System since a $685 million deal priced in March 2008. The size of the deal could grow or shrink based on market conditions, said Terry Hull, director of finance for the system.

University officials expect the bonds to price early next week, with institutional pricing after a retail order period. The negotiated deal is led by co-managers JPMorgan and Morgan Stanley.

The UT System does not use an outside financial adviser. Bond counsel is McCall, Parkurst & Horton.

With triple-A ratings from all three agencies, UTS expects strong demand for the bonds.

"I think there will be a tremendous response," Hull said. "I think we'll get a lot of large institutional interest, but also pretty good retail.

About $355.6 million of bond proceeds will refinance outstanding commercial paper, officials said. Debt proceeds will also provide approximately $231 million of funding for projects on the UT System campuses. If market conditions permit, the system may also refinance some of its existing revenue bonds.

The issue will come in two series. A $330 million Series B will be made up of the BABs. Details of the structure, or a preliminary official statement, were not available yesterday. The $295 million Series D will be tax-exempt.

The revenue bonds are backed by available revenue, funds and balances of the system's 15 member institutions, including tuition and auxiliary receipts. Not included in the security pledge are state appropriations, higher education assistance fund payments, restricted gifts, and certain faculty practice plan revenue.

As of the last reporting date of Aug. 31, 2008, pledged revenue totaled $5.9 billion, excluding funds and balances. The BABs carry a 35% federal subsidy on the interest payable on the Series 2009B bonds, which the system expects to designate as Build America Bonds for purposes of the American Recovery and Reinvestment Act stimulus plan.

After this issue, the UT System will have $7.4 billion of debt outstanding, including the system revenue bonds and debt backed by the Permanent University Fund. Of the total, 56% is in fixed-rate mode and 44% is in variable-rate modes, according to Moody's Investors Service.

Despite the sinking economy, the University of Texas remains in enviable economic shape, analysts say. At present, the system's management expects operating performance for fiscal 2009 to fall about 8% below the fiscal 2008 level as it absorbs increased depreciation expenses and unfunded costs associated with damage caused by Hurricane Ike at the UT Medical Branch Galveston campus.

The upcoming bonds will include funds to restore the heavily damaged facilities at UTMB, which was partially closed because of the storm damage, forcing 3,800 layoffs. In the legislative session completed last week, Texas lawmakers approved another $150 million in revenue bonds for the medical branch, allowing it to qualify for $450 million from the Federal Emergency Management Agency.

State Rep. Craig Eiland, D-Galveston, expects UTMB to receive $1.3 billion for recovery, including private donations.

Across the statewide UT System, fall 2008 enrollment of 195,642 students grew at a rate of only 0.7% from fall 2007. Tuition and student fees provided 11% of system revenue. Health care operations provided 33% of revenue, with 20% coming from federal funds, 16% from the state and 14% from investment income.

"The breadth and diversity of various funding sources was viewed as a positive in the rating process," Fitch Ratings analysts noted.

UT joins the universities of Minnesota and Virginia in the BAB market. The University of Minnesota issued $37.3 million of BABs in April, with maturities in 2028 yielding 6.38% with a 6.3% coupon. According to sources close to the transaction, the final all-in-cost for the university - net of the subsidy from the federal government - was 3.81% on the 20-year bond issue. The tax-exempt equivalent from Municipal Market Data on a 20-year double-A rated bond was approximately 4.80%.

The UT System still holds nine swaps totaling $1.3 billion in the revenue finance system bond program. Six of the RFS swaps totaling $1 billion are floating- to fixed-rate swaps under which the system pays a fixed rate and receives a floating rate based on either the one-month London Interbank Offered Rate or the Securities Industry and Financial Markets Association swap index.

The others are basis swaps intended to allow the UT System to benefit from changes in the relationship of short-term tax-exempt and taxable interest rates. Under the basis swaps, the system pays SIFMA and receives a variable rate based on the three-month Libor.

The UT System's Permanent University Fund - including revenue derived from oil and gas leases and other income from state lands - has taken a severe hit, falling from $11.7 billion on Aug. 31, 2007, to $8.6 billion at the end of April. The nearly 27% drop reflects the financial market crash in 2008.

"Investment losses in the current year have weakened the system's financial resource base," Moody's noted. "Assuming a pro-forma 30% loss in total financial resources that fully impacts expendable financial resources, coverage of pro-forma direct debt would decline to 0.71 times from 1.5 times based on financial resources in FY 2008 and coverage of operations would decline to 0.48 times from 0.99 times in FY 2008."

Another threat to the credit is the fact that the University of Texas System's "large-scale capital program is expected to require ongoing borrowing," analysts wrote. "Without commensurate growth in financial resources, the cushion for debt and operations could decline further."

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