DALLAS — Southern Methodist University near Dallas will go to market today with an $84.7 million variable-rate issue of higher education revenue bonds, but will enjoy the certainty of a fixed rate that was locked in last November with a forward swap with Lehman Brothers.
“This deal is really a synthetic fixed-rate deal,” said John S. Vincent, the principal of John S. Vincent & Co., SMU’s financial adviser. “The university entered into a floating-to-fixed-rate forward dated swap on Nov. 1, 2005. That deal will commence at the same time this deal closes.”
The variable-to-fixed rate swap is based on 67% of Libor, the London Interbank Offered Rate. The Series 2006 variable-rate demand bonds will be set in weekly mode.
On Nov. 1, the university locked in a fixed rate of 3.497% for the 30-year deal with Lehman Brothers, which will serve both as underwriter and swap counterparty for the debt.
“We’ve been watching the market closely, and it remains very favorable,” Vincent said. “There does seem to be a little bit of upswing in the yield curve, but the taxable market is flat — it appears there is some advantage to issuing variable rate to fixed rate right now.”
Nonetheless, he added, with a fixed rate locked in for the lifetime of the deal, SMU officials are approaching the issue as they would a traditional fixed-rate sale.
“Currently, the university has about 26% of variable-rate debt outstanding and about 74% of fixed-rate debt outstanding,” Vincent said. “We are factoring in this issue as fixed rate.”
Proceeds from the $46.7 million new-money component of the offering will finance several critical university projects, while about $38 million will refund the university’s outstanding Series 1995 revenue bonds.
“There will be some basis risk over the life of the issue associated with the Libor-based swap, but if all goes well, we’re looking at present value savings of about $3.8 million,” said John O’Connor, associate vice president and controller of SMU.
O’Connor said that the swap marks the first such agreement into which the university has entered.
“We thought interest rates were going to go up and we wanted to go ahead and lock in interest rates,” he said.He added that while the swap agreement does provide for early termination, he doubts the university would end the agreement prematurely.
“The cost to terminate basically would require us to pay what the market demands at the time,” O’Connor said. “I suspect, though there are provisions in place that would allow it, it would be very unlikely that we would terminate the swap.”
Vinson & Elkins LLP is the university’s bond counsel. McCall, Parkhurst & Horton is underwriter’s counsel for the deal, and JPMorgan Chase Bank is the trustee.
The Southwest Higher Education Authority Inc. will serve as conduit issuer for the transaction. The 501(c)(3) issuer is authorized by University Park, a small enclave surrounded by the city of Dallas, to make loans to higher education entities for housing and educational facilities.
The deal has yielded strong ratings from two credit agencies.
“We really are going to market on the strength of the university’s credit,” Vincent said. “The university has underlying ratings of AA-minus from Standard & Poor’s and Aa3 from Moody’s Investors Service. Bank of New York will provide a standby purchase agreement for the bonds.”
In addition to the strong long-term credit ratings, the Series 2006 bonds won an A-1 and a VMIG-1, respectively, the agencies’ highest scores for variable-rate debt.
According to Standard & Poor’s, SMU achieved a debt derivative profile score of 2 on a 5-point scale, with 5 reflecting the most financial risk.
The long-term rating from Standard & Poor’s marked a one-notch upgrade.
“Standard & Poor’s had raised its long-term rating on Dec. 29, 2005, to AA-minus from A-plus on SMU’s debt, based on improved student demand and selectivity, demonstrated fundraising capacity, adequate levels of cash and investments for the AA rating category, and consistently strong operating performance,” stated an credit report released last week.
Proceeds from the majority of the new-money component of the Series 2006 issue — about $30 million — will finance the renovation of residence halls.
“Many of these facilities are 1950s or 1960s vintage,” O’Connor said. “They are in dire need of upgrades.”
Other projects included in the financing are the second phase of renovations of science labs and classrooms in the Fondren Science building; the connection of several segments of University Boulevard, which will require the destruction of several small buildings; and reimbursement for the cost of two buildings that SMU has purchased on North Central Expressway, a major artery running through Dallas which borders the university.
Those buildings, which are expected to be used for administration and research, were purchased with cash on hand.
