Michigan State University can use debt or cash to pay a $500 million settlement agreement it reached with the victims of Larry Nassar, but either choice will moderately weaken the university’s credit strength, according to Moody’s Investor Service.

Under MSU’s settlement in principle with victims of the former Michigan State team physician and associate professor, the university will pay $425 million to current claimants and $75 million will be set aside in a trust fund to protect any future claimants alleging sexual abuse by Nassar.

It is unclear what portion of the settlement, if any, the university’s insurers will cover. Moody’s said that without insurance proceeds, it calculates that the university would be on the hook to a the tune of $20 to $30 million annually to cover the costs. The estimates are based on either debt service for a 30-year financing or the loss of investment earnings on $500 million.

Michigan State University sign
Either cash-funding or debt-funding its $500 million settlement with sex abuse victim has credit consequences for Michigan State University, according to Moody's.

“The university has not publicly identified the source of funds for the settlement, but will likely draw either from liquid reserves or use debt, affecting both the balance sheet and income statement in differing ways,” Moody’s said.

Moody’s said that “incremental issuance” of $500 million would amount to approximately a 40% increase in MSU’s outstanding debt, which was $1.15 billion as of fiscal 2017.

“Over the past five years, the university has generated an average of $270 million of annual operating cash flow, which covers existing debt service by more than four times and provides ample ability to absorb additional debt service related to the settlement amount,” Moody’s said.

MSU also has approximately $1.9 billion of cash and investments that are legally unrestricted and are available for use in the settlement as of fiscal 2017.

However Moody’s warned that if the university opts to use cash, its reserves and investment income revenue would decline. Opting to issue debt means increasing MSU’s leverage as well as its debt service costs because of principal and interest payments.

Moody’s downgraded MSU one notch to Aa2 on May 4. The outlook is negative. S&P lowered its outlook on MSU's AA-plus rating to negative from stable citing similar concerns. The rating is currently on S&P CreditWatch with negative implications.

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