University of Chicago Is Outlier With Growing Debt LoadMichael McDonald and Brian Chappatta
The University of Chicago has been trying to stand out from its elite rivals and is doing so in one category: amassing debt. That’s put its credit rating at risk.
The university founded by oil magnate John D. Rockefeller in 1890 is in the midst of a $1.7 billion development plan. As municipal interest rates remain close to generational lows, it may borrow as much as $900 million in the next four years, according to Standard & Poor’s. The plan prompted S&P and Moody’s Investors Service to cut the school’s credit outlook to negative. Chicago already has $3.6 billion of debt -- the most relative to its endowment among the richest U.S. schools.
“When you look at the University of Chicago, they are an outlier -- they are highly leveraged,” said Diane Viacava, an analyst at Moody’s in New York. “They need very strong cash flow to be able to provide the pledged revenue to pay for the debt service.”
Many universities have altered capital spending since suffering investment losses as a result of the recession that ended in 2009, downsizing projects while relying more on fundraising and less on bond financing. Cornell University in Ithaca, New York, has vowed to hold the line on bond sales after running up record borrowings, while Harvard University, the world’s richest school, has been reducing debt even as it builds a new campus in Boston.
Municipal bonds sold for higher education totaled $22.4 billion last year, down from $31.4 billion in 2009 when a number of schools refinanced debt, data compiled by Bloomberg show. The data exclude some corporate-like taxable bonds universities sold to raise cash or finance projects with uses outside their tax-exempt status.
“There has been no change in the desire for new facilities,” said Ronald Ehrenberg, a professor of economics and director of the Higher Education Research Institute at Cornell. “The only question is will they build facilities without concrete plans on how they will be financed.”
The expansion in Chicago, which has more than 5,300 undergraduates and about 9,500 graduate and professional students, echoes an arms race in the decade or so before the credit crisis when colleges used rising wealth and easy credit to splurge on research facilities and dormitories. Growing scrutiny of that spending has given way to criticism of the state of higher education as students face surging tuition and debt while many schools struggle to meet enrollment goals amid declining public funding.
Robert Zimmer, hired as president of the University of Chicago in 2006, inherited an ambitious program to improve campus life while bolstering highly regarded academic programs. The institution stuck to the plan even as it suffered a 21.5 percent loss on endowment investments in 2009. Its debt has grown in the past four years to $3.6 billion from $2.4 billion.
“We well understand that borrowing for some of these investments entails risk,” Zimmer, whose $3.36 million compensation made him the highest-paid private college president in 2011, said in a statement in August after local reporters obtained a copy of the proposed financing plan. “We cannot, however, scale back our academic and programmatic ambitions in a way that risks our future excellence as a university.”
Steve Kloehn, a university spokesman, declined to comment.
While the University of Chicago has about the same amount of debt as Yale University in New Haven, Connecticut, its $6.7 billion endowment is a third the size of the Ivy League school’s $20.8 billion. Chicago’s debt as a percentage of its endowment is 54 percent, compared with 17 percent for Yale.
Harvard, based in Cambridge, Massachusetts, and Stanford University, near Palo Alto, California, have the most notes and bonds among the 20 richest schools. Yet as a percentage of their endowments, the obligations represent about 17 percent and 26 percent, respectively.
Chicago will borrow as much as $400 million for projects in the fiscal year starting July 1, and as much as $500 million more by 2018, according to S&P. The ratings company, which grades the school AA, two steps below the top mark, cut its credit outlook to negative in January, indicating a downgrade is possible, citing the growing debt and expected budget deficits.
An S&P downgrade would make the university the lowest-rated of the 20 wealthiest U.S. universities. Moody’s, which ranks the campus a step above S&P at Aa1, also dropped its outlook to negative in January.
The university is embracing debt as borrowing costs remain close to five-decade lows.
The institution sold $149 million of federally tax-exempt bonds last year, including a portion maturing in October 2052 that priced to yield 3.5 percent, Bloomberg data show. By comparison, the average yield on 20-year bonds with an Aa2 rating over the past 52 years is 5.82 percent, according to a Bond Buyer index.
“It’s an environment where debt is relatively cheap for them to issue, so I’m not sure it’s that much of a negative,” said Tim McGregor, director of municipal fixed income at Northern Trust, which oversees about $32 billion of muni investments in Chicago. “I don’t find it too alarming.”
The construction is transforming the campus in Hyde Park, the neighborhood on Chicago’s South Side that was President Barack Obama’s political base and is near his home. The university has finished a $700 million, 10-story adult care center at an affiliated medical center, a $114 million arts center, and a $52 million expansion of the Laboratory Schools, a K-12 subsidiary.
It is developing a $215 million research center named for alumni and futures trader William Eckhardt that includes space for the university’s first molecular engineering program. Another project is a $101 million reconstruction and expansion of a former seminary that will house the economics department.
The investments, which include an increase in the size of the faculty, are filtering through to its academic standing. Chicago was ranked fourth among national universities in 2012 by U.S. News & World Report, the school’s highest showing. Competition to enter as a freshman has stiffened, with the acceptance rate reaching a record low of about 9 percent in 2013 as applications tripled during the previous seven years.
The university is known for spawning a school of economic thought and boasts affiliations with 89 Nobel Prize winners. T-shirts sold at the student union bear a well-known slogan: “Where Fun Goes to Die.”
“Their view is that this is a time for us to make a lot more headway than we would during the regular arms race,” said Fred Prager, founding partner of San Francisco-based investment bank Prager & Co., the university’s financial adviser. “The money is going to the programmatic strengths.”