Higher ed institutions head to market amid policy headwinds

Two Midwest universities, Knox College and Michigan State University (MSU), are facing funding challenges linked to federal policy. Knox College, a small private school, is dealing with uncertainty around international student visas, leading to a recent credit downgrade to BBB by S&P. MSU, a large research university, faces potential cuts to federal research funding, particularly from the National Institutes of Health, although a preliminary injunction has temporarily halted some changes; MSU plans to issue $386.8 million in general revenue bonds to fund various projects, including a new biomedical research building, signaling a continued investment in research despite the uncertain federal funding landscape.

Analysis

Two Midwest higher education institutions, Knox College and Michigan State University (MSU), are navigating distinct funding challenges exacerbated by federal policies, as highlighted by their recent bond market activities. Knox College, a small private institution with a BBB rating from S&P Global Ratings (downgraded from BBB-minus ahead of its recent bond sale), faces pressure from its reliance on international student enrollment—a strategy previously key to boosting numbers—amidst heightened visa scrutiny by the administration, which has revoked over 1,800 student visas nationwide. The S&P downgrade cited Knox's increased debt and persistent deficits. Knox's $25.7 million revenue bond deal, yielding between 5.54% for a 2040 maturity and 5.96% for a 2045 maturity, is intended for capital improvements and working capital to reduce endowment draws. Conversely, Michigan State University, a large public research institution with high bond ratings (AA from S&P, Aa2 from Moody's), is issuing $386.8 million in general revenue bonds. MSU confronts significant uncertainty from potential cuts to federal research funding, notably a proposed 15% cap on NIH indirect cost recovery rates that could reduce its revenue by an estimated $18 million annually from its current $200 million NIH funding portfolio; a nationwide preliminary injunction has temporarily halted this specific cap. MSU received approximately $126.5 million in total indirect cost recoveries from federal research in fiscal year 2024 and is also managing visa uncertainties (at least 12 visas revoked at MSU) and DEI-related grant reviews by federal agencies. Despite these headwinds, which contribute to Moody's observation of elevated debt-to-EBIDA due to thinner operating performance compared to peers, MSU is proceeding with strategic investments, including a new biomedical research facility, and its budget guidelines anticipate operating expenditure reductions. S&P acknowledges MSU's strong management and financial resources while noting heightened sector risk for research institutions.

Key Decisions for Investors

• Investors should carefully evaluate the heightened credit risk in smaller, tuition-dependent institutions like Knox College, particularly monitoring international enrollment trends and a management's ability to address deficits, given its BBB rating and recent downgrade.
• For larger research universities such as Michigan State University, despite strong credit ratings (AA/Aa2), investors need to monitor evolving federal research funding policies, including indirect cost recovery caps and grant approval processes, and their potential impact on operating revenues, even as these institutions undertake significant capital projects and contingency planning.
• Given the broader policy-driven uncertainties affecting the higher education sector, a cautious approach and thorough due diligence on individual institutional vulnerabilities, financial flexibility, and specific revenue stream dependencies are warranted for municipal bond investors.