The University of Hertfordshire needed to develop student accommodation without overburdening its own balance sheet. A project bond deal proved to be the answer.

Tracing its roots back just 51 years, the University of Hertfordshire in the UK began life as Hatfield Technical College and only became a university in 1992. Despite its humble beginnings, however, Hertfordshire has found a niche as the UK’s leading business-facing university. So perhaps it is no coincidence that it recently pioneered a long-dated, index-linked project finance bond to fund accommodation, transport and leisure facilities for students.

Project bonds have been issued in recent years to refinance completed projects. Greenfield investments have traditionally been financed by bank debt, but that has been in short supply since the financial crisis and new capital regulations mean the situation is unlikely to change any time soon.

“Back in 2010, our vice-chancellor knew that higher education was changing, politically and financially. He knew he needed to invest heavily in his estate but he had no money. The UK was in the midst of an economic downturn and he set me a challenge: how could he invest heavily in the university estate without borrowing any money?” says Andrew May, director of estates and hospitality at the University of Hertfordshire.

Housing finance

A chartered surveyor, Mr May had been recruited specifically to solve Hertfordshire’s investment needs and accommodation problem. Knowing that the university could not use its balance sheet to raise money, he decided to look for off-balance-sheet financing for student housing.

“Student housing is not a core business but it is very important to the university. Demand is very strong, with 2.1 first year new entrants chasing every bed space on campus,” says Mr May.

It took 12 to 18 months to put the plan in place, and Mr May says he was fortunate to have full backing from the board and a well-developed strategy that prompted a favourable response from the market. The university held a beauty parade to find a partner and, in July 2012, it chose Uliving, a joint venture between French construction group Bouygues and not-for-profit UK housing association Derwent Living.

“We had six or seven consortia presenting to us, we shortlisted three and eventually we chose Uliving because we thought its scheme was the most attractive, architecturally and financially,” says Mr May.

Risk transfer

Uliving, advised by Royal Bank of Canada (RBC), proposed a £190m ($287.5m) off-balance-sheet transaction, comprising 75% bond debt and 25% equity. Using bonds to finance student accommodation has been done before. Previously, however, bonds have been issued to upgrade or refinance existing accommodation. Uliving’s proposal involved using bond finance to fund a project from scratch. Not only would construction risk lie with the consortium but demand risk too – a crucial factor behind the university’s acceptance of the scheme.

The bonds were also ‘unwrapped’ so they had no support from a monoline insurer or a supranational lender such as the European Investment Bank. In some project finance transactions, subordinated debt acts as a cushion for senior bondholders but there were no subordinated tranches in this deal either.

In view of these potential vulnerabilities, RBC suggested a credit rating would prove helpful and, after spending several months discussing the deal structure with Bouygues and the university, the bank sought an indicative rating from Standard & Poor’s (S&P).

“Hertfordshire has a healthy balance sheet and annual turnover of about £230m, so its covenant is strong. Bouygues has an excellent reputation and a very strong covenant. The economic assumptions around the deal were deliverable and there was strong demand for this type of product,” says Mr May.

Earlier this year, therefore, S&P assigned a rating of A- to the Uliving transaction. RBC then went to a handful of institutional investors to assess their views on the deal. The reaction was enthusiastic.

New investor base

Even as bank finance has become more constrained, life insurers, pension funds and other large investors have been actively looking for assets that provide long-term, predictable cash flows. The Uliving bonds neatly ticked this box.

The £143.5m bond issue has a maturity of about 41 years and a coupon of 2.057%. Equity comes from infrastructure investor Meridiam Infrastructure, Bouygues, Derwent Living's subsidiary Centro Place Investments, the University of Hertfordshire itself and insurer Legal & General.

Coupons will initially be paid from an upfront payment by Uliving to the university and, once the accommodation is built, the bonds will be serviced by student rents. The transaction was launched in May and listed on the Channel Islands Stock Exchange. The timing was designed to allow work to start in time for the next academic year – September 2013 – and the listing provided further comfort to institutions.

Initially, several investors were expected to buy the bond. In the end, Legal & General bought the entire issue, apparently attracted by the credit rating and the predictable cash-flows. Capital from the transaction will be used to build accommodation for 2500 students, refurbish 500 existing rooms and construct sports pitches, a gym, social hubs and a new bus route.

“The 3000 units will be entirely self-sufficient from an energy perspective so not only is this deal financially ground-breaking, it is also pioneering in that it will be the UK’s first true zero-carbon project, which will reduce the university’s carbon footprint significantly and save money,” says Mr May.

“The transaction exceeded our expectations on every level. We are now leading the way in how universities finance these types of deals. This really is a game-changer for the sector." 

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