Understanding Debt-Service Coverage Ratio (DSCR) for Student Housing

A very important concept that is inexorably tied to student housing financing is the Debt-Service Coverage Ratio or DSCR. Not only must college and university chief financial officers understand this, but all senior housing officers should also know what this is as well in order to fully appreciate the financial requirements and ramifications that come with borrowing money in order to develop, construct, and operate new student housing. This post will explain the basics behind the Debt-Service Coverage Ratio and how it impacts that day-to-day operations of managing student housing communities.

Investopedia defines the debt-service coverage ratio as follows: “…the debt-service coverage ratio (DSCR) is a measurement of the cash flow available to pay current debt obligations. The ratio states net operating income as a multiple of debt obligations due within one year, including interest, principal, sinking-fund and lease payments.”

While the definition may sound complicated, the DSCR is essentially an annual calculation that illustrates whether or not you have enough funds to cover the payments for the money you borrowed. When an institution borrows millions upon millions of dollars to construct new student housing, the lender needs reassurance that the project is financially healthy enough to make the required payments on the debt (i.e., debt-service). Just like any loan, there is the expectation that the money borrowed will be paid back by the agreed-upon terms (i.e., length of loan, interest, etc.) In this particular case, because it’s a real estate-based transaction, the lender uses a DSCR test as a means to set a benchmark for what is acceptable from a cash flow standpoint.

One important distinction, however, is that the lender expects a project to be more financially successful over simply just earning enough money to cover the debt payments. They want to see that a project is operating prudently so that there is enough money remaining over and above the annual debt payment amounts. A student housing project that is essentially living “paycheck-to-paycheck” (or not even to that level) is a huge financial risk, which lending institutions attempt to avoid. Having sufficient cash flow permits the ability to make the principal and interest payments, pay for operational costs (e.g., personnel, facilities maintenance, etc.), set aside funds for capital projects (i.e., building and property improvements), and still have some money remaining.

Therefore, a lender will typically require an annual debt-service coverage ratio (DSCR) of 1.20, which is generally a national industry standard. This means that, overall, the income must be 120% of what the annual debt service requirements are. This extra amount up-and-above the debt-service is essentially a buffer. Understand that the lender does not keep this extra amount, but simply uses this as a annual requirement to make sure that the administrators of the housing project are managing it soundly. The borrower must illustrate annually what the DSCR is via required financial statements and budgets provided to the lending institution.

The DSCR is calculated in two different steps: 1.) First, subtract the operating expenses from the revenue earned to obtain the Adjusted Income; and 2.) Second, divide the Adjusted Income by the Debt Service Requirements to calculate the Debt-Service Coverage Ratio (DSCR). Let’s look at a successful theoretical calculation from a fictional 400 bed student housing community. Please note these numbers are just for illustration’s sake:

Revenue Earned – Operating Expenses = Adjusted Income

$2,400,000 – $1,200,000 = $1,200,000 Adjusted Income

Adjusted Income ÷ Debt Service Requirements = Debt-Service Coverage Ratio

$1,200,000 ÷ $1,000,000 = 1.20 DSCR

As you can see, this fictional student housing community meets the 1.20 DSCR test. In this particular case, they are exactly meeting the mark for what is financially required. 


Now let’s look at the same 400 bed, student housing community, but reflecting less income earned (i.e., lower student occupancy), but the same level of operating expenses:

Revenue Earned – Operating Expenses = Adjusted Income

$2,250,000 – $1,200,000 = $1,050,000 Adjusted Income

Adjusted Income ÷ Debt Service Requirements = Debt-Service Coverage Ratio

$1,050,000 ÷ $1,000,000 = 1.05 DSCR

As you can see in this example, they are clearly below the required 1.20 DSCR by $150,000. While they would still be able to make the debt service payments, they would still be scrutinized for not meeting the debt-service coverage ratio test. This can cause some proverbial alarms to sound as the DSCR test not being met could be symptomatic of one or a combination of many factors, including, but not limited to, poor asset management, new competitors in the local market, enrollment issues at the institution, and financial mismanagement. Because of this, the financiers can require various remedies to occur, including financial and management advisers to scrutinize all operations because they would not want this trend to continue into subsequent financial years.

In some dire situations, the DSCR can go below a 1.00, which essentially means that the housing community is not only unable to meet its debt obligations, but neither its budgeted operational expenses as well. At the end of the day, the only way to remedy a DSCR lower than a 1.20 is to increase revenue and / or decrease expenses. However, it’s important to understand that you cannot “cut” your way to financial success; you cannot make enough cuts to make up for the revenue that you are not earning. You must be able to earn enough revenue to meet the debt requirements. As with the case of the 1.05 DSCR example, attempting to cut $150,000 from the operational budget of a 400 bed community is going to next to impossible without significantly altering the services provided. This is why maintaining a strong occupancy is crucial. If, theoretically, the average fee for an academic year of housing costs $8,000 per student at that community, only 19 additional housing contracts would need to be obtained in order to meet the debt service requirements. 

While there are others nuances and operational strategies in order to meet the debt-service coverage ratio, the key is making sure that your occupancy levels generate enough income to cover both the principal and interest payments as well as operational costs. 


If you found this post insightful please share it with colleagues who may find it useful as a resource. I also encourage you to sign up to receive an email notification every time I publish a new post. You can do so by clicking on the “Follow” button. Thank you for visiting!   

*Photos courtesy of Marcelo Moura and Ayhan Yildiz.

Advertisements

How to Get Away: Finding Balance in Our Overworked, Overcrowded, Always-On World (book review)

There is much ongoing discussion in Student Affairs regarding wellness and self-care. However, it is rarely discussed comprehensively and, in most cases, ends up being lip service when actually applied to our day-to-day professional lives. A great book to help with this discussion is How to Get Away: Finding Balance in Our Overworked, Overcrowded, Always-On World by Jon Staff and Pete Davis. They are both are the founders of Getaway, which is a company that designs and rents small cabins in the woods for personal relaxation and rejuvenation.

The book has 186 pages of content (not including appendices, etc.) and is divided into three sections or “virtues” as referred to in the book: Balancing Technology & Disconnection; Balancing City & Nature; and Balancing Work & Leisure.

The first section explores the current problems we face with using technology as much as we do and some suggestions for how to disconnect without completely going off-the-grid.

Virtue I – Balancing Technology & Disconnection

  1. Technological Overload is a Problem
  2. Technology is Hurting Our Relationships
  3. Technology is Hurting Our Work
  4. Technology is Hurting Our Memory
  5. Technology is Hurting Our Health
  6. Do a Digital Detox
  7. Audit Your Tech Use
  8. Dumb Down Your Phone
  9. Carve Out Space for Disconnection
  10. You Are Not Alone

The second section expands upon the first section and offers lessons from historical figures, such as Henry David Thoreau and Margaret Murie, as well as modern examples of individuals who have found the importance of purposefully including nature in our lives. There is also a look into how we can more effectively balance our urban lives with the ability to be outside more and why that is so important.

Virtue II – Balancing City & Nature 

  1. We Are Experiencing Massive Urbanization
  2. We Aren’t Going Outside
  3. Nature is Good for Our Bodies and Minds
  4. Nature is Good for Kids
  5. Nature is Good for Our Neighborhoods
  6. Join a Community Garden
  7. Take a Forest Bath
  8. Ask Your Doctor about Park Prescriptions
  9. Participate in Cabin Culture
  10. Reimagine Cities

The final section explores how we can and should balance both work and leisure. Particularly for those of us in the United States, we are working more than ever. This is clearly taking a toll on our lives in many unproductive and unhealthy ways. This section I found to be the most salient for the Student Affairs arena given the ever increasing demands and pressures that we face every day with our work.

Virtue III – Balancing Work & Leisure

  1. The 40-Hour Workweek We Fought for Is Eroding
  2. We Are a No-Vacation Nation
  3. We Are Part of the “Cult of Busy”
  4. Breaks Are Key to Creativity
  5. We Don’t Spend Enough Time Being Bored
  6. Vacation really Works, and We Need More Of It.
  7. We Are Experiencing The Great Spillover
  8. We Should Experiment With 4-Day Workweeks
  9. Hygge Can Help Us Learn to Slow Down
  10. We Can Practice Holy Leisure

I found How to Get Away: Finding Balance in Our Overworked, Overcrowded, Always-On World by Jon Staff and Pete Davis to be an interesting and very practical read. It was also a good personal reminder that I need to do a better job at consciously slowing down and doing my best to avoid the “FOMO” (i.e., Fear of missing out) ethos that can very much plague Student Affairs professionals. The book can serve as a great resource for staff professional development discussions as well as a way for supervisors to symbolically (and strategically) communicate to their employees that slowing down does matter.

We cannot serve our students and employees fully if we are constantly on the go and not taking care of our own wellness. Furthermore, this would be an excellent resource to share and discuss with students, particularly those in First Year Seminar or First Year Experience (FYE) courses and programs, as we continue to see anxiety and depression on the rise within our student populations. The book offers many suggestions and strategies that could be easily explored with our students.

Thanks to Jon and Pete for writing a wonderful book!

We Need to Talk: How to Have Conversations That Matter (book review)

Now more than ever, the ability to have honest and impactful conversations is a critical skill everyone needs to have. We Need to Talk: How to Have Conversations that Matter by Celeste Headlee is an excellent book for those looking to improve their conversation and listening skills while fostering relationships and solving problems through the process. In the book she shares personal stories of success and failure along with lessons learned from others about the importance of being able to communicate effectively through conversation. Celeste is currently the host of a daily news program on Georgia Public Broadcasting and shares from her wealth of experience interviewing people on the radio.

The book is divided into two sections: the first part illustrates a contextual basis for the problems we often encounter by having poor conversational (and listening) skills while the second part focuses on direct solutions and sound advice:

Part I

1. Conversation is a Survival Skill
2. Communication and Conversation are Not the Same
3. You Can’t Outsmart a Bad Conversation
4. Set the Stage
5. Some Conversations are Harder than Others

Part II

6. Be There or Go Elsewhere
7. It’s Not the Same!
8. Get Off the Soapbox
9. Keep it Short
10. No Repeats
11. That’s a Great Question
12. You Can’t Know Everything
13. Stay Out of the Weeds
14. Travel Together
15. Listen!
16. Sometimes We Shouldn’t Talk

While I’m a practicing scholar at heart and love research, I do, however, appreciate books that are practical, a quick read, and can be easily applied for the professional development of both staff and students. This is definitely one of those books. With the introduction, the book is 252 pages of content and can be easily read over the course of three or four sittings. This book would serve as an excellent resource for the basis of a student programming series (i.e., leadership, career services, etc.), a great “Lunch and Learn” or professional development discussion for staff meetings, and to potentially frame supervisory one-on-ones among your team’s managers and employees. I highly recommend it to you and encourage you to share how you have used the book in your work in the comments below.