|[June 24, 2014]
Fitch Upgrades Universal Health Services to 'BB+'; Outlook Revised to Stable
CHICAGO --(Business Wire)--
Fitch Ratings has upgraded the ratings of Universal Health Services,
Inc. (NYSE: UHS) as follows:
-- Issuer Default Rating (IDR) to 'BB+' from 'BB';
-- Senior secured bank facility rating to 'BBB-' from 'BB+';
-- Senior secured notes rating to 'BBB-' from 'BB+';
-- Senior unsecured notes rating to 'BB' from 'BB-'.
The Rating Outlook has been revised to Stable from Positive.
The ratings apply to approximately $3.2 billion of debt outstanding at
March 31, 2014.
KEY RATING DRIVERS
-- UHS has continued to demonstrate a commitment to debt repayment,
resulting in debt-to-EBITDA of 2.3x at March 31, 2014 compared to 4.9x
(reported) at Dec. 31, 2010. Fitch expects UHS to operate with debt
leverage between 2.25x and 3x over the ratings horizon.
-- Unlike many of its peers, UHS has not engaged in large-scale
acquisitions since its $3.1 billion purchase of PSI in 2010. Fitch
expects UHS to pursue moderate-sized, targeted acquisitions over the
ratings horizon. The 'BB+' ratings provide ample flexibility for UHS to
incur additional debt to participate in the ongoing consolidation of the
U.S. healthcare provider space.
-- Cash flows are strengthening on a stabilizing acute care business,
better margins due to lower uncompensated care, and growing behavioral
health operations. Fitch anticipates that UHS will generate solid free
cash flow (FCF) of $550 million-$700 million in 2014-2015, compared to
$477 million for the latest 12 month (LTM) period ended March 31, 2014.
-- UHS behavioral health business accounts for more than half of UHS
overall revenues, providing business and revenue diversification as well
as improved financial stability and profitability. Good organic growth
in the mid-single digits, driven by mental health parity rules and UHS'
capacity growth initiatives, and moderate margin improvement are
expected over the ratings horizon.
-- UHS' same-hospital admissions were flat in 2013, better than the 2%
and 2.2% declines in 2012 and 2011, respectively, and stronger than many
of its for-profit peers. Fitch expects moderately negative to possibly
flat acute care inpatient admissions growth to be indicative of stable
markets for the foreseeable future. Pricing metrics continue to remain
stable as lingering unfavorable payor mix has been offset by relatively
strong commercial reimbursement rate increases.
-- Fitch views the Affordable Care Act (ACA) as a net positive for UHS
and its hospital operator peers. Net revenue growth from declining
uncompensated care, on a fairly constant cost base, will drive an
increase in absolute profits during 2014-2015. Fitch thinks it is
likely, however, that profit gains will begin to erode in later years
due to an overall constrained healthcare reimbursement environment.
Maintenance of a 'BB+' IDR will require a continued demonstrated
commitment to operating with debt leverage below 3x, with
FCF-to-adjusted debt of 8% or higher. Fitch notes that UHS' has good
flexibility at the current 'BB+' ratings to consummate debt-funded M&A,
especially as it supports longer-term growth in light of prevailing
trends in healthcare (i.e. integrated care delivery, physician
employment, outpatient service line expansion, etc.).
A downgrade of UHS' IDR to 'BB' could result from pressured margins and
cash flows - or a large, leveraging transaction - that results in debt
leverage expected to be sustained above 3x and/or FCF-to-gross adjusted
debt below 8%. Margin and cash flow pressures of this magnitude are not
likely occur abruptly, but could materialize due to severe pricing
pressures or unfavorable large-scale reform of Medicare and/or Medicaid
programs. Fitch thinks the availability of single M&A transactions that
could drive a downgrade is limited.
An upgrade of UHS' IDR to 'BBB-' is unlikely in the near-to-intermediate
term, as Fitch views the risks around reimbursement and other regulatory
factors associated with healthcare providers in the U.S. - and UHS'
reliance on government payers - as material going forward. Furthermore,
UHS' current ratings and credit metrics provide the firm with
flexibility to participate in the consolidation of the healthcare
provider space, which Fitch expects to continue through the intermediate
DILIGENT DEBT REPAYMENT, MEASURED M&A STRATEGY CONTRASTS WITH PEERS
Most large acute care hospital operators have been active acquirers and
aggressive in recruiting physicians and expanding outpatient service
line offerings over the last few years. UHS has instead directed the
majority of its FCF toward debt repayment. Debt-to-EBITDA has declined
to 2.3x at March 31, 2014 from nearly 5x (reported) at year-end 2010.
Each of UHS' acquisitions over the past four years has been of
behavioral health targets, including the $500 million acquisition of
Ascend Health Corporation in October 2012. Going forward, most targets
are likely to be small, with purchase prices of less than $100 million.
Fitch does not expect UHS to engage another transformational deal - like
the 2010 PSI acquisition - over the ratings horizon, partly because
deals of that nature are largely unavailable.
STRENGTHENING CASH FLOWS, CAPITAL DEPLOYMENT STRATEGY SOMEWHAT UNCERTAIN
Fitch forecasts FCF of more than $550 million in 2014, compared to $456
million in 2013, primarily due to higher net revenues from lower bad
debts on a fairly constant cost base. Fitch does not expect UHS to
direct cash flows toward material accelerated debt repayment going
forward, as the firm has achieved its de-leveraging target following the
2010 PSI acquisition. Furthermore, management has commented recently
that UHS' current leverage is at the low end of its preferred range.
UHS could become more aggressive in pursuing acquisition targets,
particularly n the acute care space, as Fitch expects the pipeline of
mid-sized single hospitals and smaller urban hospital networks coming up
for sale will remain robust for at least the next few years.
Furthermore, management has commented recently that purchase multiples
seem to be moderating for possible targets. A resumption of share
repurchases, which UHS has nearly eliminated from its capital deployment
strategy over the last four years, is also possible.
ACA TO DRIVE BETTER PROFITABILITY
UHS is among the best-positioned for-profit hospital operators to
benefit from lower bad debts in 2014 due to its presence in states
expanding their Medicaid programs, including Nevada and California.
Fitch thinks the coverage expansion provisions of the ACA could drive
EBITDA margin expansion in UHS' acute care business by 150 bps or more
from 2013 to 2015. Importantly, margin gains achieved in 2014-2015 are
expected to slowly erode in the years that follow, due to an overall
constrained reimbursement environment and the expectation for inpatient
volumes to be flat or slightly down for the foreseeable future.
PERSISTENT ACUTE CARE VOLUME PRESSURES TO CONTINUE
Fitch thinks secular shifts in the setting of care delivery - toward
lower-cost, often outpatient settings - and evolving components of
especially government reimbursement (i.e. readmissions penalties and
patient criteria) are increasingly to blame for weak same store
admissions figures among acute care hospitals nationwide. Persistently
weak economic growth and high unemployment in many markets are also
pressuring both volumes and profitability, albeit now in a less
Fitch continues to believe that mid-2013 was an inflection point at
which admissions in UHS' core markets began to show signs of
stabilization, though admission figures were fairly weak in 4Q'13 and
1Q'14. The ACA is not expected to meaningfully add to inpatient volumes
in the near term, and overarching trends related to healthcare reform
are likely to continue gradually shifting volumes to outpatient
settings. As a result, moderately negative to possibly flat inpatient
volumes are expected to be indicative of stable markets for UHS and its
peers for the foreseeable future.
Commercial pricing remains strong and has largely offset the effects of
Medicare sequestration and weak volumes. UHS has reported annual
commercial rate increases of 6%-7%. It is possible that commercial
insurers may apply more reimbursement pressure to acute care operators
given the reduction in bad debts expected to result from the
implementation of the ACA in 2014-2015. Government reimbursement will
continue to be constrained as public payers continue to seek to moderate
Fitch expects good behavioral volume growth over the ratings horizon in
light of mental health parity rules, a possible bottoming of length of
stay pressures, and UHS' capacity expansion initiatives. Notably,
expanded Medicaid programs are not likely to bolster behavioral health
volumes due to the Medicaid Institutes for Mental Diseases (IMD)
exclusion. The elimination of this exclusion could drive greater growth
opportunities vis-a-vis the ACA for UHS' behavioral health business over
the intermediate term.
MOST DEBT MATURES IN 2016, LIQUIDITY IS AMPLE
Available liquidity is sufficient. Though UHS does not usually carry
large amounts of cash ($16 million at March 31, 2014), it maintains an
$800 million revolver, of which $743 million was available at March 31,
2014. UHS also maintains a $275 million A/R facility, of which $115
million was available at March 31, 2014.
Debt maturities are manageable for the firm, though the bulk of the
outstanding term loans are due in August 2016 (2016 maturities represent
86% of total debt.) Fitch expects UHS will have adequate access to
capital as it seeks to refinance its credit facilities in advance of
this date. Debt maturities are estimated as follows: remainder of 2014:
$56 million; 2015: $123 million; 2016: $2.77 billion; 2018: $250 million.
The secured debt rating remains one notch above the IDR, illustrating
Fitch's expectation for superior recovery prospects in the event of
default. Furthermore, Fitch believes UHS has good financial flexibility
at the 'BB+' IDR, supporting the one notch differential.
The unsecured notes are rated one notch below the IDR to reflect the
substantial amount of secured debt to which they are subordinated. More
than 90% of UHS' outstanding debt at March 31, 2014 was secured,
reducing the potential recoveries for unsecured creditors.
Additional information is available at 'www.fitchratings.com'.
Applicable Criteria and Related Research:
--'Hospitals Credit Diagnosis' (April 10, 2014);
--'High-Yield Healthcare Checkup' (April 4, 2014);
--'2014 Outlook: U.S. Healthcare' (Nov. 25, 2013).
--'For Profit Hospital Insights: Fitch's Annual Review of Bad Debt
Accounting Policies and Practices' (Oct. 24, 2013);
--'Margin Preservation Strategies: Different Angles (U.S. Hospitals and
Health Insurers)' (Oct. 1, 2013);
--'The Affordable Care Act and Healthcare Providers: Assessing the
Potential Impact' (May 1, 2013);
--'Corporate Rating Methodology' (May 28, 2014).
Applicable Criteria and Related Research:
Hospitals Credit Diagnosis (Consolidation Supports Growth in a Weak
Organic Operating Environment)
High-Yield Healthcare Checkup: Comprehensive Analysis of High-Yield U.S.
2014 Outlook: U.S. Healthcare Secular Challenges Require a Compelling
For-Profit Hospital Insights (Fitch's Annual Review of Bad Debt
Accounting Policies and Practices)
Margin Preservation Strategies: Different Angles (Credit Implications
for U.S. Hospitals and Health Insurers)
The Affordable Care Act and Healthcare Providers (Assessing the
Corporate Rating Methodology - Including Short-Term Ratings and Parent
and Subsidiary Linkage
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