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Fitch Affirms King's Daughters' Health, IN's Revs at 'BBB+'; Outlook StableCHICAGO --(Business Wire)-- Fitch Ratings has affirmed the 'BBB+' rating on the Indiana Finance Authority's approximately $98.3 million revenue bonds, series 2010, issued on behalf of King's Daughters' Hospital and Health Services' (KDH). The Rating Outlook is Stable. SECURITY The bonds are secured by all accounts, including accounts receivable, as well as a mortgage on the property and a debt service reserve fund. KEY RATING DRIVERS FLUCTUATING OPERATING PERFORMANCE: Although Fitch expected negative operations in fiscal 2013 because of the additional depreciation and interest from the new hospital and one-time moving expenses, operating EBITDA of 7.8% was below budget because of higher than expected bad debt and charity care and lower than expected volumes. However, through June 30, 2014 operating EBITDA improved to 11.4%, which is above the 'BBB' category median of 7.9%. Fitch expects the action plan implemented by management will result in sustained improved operating performance over the near term. Compression in operating profitability could result in negative rating pressure. HIGH DEBT BURDEN: Maximum annual debt service (MADS) represents a high 5.9% of fiscal 2013 revenue as compared to the 'BBB' category median of 3.6%. Debt service coverage of 1.8x in fiscal 2013 is light for the rating level but improved from 1.6% in fiscal 2012. LEADING MARKET SHARE: KDH controlled 48.3% of the market in fiscal 2013, up from 47.3% in fiscal 2012. Norton Healthcare (rated 'A-'; Outlook Stable) is KDH's closest competitor with just 6.3% market share in the primary service area. GOOD PHYSICIAN ALIGNMENT: KDH employs the majority of its active staff and maintains a strong relationship with its physicians. Recruitment efforts have been successful and KDH is expanding certain service lines, including interventional radiology and navigational cancer screening. Oncology programs will be further enhanced in 2015 when the new cancer center opens. EXPOSURE TO GOVERNMENTAL PAYORS: The service area population demographics and wealth levels are below state and national average, which is reflected in a weak payor mix. KDH's exposure to government payors is relatively high with 46.5% of gross revenue from Medicare and 13.9% from Medicaid in fiscal 2013 and supplemental funding is a concern as KDH is vulnerable to cuts in governmental funding. RATING SENSITIVITIES NARROWING OF OPERATING LOSS EXPECTED: Fitch expects KDH's operating loss to narrow over time but given its large debt burden, it is imperative that KDH continues to produce solid operating cash flow to cover its debt service needs. Failure to maintain operating performance in line with current results could result in negative rating action. CREDIT PROFILE King's Daughters' is an 86 licensed bed acute care facility located in Madison, Indiana, approximately 90 miles southeast of Indianapolis and about 60 miles northeast of Louisville, Kentucky. In fiscal 2013, KDH had $114.8 million in total revenue. The 'BBB+' rating is based on debt service coverage and liquidity metrics that are adequate for the rating category, a leading market share position and strong physician alignment. Credit concerns continue to be a high debt burden, unstable operating performance, its small revenue base and unfavorable payor mix. FLUCTUATING OPERATIONS Fiscal 2013 operating loss was $6.9 million, reflecting the additional depreciation and interest of the new hospital (about $9.6 million), one-time operating expenses associated with the move to the new hospital (about $1 million) and increased operating costs with the new facility (about $800,000). Although Fitch expected negative operations over the near term because of depreciation and interest expense associated with the replacement facility, other factors contributing to performance below expectations outlined during the last review include higher than expected bad debt/charitycare ($1.4 million), lower than expected volumes ($750,000) increased supply costs associated with orthopedic and OR service line expansion ($286,000) and additional IT programming expense ($360,000). Operating margin in fiscal 2013 was negative 6% and operating EBITDA was 7.8% compared to the 'BBB' category medians of 1.1% and 7.9%, respectively. However, management has implemented an action plan, including a reduction of full time employees, a revenue cycle enhancement program and enhancing certain service lines, which is expected to result in a net improvement of $2.4 million in fiscal 2014. These action items have translated to improved profitability through the six months ending June 30, 2014 and operating margin was negative 3.9% and operating EBITDA was strong at 11.4%. Management expects KDH to lower its operating loss to about $2.9 million in fiscal 2015, $1 million in fiscal 2016 and break-even or better results by fiscal 2017, which Fitch believes is reasonable. Fitch expects KDH to sustain improvements through the interim period and continue to produce cash flow to support its high debt burden. KDH completed its replacement facility in February 2013. The new hospital is located about 4.5 miles from the old facility and is approximately 210,000 square feet on 94 acres of land with all private beds. Fitch believes the new facility is accretive to KDH's operations as the building design should enhance operating efficiency and assist with physician recruitment. KDH was able to sell the old facility to a long term care company. HIGH DEBT BURDEN KDH has about $98.3 million of debt outstanding, which is all from its series 2010 bonds, which were issued to finance the replacement facility, resulting in a high debt burden and light leverage metrics for the rating level. MADS accounted for 5.9% of total revenue in fiscal 2013, which is high compared to the 'BBB' category median of 3.6%. Debt service coverage in fiscal 2013 was light at 1.8x compared to the 'BBB' category median of 2.6x but improved to 2.1x at June 30, 2014 (six month interim). Fitch expects debt service coverage to continue to improve over time as benefits from the new facility are realized. Given its large debt burden, it is imperative that KDH produces solid operating cash flow to cover its debt service. Volumes were steady in fiscal 2013 and through the interim period, which improved its market share and led to good revenue growth. IMPROVING LIQUIDITY At June 30, 2014, KDH had $72.8 million in unrestricted cash and investments, which equates to 250.9 days cash on hand and 10.8x cushion ratio, both in line with the respective 'BBB' category medians of 145 days and 10.5x. Cash to debt of 73.5% is light compared to the 'BBB' category median of 93.6%, reflecting KDH's significant debt burden. Construction on an $11 million cancer center is underway and is expected to open in February 2015. Approximately $7-8 million of this project will be financed from cash and about $3 million from a capital campaign. Fitch believes the cancer center will be accretive overall to KDH's credit profile as oncology is a growing service line and KDH has sufficient cash flow to support the project and routine capital (about $2 million) without a material impact to its liquidity. DOMINANT MARKET SHARE POSITION Because of strong recruitment efforts combined with the opening of its new hospital, KDH has grown its market share in the primary service area (PSA) significantly since 2011. KDH controls 48.3% of the market share in the PSA compared to 47.3% in 2012 and 42.6% in 2011. Norton Hospital- Louisville (part of Norton Healthcare) was the next closest competitor with just 6.3% market share. KDH has been engaged in an integrated physician alignment strategy since the mid-1990's and over 80% of the active medical staff is employed by the hospital, helping to align the hospital and the physicians' interests. SMALL REVENUE BASE AND UNFAVORABLE PAYOR MIX KDH's relatively small revenue base coupled with its exposure to governmental payors (approximately 60.4% of gross revenues in fiscal 2013) is a concern as minor operating disruptions, including physician turnover, utilization fluctuations and reimbursement changes, may have a significant impact on the hospital. KDH received sole-community provider status in fiscal 2009, which garners additional Medicare reimbursement (about $1 million annually) and KDH also received a net $1.5 million from the state provider tax program in fiscal 2013, which is expected to remain stable in fiscal 2014. Disclosure KDH covenants to provide bondholders with annual disclosure within 150 days of the close of each fiscal year and quarterly disclosure within 60 days of each quarter end. Additional information is available at 'www.fitchratings.com'. Applicable Criteria and Related Research: --'Nonprofit Hospitals and Health Systems Rating Criteria', May 30, 2014. Applicable Criteria and Related Research: U.S. Nonprofit Hospitals and Health Systems Rating Criteria http://www.fitchratings.com/creditdesk/reports/report_frame.cfm?rpt_id=746860 Additional Disclosure Solicitation Status http://www.fitchratings.com/gws/en/disclosure/solicitation?pr_id=872695 ALL FITCH CREDIT RATINGS ARE SUBJECT TO CERTAIN LIMITATIONS AND DISCLAIMERS. PLEASE READ THESE LIMITATIONS AND DISCLAIMERS BY FOLLOWING THIS LINK: HTTP://FITCHRATINGS.COM/UNDERSTANDINGCREDITRATINGS. IN ADDITION, RATING DEFINITIONS AND THE TERMS OF USE OF SUCH RATINGS ARE AVAILABLE ON (News - Alert) THE AGENCY'S PUBLIC WEBSITE 'WWW.FITCHRATINGS.COM'. PUBLISHED RATINGS, CRITERIA AND METHODOLOGIES ARE AVAILABLE FROM THIS SITE AT ALL TIMES. FITCH'S CODE OF CONDUCT, CONFIDENTIALITY, CONFLICTS OF INTEREST, AFFILIATE FIREWALL, COMPLIANCE AND OTHER RELEVANT POLICIES AND PROCEDURES ARE ALSO AVAILABLE FROM THE 'CODE OF CONDUCT' SECTION OF THIS SITE. FITCH MAY HAVE PROVIDED ANOTHER PERMISSIBLE SERVICE TO THE RATED ENTITY OR ITS RELATED THIRD PARTIES. DETAILS OF THIS SERVICE FOR RATINGS FOR WHICH THE LEAD ANALYST IS BASED IN AN EU-REGISTERED ENTITY CAN BE FOUND ON THE ENTITY SUMMARY PAGE FOR THIS ISSUER ON THE FITCH WEBSITE. |
