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Fitch Affirms Owensboro Health (KY) Rev Bonds at 'BBB+'; Outlook Revised to NegativeFitch Ratings has affirmed the 'BBB+' rating on the following Kentucky Economic Development Finance Authority bonds, issued on behalf of Owensboro Health (Owensboro): --$67.6 million series 2015A; --$23.7 million series 2015B; --$440.9 million series 2010A; --$37.0 million series 2010B. The Rating Outlook has been revised to Negative from Stable. SECURITY The bonds are secured by a security interest in net revenues and receivables of the obligated group, a mortgage lien, and a debt service reserve. KEY RATING DRIVERS DOMINANT MARKET POSITION: The rating affirmation is primarily supported by Owensboro's dominant market position as the only provider in its primary service area of Daviess County, where it holds a 92% market share. Owensboro is continuing to enhance its regional platform strategy through a 2015 lease agreement with Muhlenberg Community Hospital [now doing business as Owensboro Health Muhlenberg Community Hospital (OHMCH)] and with the construction of three new urgent care centers in its secondary service area. WEAKENED FINANCIAL PROFILE: The Outlook revision to Negative reflects the deterioration in operating EBITDA for the nine months of 2016 (ended February 29) to $47.7 million (11% operating EBITDA margin) from $58.4 million (15.8% operating EBITDA margin) in 2015. The decline is attributable to start-up costs and investments in Owensboro's ambulatory strategy, as well as capital improvements and replacement physician recruitment at OHMCH. Operating margins, due to a high depreciation expense following the construction of the replacement hospital, continue to be stressed and measured at -2.5% for the interim nine-month period. HIGH DEBT BURDEN: Owensboro's leverage remains highly elevated relative to the 'BBB' category medians as reflected in maximum annual debt service (MADS) of 1.6x for the nine-month period of 2016. Owensboro's high leverage position allows little room for operating compression as illustrated by management's projection that MADS coverage will be approximately 1.54x at year-end 2016 (May 31), representing a further decrease from an already low 1.9x in 2015. WEAK LIQUIDITY AGAINST DEBT: As a result of strategic investments in 2016 that outpaced the weaker cash flow generation, unrestricted cash and investments decreased to $168.5 million as of February 29 (112.8 days cash on hand (DCOH)) from $204.7 million (167.4 DCOH) for the comparable period in 2015. The low liquidity compares unfavorably against debt, resulting in thin cash to debt of 30%, considerably below the 'BBB' category median of 89.5%. STRONG UTILIZATION TRENDS: Owensboro's strategic investments have begun to generate notable growth in utilization trends. Volumes were up in 2015 and 2016 for both inpatient and outpatient services. Admissions are up 6.4% in 2016, births increased 7.5%, inpatient surgery grew 13.6% and outpatient surgeries increased 7.4%. RATING SENSITIVITIES IMPROVEMENT IN OVERALL FINANCIAL PROFILE: Owensboro Health is projecting DCOH of 123 days and MADS of 2.15x in 2017 with further improvement in subsequent years. Even at these levels, Owensboro's metrics would be below its 'BBB+' peers. Failure to achieve at least the targeted levels in 2017 and demonstrate momentum for continued improvement in all its financial metrics will result in a rating downgrade. CREDIT PROFILE Owensboro Health includes a 447-licensed bed and 30-skilled nursing bed health system located in Owensboro, KY, approximately 39 miles from Evansville, IN and 110 miles from Louisville, OHMHC, and a network of employed physician groups. Total revenues for fiscal 2015 were $500.5 million (year ended May 31). Fitch's analysis is based on the consolidated entity. The obligated group (OG) includes Owensboro Health Inc. (OHI; corporate parent, operating acute facilities) and Owensboro Health Medical Group (OHMG d/b/a One Health; owned & employed physician groups). OHMHC is not part of the OG. In fiscal 2015, total assets and revenues of the OG were 99.7% of total assets and 99.2% of total revenues of the consolidated organization. DOMINANT MARKET POSITION Owensboro's dominant market position as a regional referral hospital is the principal credit driver for the rating affirmation. Owensboro has no direct competition in Daviess County and the three closest facilities are all critical access hospitals. Its primary competitors in the secondary service area are St. Mary's Medical Center in Evansville (35 miles, 405 beds), Deaconess Hospital in Evansville (48 miles, 468 beds) and Regional Medical Center in Madisonville, KY (49 miles, 208 beds). Owensboro enjoys a commanding 92% market shar in its primary service area, where approximately 63% of its admissions originate. In its 11-county secondary service area, Owensboro also draws significant volumes from Ohio, McLean and Muhlenberg counties. While Daviess ranks 14th in per capita personal income among Kentucky's 120 counties, parts of the secondary service area are rural, more economically challenged and lacking convenient access to healthcare. It's these areas in particular that Owensboro is aiming to reach with its regional ambulatory growth strategy. Approximately $63 million in series 2015 bond proceeds are being held for construction of three separate ambulatory/urgent care sites in target markets to meet demand and minimize outmigration. At the time of the bond issuance, Owensboro had expected to build five locations, but developed a plan for three larger sites in Muhlenberg, Henderson and Madisonville, KY. The projects began in June and are expected to be completed by December 2017. Fitch believes this strategy will be integral to preserving Owensboro's market position as a regional referral center over the longer term. EXPANDING GEOGRAPHIC PRESENCE In the past year, Owensboro expanded its presence by acquiring four primary care practices and employing physicians at OHMCH. It is also rotating certain Owensboro specialists at OHMCH beginning with cardiology, general surgery and OB/GYN. Owensboro now employs 95 physicians and 72 other mid-level providers as it continues to provide increased access points to support the regional referral hospital. The strategy has begun to yield results as evidenced in the large increases in utilization in 2015 and 2016. Fitch expects continued growth in fiscal 2017, albeit not at the same levels as fiscal 2016 as organic growth will most likely be tempered by modest population increases in the service area. WEAKENED OPERATIONS AND BALANCE SHEET The increased supply expense (partly from higher surgical volume), and investment in OHMCH and One Health's ambulatory platform resulted in higher expenses in 2016. Consequently, Owensboro's reduced cash flow generation led to diminished cash and investments as some available funds were used for strategic expansions. Combined with an already leveraged position (MADS represented 8.3% of total revenue in fiscal 2015), Owensboro's overall financial results for the nine-months of 2016 reflect metrics that are not in line with the 'BBB+' rating category. Management expects to decrease its investment in physician recruitment in 2017 and thereby improve its EBITDA to approximately $88 million from about $45 million projected at year-end 2016 and $71.4 million in fiscal 2015. Owensboro plans to achieve this target mostly through volume expansion, but also through labor productivity and tightening expense control where possible. Management expects this will bring debt service coverage ratio for the year to 2.15x in 2017 and 2.37x in 2018 from approximately 1.54x in 2016. The aggressive plan to improve operating EBITDA is needed to rebuild liquidity to levels that are more in line with the rating. Other than the construction of the new three outpatient sites that will be primarily funded by bond proceeds, Owensboro has minimal routine capital outlays planned in the coming years. Management is planning to increase cash to 123 DCOH by fiscal year end 2017 and 138 DCOH by fiscal year end 2018 which Fitch believes may be conservative given projected EBITDA generation and light capital spending needs. The marked financial deterioration in 2016 introduces stress on the rating. Without significant improvement in 2017 and 2018 to decrease the debt burden against operating and cash metrics, a downgrade of the 'BBB+' rating is likely. DEBT PROFILE Owensboro had approximately $561.8 million in long term debt outstanding as of February 29, 2016. Debt is 100% fixed rate, with no swap agreements. However, Owensboro does have an underfunded pension liability of $48.4 million (67% funding) based on its projected benefit obligation at fiscal year-end 2015. Owensboro's pension expense was $8.8 million in fiscal 2015 and in 2016. DISCLOSURE Owensboro covenants to provide annual audited disclosure no later than 180 days following fiscal year end and quarterly disclosure no later than 45 days after quarter end for the first three quarters, and no later than 60 days following the fourth quarter. Disclosure is provided via the Municipal Securities Rulemaking Board's EMMA System. Fitch has received timely and thorough disclosure and maintained good access to management. Additional information is available at 'www.fitchratings.com'. Applicable Criteria
Revenue-Supported Rating Criteria (pub. 16 Jun 2014)
U.S. Nonprofit Hospitals and Health Systems Rating Criteria (pub. 09 Jun
2015) Additional Disclosures
Dodd-Frank Rating Information Disclosure Form
Solicitation Status
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