CHICAGO--()--Fitch Ratings has upgraded to 'BBB' from 'BBB-' the following Indiana Health Facilities Financing Authority bonds, issued on behalf of The Methodist Hospitals (TMH):
--$10.8 million revenue bonds, series 1996;
--$55.2 million revenue bonds, series 2001.
The Rating Outlook remains Stable.
The bonds are secured by a pledge of gross revenues of the obligated group, and a debt service reserve fund.
KEY RATING DRIVERS
STEADY OPERATING RESULTS: The upgrade to 'BBB' from 'BBB-' is supported by TMH's sustained operating performance. TMH's operating profitability has consistently improved since fiscal 2008, to a strong 6.7% operating margin and 14.9% operating EBITDA margin through fiscal 2011. Through the 11-month interim period ended Nov. 30, 2012, TMH produced a 9.1% operating EBITDA margin, which should further improve following an expected $8.9 million provider tax payment in December 2012.
HEALTHY LIQUIDITY: TMH continues to maintain robust liquidity metrics for the rating category, demonstrated by 207.3 days of cash on hand (DCOH) and 184.3% cash to debt at the interim period ended Nov. 30, 2012. TMH's balance sheet metrics have consistently exceeded Fitch's 'BBB' category medians of 138.9 DCOH and 82.7% since fiscal 2007. However, Fitch notes that liquidity growth has been aided by limited capital spending over the last three years.
CAPITAL SPENDING PLANS: TMH's average age of plant is very high at over 18 years through the interim 2012 period. TMH is planning to increase its capital spending to near $30 million annually, which is approximately 150% of depreciation expense. Spending sources will likely include additional debt and cash flow. Fitch believes the 'BBB' rating can accommodate some additional debt, and will review any financing plans once finalized.
SUPPLEMENTAL REVENUE REMAINS A RISK: TMH continues to rely on supplemental revenues from the Medicaid disproportionate share hospital (DSH) program, which will equal close to $40 million in fiscal 2012. Indiana has moved from a traditional DSH to a provider tax program (effective July 1, 2011 - June 30, 2013), which should reduce payment volatility throughout the payment cycle. However, Fitch has concerns about long term DSH funding which presents a material credit risk going forward.
The upgrade to 'BBB' from 'BBB-' is supported by TMH's healthy operating performance, demonstrating sustained improvements via expense controls and stabilized clinical volumes reflecting good physician recruitment and retention. TMH continued to grow its medical staff to 438 active/20 employed in 2012, a substantial improvement over its low 168 active staff level in 2008. As a result, overall clinical volumes have steadied in interim 2012 including a 6% increase in deliveries, a 10% increase in total surgeries year-over-year, and flat acute inpatient volume.
Overall operating performance was strong in fiscal 2011, bolstered, in part, by continued attention to expense management as well as $48.5 million in Medicaid DSH revenue (up from $32 million received in fiscal 2010). Operating profitability metrics through the 11 months ended Nov. 30, 2012, exceed 'BBB' category median with an 11.1% EBITDA margin producing 3.6x coverage of maximum annual debt service (MADS).
TMH expects to receive $38 million in Medicaid DSH in 2012. Effective July 1, 2011, Indiana enacted a provider tax program which should provide a more steady stream of Medicaid payments during the year, reducing the 'lump sum' payments and associated revenue volatility. Still, Fitch believes TMH's continued reliance on these supplemental Medicaid moneys presents concern, as the long-term viability of such payments is currently uncertain beyond June 2013.
TMH's strong balance sheet is a primary credit factor. TMH had $154.3 million in unrestricted cash at Nov. 30, 2012 for a solid 16.8x cushion ratio against Fitch's 'BBB' category median of 9.4x. Fitch views TMH's balance sheet strength positively as it provides a strong buffer against the risks associated with significant exposure to government payors, which equal approximately 70% of its gross revenue base.
TMH is currently evaluating a master facility plan, which will likely result in increased capital needs nearer $30 million annually as well as project-related spending and likely debt financing. While Fitch believes TMH can accommodate increased spending and debt at the 'BBB' rating level, any further upward rating movement will depend upon review of finalized capital and financing plans over the next 12-18 months.
TMH currently has $84 million in fixed rate long-term debt, with no swaps. MADS is estimated at $9.2 million including $3 million in capital lease expense. Given existing debt amortization and current interest rates, it is likely that TMH could issue additional debt with marginal impact to debt service requirements.
The Stable Outlook is supported by Fitch's expectation that TMH will continue producing cash flow metrics in line with Fitch's 'BBB' category medians, coupled with maintaining its strong balance sheet. TMH is budgeting for approximately 1.5% operating and 9.5% operating EBITDA margin in fiscal 2013, which would produce 2.9x coverage of MADS by same. Fitch believes this is reasonable against current performance.
Any further upward rating movement will be influenced by the size of TMH's master facility plans as they are finalized over the next 12-18 months, and the impact to TMH's financial profile. Fitch expects TMH will be increasing its level of capital spending, which could be financed via a combination of debt and cash flow.
TMH operates a 302-bed acute care facility in Gary (Northlake campus), Indiana and a 313-bed acute care facility in Merrillville, Indiana (Southlake campus). Total reported revenues for 2011 were $298.7 million, which Fitch adjusts to exclude investment income. TMH covenants to disclose audited financial statements within 150 days of fiscal year end. Annual disclosure is posted to the Municipal Securities Rulemaking Board's EMMA system. While TMH does not covenant to disclose quarterly statements, it does so voluntarily to bondholders via EMMA. Quarterly disclosure includes balance sheet, income statement, statement of cash flows, utilization, and management discussion and analysis. Fitch notes that management has been very accessible, timely and thorough in its disclosure.
Additional information is available at 'www.fitchratings.com'. The ratings above were solicited by, or on behalf of, the issuer, and therefore, Fitch has been compensated for the provision of the ratings.
Applicable Criteria and Related Research:
--'Revenue-Supported Rating Criteria', dated June 12, 2012;
--'Nonprofit Hospitals and Health Systems Rating Criteria', dated July 23, 2012.
Applicable Criteria and Related Research:
Nonprofit Hospitals and Health Systems Rating Criteria
Revenue-Supported Rating Criteria