Fitch Downgrades National Jewish Health's (CO) Revs to 'BBB-'; Outlook to Negative

SAN FRANCISCO--()--Fitch Ratings has downgraded to 'BBB-' from 'BBB' the ratings on $38.5 million in outstanding Colorado Health Facilities Authority revenue bonds issued on behalf of National Jewish Health (NJH). A full list of outstanding bonds follows at the end of this release.

The Rating Outlook is revised to Negative from Stable.

SECURITY:

Pledge of gross revenues excluding restricted charitable donations and grants.

KEY RATING DRIVERS:

GROWING OPERATING LOSSES: The rating downgrade reflects the increased operating loss in fiscal 2012 (year ending June 30) to negative $7.8 million (-4% operating margin) from a $3 million operating loss (-1.5% operating margin) in FY 2011. Moreover, through the six months ended Dec. 31, 2012 NJH lost $5 million from operations or a negative 5.5% operating margin.

BALANCE SHEET EROSION: NJH's declining cash flow combined with investments in expanding its clinical volumes and research has caused unrestricted cash and investments to decline to $37.5 million at Dec. 31, 2012 from $42.3 million at FYE 2012 and $49.7 million at FYE 2011. At Dec. 31, 2012 NJH's days cash on hand (75.2), cushion ratio (7.3x) and cash to debt (65.1%) are all weaker than Fitch's 'BBB' category medians.

HIGHLY SPECIALIZED SERVICES: NJH is a national leader in the treatment of pulmonary disease with a focus on research and teaching. Over the last four years, NJH has significantly expanded its clinical capabilities to provide more comprehensive care to its patients with the majority of its services provided in an outpatient setting.

RATING SENSITIVITY:

IMPROVING FINANCIAL PERFORMANCE: In response to the weak financial performance, management has identified various cost saving and structural alignment measures, particularly in research operations that are expected to stem NJH's negative trend and improve financial performance going forward. The Outlook revision to Negative from Stable reflects Fitch's concerns over NJH's ability to improve profitability over the near term. Failure to generate improved operating performance in FY 2013 relative to FY 2012 (with a trajectory to positive operating margins beyond FY 2013) will likely result in a rating downgrade.

CREDIT PROFILE:

Growing Operating Losses

The rating downgrade reflects steadily increasing operating losses over the last two fiscal years and through the six month interim period (ended Dec. 31, 2012). During Fitch's last rating action, Fitch noted that failure by NJH to shore up profitability and improve liquidity would result in a rating downgrade. Fitch also expected that NJH's strategic investments will have buttressed operations and proved to be financially accretive. However, NJH posted a negative 4% operating margin in fiscal 2012, following a negative 1.5% operating margin in fiscal 2011. Through the interim period, the operating loss widened to a negative 5.5% operating margin.

The FY 2012 operating loss is a result of unprofitable research activities and lower-than-budgeted revenue for NJH's programmatic Health Initiatives such as smoking cessation and obesity prevention. In response, management is realigning its research activities with a goal of minimizing the loss from its research activities and is also working on reducing expenses and achieving $3.5 million in annualized savings ($1.75 million in fiscal 2013).

Historically, NJH's highly profitable clinical operations, along with philanthropic contributions, have offset substantial operating losses incurred by the organization's research activities. NJH's 10-year strategic plan will, over time, seek to lower and cap financial support to no more than $20 million annually; NJH has budgeted $23 million in support dollars for FY 2013.

Philanthropy has been solid with charitable contributions of $21.1 million in fiscal 2012, $20.8 million in fiscal 2011, and $23 million in fiscal 2010. Through the six months ended Dec. 31, 2012, NJH has raised $8.4 million. NJH is about to embark on a large capital campaign, which will fund NJH's future expansion plans.

Balance Sheet Erosion

As of Dec. 31, 2012, NJH had $37.5 million in unrestricted cash and investments, down from $42.3 at June 30, 2012. The declining liquidity reflects increased patient accounts receivable and capital spending. NJH had 75.2 days cash on hand and 65.1% cash to debt, which compare unfavorably to Fitch's respective 'BBB' category medians of 138.9 days and 82.7% cash to debt.

Light Debt Service Coverage

Total outstanding debt as of Dec. 31, 2012 was $57.5 million ($38.5 million bonds, $4 million capital lease, $7.4 million note payable, and $7.6 million draw on a line of credit). Fitch is treating the draw on the line of credit as long term debt. The bonds are 70% fixed rate and 30% variable rate. The variable rate demand bonds have a letter of credit from UMB Bank that renews automatically (current expiration date is March 1, 2013). The note payable is non-recourse and has a bullet maturity ($6 million) in 2017.

Coverage of maximum annual debt service (MADS) by EBITDA was low at 1.2x for fiscal 2012 and 1.5x for the six months ended Dec. 31, 2012. Fitch calculates MADS at $5.2 million, which occurs in fiscal 2013 and excludes the bullet maturity. MADS comprised $2.9 million for bonded debt, $1.6 million for two capital leases, $555,000 for the note payable, and $129,000 in interest payments for the line of credit. MADS drops to $4.6 million in fiscal 2014. Although the note payable is not on parity with NJH's outstanding debt, it has been incorporated into Fitch's analysis. Fitch notes that debt service coverage in 2012 as calculated under the Master Trust Indenture was 3.1x.

Routine capital expenditures are approximately $3.5 million a year and will be funded from operations as NJH has no future debt plans, aside from capital leases already committed.

10-Year Strategic Plan

NJH is in the fifth year of its 10-year strategic plan, which is focused on expanding its clinical and research capabilities. NJH has increased the depth and breadth of services offered and its medical staff continues to grow year over year. These strategic investments have led to significant 8.8% and 12.9% year over year growth in clinical revenue in fiscals 2012 and 2011, respectively. Further, NJH is contemplating ways to expand its inpatient operations and capture revenue stream related to inpatient referrals to local area providers.

Outlook to Negative

The Outlook revision to Negative from Stable reflects Fitch's concerns over NJH's ability to improve profitability over the near term. While management has identified $3.5 million of annual expense savings Fitch expresses concern over NJH's ability to narrow the full year operating loss in 2013 relative to prior results. Furthermore, Fitch believes a creditable plan to achieve operating profitability over the next two to three years is imperative to maintain the current rating. Failure to generate improved operating performance in FY 2013 relative to FY 2012 or further erosion in liquidity metrics will likely result in a rating downgrade.

About the Organization

NJH is a national referral medical institute engaged in patient care, medical research and teaching, primarily in the areas of respiratory, cardiac, allergic, and immunologic medicine. NJH only has 46 licensed beds and the majority of its services are provided on an outpatient basis. Its medical staff (all employed) provides inpatient care at Denver area hospitals. Revenue generated by clinical and research activities ($167 million) accounted for 85% of total operating revenue for fiscal 2012. Total revenue for fiscal year ended June 30, 2012 was $197 million.

Disclosure

NJH covenants to disclose audited financial statements within 120 days of the end of the fiscal year. Quarterly unaudited financial information is disclosed within 45 days of the close of the first three quarters of the fiscal year and within 90 days of the close of the fourth quarter. Financial statements are posted to the Municipal Securities Rulemaking Board's EMMA system.

Outstanding debt:

--$26,790,000 Colorado Health Facilities Authority refunding revenue bonds (National Jewish Health Project) series 2012;

--$11,700,000 Colorado Health Facilities Authority (CO) (National Jewish Medical & Research Center Project) adjustable-rate demand health care facilities revenue bonds series 2005 (LOC: UMB Bank, National Association).

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:

--'Nonprofit Hospitals and Health Systems Rating Criteria', July 23, 2012;

--'Revenue-Supported Rating Criteria', June 12, 2012.

For information on Build America Bonds, visit 'www.fitchratings.com/BABs'.

Applicable Criteria and Related Research:

Revenue-Supported Rating Criteria

http://www.fitchratings.com/creditdesk/reports/report_frame.cfm?rpt_id=681015

Nonprofit Hospitals and Health Systems Rating Criteria

http://www.fitchratings.com/creditdesk/reports/report_frame.cfm?rpt_id=683418

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Contacts

Fitch Ratings
Primary Analyst
Michael Borgani, +1-415-732-5620
Director
Fitch Ratings, Inc.
650 California Street, 4th Floor
San Francisco, CA 94108
or
Secondary Analyst
Jennifer Kim, +1-212-908-0740
Associate Director
or
Committee Chairperson
James LeBuhn, +1-312-368-2059
Senior Director
or
Media Relations
Elizabeth Fogerty, New York, +1-212-908-0526
elizabeth.fogerty@fitchratings.com

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Contacts

Fitch Ratings
Primary Analyst
Michael Borgani, +1-415-732-5620
Director
Fitch Ratings, Inc.
650 California Street, 4th Floor
San Francisco, CA 94108
or
Secondary Analyst
Jennifer Kim, +1-212-908-0740
Associate Director
or
Committee Chairperson
James LeBuhn, +1-312-368-2059
Senior Director
or
Media Relations
Elizabeth Fogerty, New York, +1-212-908-0526
elizabeth.fogerty@fitchratings.com