CHICAGO--(BUSINESS WIRE)--Fitch Ratings has affirmed the 'AA-' rating on the following fixed-rate revenue bonds issued by the Illinois Finance Authority on behalf of Palos Community Hospital (PCH):
--$147,525,000, series 2010C
--$120,145,000, series 2007A
Fitch notes that PCH also has $100,000,000 in variable-rate bonds series 2010A&B in the form of direct bank loans privately placed with JP Morgan Chase and Northern Trust banks, on which they had drawn $64,000,000 as of Dec. 31, 2013. Fitch does not provide a rating on these bonds, but the effect of this debt is included in Fitch's overall analysis of PCH's credit standing.
The Rating Outlook is revised to Negative from Stable.
SECURITY
--Pledge of the obligated group's unrestricted receivables.
KEY RATING DRIVERS
DETERIORATION IN OPERATING PERFORMANCE: The Outlook revision to Negative reflects PCH's weak operating performance, which has been below Fitch's expectations and short of budgeted results. For 2013 (year ended Dec. 31; draft audit) PCH posted a 3.5% operating EBITDA margin, which is very weak compared to Fitch's 'AA' category median 11.8% and was below the 4.9% budget.
STRONG BALANCE SHEET: The 'AA-' rating continues to be supported by PCH's significant balance sheet strength, with 30.7x cushion ratio and 255.3% cash to debt at fiscal year-end 2013. PCH's robust liquidity currently provides some cushion against the weak operating performance and high debt burden.
HIGH DEBT BURDEN: PCH's debt burden is significant for its revenue size with maximum annual debt service (MADS) comprising about 8.4% of total revenues in 2013 compared to the 'AA' category median of 2.6% resulting in a very light 2.8x debt service coverage ratio.
PAVILION EXPANSION COMPLETE: PCH opened its new bed tower (the Hospitaller Pavilion) on time on March 19, 2013 and under budget for a total cost of approximately $340 million, approximately 15% less than the original 2010 estimated cost. PCH anticipates completing the remainder of its campus renovation project by fall 2015, after which capital spending will fall significantly.
STEADY MARKET POSITION: PCH captured 21.7% market share during fiscal 2013 in its service area, relatively flat from 21.6% in 2012 despite the presence of robust competition. Further, the area has strong demographic characteristics and favorable payor mix characteristics.
RATING SENSITIVITIES
TURNOVER OF BOARD AND MANAGEMENT: The recent resignation of five parent board and hospital board members coupled with the Feb 12th resignation of the former CEO, Edgardo Tenreiro, raises concern about the stability and direction of the organization as it attempts to improve operating performance and complete its campus project.
NECESSARY OPERATING IMPROVEMENT: Despite its strong liquidity position, PCH will have to demonstrate significant improvement in operating profitability by 2015 to maintain the current rating, particularly in light of its heavy debt burden. PCH needs to successfully implement its performance improvement plan which should result in improved operating results in 2014 and significant improvement by 2015. The Negative outlook reflects Fitch's concern about the organization's ability to improve operating performance, which is heightened due to the instability at the governance and management level. A material erosion in PCH's liquidity position or a lack of progress in improving operating profitability would result in a rating downgrade.
CREDIT PROFILE
Located in Palos Heights, Illinois (approximately 25 miles southwest of Chicago), PCH operates 377 inpatient beds, and the organization reported $335.3 million in total revenue in fiscal 2013.
Fitch's analysis is based on the consolidated entity. The obligated group includes Palos Community Hospital and St. George Corporation, which represented 99% of total assets and 97% of total revenues in 2013. Non-obligated entities include Palos Medical Group (PMG), St. George Wellness Center and some joint ventures.
DETERIORATION IN OPERATING PERFORMANCE
The Outlook revision to Negative from Stable is driven primarily by PCH's weak operating profitability, which declined further than expected in 2013. PCH failed to meet its 2013 budget with a $22.2 million loss from operations (negative 6.6% operating margin) compared to a budgeted loss of $18.6 million (negative 5.9% operating margin). The loss from operations in 2013 reflects a significant increase in the operating expenses associated with the opening of the new Hospitaller bed tower, coupled with reimbursement pressure from government payors and flat to declining volumes.
An operational improvement plan is being implemented by management, which depending on the level of success, should result in up to $34.5 million in net margin improvement by fiscal 2015. Key initiatives include improving throughput and productivity, reducing supply costs and revenue cycle enhancement. Fitch is concerned about PCH's ability to improve operating results given the recent instability among the board and management. Of the five board member resignations, two were in their 12th year of service (the term limit) and three resigned following initial three-year terms. These actions, when considered in conjunction with the departure of the prior CEO in Feb 2014 raises concern about the stability and direction of the organization over the near term. Fitch notes the board named Dr. Terrence Moisan as interim CEO, who has been a PCH physician for 36 years and an active member of both boards.
STRONG BALANCE SHEET
The affirmation at 'AA-' rating reflects PCH's robust liquidity position, which provides some financial cushion while management executes its operating improvement plan. At December 31, 2013, unrestricted cash and investments totaled $863.7 million, equating to 939.4 days cash on hand, 30.7x cushion ratio and 255.3% cash to debt, all well exceeding the respective 'AA' category medians of 254.3 days, 23.4x and 173.6%. Fitch expects PCH to preserve its liquidity through completion of the campus renovation in 2015, which will require approximately $47 million in remaining equity contribution.
HIGH DEBT BURDEN
PCH's debt burden remains high for the rating, with MADS equal to 8.4% of revenue, compared to the 'AA' category median of 2.6%. Total outstanding debt after the full draw down of the direct loans (expected in 2014) is $374 million. Debt service coverage is tested on MADS, which is estimated at $28.2 million and does not occur until 2016 when the principal amortization of the series 2010C bonds begins. PCH has two direct bank loans, series 2010A and B ($50 million each series), which are structured as bullet maturities. The initial placement date expires in May 2040 for the series 2010A (JPMorgan) and May 2015 for the series 2010B (Northern Trust). For 2013, PCH's coverage calculation was 2.95x, ahead of the covenant requirement of 1.10x. No additional debt is currently planned, and Fitch believes that PCH has no room for additional debt at the 'AA-' rating level.
COMPETITIVE MARKET
PCH faces considerable competition with four acute care providers located within its service area. Silver Cross (rated BBB+/Stable by Fitch), located just eight miles from PCH, opened a replacement facility in February 2012. This did have a slight negative impact on PCH's total admissions and market share during 2012. Fitch notes that PCH's market share stabilized at 21.7% in 2013. Comparatively, Advocate Christ Hospital (part of Advocate Health Care Network rated AA; Stable) had 25.3% share and Silver Cross had 13.1% share in 2013. The total market includes the area from which 89% of PCH admissions originate.
CONTINUING DISCLOSURE
PCH covenants to provide annual financial information within 150 days of each fiscal year end and quarterly unaudited financial statements within 45 days of the first three fiscal quarter-ends and within 60 days of the close of the fiscal year end for the fourth quarter. Disclosure to Fitch has been timely and sufficient.
Additional information is available at 'www.fitchratings.com'.
Applicable Criteria and Related Research:
--'Nonprofit Hospitals and Health Systems Rating Criteria' (May 20, 2013)
Applicable Criteria and Related Research:
Nonprofit Hospitals and Health Systems Rating Criteria - Effective July 23, 2012 to May 20, 2013
http://www.fitchratings.com/creditdesk/reports/report_frame.cfm?rpt_id=683418
Additional Disclosure
Solicitation Status
http://www.fitchratings.com/gws/en/disclosure/solicitation?pr_id=825824
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