NEW YORK--(BUSINESS WIRE)--Fitch Ratings has upgraded the credit ratings for Health Care REIT, Inc. (NYSE: HCN) as follows:
--Issuer Default Rating (IDR) to 'BBB+' from 'BBB';
--$2.5 billion senior unsecured revolving credit facility to 'BBB+' from 'BBB';
--$715.5 million senior unsecured term loans to 'BBB+' from 'BBB';
--$6.9 billion senior unsecured notes to 'BBB+' from 'BBB';
--$216 million senior unsecured convertible notes to 'BBB+' from 'BBB';
--$1 billion preferred stock to 'BBB-' from 'BB+'.
The Rating Outlook is Stable.
KEY RATING DRIVERS
The upgrade of HCN's IDR to 'BBB+' reflects the company's significant de-leveraging over the past year beyond Fitch's previous expectations to levels appropriate for a 'BBB+' rated diversified healthcare REIT, and sustained cash flows in excess of fixed charges from a portfolio in markets with strong demographics and derived principally from private pay sources. Notably, HCN's SSNOI growth has exceeded that of its two major peers, HCP, Inc. (HCP, IDR of 'BBB+' with a Stable Outlook) and Ventas, Inc. (VTR, IDR of 'BBB+' with a Stable Outlook) with less volatility, despite higher levels of NOI derived from REIT Investment Diversification and Empowerment Act (RIDEA) structured investments.
Credit strengths include strong access to capital and a deep management team. Credit concerns center on sub-1.0x liquidity coverage as of Dec. 31, 2014 pro forma for announced first quarter 2015 (1Q'2015) investments, the potential for higher volatility in operating cash flows given RIDEA investments through-the-cycle and Fitch's broader worries concerning the healthcare REIT sector's continued rapid growth and the risk that companies in the sector may end up paying premium pricing for new investments, given favorable equity valuations.
The company issued $3.6 billion in common stock in three follow-on equity offerings in May 2014, September 2014 and February 2015, using the proceeds to fund the acquisition of the outstanding units of HealthLease Properties Real Estate Investment Trust and other investments, along with debt repayment. The company's leverage ratio was 5.3x as of Dec. 31, 2014 pro forma for the most recent equity offering and $2.2 billion of investments expected to closed in 1Q2015 (pro forma), down from 6.6x and 6.0x as of Dec. 31, 2013 and Dec. 31, 2012, respectively.
Fitch projects leverage to rise to around 5.5x over the next several years assuming blended 2.5% to 3% same-store NOI growth and future investments with a split of 40% debt and 60% equity and/or proceeds from asset sales. Moreover, HCN's capitalization and key credit metrics are generally consistent with those of its closest peers, HCP and VTR.
In a stress case not anticipated by Fitch in which the company achieves lower same store NOI growth over the next several years and lower proceeds from equity offerings and/or asset sales, leverage would approach 6.0x, which would be weak yet still appropriate for the 'BBB+' rating. Fitch defines leverage as debt less readily available cash divided by recurring operating EBITDA including recurring cash distributions from unconsolidated entities.
Mainly Private Pay Portfolio Focused Strong Demographic Areas
Approximately 34.9% of the company's annualized NOI is from RIDEA seniors housing operating assets, followed by triple net seniors housing at 26.7%, skilled nursing/post-acute at 21.6% and medical office at 15.6%. HCN's seniors housing operating assets also have favorable operating metrics such as higher revenues generated per occupied room (REVPOR) per month at the company's seniors housing properties of $6,479 versus the U.S. at $4,365 and are located in markets with above average house values. HCN derived 87.1% of its revenue from private pay sources as of Dec. 31, 2014, limiting relative government reimbursement risk, which Fitch views favorably.
Cash Flow Consistency Despite RIDEA Exposure
Fitch views RIDEA structured seniors housing as having the potential for higher volatility through the cycle than other healthcare property types. Although HCN's portfolio exhibited less volatility with higher growth than its peers from 2010 - 2014 despite deriving a larger percentage of NOI from RIDEA, this has been achieved during a period of strong fundamentals. HCN's portfolio may exhibit more volatility due to supply/demand imbalances. Fitch attributes this recent outperformance to the strong portfolio demographic information noted above. Approximately 87.5% of HCN's NOI is derived from U.S. assets, followed by Canada at 5.3% and United Kingdom at 7.2%, with non-U.S. assets focused on private pay.
The company's fixed charge coverage ratio was 3.5x in 4Q pro forma (3.1x for full year 2014), up from 2.8x in 2013 and 2.6x in 2012. HCN's lower cost of debt capital, same-store NOI growth and NOI from development, offset by NOI reductions from disposed assets, led to the improvement. Fitch projects fixed-charge coverage in the low 3.0x range over the next several years, appropriate for a 'BBB+' rating. Fitch defines fixed charge coverage as recurring operating less straight-line rents and recurring capital expenditures, divided by total cash interest incurred and preferred dividends.
Strong Access to Capital
The company has demonstrated strong access to multiple sources of capital, having issued nearly $9 billion in fixed income securities since 2006, including U.S. dollar and British Sterling denominated bonds and preferred equity. Since 2006, the company also issued approximately $13.9 billion in common equity at a weighted average premium to mean consensus net asset value of 25.6% per SNL Financial. In July 2014, the company entered into a new $3.23 billion unsecured credit facility consisting of a $2.5 billion revolver, a $500 million term loan and a CAD 250 million term loan. The $3.23 billion facility replaced the company's previous credit facilities of approximately $2.98 billion, improving the company's liquidity position.
Deep Management Team Focused on Relationship Investing
Thomas J. DeRosa was appointed Chief Executive Officer in April 2014, succeeding George L. Chapman. DeRosa has served on HCN's Board for 10 years and the other five members of the company's Management Committee have experience with HCN and in the industry and ranging from 10 to 29 years.
The management team focuses on a model that encourages connectivity across property managers and operators. As of Dec. 31, 2014, approximately 17.6% of HCN's investments were operated by Sunrise Senior Living, followed by Genesis Healthcare at 11.3%, Brookdale Senior Living at 5.7%, Benchmark Senior Living at 3.7%, and Revera and Senior Lifestyle, both at 3.5%. Connectivity is emphasized through partner working group discussions and other forums, and manifests in operating cost synergies, lower capital expenditures and repeat business with managers/operators.
Liquidity Coverage Negatively Impacted by Mainstreet Investment Pipeline
Liquidity coverage, calculated as liquidity sources divided by uses, is 0.9x for the period Jan. 1, 2015 to Dec. 31, 2016. Sources of liquidity include unrestricted cash, availability under the company's unsecured credit facility pro forma for the announced 1Q'2015 investments and February equity offering, and projected retained cash flows from operating activities after dividends. Uses of liquidity include debt maturities and projected development costs, including to-be-completed development and $369 million of costs related to the Mainstreet investment pipeline beginning in 2016 through 1Q'2017. As of Dec. 31, 2014 pro forma for announced 1Q2015 investments, the company had 4.2% of debt maturing in 2015, 8.7% in 2016 and 6.5% in 2017.
HCN's unencumbered assets (unencumbered NOI based on a stressed 8.5% capitalization rate) divided by net unsecured debt of 2.3x, which is adequate for a 'BBB+' rating. In addition, organic liquidity has improved, as the company's AFFO payout ratio was 86.9% in 2014, down from 91.1% in 2013 and 95.2% in 2012. Based on the 2014 payout ratio, the company retains approximately $135 million of operating cash flow annually.
Fitch's key assumptions for HCN in Fitch's base case include:
--3% blended same-store NOI growth for 2015, followed by a moderation to 2.5% growth in 2016 and 2% in 2017;
--CapEx and G&A grow to maintain historical recurring operating EBITDA margins;
--$3.5 billion in acquisitions in 2015 (of which $2.2 billion has already been announced) followed by $2 billion annually in 2016-2017 with yields ranging from 6.5%-7% funded with 40% debt and 60% equity and proceeds from asset sales;
--Debt repayment with the issuance of new unsecured bonds.
Preferred Stock Notching
The two-notch differential between HCN's IDR and preferred stock rating is consistent with Fitch's criteria for corporate entities with an IDR of 'BBB+'. Based on Fitch research titled 'Treatment and Notching of Hybrids in Nonfinancial Corporate and REIT Credit Analysis', these preferred securities are deeply subordinated and have loss absorption elements that would likely result in poor recoveries in the event of a corporate default.
The following factors may result in positive momentum on the ratings and/or Outlook:
--Fitch's expectation of leverage sustaining below 4.5x (pro forma leverage was 5.3x);
--Fitch's expectation of fixed-charge coverage sustaining above 4.0x (pro forma fixed charge coverage was 3.5x);
--Fitch's expectation of unencumbered asset coverage of unsecured debt (UA/UD) at a stressed 8.5% capitalization rate sustaining above 4.0x (pro forma UA/UD is 2.3x).
The following factors may result in negative momentum on the ratings and/or Outlook:
--Increased cash flow volatility through the cycle due to heightened RIDEA exposure and/or a material increase in RIDEA exposure;
--Fitch's expectation of leverage sustaining above 6.0x;
--Fitch's expectation of fixed-charge coverage sustaining below 3.0x;
--Fitch's expectation of liquidity coverage sustaining below 1.0x.
Additional information is available at 'www.fitchratings.com'.
Applicable Criteria and Related Research:
--'Treatment and Notching of Hybrids in Non-Financial Corporate and REIT Credit Analysis' (Nov. 25, 2014);
--'Recovery Ratings and Notching Criteria for Equity REITs' (Nov. 18, 2014);
--'Healthcare REIT Deals Highlight Risks to Continued Growth' (Aug. 20, 2014);
--'Corporate Rating Methodology' (May 28, 2014);
--'Rating U.S. Equity REITs and REOCs: Sector Credit Factors' (Feb. 26, 2014).
Applicable Criteria and Related Research:
Treatment and Notching of Hybrids in Non-Financial Corporate and REIT Credit Analysis
Recovery Ratings and Notching Criteria for Equity REITs
Corporate Rating Methodology - Including Short-Term Ratings and Parent and Subsidiary Linkage
Rating U.S. Equity REITs and REOCs (Sector Credit Factors)