CHICAGO--(BUSINESS WIRE)--Fitch Ratings has assigned an 'AA-' rating to the following bonds expected to be issued on behalf of McLaren Health Care (McLaren):
--$102,015,000 Michigan Finance Authority hospital revenue bonds series 2015A;
--$65,875,000 Michigan Finance Authority hospital revenue bonds series 2015B;
--$96,370,000 McLaren Health Care Corp. taxable hospital revenue bonds series 2015C.
Fitch has also affirmed the 'AA-' rating on the following bonds issued by or on behalf of McLaren:
--$95,060,000 Michigan Finance Authority hospital revenue bonds series 2012A;
--$204,285,000 Michigan State Hospital Finance Authority revenue bonds series 2008A;
--$153,300,000 Michigan State Hospital Finance Authority variable demand rate revenue bonds series 2008B;
--$74,355,000 Michigan State Hospital Finance Authority revenue bonds series 2005C.
The series 2015 bonds are expected to be issued as fixed rate bonds. Bond proceeds will be used to refund the outstanding series 2005C and series 2008A bonds, and to pay costs of issuance. The series 2015 bonds are expected to price the week of March 16 through negotiation.
The Rating Outlook is Stable.
Bond payments are secured by a pledge of the gross revenues of the credit group.
KEY RATING DRIVERS
LIGHT DEBT BURDEN: McLaren's pro forma debt burden is very light with maximum annual debt service (MADS) equal to 1.5% of operating revenue in fiscal 2014. The modest debt burden allowed for solid MADS coverage by EBITDA of 4.9x in fiscal 2014 despite light operating profitability.
LEADING MARKET SHARE: McLaren maintains a leading 26.4% market share in its total service area, but the service area remains competitive and economically challenged. McLaren has doubled the size of its system over the last six years through acquisition activity resulting in 12 acute care hospitals spread throughout southeast central, eastern and northern Michigan.
LIGHT OPERATING PROFITABILITY: McLaren's profitability levels have been historically light relative to Fitch's 'AA' category rating medians. However, operating margins have been consistent, averaging 2.6% since fiscal 2010 and equal to 2.4% in fiscal 2014 despite a challenging payor mix. The system's light operating profitability is mitigated by its light debt burden.
SOLID LIQUIDITY RELATIVE TO DEBT: Unrestricted liquidity levels have consistently grown over the past six years due to operating cash flows and investment gains. Liquidity metrics are solid relative to debt with 29.1x cushion ratio and 196.6% cash to pro forma debt at Dec. 31, 2014 but remain light relative to operating expenses with 147 days cash on hand.
SUSTAINED COVERAGE METRICS: Fitch expects that McLaren will continue to achieve consistent operating cash flows which, in combination with the system's light debt burden, will provide for coverage consistent with the 'AA-' rating. Compression of operating cash flow or an increase in McLaren's debt burden could result in negative rating pressure if coverage metrics are materially impacted.
McLaren is a large, integrated multi-hospital system, headquartered in Flint, MI, operating 12 hospitals and a health insurance plan in a 56-county service area in Michigan. McLaren has grown its health plan and operates a profitable managed care business with over 223,000 lives, including Medicaid, commercial and self-insured lives. Total system-wide operating revenue increased to $2.9 billion in fiscal 2014 from $2.5 billion in fiscal 2013. The increase was primarily due to the acquisitions of Karmanos Cancer Institute and Port Huron Hospital in fiscal 2014.
Karmanos is one of 41 comprehensive cancer centers in the U.S. (as designated by the National Cancer Institute) and provides cancer care through three campuses. Total operating revenues equaled approximately $251.8 million for the 12 months ended Sept. 30, 2014. McLaren plans to expand Karmanos' operating platform throughout its Michigan service area. The acquisition involved a capital commitment over five years and did not involve an upfront capital outlay. Port Huron Hospital is a 186 bed community hospital with operating revenues of $187.6 million in the 12 months ended Sept. 30, 2014 located in Port Huron, MI, on the eastern edge of McLaren's service area. Fitch views both acquisitions favorably.
In addition to the Karmanos and Port Huron acquisitions, the system has grown considerably through a series of acquisitions including expansion in the following regions: Macomb (2007), Oakland (2007), Central Michigan (2010) and Northern Michigan (January 2012). Additionally, McLaren acquired CareSource of Michigan, a health insurer covering 35,000 Medicaid lives in August 2012, further expanding its health insurance operations. Total operating revenues increased 82% between fiscal years 2008 and 2014 reflecting the growth activity.
LIGHT DEBT BURDEN
McLaren's pro forma debt burden remains light and is a primary credit strength, allowing for solid MADS coverage despite light operating profitability. Pro forma MADS is expected to equal $43.5 million, equating to a light 1.5% of fiscal 2014 operating revenue. McLaren's light debt burden has benefited from the system's growth over the past eight years. Pro forma MADS coverage by EBITDA and operating EBITDA of 4.9x and 4.3x in fiscal 2014 are solid for the 'AA-' rating category. Pro forma MADS coverage by EBITDA and operating EBITDA remained strong in the interim period equaling 5.7x and 4.6x, respectively, exceeding Fitch's 'AA' category medians of 5.4x and 4.4x.
Management is contemplating the construction of a new cancer center and a new patient tower on one of McLaren's campuses. The projects are subject to CON approval and could be funded by a bond issuance. Fitch will assess the impact of any new debt to McLaren's credit profile as more details become available.
LEADING MARKET SHARE
McLaren's leading market share in its combined primary service area (PSA) increased to 26.4% in fiscal 2014 from 24.3% in fiscal 2013. The improvement, in part, reflects the Karmanos and Port Huron acquisitions. Port Huron Hospital holds a leading 60% market share in its PSA and Karmanos is a leading provider of cancer services in Michigan. Among its 10 operating regions, including Karmanos, McLaren holds the number one market position in seven regions. Despite the leading market share, McLaren's service areas remain competitive.
LIGHT OPERATING PROFITABILITY
Operating profitability has been consistent but historically light for the rating category. Operating margin averaged 2.6% between fiscal years 2010 and 2014, equaling 2.4% in fiscal 2014, and is light relative to Fitch's 'AA' category median of 3.9%. The consistent profitability levels reflect effective management practices and cost controls. McLaren's personnel costs equaled a very low 40% of total revenues in fiscal 2014 and are among the lowest in Fitch's rated portfolio. The light operating profitability reflects McLaren's challenging payor mix and service area characteristics, with Medicare and Medicaid accounting for 65.9% of gross revenues in fiscal 2014.
The system's high exposure to Medicare and Medicaid is a credit concern, making the system vulnerable to state and federal budget cuts. Fitch notes the McLaren's payor mix has deteriorated somewhat over the past five years with Medicare and Medicaid increasing from 61.2% of gross revenues in fiscal 2009 to 65.9% while commercial payors decreased from 35.4% to 32%. McLaren has benefited from Michigan's expansion of Medicaid under the PPACA, with self-pay decreasing to 2.1% of gross revenue in fiscal 2014 and 1.2% in the interim period from 3.4% in fiscal 2013.
SOLID LIQUIDITY RELATIVE TO DEBT
Unrestricted cash and investments continue to increase, increasing 40.8% since Sept. 30, 2012 to $1.26 billion at Dec. 31, 2014. Liquidity metrics are solid relative to McLaren's modest pro forma debt burden with 29.1x cushion ratio and 196.6% cash to pro forma debt, exceeding Fitch's 'AA' category medians of 26.5x and 178.5%. Despite the increase in absolute liquidity, liquidity remains light for the rating category relative to operating expenses with 147 days cash on hand comparing unfavorably to Fitch's 'AA' category median of 277.1 days. Days cash on hand decreased from 172.5 days at Dec. 31, 2013 due to the increased expense base associated with the Port Huron acquisition.
Subsequent to the series 2015 bond issuance, McLaren will have approximately $643 million of total debt outstanding. The pro forma debt profile will include 75% underlying fixed rate bonds and 25% underlying variable rate bonds. The variable rate bonds are swapped to synthetic fixed rate via two fixed payor swaps. In addition to the two fixed payor swaps, McLaren is counterparty to a basis swap. No collateral was required to be posted as of Dec. 31, 2014.
McLaren covenants to provide annual disclosure within 120 days of the end of the fiscal year and quarterly disclosure within 45 days of the end of each fiscal quarter. Disclosure is provided through the Municipal Securities Rulemaking Board's EMMA system.
Additional information is available at 'www.fitchratings.com'
Applicable Criteria and Related Research:
--'U.S. Nonprofit Hospitals and Health Systems Rating Criteria', May 30, 2014.
Applicable Criteria and Related Research:
U.S. Nonprofit Hospitals and Health Systems Rating Criteria