Fitch Rates Dow Rummel Village, SD Rev Refunding Bonds 'BB'; Outlook Stable

NEW YORK--()--Fitch Ratings has assigned a 'BB' rating to the expected issuance of $23.045 million City of Sioux Falls, South Dakota health facilities revenue refunding bonds, Series 2016 on behalf of Dow Rummel Village (DRV).

Proceeds from the bonds will be used to refund DRV's outstanding series 2006 bonds, fund a debt service reserve fund and pay the costs of issuance. The bonds are scheduled to sell via negotiated sale during the week of Oct. 17.

The Rating Outlook is Stable.

SECURITY

The bonds are secured by a pledge of DRV's gross revenues, a first mortgage lien and a debt service reserve fund, equal to maximum annual debt service on the bonds.

KEY RATING DRIVERS

TWO PHASE BORROWING: The 'BB' rating incorporates the impact of a two-phase borrowing being undertaken by DRV to fund a major capital plan. The series 2016 issue will refund DRV's existing debt generating significant cash flow savings. The series 2017 borrowing will be used to fund a campus repositioning and expansion that will add 17 new memory care and 30 high acuity assisted living units (ALUs). Total project cost for the expansion project is estimated at $34.6 million, $28.6 million of which is expected to be financed with additional debt. The bonds for phase two are expected to be issued in fall of 2017 as long-term fixed rate obligations.

HEAVY PRO FORMA DEBT BURDEN: While certain of DRV's current debt metrics are consistent with Fitch's 'BBB' medians, the series 2017 debt will more than double DRV's current debt load. Pro forma maximum annual debt service including the series 2017 is estimated at $3.3 million equating to a high 22.1% of fiscal 2016 revenues.

SOLID OCCUPANCY: DRV's occupancy across all levels of care has been at or above 94% in each of the last four years. Approximately 97% of SNF's, 100% memory care, 99% of ILU's, and 92% of ALU's were occupied as of Aug. 31, 2016.

STRONG PROFITABILITY, LIQUIDITY METRICS: Profitability and liquidity metrics are solid. Operating ratio of 87.5%, net operating margin (adjusted) of 25.1%, and days cash on hand of 490 days in fiscal 2016 compare favorably to Fitch's 'BBB'-rated medians.

COMPETITIVE MARKET POSITION: DRV operates in a very competitive environment for senior living facilities in Sioux Falls. While DRV has maintained strong historical occupancy, Fitch harbors some concerns about its location and physical plant aesthetics as a potential hindrance to future marketing efforts. DRV's favorable reputation and position as one of only two retirement facilities to provide a SNF as part of its continuum of care are noted positively.

RATING SENSITIVITIES

SECOND PHASE BORROWING: While the 'BB' rating incorporates the likely impact of the second phase bonds, the issuance of the bonds is approximately one year away. Should the timing, scope of the project, or financing details change materially, those changes could affect the rating at the time of issuance.

CONTINUED STABILITY IN CORE OPERATIONS: The rating assumes that DRV's current financial profile, characterized by high occupancy and solid operating metrics, will remain stable over the next few years. A deviation from this performance could pressure the rating.

CREDIT PROFILE

Dow Rummel Village is a Type-C continuing care retirement community (CCRC) situated on 13.2 acres in Sioux Falls, South Dakota. It consists of 114 independent living apartments, nine garden cottages (unoccupied), 32 IL/AL 'flex' apartments, 35 AL apartments, 14 memory care beds, and a 50-bed skilled nursing facility.

TWO PHASE CAPITAL PLAN

DRV is moving forward on a major capital plan. The first phase being funded with the current bond issuance will refinance all of DRV's outstanding debt, generating estimated cash flow savings of $675,000 per year.

In fall 2017, DRV plans to issue approximately $28.6 million of series 2017 bonds, the proceeds from which will be used to fund a campus repositioning and expansion that will add 17 new memory care units and 30 high acuity ALU's to Dow Rummel's existing complement of offerings. Total project cost, excluding potential demolition of nine existing ILU garden cottages, is estimated at $34.6 million. Net of additional debt, the balance of the cost is expected to be funded through a combination of fundraising and internal equity.

Current project timeline is for construction to commence in October 2017 and the new units to open in September 2019. Financial stabilization will be reached in 2022. The 'BB' rating assumes the issuance of the second phase bonds. Any changes to the timing, scope, or financing of the project could impact the rating.

Following stabilization, the additional units are expected to be modestly accretive to DRV's cash flow, factoring in the additional costs associated with staffing and maintaining high acuity and memory care ALU's. The addition of the combined 47 units is projected to add an incremental $920,000 to EBITDA in fiscal 2022.

COMPETITIVE MARKET

Dow Rummel operates in a very competitive environment for retirement facilities in Sioux Falls. There are eight comparable retirement facilities in its primary market area, with a large, new community slated to be built and ongoing expansion and renovation of existing competitors.

DRV's favorable reputation, strong historic utilization and position as one of only two area facilities to offer a SNF all help it to maintain its competitive position within the market. However, Fitch does harbor concerns about DRV's location in the industrial, northside of Sioux Falls, and its mature physical plant aesthetics as a potential hindrance to marketing efforts over a long term time horizon. Dow Rummel's average age of plant is 14.1 years, which compares unfavorably to Fitch's below-investment grade category median of 11.5 years. Fitch also cites a recent market study, commissioned by Dow Rummel, which highlights its location as a potential source of future competitive disadvantage.

SOLID OPERATIONAL PERFORMANCE

Dow Rummel has a history of stable profitability and liquidity metrics, which have compared favorably to Fitch's 'BBB'-rated medians. For fiscal 2016, DRV generated solid financial performance, with an 87.5% operating ratio, 25.1% net operating margin-adjusted, and 490 days cash on hand.

Pro forma MADS coverage, which includes the impact of the second phase debt, has also remained stable at a little over 1.0x for the past four fiscal years, in line with Fitch's below-investment grade category medians. Coverage was elevated to 1.6x in fiscal 2016; however, this was largely due to a one-time, $1.3 million transfer of assets from the Baron & Emilie Dow Home, Inc. Foundation. Fitch calculates a pro forma MADS coverage ratio of 1.1x for fiscal 2016, excluding this one-time contribution.

Solid operations have historically been supported by high occupancy across all three levels of care, with aggregate average occupancy of over 95% across the continuum for the past four fiscal years. As of Aug. 31, 2016, approximately 97% of SNFs, 100% memory care, 99% of ILUs, and 92% of ALUs were occupied. In addition, DRV maintains a solid waitlist totaling 68 for units across the continuum.

DEBT PROFILE

As of April 30, 2016, DRV had approximately $24 million outstanding fixed rate series 2006 bonds, which are expected to be refunded from the proceeds of the series 2016 bonds. It has neither variable rate debt, nor swap exposure.

DRV's current debt metrics of 71.9% debt to cap and 61.9% cash to debt are consistent with 'BBB'-rated medians. However, the planned 2017 borrowing will more than double its debt load. Pro forma ratios of 84.7% debt to capitalization and 28.5% cash to debt, compare unfavorably to Fitch's below-investment grade category medians.

COVENANTS AND DISCLOSURE

DRV covenants to maintain 1.15x debt service coverage and 180 days cash on hand, with a requirement to retain a consultant should ratios fall below these levels. It is also subject to an additional bonds test.

DRV covenants to provide annual audits within 150 days of fiscal year end and quarterly disclosure for all four quarters within 45 days of quarter end.

Additional information is available at 'www.fitchratings.com'.

Applicable Criteria

Not-for-Profit Continuing Care Retirement Communities Rating Criteria (pub. 04 Aug 2015)

https://www.fitchratings.com/site/re/868824

Revenue-Supported Rating Criteria (pub. 16 Jun 2014)

https://www.fitchratings.com/site/re/750012

Additional Disclosures

Dodd-Frank Rating Information Disclosure Form

https://www.fitchratings.com/creditdesk/press_releases/content/ridf_frame.cfm?pr_id=1012420

Solicitation Status

https://www.fitchratings.com/gws/en/disclosure/solicitation?pr_id=1012420

Endorsement Policy

https://www.fitchratings.com/jsp/creditdesk/PolicyRegulation.faces?context=2&detail=31

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+1-212-908-0545
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or
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Director
+1-212-908-9186
or
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or
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Contacts

Fitch Ratings
Primary Analyst
Margaret Johnson, CFA
Director
+1-212-908-0545
Fitch Ratings, Inc.
33 Whitehall Street
New York, NY 10004
or
Secondary Analyst
Gary Sokolow
Director
+1-212-908-9186
or
Committee Chairperson
James LeBuhn
Senior Director
+1-312-368-2059
or
Media Relations
Elizabeth Fogerty, +1 212-908-0526
elizabeth.fogerty@fitchratings.com