NEW YORK--(BUSINESS WIRE)--Fitch Ratings has affirmed the ratings of Universal Health Services, Inc. (UHS), including the Issuer Default Ratings (IDR) at 'BB'. The Rating Outlook has been revised to Positive from Stable. A full list of rating actions follows at the end of this release.
KEY RATING DRIVERS
-- The Positive Rating Outlook reflects credit metrics that are strong for the 'BB' rating category, driven by a demonstrated commitment to debt repayment but offset by prolonged weak operating trends in the acute care segment. Recent volume and payor mix figures hint at a possible inflection point, and further evidence of durable improvement could support an upgrade in the near to medium term.
-- Credit metrics continue to strengthen since the Psychiatric Solutions, Inc. (PSI) deal in 2010. Debt leverage has moderated to 2.6x at June 30, 2013 compared to 3.6x (pro forma) at Dec. 31, 2010. Fitch expects UHS to operate with debt leverage (total debt/EBITDA) between 2.5 times (x) and 3.0x, using additional free cash flow for debt repayment in the remainder of 2013.
-- Acute care pressures have been offset by the more profitable and stable revenue stream of UHS's behavioral health business. Overall cash flows have remained strong and growing as a result. Fitch forecasts free cash flow (FCF) between $400 million and $500 million in both 2013 and 2014.
-- UHS and its fellow hospital operators will benefit from higher margins and possibly increased volumes due to the Affordable Care Act (ACA), starting in 2014. Over time, constrained reimbursement growth, especially from government payors, could erode some of the expected margin gain.
Maintenance of a 'BB' IDR will require debt leverage generally maintained below 3.75x with strong and steady annual FCF of at least $300 million. Debt leverage of 2.6x at June 30, 2013 and latest 12 months (LTM) FCF in excess of $370 million provides UHS with significant flexibility at its current ratings. UHS also maintains ample cushion under its credit facility leverage covenant, which steps down to 3.75x at Dec. 31, 2013.
An upgrade to 'BB+' will require further evidence of durably improving acute care volumes and payor mix in UHS's core markets, accompanied by steady and robust cash flows. Given 2013 year-to-date results and Fitch's expectation for the remainder of the year, an upgrade is likely in the next 2-4 quarters. Fitch believes UHS is currently operating with credit metrics, including debt leverage, indicative of a 'BB+' IDR.
A negative rating action is anticipated only in the event of a sizeable leveraging M&A or capital deployment transaction, or other unforeseen significant event, leading to sustained debt leverage at or above 3.75x and/or severely depressed cash generation. Over the ratings horizon, Fitch does not foresee operational pressure sufficient to cause a downgrade to 'BB-'.
CREDIT METRICS STRONG FOR RATING CATEGORY
Credit metrics continue to improve subsequent to the 2010 acquisition of PSI. Debt leverage has moderated to 2.6x at June 30, 2013, compared to 3.6x on a pro forma basis at Dec. 31, 2010. EBITDA growth and about $400 million of debt repayment has driven this deleveraging. Fitch expects UHS to operate with debt leverage below 3.0x over the ratings horizon.
Fitch thinks UHS will continue to deploy capital in-line with a 'BB' category credit profile. Fitch expects the trend of rapid consolidation and integration among healthcare providers to continue with the goal of driving efficiencies and improved bargaining power through increased scale and scope of services. UHS has been less aggressive than its peers in this respect, consummating only one material acquisition since the transformative PSI deal in 2010 (Ascend Healthcare Corp.). Fitch sees limited opportunities for large-scale acquisition activity in UHS's core businesses over the ratings horizon.
POSSIBLE INFLECTION POINT FOR PRESSURED ACUTE CARE BUSINESS; IMPROVEMENT LIKELY TO BE SLOW
Acute care inpatient hospital volumes and revenue mix have been considerably pressured industry-wide for the past few years. Volume growth is integral to maintaining profitability for hospital operators, given their high fixed cost structures. For UHS, the second quarter of 2013 (2Q'13) may imply an inflection point. Same-hospital (SH) acute care admissions growth of 1.6% represents the highest growth rate and only the second quarter of positive growth in the past 12 quarters. SH adjusted admissions growth was 2% in the quarter. A sustained return to growth may be supported by steadily improving macroeconomic indicators, such as unemployment rate, in a couple of UHS's largest markets. Hospital operations tend to lag the broader macro-economy; so Fitch thinks it is likely that UHS's acute care admissions and payor mix will continue to improve.
Still, Fitch expects any improvement in volumes or payor mix to be slow. The overarching trend of weak healthcare utilization and treatment delay will likely persist well into 2014, given still relatively elevated levels of unemployment and the growing prevalence of high-deductible health insurance plans, combined with the challenges of implementation and public education with respect to the ACA's coverage expansion provisions.
Furthermore, Fitch anticipates the continued shift of care to less expensive, often outpatient settings and increasing coverage of preventative care to moderate acute care admissions growth over the medium to longer term. Hospital operators that are successful in developing robust outpatient and primary care service offerings stand to benefit from both shifted and new volumes. UHS has generally been less aggressive than most of its peers in this area.
CASH FLOWS, GROWTH SUPPORTED BY BEHAVIORAL HEALTH OPERATIONS
BH revenues accounted for about half of UHS's revenues in 2012 compared to ~25% in 2009. Though causing a material increase in debt leverage, the PSI acquisition materially increased UHS's exposure to the more profitable and stable BH industry, helping to moderate the negative impact of UHS's strained acute care business. Overall cash flows have remained strong and growing as a result. Fitch forecasts FCF of approximately $400 million-$500 million in 2013 and 2014.
Fitch believes UHS's current mix of acute and behavioral care is beneficial to the company's credit profile and strategic outlook. UHS is the largest privately-owned facilities-based behavioral health operator in the U.S., controlling approximately 15%-20% of the otherwise very fragmented BH industry.
ACA IMPACT IS NET POSITIVE, BUT MAGNITUDE AND SUSTAINABILITY STILL UNCERTAIN
Fitch expects UHS and its peers to benefit from a somewhat gradual, one-time increase in acute care volumes and margins due to the Affordable Care Act's (ACA) coverage expansion implementation in 2014-2015. The primary effect as it pertains to UHS will be a decrease in uncompensated care beginning in 2014, thereby increasing net revenues on a relatively constant cost structure. Most of this benefit will be realized over the course of 2014-2015; but its magnitude is dependent on several still unresolved factors: namely, enrollment in the healthcare insurance exchanges, states' decisions with regard to Medicaid expansion, and the uptick in healthcare utilization by the newly insured.
About half of UHS's acute care beds are in states which will not be expanding their Medicaid programs in 2014, thereby moderating the near-term positive effects of the ACA. In those states, Fitch expects only a moderate uptick in covered lives due to the individual mandate. Fitch forecasts UHS's acute care profit margins to expand by approximately 170 basis points (bps) from 2013 to 2015. This forecast could prove conservative, especially if additional states (e.g. Florida) do choose to expand their Medicaid programs at a later date. Some of this margin gain could begin to erode in later years, however, due to mandated decreases in Medicare reimbursement, the ongoing push to moderate healthcare spending, and a general shift away from volume-based payments to value-based pricing arrangements.
LIQUIDITY AND DEBT MATURITIES
UHS has adequate liquidity, comprising $12.6 million of cash on hand, $769 million available on its $800 million secured revolver ($777 million due August 2016; $23 million due November 2015), and $15 million available on its $275 million accounts receivable facility (due October 2013) as of June 30, 2013. UHS has not historically carried large cash balances but has instead relied on its revolver and securitization facility for short-term financing.
Debt maturities are manageable for the next few years and are estimated as follows: $296 million for the remainder of 2013; $74 million in 2014; $106 million in 2015; $2.8 billion in 2016; and $270 million thereafter.
Fitch has affirmed UHS's ratings as follows:
-- IDR at 'BB';
-- Senior secured bank facility ratings at 'BB+';
-- Senior secured notes ratings at 'BB+'; and
-- Senior unsecured notes ratings at 'BB-'.
The Rating Outlook has been revised to Positive from Stable.
Additional information is available at 'www.fitchratings.com'.
Applicable Criteria and Related Research
-- 'Corporate Rating Methodology: Including Short-Term Ratings and Parent and Subsidiary Linkage' (August 2013);
-- 'Hospitals Credit Diagnosis: Weak Volume Trend Possible Evidence of Systemic Shift in Care Delivery' (April 2013);
-- 'The Affordable Care Act and Healthcare Providers: Assessing the Potential Impact' (May 2013);
-- 'High-Yield Healthcare Checkup' (January 2013);
-- '2013 Outlook: U.S. Healthcare' (November 2012).
Applicable Criteria and Related Research:
Corporate Rating Methodology: Including Short-Term Ratings and Parent and Subsidiary Linkage
Hospitals Credit Diagnosis (Implications of the ACA Slowly Taking Shape)
The Affordable Care Act and Healthcare Providers (Assessing the Potential Impact)
High-Yield Healthcare Checkup: Comprehensive Analysis of High-Yield U.S. Healthcare Companies
2013 Outlook: U.S. Healthcare -- Navigating a Dynamic Operating and Regulatory Environment