Fitch Rates Deaconess Health System Series 2013A Bonds 'A+'; Outlook Stable
Fitch Ratings assigns a long-term rating of 'A+' to approximately $64.160 million of series 2013A revenue bonds expected to be issued by the Indiana Finance Authority (IFA) on behalf of Deaconess Health System Obligated Group (Deaconess).
In addition, Fitch affirms its 'A+' rating on the following outstanding debt issued through the IFA and the Indiana Health Facility Financing Authority:
--$19,305,000 fixed rate revenue bonds series 2011A;
--$57,340,000 fixed rate revenue bonds series 2009A;
--$40,000,000 variable rate demand bonds, series 2009B;
--$54,765,000 fixed rate revenue bonds series 2004A.
Total outstanding debt of $222.3 million includes $22.3 million in series 2004B bonds supported by a Letter of Credit (LOC) from JPMorgan Chase Bank, N.A. and $28.6 million in series 2012A-C bank loans with Fifth Third Bank, which Fitch does not rate. The 2009B bonds are supported by an LOC from Bank of America Merrill Lynch, which Fitch was not asked to rate. The series 2004A bonds are insured by Ambac Assurance Corp, whose Insurer Financial Strength is not rated by Fitch.
The series 2013A bonds are expected to be fixed rate and proceeds will be used to refund the series 2004A bonds and a portion of the series 2009A bonds. The bonds are expected to price the week of Feb. 11, 2013 via negotiation.
In conjunction with the issuance of the series 2013A bonds, Deaconess expects to issue $21.5 million in series 2013B bonds, which will be issued as a bank loan with Fifth Third Bank. Proceeds will be used to refund the series 2004B bonds. Fitch was not asked to rate the bonds.
Debt payments are secured by a pledge of the gross revenues of the obligated group.
STRONG PROFITABILITY: Supported by robust revenue growth and expense management, profitability continues to exceed Fitch's 'A' category medians. Through the fiscal year ended Sept. 30, 2012, operating margin was 6% compared to Fitch's median of 2.8%.
SOLID MARKET POSITION: Market share in the primary service area (PSA) remains very strong at 60.6% as the system continues to leverage its physician network, strategically expand service lines, upgrade facilities, and coordinate care with other regional community hospitals and physicians.
IMPROVING LIQUIDITY: Unrestricted cash and investments have nearly doubled since 2008, totalling $334.3 million at the interim period ended Dec. 31, 2012. Liquidity metrics of 201.1 days cash on hand, 17.3x cushion ratio, and 147.6% cash to debt all compare favorably to respective medians.
MODEST DEBT BURDEN: Debt metrics are currently in line with rating category medians, and are expected to improve in the next few years as ongoing capital needs are funded through equity and projected maximum annual debt service declines. Upon completion of the 2013 financing, Deaconess will have restructured all but one series of its variable rate demand bonds with bank loans, reducing put and interest rate risk.
The 'A+' rating reflects Deaconess' demonstrated ability to post strong operating results, its improved balance sheet, and modest capital plans, supported by the system's leading market position, integrated delivery network, and strategic facility expansions and upgrades in recent years.
Operating margin rebounded to 4.9% and 6% in fiscal 2011 and 2012 respectively, following two years of operating margin of 3.7%, which is strong relative to the rating category median of 2.8% but softer than Deaconess' historical results. Similarly, operating EBITDA margins solidly exceed the rating category median of 9.8% at 12.3% in 2011 and 13.2% in 2012. In fiscal 2012, revenues were bolstered by the Indiana Hospital Assessment Fee (HAF) program, providing Deaconess a net benefit of $8.3 million. Excluding the gain from HAF, operating margin remains robust at 4.7%. Profitability continued to strengthen through the three-month interim period ended Dec. 31, 2012, producing an operating margin of 7.6% compared to the prior year period's 5.2%. Improvement in operating performance reflects management's focus on expense management and revenue cycle initiatives, as well as growth in acute care services through its integrated physician platform and expanded ambulatory care network. Management's target for operating margin in the coming years is 4.7% excluding supplemental funds, which Fitch believes is attainable.
Deaconess continues to prepare for healthcare reform and embraces accountable care implementing various strategies to enhance physician alignment, control quality, and increase community value. Deaconess grew its employed physician base from 174 in 2011 to 189 in 2012. Through Deaconess Clinic, the system currently operates two sites for patient-centered medical homes, featuring special care centers for those with chronically ill conditions. Given the success of the initial sites, Deaconess intends to complete the development of four more centers in fiscal 2013 as a way to improve patient health status while lowering the cost of care, and position itself to undertake risk contracts in the future.
The PSA consisting of Vanderburgh, Posey, and Warrick counties is characterized by stable population, several large corporate employers, and unemployment rate below state and national averages. Deaconess maintained its position as the leading provider in the region with 60.6% market share in 2011, which has relatively consistent in the last three years. Its main competitor in the market is St. Mary's Medical Center (owned by Ascension Health, revenue bonds rated 'AA+' by Fitch) with a market share of 33.7%.
Liquidity metrics continue to grow, with unrestricted cash and investments up from $168.1 million in fiscal 2008 to $334.3 million at Dec. 31, 2012 due to strong cash flow generation, manageable capital expenditures, improvement in collection of receivables, and favorable investment returns. Deaconess' liquidity, which has historically been light for the rating category, was in line with the 'A' category medians at fiscal year end 2012 and at Dec. 31, 2012. Days cash on hand of 201.1, cushion ratio of 17.3x, and cash to debt of 147.6% are all above respective medians of 191.0, 16.3x, and 116.4%. Fitch expects liquidity to strengthen over the near term given strong cash flow generation and modest capital plans.
Deaconess' debt burden is manageable with debt to capitalization of 33.7% and MADS as a percentage of revenue of 2.9% in 2012 relative to Fitch's 'A' category median of 40.7% and 2.8%. Maximum annual debt service (MADS) coverage is strong at 5.0x MADS coverage by EBITDA compared to the respective median of 4.1x. Pro forma MADS of $19.3 million occurring in 2013 declines to $15.4 million in 2015, and should further improve coverage metrics. Deaconess does not have any major capital plans in the near term, and anticipates funding its routine capital needs through equity.
In late 2012, Deaconess refunded its series 1992, 1993, and 1999B variable rate demand bonds totaling $30.3 million using fixed rate bank loans with terms extending to the final maturity of the bonds. The upcoming series 2013A issuance will provide funds to refund the series 2004A and a portion of series 2009A fixed rate bonds for debt service savings. In conjunction with this issuance, Deaconess will also refund the series 2004B variable rate demand bonds with a synthetically fixed bank loan. Upon completion of the 2013 financing, Deaconess would have restructured all but one series of its variable rate demand bonds, resulting in a more conservative debt portfolio. The amount of underlying floating rate debt will decrease from 41% to 28%. Deaconess does not have any swaps outstanding.
The Stable Outlook reflects Deaconess' strong operating performance and position in the market. Moreover, solid cash flow generation should continue to strengthen the system's balance sheet.
Headquartered in Evansville, IN, Deaconess is an acute care provider serving a 25-county, tri-state area. Deaconess operates a total of 701 operational beds over its five campuses, which includes Main, Gateway, Cross Pointe, Women's and Health South. Fitch analyzed the financial performance of Deaconess Health System. The obligated group comprised 83.2% of total patient revenue and 97% of total assets of the system. In fiscal 2012, Deaconess had $676.6 million in total operating revenue. Deaconess' disclosure, including quarterly and annual financial statements with operating statistics, is posted to EMMA on a regular and timely basis.
Additional information is available at 'www.fitchratings.com'. The ratings above were solicited by, or on behalf of, the issuer, and therefore, Fitch has been compensated for the provision of the ratings.
Applicable Criteria and Related Research:
--'Revenue-Supported Rating Criteria', June 12, 2012;
--'Nonprofit Hospitals and Health System Rating Criteria', July 23, 2012.
In addition to the sources of information identified in Fitch's Rating Criteria, this action was additionally informed by information from Bank of America Merrill Lynch.
Applicable Criteria and Related Research:
Revenue-Supported Rating Criteria
Nonprofit Hospitals and Health Systems Rating Criteria
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