Fitch Rates City of Hope, CA's Series 2012 A-C Revenue Bonds; Outlook Stable
Fitch Ratings has assigned ratings to the following California Health Facilities Financing Authority bonds to be issued on behalf of the City of Hope, California:
--$278,290,000 revenue bonds, series 2012A 'AA-';
--$32,500,000 variable rate revenue bonds, series 2012B 'AA-/F1+';
--$32,500,000 variable rate revenue bonds, series 2012C 'AA-/F1+'.
In addition, Fitch has affirmed its 'AA-' ratings on the following revenue bonds issued on behalf of City of Hope by the City of Duarte, CA:
--$150,355,000 million certificates of participation (COPs), series 1999A.
The Rating Outlook is Stable.
The 2012 bond proceeds will be used to refund $242 million in City of Hope's outstanding long-term debt, including the aforementioned 1999A COPs and other long-term debt not rated by Fitch. Additional proceeds will fund various capital projects, reimburse the organization for prior capital expenditure, and pay costs of issuance. The series 2012A bonds are expected to be priced in the week of Oct. 29, with the series 2012B&C bonds pricing the following week, all through negotiated sale.
Gross receivables of the obligated group, excluding royalty receivables. A newly-formed obligated group comprised of City of Hope National Medical Center, The Beckman Research Institute, and City of Hope Medical Foundation.
KEY RATING DRIVERS
STRONG FINANCIAL PROFILE: City of Hope's financial profile compares favorably to Fitch's portfolio of 'AA-' rated credits. Fitch believes City of Hope's exceptionally strong balance sheet, robust profitability, and low debt burden compensate for its narrow service line offerings and the risk associated with a historically high dependence on royalty income in support of operations.
NEW STRATEGIC PLAN: The organization is embarking on a new 10-year strategic plan that seeks to sustain City of Hope's current financial performance over the next decade. Key plan components include expansion of community and ambulatory capabilities, enhancement of clinical service lines, and cost reduction of clinical and research activities. Fitch views the new strategic plan favorably as it appears to ready the organization for continued financial success in a post healthcare reform era and especially in advance of the 2018 expiration of sizable royalty revenue stream related to its Cabilly patents, which will cease in 2019.
SIZABLE CAPITAL PLAN: City of Hope's 10-year capital plan is sizable and totals $921.4 million. The majority of capital spending addresses community and ambulatory expansion initiatives ($421.4 million) and investments in information technology systems ($319 million). Financing sources are expected to include cash and investments, new debt and operating cash flow. Fitch expects City of Hope to successfully execute its strategic plan and maintain strong cash flow generation in support of its sizable capital needs.
SUFFICIENT LIQUIDITY TO SUPPORT SHORT-TERM RATING: City of Hope has sufficient liquidity in the form of highly liquid unrestricted cash and investments to support the short-term rating of 'F1+'. As of Aug. 31, 2012, City of Hope's ratio of eligible cash and investments to variable-rate obligations exceeded Fitch's criteria threshold of 1.25x. City of Hope has liquidation procedures in place detailing the process by which internal funds would be liquidated to meet the tender obligations.
About The Organization
City of Hope is a prominent and nationally recognized biomedical research, treatment, and teaching institution dedicated to the comprehensive treatment of cancer. The organization comprises the Medical Center, the City of Hope Medical Foundation, and the Beckman Research Institute. The City of Hope Medical Center owns and operates a 217-licensed bed acute care tertiary referral facility while the Medical Foundation provides an extensive range of medical care and treatment through outpatient clinic facilities. The Beckman Research Institute owns and operates a number of major research facilities on City of Hope's main campus and conducts basic scientific research in support of and in conjunction with the patient care activities of the Medical Center and the Medical Foundation. The City of Hope had $975.1 million in total revenues for fiscal 2011 (excluding investment income and unrealized losses on investments).
Strong Financial Profile
City of Hope's financial profile boasts an exceptionally strong balance sheet as demonstrated by liquidity metrics that exceed Fitch's 'AA' category. Balance sheet growth to date reflects City of Hope's strong cash flow generation as well as a total of $305 million in royalty judgment income received in 2008 and 2009 related to City of Hope's Riggs/Itakura patents. As of June 30, 2012, City of Hope had $928.9 million in unrestricted cash and investments, equating to 366.2 days cash on hand, 43.0x cushion ratio, and 374.6% cash to debt, compared to Fitch's respective 'AA' category medians of 241.1 days, 24.1x, and 169.4%.
Profitability remains robust as City of Hope reported an operating income of $75.6 million for fiscal 2011, or an operating margin of 7.7%, which exceeds Fitch's 'AA' category median of 4%. Fitch notes that profitability was buttressed by receipt of $34.7 million in net California provider fee benefit. However, absent such net benefit, City of Hope would still have posted a very good operating margin of 4.4%. City of Hope's strong profitability reflects its highly specialized, high acuity service lines, and its strong generation of annual contributions and research grants. Further, profitability is bolstered by COH's receipt of sizeable royalty income, which amounted to $200.4 million in fiscal 2011. Profitability through the nine-month interim period (ended June 30, 2012) was equally strong as City of Hope reported an operating margin of 9.8%.
Good Market Share
The market for the highly specialized cancer care in City of Hope's large primary service area remains fragmented and highly competitive. City of Hope faces strong competition for inpatient services from Cedars-Sinai Medical Center (rated 'A+' by Fitch), Ronald Reagan UCLA Medical Center, Keck Medical Center at USC and Hoag Memorial Medical Center. Yet, City of Hope maintains a second leading inpatient market share position of 3.9% in 2011, compared to 4.6% for Cedars-Sinai Medical Center. Further, City of Hope has a leading market share in Hematology, Prostate, and Breast cancer inpatient service lines.
New Strategic Plan
City of Hope's new 10-year strategic plan is designed to ensure financial success as the organization addresses operational and financial challenges related to healthcare reform and an expiring royalty revenue stream. The plan will focus on leveraging City of Hope's excellent reputation in key service lines to expand both inpatient and outpatient operations; investing in translational research capabilities; and prioritizing philanthropy. The plan also incorporates the termination in 2019 of royalty revenue associated the expiration of its Cabilly patents in 2018.
On the clinical side, City of Hope will expand its signature programs in hematology and bone marrow transplants, selectively invest in solid tumor programs, and expand community sites in existing and new strategic markets. Research strategies will focus on growing signature research programs in diabetes and stem cell research, reinforcing translational research infrastructures, and cultivating funding and philanthropic support of cancer research.
The strategic plan also incorporates revenue enhancement and cost reduction initiatives deemed necessary to maintain financial success. Coupled with seeking to add up to four additional outpatient sites, management is focused on increasing inpatient capacity by reducing length of stay. Additionally, efforts are in place to reduce expenses by 5% and 4% in 2014 and 2015, respectively, and 1% each year thereafter. Finally, management is targeting expansion in demographically-favorable areas so as to improve payor mix.
On June 1, 2011, a new nonprofit City of Hope Medical Foundation (Foundation) was formed as a sister organization to City of Hope's National Medical Center and Beckman Research Institute. The Foundation contracts with the City of Hope Medical Group, the new medical group comprising physicians, psychologists, fellows and physician assistants from the California Cancer Specialists Medical Group (CCSMG) and Oncology Specialists of COH (OSCOH) - two of the physician groups providing patient care at City of Hope whose assets were purchased by COH on May 31, 2011. Fitch believes the formalization of this physician alignment strategy bodes well for City of Hope's operations and for the execution of its new strategic plan as it should result in further stability and enhanced efficiency going forward, especially in light of healthcare reform.
City of Hope's sizable 10-year capital plan totals $921.4 million. The majority of capital spending addresses community and ambulatory expansion initiatives ($421.4 million) and investments in information technology systems ($319 million). Financing sources include cash and investments, new debt and operating cash flow. Fitch expects City of Hope to successfully execute its strategic plan and maintain strong cash flow generation in support of its sizable capital needs.
The capital plan is driven primarily by City of Hope's inpatient and outpatient capacity constraints. The capital plan also supports the organization's new strategic plan as management contemplates construction of two new facilities on its main campus as well as an ambulatory growth and expansion in existing and new strategic markets.
Low Debt Burden
As of June 30, 2012, COH had $248 million in long-term debt outstanding. Fitch rates only the series 1999 COPs, with remaining debt consisting of several bank notes and private placement bank bonds. Post issuance of the series 2012 bonds, COH will have $343.1 million in long term debt outstanding, of which $278.3 million, or 81%, will be in fixed rate mode. The remaining bonds will be in weekly variable rate demand mode, backed by City of Hope's self-liquidity.
Post issuance of the series 2012 bonds, debt burden remains low as historical pro forma maximum annual debt service coverage by fiscal 2011 EBITDA is a strong 8.4 times(x), compared to Fitch's 'AA' category median of 4.8x . COH's strong revenue generation led to solid maximum annual debt service (MADS) coverage of 8.7x by FY 2010 EBITDA (9.9x through the interim). Further, MADS accounted for a low 2% of FY 2011 operating revenue (2% interim).
City of Hope has four fixed payor swaps with an outstanding notional value of $74.2 million and an October 18, 2012 mark-to-market liability of $12.5 million. City of Hope intends to unwind its existing swaps and will enter into two new swaps associated with its series 2012 B&C bonds. Of the $12.5 million termination payments, approximately $10.8 million is being written into the rate on the two new swaps, with the remainder to be paid in cash by City of Hope upon extinguishment of the debt.
Short-Term Rating Based on Self Liquidity
The assignment of the 'F1+' short-term rating is supported by the adequacy of City of Hope's highly liquid resources available to fund any un-remarketed puts on $65 million in weekly VRDBs. Based on Fitch's rating criteria on self-liquidity, CHI's position of eligible cash and investments available for same-day settlement exceeds Fitch's 1.25x requirement to cover the maximum tender exposure on any given date. City of Hope has liquidation procedures in place detailing the process by which internal funds would be liquidated to meet the tender obligations.
The Stable rating Outlook reflects Fitch's expectation that City of Hope will maintain current profitability and liquidity trends over the medium term as it executes on its long term strategic plan.
City of Hope covenants to provide bondholders an annual audit within 150 days of fiscal year-end and quarterly disclosure within 75 days of quarter end via the MSRB's EMMA system.
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:
--'Nonprofit Hospitals and Health Systems Rating Criteria', July 23, 2012;
--'Revenue-Supported Rating Criteria', June 12, 2012;
--'Criteria for Assigning Short-Term Ratings Based on Internal Liquidity', June 12, 2012.
For information on Build America Bonds, visit www.fitchratings.com/BABs.
Applicable Criteria and Related Research:
Nonprofit Hospitals and Health Systems Rating Criteria
Revenue-Supported Rating Criteria
Criteria for Assigning Short-Term Ratings Based on Internal Liquidity
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