CHICAGO--(BUSINESS WIRE)--Fitch Ratings has assigned 'AA ' ratings to the following bonds expected to be issued on behalf of Franciscan Alliance:
--$180,695,000 Indiana Finance Authority revenue bonds, series 2016A;
--$87,715,000 Indiana Finance Authority revenue bonds, series 2016B.
The series 2016A/B bonds will be issued as tax-exempt fixed-rate bonds. Bond proceeds will be used to (1) fund and reimburse various capital projects, (2) refund the outstanding series 2006E bonds and (3) pay costs of issuance. Pro forma MADS is expected to increase to approximately $72.5 million from $64.3 million. The series 2016 bonds are expected to price the week of Jan. 18 through negotiation.
Additionally, Fitch affirms the 'AA' ratings on approximately $937.8 million of bonds issued on behalf of Franciscan Alliance (fka Sisters of St. Francis Health Services) by the Indiana Finance Authority and the Indiana Health and Educational Facility Financing Authority.
The Rating Outlook is Stable.
SECURITY
Bond payments are secured by a pledge of the unrestricted receivables of the obligated group.
KEY RATING DRIVERS
STRONG PROFITABILITY: Operating margin rebounded strongly in fiscal 2014 to 7.9% from 1.4% in fiscal 2013 and remained strong in the 10-month interim period ending Oct. 31, 2015 (the interim period) at 5.9%. Prior to the compression in fiscal 2013, profitability had been historically solid with operating margin averaging 4.8% between fiscal 2009 and 2012.
MODERATE DEBT BURDEN: Despite the additional debt, Franciscan Alliance's pro forma debt burden remains moderate with pro forma MADS equal to 2.7% of fiscal 2014 operating revenue. The moderate pro forma debt burden combined with strong operating profitability produced robust pro forma MADS coverage by EBITDA of 6.5x in fiscal 2014 and 6.1x in the interim period.
SOLID LIQUIDITY: Liquidity metrics are solid with 349.5 days cash on hand, 31.5x cushion ratio and 176% cash to pro forma debt as of Oct. 31, 2015, and are consistent with Fitch's 'AA' category medians of 289.4 days, 27.0x and 201.7%. Liquidity metrics are expected to remain in line with Fitch's 'AA' category medians despite higher capital spending expected over the next two years.
STRONG MARKET POSITIONS: Franciscan Alliance maintains leading market shares in seven of its eight defined primary service areas (PSAs). However, each service area remains competitive.
RATING SENSITIVITIES
MAINTAINED CREDIT PROFILE: Fitch expects that Franciscan Alliance will maintain its strong credit profile, including liquidity, profitability and coverage metrics that are consistent with the 'AA' category while capital spending increases over the next two years.
CREDIT PROFILE
Franciscan Alliance, headquartered in Mishawaka, IN, operates 14 hospitals in four distinct regional markets along the I-65 corridor between Chicago and Indianapolis. The system acquired a critical access hospital in August 2015, Franciscan Health Rensselaer. Fitch's analysis is based upon the system's consolidated financial statements. The obligated group and obligated affiliates comprise over 90% of consolidated total assets and consolidated operating revenues. Total consolidated operating revenues equaled $2.7 billion in fiscal 2014.
STRONG PROFITABILITY
After compression in fiscal 2013, operating profitability rebounded in fiscal 2014 with operating and operating EBITDA margins increasing to a robust 7.9% and 14.9%, respectively, from 1.4% and 8.2% in fiscal 2013. The strong operating profitability continued in the interim period with operating and operating EBITDA margins equal to 5.9% and 12.8%. Interim period profitability was bolstered by Indiana's expansion of Medicaid in February 2015. However, the full benefit was mitigated by increased losses at Advantage Health, a provider owned health plan in which Franciscan Alliance owns a 34.5% interest and increased pension expense due to a continued decline in the discount rate.
The increased Advantage Health losses were primarily related to its Medicare Advantage product. The organization expects to discontinue its Medicare Advantage business in January 2016 and is considering selling its non-Medicare Advantage businesses. Excluding Franciscan Alliance's portion of the Advantage Health loss, the system's operating margin would have equaled approximately 7.2% in the interim period.
Prior to fiscal 2013, operating profitability had been consistently strong with operating and operating EBITDA margins averaging 4.8% and 11.7% between fiscal years 2009 and 2012. The improvement in fiscal 2014 was primarily due to a performance improvement plan initiated in fiscal 2013 including labor productivity, revenue cycle, supply chain, clinical documentation and physician practice improvement initiatives which more than offset declining volume trends.
Fiscal 2014 profitability was bolstered by the resumption of Indiana's hospital assessment fee (HAF) program in fiscal 2014. The HAF program was first enacted in 2012 through July 1, 2013 and was renewed in 2014 retroactive back to July 2013. Franciscan Alliance received $37.2 million of HAF revenue in fiscal 2014, including $11.7 million related to fiscal 2013. Excluding the revenue related to fiscal 2013, operating profitability remained solid in fiscal 2014 with operating and operating EBITDA margins of 7.4% and 14.4%. Including the HAF revenue received in fiscal 2014 attributable to fiscal 2013 increases operating and operating EBITDA margins to 1.8% and 8.6% in fiscal 2013.
MODERATE DEBT BURDEN
Despite the issuance of approximately $200 million of new debt, Franciscan Alliance's pro forma debt burden remains relatively moderate with pro forma MADS equal to 2.7% of operating revenue in fiscal 2014 relative to Fitch's 'AA' category median of 2.4%. The moderate pro forma debt burden and strong cash flow generation produced solid debt service coverage with pro forma MADS coverage by EBITDA and operating EBITDA equal to 6.5x and 5.6x, respectively, in fiscal 2014 and 6.1x and 4.8x in the interim period. Both metrics exceed Fitch's 'AA' category medians of 5.7x and 4.4x.
SOLID LIQUIDITY
Liquidity metrics are solid relative to both operating expenses and debt burden. Unrestricted cash and investments increased 19% since fiscal 2013 to $2.3 billion at Oct. 31, 2015. The increase was due to a combination of solid cash flows, investment returns and moderate capital spending. Liquidity metrics are solid with 349.5 days cash on hand, 31.5x cushion ratio and 176% cash to pro forma debt at Oct. 31, 2015. Liquidity will be bolstered in the short term by reimbursement proceeds from the series 2016 bonds, but increased projected capital spending over the next two years is likely to mute the benefit.
Capital spending increased in fiscal 2015 and is expected to remain at elevated levels relative to historical spending through 2017. Historical capital spending averaged $156 million per year between fiscal years 2012 and 2014 and increased to approximately $290 million in fiscal 2015. Total capital expenditures are projected to average $394 million in fiscal years 2016 and 2017 before decreasing to $186 million in 2018.
Significant capital projects include a replacement hospital in Michigan City, consolidation of inpatient services in the South Suburban Chicago Market (SSCM, pending CON approval), a new emergency center in Munster, and an updated master facility plan in Lafayette to address capacity constraints. The projects are expected to be financed through cash flows and a portion of the series 2016A bond proceeds without materially impacting liquidity metrics. Fitch views the capital projects favorably as they should enhance operating efficiencies and generate additional revenues.
STRONG MARKET POSITIONS
Operations are broken out into four geographic markets in which Franciscan Alliance's facilities operate in eight PSAs. The four geographic markets include Central Indiana (CIM), Northern Indiana (NIM), Western Indiana (WIM) and SSCM. Franciscan Alliance holds leading market shares in seven of its eight PSAs and the second leading market share in its Lafayette PSA. However, each of the service areas remains competitive.
SSCM has historically been dilutive to consolidated performance, but management initiated a turnaround program that materially increased SSCM's profitability in fiscal 2014. Two of the operating regions, CIM and NIM, accounted for 71.3% of net patient revenue and 73.5% of operating EBITDA in fiscal 2014.
DEBT PROFILE
Subsequent to the series 2016A/B bond issuance, Franciscan Alliance will have approximately $1.3 billion of total debt outstanding. The pro forma debt portfolio will be comprised of 59% underlying fixed rate bonds and 41% underlying variable rate bonds. The system is counterparty to four fixed payor swaps with a total notional amount of $394 million, effectively converting 31% of the pro form bond portfolio to synthetic fixed rate. Franciscan Alliance had $33.8 million of collateral posted at Oct. 31, 2015 related to the swaps.
DISCLOSURE
Franciscan Alliance covenants to provide annual disclosure within 150 days of fiscal year-end and quarterly disclosure within 60 days of fiscal quarter end. Disclosure is posted to the Municipal Securities Rulemaking Board's EMMA website.
Additional information is available at 'www.fitchratings.com'.
Applicable Criteria
Revenue-Supported Rating Criteria (pub. 16 Jun 2014)
https://www.fitchratings.com/creditdesk/reports/report_frame.cfm?rpt_id=750012
U.S. Nonprofit Hospitals and Health Systems Rating Criteria (pub. 09 Jun 2015)
https://www.fitchratings.com/creditdesk/reports/report_frame.cfm?rpt_id=866807
Additional Disclosures
Dodd-Frank Rating Information Disclosure Form
https://www.fitchratings.com/creditdesk/press_releases/content/ridf_frame.cfm?pr_id=997647
Solicitation Status
https://www.fitchratings.com/gws/en/disclosure/solicitation?pr_id=997647
Endorsement Policy
https://www.fitchratings.com/jsp/creditdesk/PolicyRegulation.faces?context=2&detail=31
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