NEW YORK--(BUSINESS WIRE)--Fitch Ratings has affirmed the 'BB+' rating on the following revenue bonds issued by the Colorado Health Facilities Authority on behalf of National Jewish Health (NJH):
--$21,075,000 series 2012 fixed-rate bonds;
--$10,300,000 series 2005 variable-rate demand bonds (VRDBs).
The series 2005 VRDBs are secured by a letter of credit (LOC; UMB Bank, National Association).
The Rating Outlook is revised to Positive from Stable.
SECURITY
The bonds are secured by a pledge of gross revenues (excluding restricted charitable donations and grants) and a debt service reserve fund.
KEY RATING DRIVERS
RECOVERING PROFITABILITY: The Positive Outlook is driven by dramatically improved operating profitability in the fiscal year ended June 30, 2015 and through the six-month interim period ended Dec. 31, 2015. Total operating revenue increased over 11% aided primarily by nearly 15% growth in clinical revenues (including joint agreements) against total expense growth of 6%. As a result, operating margin improved to negative 0.9% in fiscal 2015 compared to negative 6% in 2014. Profitability continued to improve through the interim period, with a positive operating margin of 1.1% compared to negative 4.9% in the prior year period.
LEVERAGING HIGHLY SPECIALIZED SERVICES: NJH is a national leader in the treatment of pulmonary disease with a focus on research and teaching. NJH continues to execute its strategy in expanding clinical presence via agreements with various healthcare providers, leveraging its status as a national leader in the treatment of complex respiratory diseases and related illnesses. Key partnerships in the last three years include a joint operating agreement (JOA) with St. Joseph Hospital (SJH; part of the Sisters of Charity of Leavenworth Health System, revenue bonds rated 'AA-), joint venture (JV) with Icahn School of Medicine at Mount Sinai (affiliated with Mount Sinai Hospital, revenue bonds rated 'A'), Banner Health (revenue bonds rated 'AA-'), and Rocky Mountain Children's Hospital. Fitch views this strategy positively, believing it can further enhance NJH's national presence and reputation while providing additional revenue opportunities.
LOW UNRESTRICTED LIQUIDITY: Despite stronger operating cash flow, unrestricted cash and investments remained flat year-over-year, due to weak investment returns and temporarily elevated accounts receivables. While liquidity ratios are relatively weak, Fitch notes that NJH has a sizable endowment and temporarily restricted funds that supports various projects.
DEBT SERVICE COVERAGE RECOVERY: Coverage of maximum annual debt service (MADS) by EBITDA recovered to a sound 2.4x in 2015 and 2.9x in 2016 year to date, compared to 0.6x in 2014. MADS coverage as calculated under the Master Trust Indenture (MTI) also improved to 4.8x in 2015 compared to 2.1x in 2014.
RATING SENSITIVITIES
SUSTAINED IMPROVEMENTS NEEDED: Sustained improvements and realization of cash flows should lead to balance sheet recovery over 12 to 24 months. A return to investment grade is likely with further evidence of financial stability.
CREDIT PROFILE
NJH is a national referral medical institute engaged in patient care, medical research, and teaching, primarily in the areas of respiratory, cardiac, allergic, and immunologic medicine. NJH has historically provided most of its services on an outpatient basis, but the majority of NJH's inpatient services are provided at SJH's new hospital beginning December 2014. Total operating revenue for fiscal year ended June 30, 2015 was $228.2 million.
Joint Operating Agreement with St. Joseph Hospital
Effective August 2014, NJH formed a JOA with SJH, and began admitting patients at SJH's new hospital in December 2014, which is located just two miles from NJH's existing main campus. NJH management reports that the move-in to the new facility, as well as patient transfers, went very smoothly. Fitch believes the capital avoidance and access to a larger patient base should benefit NJH's clinical and research efforts.
Under the JOA, NJH receives a fixed percentage of NJH and SJH's combined Colorado operating income including both inpatient and outpatient activities (but excluding foundation activity). For the first 24 months, NJH receives a certain minimum level of operating income from the JOA. Significant revenue growth in fiscal 2015 in part reflects the benefits from the guarantee, but management reports comparable results would have been achieved without the guarantee, which Fitch views positively. While a significant portion of NJH's income is tied to the total JOA operations, which includes clinical services much beyond services NJH has historically provided, Fitch believes the near-term risks to the JOA are very manageable at the current rating level based on the combined market position and operating platform of NJH and SJH.
Over the medium to long term, Fitch believes that the JOA has the potential to yield material clinical and financial advantages. NJH should be able to capitalize on revenue growth opportunities in Colorado by having access to a larger network and being able to offer its patients a fuller continuum of care while maintaining the ability to pursue further expansion strategies across the country. Research should benefit as well through increased access to patients and clinical trials. Financial reporting remains similar to prior years, as assets and liabilities remain separate.
Other Strategic Partnerships
Over the last two years, NJH has been also executing several other partnerships with regional and national providers. The Mount Sinai-National Jewish Health Respiratory Institute (established under a JV with the Icahn School of Medicine at Mount Sinai) has seen over 11,000 patients, and generated strong than budgeted financial results. Research efforts with SOM have also been fruitful, benefiting from synergies between the research expertise of both entities.
NJH also signed an agreement to provide electronic intensive care (nightly ICU coverage) for Banner Health (a multi-state system) and an agreement to provide pediatric pulmonology, allergy, and immunology services at Rocky Mount Children's Hospital in Colorado. The increased affiliation activity reflects NJH's strategy to expand its national presence leveraging its highly specialized expertise in respiratory services. Fitch positively views NJH's strategy to maintain its presence in a consolidating market increasingly dominated by large systems, and expects the organization to continue pursuing various strategic partnerships.
Solid Fiscal 2015 Results
The Positive Outlook reflects dramatically improved profitability largely driven by solid growth in revenues. Net patient service revenues grew nearly $13 million (11%) in fiscal 2015 and revenues from affiliates (joint agreement income) added another $3.9 million to unrestricted revenues. Combined with a significantly lower 6% increase in operating expenses, profitability exhibited significant improvement year-over-year. Operating and operating EBITDA margin was negative 0.9% and positive 4.1% in 2015 compared to negative 6% and negative 0.4% in fiscal 2014.
Management is projecting to sustain improvements in fiscal 2016, supported by the enhanced clinical operations at the new facility as well as income generated from other partnerships. Continued positive momentum was evident in profitability metrics for the six-month interim period ended Dec. 31, 2015, with operating and operating EBITDA margins of 1.1% and 6.1%. Management also noted improved research revenues and fundraising successes, which contributed to overall improvement in profitability. Fitch believes that the various strategic partnerships will continue yielding financial benefits in the near term, which would be a key component in returning to an investment grade rating.
Solid Development Activity and Manageable Capital Needs
Philanthropy activity is a credit strength, with a record amount of $32 million raised in 2015 versus typical annual fundraising levels of over $20 million. NJH's largest campaign is underway, with the goal of raising an additional $150 million that includes $100 million to fund a center for outpatient health, $20 million for an institute for lung health (research space), and $30 million for targeted faculty recruitments. Capital projects will be evaluated once sufficient amount of funds are raised.
Outside of the larger projects contingent upon fundraising success, capital plans are manageable and have been helped by NJH admitting to the SJH facility under the JOA. The annual capital budget is estimated around $3 million to $4 million going forward, significantly below depreciation around $10 million. NJH's expansion projects outside of Colorado typically require little to no capital investments. The lower capital spending should help NJH preserve cash.
Low Unrestricted Liquidity
Unrestricted cash and liquidity remained flat year-over-year despite stronger cash flows, due to a weak investment market and heightened accounts receivables (both net patient and net fundraising receivables) affected by an unexpected coder loss and increase in pledges collectible. Unrestricted cash and investments totaling $40.4 million at Dec. 31, 2015 equates to 71 days cash on hand, 7.2x cushion ratio, and 77.5% cash to debt, which is mostly unchanged from Fitch's last review and adequate for the 'BB+' rating. The realization of cash flows leading to balance sheet recovery would likely lead to an upgrade.
DEBT PROFILE
Total outstanding debt as of Dec. 31, 2015 was $52.1 million, which included $31.5 million in series 2012 and 2015 bonds, $2 million capital lease, and $9 million drawn on an operating line of credit. Fitch treats the line of credit as long-term debt based on NJH's intentions to leave it outstanding for the foreseeable future. The bonds and capital leases are 78% fixed rate and 22% floating rate. The $10.3 million series 2005 variable-rate demand bonds are supported by an LOC from UMB bank that renews automatically (current expiration date is March 1, 2017).
Per Fitch's calculations (based on unrestricted activity only), coverage of MADS by EBITDA recovered to a solid 2.4x in 2015 and 2.9x in the 2016 interim period, compared to a very low 0.6x in fiscal 2014. Fitch uses a MADS figure of $5.6 million, which occurs in 2017, and MADS drops to below $4 million in 2020. Payment on the $6.3 million bullet maturity previously due in 2017 has been extended, and a $3 million bullet maturity is due instead in 2019. The bullet payment relates to the 2011 Grove School Property Note, which Fitch excludes from MADS due to management's stated goals to pay off the note with fundraising and NJH's history of success with philanthropy.
Debt service coverage under the MTI allows for inclusion of certain restricted philanthropic funds (Fitch's calculation only includes unrestricted) in revenues available and only use debt service on bonded debt. As a result, MTI based coverage, while volatile, has been satisfactory even in the weaker years, and was most recently 4.8x in 2015 and 2.1x in 2014.
DISCLOSURE
NJH covenants to disclose audited financial statements within 150 days of the end of the fiscal year. Quarterly unaudited financial information is disclosed within 45 days of the close of the first three quarters of the fiscal year and within 90 days of the close of the fourth quarter. Financial statements are posted to the Municipal Securities Rulemaking Board's EMMA system.
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
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