SAN FRANCISCO--(BUSINESS WIRE)--Fitch Ratings has affirmed the 'A' rating on Salem Health's (Salem) outstanding debt, which is listed at the end of the press release.
The Rating Outlook is Stable.
SECURITY
The bonds are secured by a gross revenue pledge of the obligated group (OG). Salem Hospital is the only member of the OG and accounted for 98% of total assets and 97% of total revenue of the consolidated entity (Salem Health) in fiscal 2013 (Sept. 30 fiscal year end). Fitch's analysis is based on the consolidated entity.
KEY RATING DRIVERS
REBOUND IN PROFITABILITY: After weaker profitability in fiscal 2012, Salem's operating performance improved to a 4.1% operating margin in fiscal 2013 from 1.1% in fiscal 2012 and 3.8% in fiscal 2011 due mainly to a rebound in volume and the implementation of a performance improvement plan in March 2012. Salem's performance significantly exceeded budgeted expectations.
LEADING MARKET SHARE: Salem's main credit strength is its leading and dominant 77% inpatient market share position in the primary service area, which has been relatively stable since fiscal 2010. Salem is evaluating affiliation options to best position the organization for a value-based reimbursement environment.
GOOD LIQUIDITY: Liquidity metrics are good for the rating level; Salem had 286.9 days cash on hand (DCOH) and 129.4% cash-to-debt at Sept. 30, 2013, compared to Fitch's 'A' category median of 196.3 days and 129.2% cash-to-debt. Balance sheet growth has been driven partially by lower capital spending over the last four years.
ADDITIONAL DEBT INCURRED: Salem issued $20 million of additional debt in fiscal 2013 in conjunction with a refinancing of its series 2008C letter of credit (LOC) backed variable-rate demand bonds (VRDBs) with a direct bank loan. This had only a nominal impact on debt levels because of the improved performance in fiscal 2013. However, Salem has a moderately high debt burden.
MANAGEABLE FUTURE CAPITAL SPENDING PLANS: After significant capital spending pre-2010, capital spending has been less than 1x depreciation expense in fiscal 2010-2013. The projected capital plan for fiscal 2014-2018 has spending increasing to an annual average of 1.2x depreciation expense and includes $20 million for various expansion and renovation projects at the hospital.
RATING SENSITIVITIES
STABILITY AT CURRENT RATING LEVEL: The improved performance in fiscal 2013 provides financial cushion at the current rating level and Fitch expects Salem to continue to produce financial results in line with the 'A' category median ratios.
CREDIT PROFILE
Salem Health includes Salem Hospital, a 390-staffed bed hospital located in Salem, OR, approximately 45 miles south of Portland, as well as other healthcare related entities. Salem Health had $573 million in operating revenue for fiscal 2013.
Improved Profitability
Salem's operating performance has fluctuated over the past few years mainly due to shifts in volume. Fiscal 2012 saw the largest decline with an 11% reduction in inpatient discharges and 4% drop in operating room cases. Salem implemented a financial improvement plan beginning in March 2012 to combat revenue challenges that has yielded annualized savings of $15.3 million. The main areas of focus were labor and non-labor cost savings, supply chain and revenue cycle management, and enhanced productivity.
In addition to cost reduction initiatives, inpatient discharges were up 5% in fiscal 2013 compared to the prior year and operating room cases were up 1%, which drove the improved profitability. In fiscal 2013, operating income was $23.5 million (4.1% operating margin; 12.9% operating EBITDA margin) compared to $6.1 million (1.1% operating margin; 10.9% operating EBITDA margin) in fiscal 2012. The fiscal 2014 budget (for Salem Hospital only) has an operating margin of 3.5% and operating EBITDA margin of 12%.
Good Liquidity
Salem's liquidity metrics are good for the rating level and unrestricted cash and investments have steadily increased year over year since fiscal 2010. Unrestricted cash and investments totaled $402.4 million at Sept. 30, 2013, which equated to 286.9 days cash on hand and 129.4% cash-to-debt. Modest capital spending should further facilitate liquidity growth. Management has projected conservatively for ICD-10 and with a doubling of accounts receivable, days cash on hand would remain above 200.
Manageable Capital Plans
Capital spending has been minimal over the last four years as a new hospital tower was brought online in 2009. Capital spending is projected to increase slightly from these low levels to $63 million in fiscal 2014, $55 million in fiscal 2015, $55 million in fiscal 2016, $43 million in fiscal 2017, and $49 million in fiscal 2018 or an annual average of 1.2x depreciation expense. Fitch believes the capital plan is manageable and flexible. Management indicated that the amount of capital spending will be subject to meeting financial performance targets (at least 12% operating EBITDA margin and over 200 days cash on hand).
Moderately High Debt Burden
Salem's debt burden is moderately high as maximum annual debt service (MADS) accounts for 3.9% of operating revenue compared to Fitch's 'A' category median of 2.8%. However, MADS coverage has greatly improved due to better profitability in fiscal 2013 with 3.8x coverage compared to 2.8x in fiscal 2012 and Fitch's A category median of 3.8x. MADS is $22.2 million.
As of Sept. 30, 2013, Salem had $311 million of total debt, with a debt mix of 76% underlying fixed rate and 24% underlying VRDBs. Salem's VRDB exposure has been reduced to $75 million (series 2008C) and is supported by a letter of credit (LOC) from US Bank that expires April 2016. There is an 18-month term-out period under the reimbursement agreement if there is a draw on the LOC.
Salem issued two direct bank loans in June 2013 that totaled $70 million ($35 million series 2013A with JP Morgan and $35 million series 2013B with US Bank) to refinance the $50 million series 2008C VRDBs and provide $20 million of new money. The direct bank loans are fixed rate and have an initial term to June 2020.
Including the impact of Salem's fixed payor swap, Salem has 100% fixed-rate debt. The swap is with UBS and the collateral posting threshold is $20 million. The mark-to-market valuation was negative $11.8 million as of Sept. 30, 2013.
Disclosure
Salem Health only covenants to provide annual audited financial statements to the Municipal Securities Rule Making Board's EMMA system, which is viewed negatively; however, quarterly disclosure has been provided voluntarily.
Fitch affirms the following outstanding debt:
$75,000,000 Salem Hospital Facility Authority (OR) (Salem Hospital Project) variable rate revenue bonds series 2008B (LOC: U.S. Bank National Association)
$47,323,613 Salem Hospital Facility Authority (OR) (Salem Hospital Project) revenue bonds series 2008A
$117,555,926 Salem Hospital Facility Authority (OR) (Salem Hospital Project) revenue bonds series 2006
Additional information is available at 'www.fitchratings.com'.
Applicable Criteria and Related Research:
--'Nonprofit Hospitals and Health Systems Rating Criteria', dated May 20, 2013.
Applicable Criteria and Related Research:
U.S. Nonprofit Hospitals and Health Systems Rating Criteria
http://www.fitchratings.com/creditdesk/reports/report_frame.cfm?rpt_id=708361
Additional Disclosure
Solicitation Status
http://www.fitchratings.com/gws/en/disclosure/solicitation?pr_id=820401
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