We expect 2012 revenues to be flat over 2011. Although first-quarter 2012 revenues improved 2% and were flat sequentially compared to the fourth quarter of 2011, industry challenges have not abated. Continued pressure on organic volume and pricing of diagnostic imaging centers should be offset by the opening of new fixed-site centers and rationalization of mobile operations. Although the company is making modest strides (it reported a $2 million positive revenue gap, a measure of contract wins over losses) at the end of the first quarter of 2012, the revenue gap was $5.8 million for the fourth quarter of 2011 and negative $13.5 million for the year. The Alliance Oncology segment has grown rapidly, increasing 53% year over year in the first quarter of 2012, but accounting for only 17% of total revenues. The contribution from this business has not been sufficient to offset deterioration in its core business. We believe Alliance Healthcare will maintain its current 29% EBITDA margin (per our adjustments) as cost savings offset further pricing pressures. It already has realized $4 million of $25 million savings (over 18 months) identified in its August 2011 restructuring plan. Despite the decline from over 36% over the past six years, the 29% EBITDA margin as of March 31, 2012, and 13% return on capital, compare favorably with rated peer RadNet Management Inc., and are at the median of rated radiation oncology providers. Stable to modest EBITDA improvement, and modest debt reduction should reduce debt leverage toward 4.5x, and maintain funds from operations to debt to at least 13%, over the next few years. We estimate the company will generate over $20 million of discretionary cash flow, after capital expenditures and discretionary acquisitions, which could be applied to debt reduction. The economy and cost pressures on the health care system have eclipsed demographic benefits, i.e., the use of imaging for early disease detection in an aging population and expanding indications. Alliance Healthcare is the largest U.S. mobile imaging provider, offering magnetic resonance imaging (MRI) and positron emission tomography/computed tomography (PET/CT) scan services to hospitals based on the number of scans or by the length of use. Alliance Healthcare has limited exposure to Medicare reimbursement cuts (a small portion of its retail revenues, which represent 19% of total revenues), although indirect reimbursement risk remains an ongoing issue, given hospitals' desire to cut costs and competitive pressures. The average price per MRI and PET/CT scan declined over the past several years as the company renegotiated wholesale contracts. Demand for MRI and PET/CT scans (41% and 34% of revenues, respectively) has declined: The weak economy and high unemployment rates have lead to the loss of health insurance, higher deductibles and copayments, and heightened utilization management pressures from insurers, which can restrict or deny care.
We expect the oncology segment to make a more meaningful contribution to revenues in the medium term, as a result of acquisitions and organic growth: Alliance Healthcare leverages its hospital imaging relationships to expand into radiation oncology ventures with existing imaging customers. It operates 37 radiation oncology centers and stereotactic radiosurgery facilities, including three joint ventures. In April 2011, Alliance Healthcare purchased US Radiosurgery LLC for about $42 million. Given our projections of over $80 million in cash from operations annually, we expect internally generated cash to fund growth opportunities in both fixed-site diagnostic imaging facilities and radiation oncology facilities.
Alliance Healthcare currently has adequate liquidity to meet its needs over the next 18 to 24 months. At March 31, 2012, Alliance Healthcare had $45 million cash, and full availability on its $70 million revolving credit facility. Our view of the company's liquidity profile incorporates the following expectations:
-- We expect liquidity sources (primarily cash, revolver availability, and discretionary cash flow) to exceed 1.2x over the next two years;
-- We expect funds from operations to exceed $80 million in 2012, and capital expenditures to range between $55 million and $65 million;
-- We expect term-loan amortization of $3 million per quarter;
-- We expect liquidity sources to continue exceeding uses, even if EBITDA declines 15% to 20%;
-- We believe that, while Alliance Healthcare could breach its covenants if EBITDA declines 20% (given a 15% debt leverage EBITDA cushion on March 31, 2012), its $60 million cash balance would enable it to prepay a portion of the loan to expand its covenant cushion; and
-- Despite adequate bank relationships, the company could, in our view, have limited access to capital markets in the event of market turmoil. We do not incorporate owner support.
We rate Alliance Healthcare's $460 million secured term loan 'B+' and $70 senior secured revolving credit facility 'B+' (at the same level as our 'B+' corporate credit rating on the company) with a recovery rating of '3', indicating our expectation of meaningful (50% to 70%) recovery for lenders in the event of a payment default.
We rate Alliance Healthcare's $190 million 8% senior unsecured notes due 2016 'B-' (two notches lower than the 'B+' corporate credit rating). The recovery rating is '6', indicating our expectation of negligible (0% to 10%) recovery for noteholders in the event of a payment default. (For the complete recovery analysis, see Standard & Poor's recovery report on Alliance HealthCare Services, published on Aug. 19, 2011, on RatingsDirect.)
Our negative outlook on Alliance Healthcare reflects the potential for financial deterioration, and a reversal of only recent positive trends, given continued diagnostic imaging industry pressures. We believe debt paydown could help Alliance Healthcare to deleverage if revenues and EBITDA do not achieve a modest, expected improvement. Still, weak overall market demand and in particular the vulnerability regarding mobile customers could jeopardize our base case assumptions. For example, a 5% revenue decline combined with a 200-basis-point EBITDA margin contraction, per our calculations, would increase adjusted debt leverage to between 5.0x and 5.5x and could result in a downgrade. We could revise our outlook to stable if Alliance Healthcare stabilizes the business for another quarter or two, including maintenance of debt leverage of comfortably under 5x and a debt leverage covenant cushion of approximately 15%.
Related Criteria And Research
-- Methodology And Assumptions: Liquidity Descriptors For Global Corporate Issuers, Sept. 28, 2011
-- Criteria Guidelines For Recovery Ratings, Aug. 10, 2009
-- Business Risk/Financial Risk Matrix Expanded, May 27, 2009
-- 2008 Corporate Criteria: Analytical Methodology, April 15, 2008