TEXT-Fitch raises Universal Health Services rating to 'BB'
Aug 27 - Fitch Ratings has upgraded the ratings of Universal Health Services, Inc. (UHS), including the issuer default rating (IDR) to 'BB' from 'BB-'. The Rating Outlook is Stable. A full list of rating actions follows at the end of this release. The ratings apply to approximately $3.5 billion of debt at June 30, 2012. KEY RATING ISSUES --Credit metrics have improved significantly since the November 2010 Psychiatric Solutions, Inc. (PSI) acquisition. Fitch expects debt leverage (total debt/EBITDA) to be sustained below 3.4x over the ratings horizon. --Cash flows remain strong and liquidity is adequate. Free cash flow (FCF; cash from operations less capital expenditures and dividends) in the range of $350 - $450 million is expected in fiscal 2012 and 2013. --Acute care volumes and pricing are under extreme pressure due to persistently high unemployment, particularly in UHS' largest markets. Fitch expects UHS' acute care operations to remain particularly stressed through 2012 and into 2013. --Higher profitability and a more stable revenue stream from UHS' behavioral health business have moderated the overall effects of the strained acute care business. Fitch forecasts stable organic growth and modestly improving profitability for the behavioral health business over the ratings horizon. --Much uncertainty remains regarding healthcare reform legislation, as well as both federal and state budget debates. Governmental reimbursement is likely to continue to moderate no matter the outcome of these disputes. GUIDELINES FOR FUTURE RATINGS ACTIONS Maintenance of a 'BB' IDR will require debt leverage generally maintained below 3.75x with strong and steady annual FCF in the range of $300 - $400 million. Fitch expects UHS' ratings to lag improvements in credit metrics in the intermediate-term due to the company's demonstrated willingness in 2010 to transform its credit profile for an acquisition. Furthermore, very weak acute care volume and pricing trends, which Fitch expects to persist through 2012 and into 2013, may weigh on positive ratings momentum. A positive rating action is not anticipated in the near term; although one may be contemplated if Fitch expects debt leverage to be maintained below 2.5x. Steady and robust cash flows accompanied by improved acute care volume and pricing metrics would also be expected to support an upgrade to 'BB+'. A negative rating action is anticipated only in the event of a sizeable leveraging M&A or capital deployment transaction resulting in debt leverage sustained at or above 3.75x. Despite the current pressures faced by the acute care business, Fitch does not expect volumes or pricing to deteriorate to such a degree that would precipitate a negative rating action in the near-to-intermediate term. MUCH IMPROVED CREDIT METRICS Credit metrics have improved significantly since the time of the Psychiatric Solutions, Inc. (PSI) acquisition in November 2010. Fitch-calculated debt leverage (total debt/EBITDA) at June 30, 2012 was 2.85 times (x) compared to 3.6x on a pro forma basis following the acquisition. Fitch expects that debt leverage could increase to approximately 3.2x at Dec. 31, 2012 due to the pending acquisition of Ascend Health Corporation. Fitch expects UHS to operate with debt leverage between 2.8x and 3.4x over the ratings horizon. As a result, an ample cushion is expected to be maintained under its credit agreement's financial covenants. The debt leverage covenant steps down to 4.5x at Dec. 31, 2012 and 3.75x at Dec. 31, 2013. STRONG CASH FLOWS, ADEQUATE LIQUIDITY Cash flows remain strong, despite very pressured acute care operations. Latest-12-month (LTM) FCF as of June 30, 2012 was approximately $310 million. Fitch anticipates that UHS will produce robust FCF in the range of $350 - $450 million over the ratings horizon. Forecasted cash flows are sufficient to cover capital spending requirements, which include costs incurred to implement electronic health records systems, and UHS' modest dividend. UHS' liquidity profile is solid. At June 30, 2012, UHS had $33 million of cash and equivalents and $623 million of unused capacity under its secured revolver due 2015. The company also maintains a $275 million accounts receivable securitization facility, of which $45 million was available at June 30, 2012. Debt maturities are modest over the next three years, and Fitch believes UHS has the market access necessary to address term loan maturities as they approach in 2015 and 2016. Fitch estimates UHS' debt maturities as follows: $301.5 million in 2013; $73 million in 2014; $1.0 billion in 2014; $1.8 billion in 2016; and $274.4 million thereafter. HISTORICALLY STRONG ACUTE CARE OPERATIONS UNDER SEVERE STRESS UHS' historically strong acute care operations are under severe pressure due to high unemployment and other macroeconomic forces. Same-hospital (SH) admissions have declined for eight consecutive quarters, mostly in-line with the broader industry. Unlike most urban markets, which have begun to show volume stabilization, UHS markets continue to produce SH admissions declines in excess of 2%. SH admissions decline in second-quarter 2012 was 4.3%. The average SH admissions decline for all Fitch-rated hospital operators was approximately 2.4% in the quarter. Pricing metrics have been exceptionally poor as well. Unfavorable payor mix shifts continue to plague UHS' largest markets and are now washing out the benefits of strong commercial pricing reported in the first half of 2011. SH net revenues declined 2.2% in second-quarter 2012. Hospital volumes and payor mix shifts typically lag broader macroeconomic developments by approximately three or four quarters. Consequently, Fitch anticipates weak acute care results for the rest of 2012 and possibly until the coverage expansion provisions of the ACA take effect in 2014. BEHAVIORAL HEALTH BUSINESS PROVIDES DIVERSIFICATION, STABILITY UHS' behavioral health business more than doubled in size subsequent to the acquisition of PSI in 2010. Although the acquisition resulted in a credit profile transforming debt increase, it affords UHS with increased business and revenue diversification, as well as improved financial stability and profitability. Good organic growth in the mid-single digits and moderately improving profit margins are expected over the ratings horizon for UHS' behavioral health business. The proposed acquisition of Ascend is in-line with Fitch's expectations for M&A and should contribute to incremental margin support in the near- and intermediate-term. HEALTHCARE REFORM IS NET POSITIVE, BUT STILL VERY UNCERTAIN Despite the Supreme Court's ruling on the Patient Protection and Affordable Care Act (ACA) in May, there remains much uncertainty surrounding the ultimate outcome of healthcare reform. Fitch views the ACA as a net positive for UHS and its hospital operator peers. Beginning in 2014, Fitch expects the drop in uncompensated care to contribute to an increase in absolute profit dollars. However, the magnitude of such an increase is dependent upon many factors. Two of these factors are the proportion of the newly insured covered under Medicaid versus the new insurance exchanges, and the level of reimbursement hospitals will receive from insurance plans in the exchanges. Fitch anticipates that any increase in profit dollars in 2014 -2015 will nevertheless erode in the years that follow due to increasingly constrained reimbursement. Fitch has taken the following rating actions: --IDR upgraded to 'BB' from 'BB-'; --Senior secured bank facility upgraded to 'BB+' from 'BB'; --Senior secured notes upgraded to 'BB+' from 'BB'; --Senior unsecured notes upgraded to 'BB-' from 'B+'.
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