TEXT-S&P rates Ardent Medical's first-lien debt
Overview -- U.S.-based Ardent Medical Services Inc. is issuing debt to finance the acquisition of a majority interest in Baptist St. Anthony's Health System in Amarillo, Texas, and to refinance all of its existing debt. -- This activity is consistent with our expectation that Ardent would be actively seeking to expand into new markets. -- We are assigning Ardent's proposed senior secured first-lien credit facility our 'B+' issue-level rating with a recovery rating of '2'. We are assigning Ardent's proposed senior secured second-lien term loan our 'CCC+' issue-level rating with a recovery rating of '6'. -- The outlook remains stable, reflecting our expectations for sustained modest growth, steady margins, and disciplined acquisition activity. Rating Action On Nov. 9, 2012, Standard & Poor's Ratings Services affirmed its 'B' corporate credit rating on Nashville, Tenn.-based AHS Medical Holdings LLC (fka, Ardent Health Services LLC). The outlook is stable. At the same time, we assigned Ardent's proposed $725 million first-lien term loan B and $120 million revolving credit facility our 'B+' rating (one notch higher than the 'B' corporate credit rating), with a recovery rating of '2', indicating our expectation for substantial (70% to 90%) recovery in the event of payment default. We also assigned Ardent's proposed $175 million second-lien term loan B our 'CCC+' rating (two notches lower than the 'B' corporate credit rating), with a recovery rating of '6', indicating our expectation for negligible (0% to 10%) recovery in the event of payment default. Rationale The ratings on AHS Medical Holdings LLC reflect Standard & Poor's Ratings Services' view that the company has a "highly leveraged" financial risk profile, because of its growth agenda and pro forma leverage of about 5.4x, and a "weak" business risk profile, reflecting its relatively undiversified portfolio and uncertain reimbursement environment. The financial risk profile descriptor has been revised from "aggressive" due to the increase in leverage associated with the debt financing for the large acquisition in Amarillo, Texas. The revision of the business risk profile from "vulnerable" reflects our view of an improvement in Ardent's business profile, as this acquisition provides Ardent with a leading market share in a new market, adding greater market diversity. We expect this latest acquisition to help Ardent drive a nearly 11% revenue increase for the full-year 2012 and a 15% revenue increase in 2013. We believe the lease-adjusted EBITDA margin in 2013 will be about 9%. This estimated 50-basis-point improvement from 2012 will be aided by the higher margins that the acquired hospital system in Amarillo will generate. We believe Ardent's organic growth rate will remain in the low- to mid-single-digit area and that over time acquisitions will remain a prominent strategy as the company supplements growth and expands its business profile to additional markets. We expect any acquisitions in 2013 to remain small because the increase in leverage leaves Ardent with little debt capacity and because we expect Ardent to be busy integrating the Amarillo acquisition. We believe reimbursement constraints in the form of low rate increases from Medicare, virtually no increases from state Medicaid programs, and low- to mid-single-digit increases from private insurance companies will contribute to relatively flat margins beyond 2013. We expect these margin expectations and low organic growth rate to keep leverage above 5x for the next two years. We view Ardent's financial risk profile as highly leveraged, reflected in our view of debt to EBITDA for 2013 at 5.4x and funds from operations to lease-adjusted debt of about 11%. Leverage also includes Ardent's $75 million of preferred stock as debt, consistent with our criteria. By our estimation, Ardent will generate about $10 million of free cash flow before any acquisition activity. Ardent's business risk is weak, because of its still relatively undiversified portfolio of hospitals, uncertain reimbursement, and concentration in competitive markets. Ardent operates in Albuquerque, N.M., Tulsa, Okla., and Amarillo, Texas. The Albuquerque market, still representing over 50% of total revenue even after the Amarillo acquisition, is very competitive, particularly because of its unique market dynamic, whereby the competitors are organized as integrated delivery systems that closely align physicians and health plans. This also subjects Ardent to the risk of commercial insurance contract losses, and the risks of managing the health care costs of the membership of its health plan. In addition, Ardent's markets are relatively competitive. As evidence of the local market competitiveness, Ardent has expended significant resources in both Albuquerque and Tulsa to fortify local competitiveness. For example, the acquisition of Roswell Regional Hospital in New Mexico added little diversity, because it is small, but its primary purpose is to serve Ardent's health plan members in that area. The improvement in Ardent's business profile makes it more comparable to other peer hospital companies, such as IASIS Healthcare Corp. and Vanguard Health Systems Inc., though those companies still operate in more markets than Ardent. Liquidity Ardent's liquidity is adequate. Sources of cash are likely to exceed uses of cash over the next 12 months. Relevant aspects include: -- We believe sources will cover uses by 2.4x during 2013. However, that could deteriorate if unexpected reimbursement or regulatory developments cause EBITDA to sharply contract, weakening funds from operations, or with further acquisition activity. Sources include balance sheet cash, availability of its $120 million revolver, and free cash flow. Uses include working capital needs and about $80 million of capital expenditures -- A portion of its cash is related to a mandatory reserve requirement, and excluded from our liquidity analysis. -- We do not think Ardent will need its revolver to meet its liquidity needs over the next year. -- For the next 12 months, there are no significant debt maturities. -- Based on our expectation of earnings growth in 2013, we expect Ardent to maintain its adequate covenant cushion under its new credit agreement. Recovery analysis The rating on Ardent's revolving credit facility and first-lien term loan is 'B+' (one notch higher than the corporate credit rating on Ardent), with a recovery rating of '2', indicating the expectation for substantial (70% to 90%) recovery in the event of a payment default. The rating on the second-lien term loan is 'CCC+' (two notches lower than the corporate credit rating), with a recovery rating of '6', indicating the expectation for negligible (0 to 10%) recovery in the event of a payment default. Outlook Our stable rating outlook on Ardent reflects our expectations for sustained modest growth, steady margins, and disciplined acquisition activity. Since we believe slow organic growth and margin pressure will limit improvement in the company's financial risk profile over the next two years, and that the company will continue to pursue growth via acquisition, we believe the most likely path to a higher rating is for any large acquisition to be financed with additional equity infusion. We believe this scenario could result in leverage falling below 5x on a sustainable basis, a level we believe is a prerequisite for a higher rating. We could lower our rating if business pressures such as unanticipated adverse reimbursement changes, competitive factors that could cause a loss of business, or other unforeseen difficulties cause a 200-basis-point decline in EBITDA margin. We believe that such a decline could raise leverage to above 7x, result in negative cash flow, and possibly impair liquidity if this results in a slim loan covenant cushion. Related Criteria And Research -- Business Risk/Financial Risk Matrix Expanded, Sept. 18, 2012 -- Liquidity Descriptors For Global Corporate Issuers, Sept. 28, 2011 -- Criteria Guidelines For Recovery Ratings, Aug. 10, 2009 -- 2008 Corporate Criteria: Analytical Methodology, April 15, 2008 Ratings List New Rating AHS Medical Holdings LLC Corporate Credit Rating B/Stable/-- Ardent Medical Services Inc. Senior Secured $725 mil 1st lien term B ln due 2017 B+ Recovery Rating 2 $175 mil 2nd lien term B ln due 2018 CCC+ Recovery Rating 6 $120 mil 1st lien revolver due 2017 B+ Recovery Rating 2 Ratings Affirmed Ardent Medical Services Inc. Senior secured debt B Recovery Rating 3 Complete ratings information is available to subscribers of RatingsDirect on the Global Credit Portal at www.globalcreditportal.com. All ratings affected by this rating action can be found on Standard & Poor's public Web site at www.standardandpoors.com. Use the Ratings search box located in the left column.
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