TEXT-S&P revises Gentiva Health rating outlook to positive
Overview -- Atlanta-based home health and hospice services provider Gentiva Health Services Inc. has improved adjusted EBITDA margins by more than 400 basis points to more than 12% from 8% during the same period a year ago. -- The company also generated free operating cash flow (FOCF) of $65 million for the nine months ended Sept. 30, 2012. -- We are affirming our 'B-' corporate credit rating and revising the outlook to positive from stable. -- Our positive outlook reflects our expectation that Gentiva will manage a marginal 2013 home health rate cut and will sustain improved margins, contributing to positive FOCF in 2012 and 2013. Rating Action On Nov. 13, 2013, Standard & Poor's Ratings Services revised the 'B-' rating outlook on Gentiva Health Services Inc. to positive from stable. At the same time, we affirmed our 'B-'corporate credit rating on the company. The positive outlook reflects our expectation for steady EBITDA margins and continued free operating cash flow generation. Rationale Our ratings on Atlanta-based Gentiva Health Services Inc. reflect the company's "vulnerable" business risk profile, based on its significant reliance on Medicare payments that continue to be under pressure, particularly in the home health sector. The ratings also reflect the company's "highly leveraged" financial risk profile, arising from the $1 billion debt-financed acquisition of hospice provider Odyssey Healthcare in 2010. As expected, operating environment trends remain negative for the nine months ended Sept. 30, 2012, reflecting Medicare reimbursement changes for home health that went into effect on Jan. 1, 2012. Year-to-date revenues declined 5%, trending slightly above our expectations for a 6% decrease. However, despite contracted revenues, Gentiva continues to boost EBITDA margins. Adjusted EBITDA margins improved to more than 12% from 8% a year ago. We believe the company will sustain improved margins through the end of the year and throughout 2013, despite another marginal 2013 Medicare rate cut of 0.4% to home health services and possible sequestration that would begin in 2013 (2% across the board rate cut). The company should benefit from a 0.9% increase in rates for hospice in 2013 and relaxing the physician participation requirements for home health reimbursement. Our 2013 expectations assume these rate cuts will be partially offset by the increase in rates in hospice and episodic admission growth. The year-to-date margin improvement has exceeded our expectations for a decrease in margins of 100 basis points (bps) for full-year 2012. Management's ability to cut costs from a recent restructuring and branch closings was more successful than we anticipated. However, EBITDA margins still remain below peak levels of 14%. Stronger earnings and improved collections have contributed to the company turning free operating cash flow (FOCF) positive, generating about $65 million of cash so far in 2012. Our base-case assumptions now project the company to generate EBITDA of about $170 million in 2012 and 2013, and FOCF ranging from $90 million to $100 million annually, absent one-time costs. Gentiva's vulnerable business risk profile incorporates the company's heavy exposure to Medicare reimbursement that contributes about 85% of total revenues. While significant exposure to reimbursement risk has always been a key component of our view of Gentiva's business risk profile, recent changes to home health reimbursement have escalated its significance to the rating. The company faced a rate cut of about 5% in 2011 and an additional 2.3% cut in 2012, and faces possible sequestration in 2013. Additionally, there is further uncertainty on how Medicare will reimburse for home health when rebasing of rates becomes effective in 2014; when Medicare will reset the rates and change how Center for Medicare and Medicaid Services reimburses for home health services. The methodology for rebasing has yet to be determined, but we assume it will result in further reimbursement reductions. Hospice, the company's other business segment, diversifies some of the company's business risk. Continued uncertainty of the final outcome stemming from the Senate Finance Committee investigation in suspicious reimbursement practices also weighs on Gentiva's vulnerable business risk profile. The past reimbursement billing practices of all publicly traded home health agencies were subpoenaed for further review; while a report has been released, the outcome of whether a possible fine will be assessed is still unknown. Gentiva's highly leveraged financial risk profile is characterized by lease-adjusted debt to EBITDA of more than 5x and funds from operations to debt below 12% as of Sept. 30, 2012. Our base-case assumptions expect leverage to remain relatively unchanged in the near term. Despite recent EBITDA improvement, we still expect leverage to be close to 5x in 2012 and 2013. Liquidity We view Gentiva's liquidity as "adequate." We believe sources of cash are likely to exceed mandatory uses over the next two years. Our assessment of the company's liquidity profile incorporates the following expectations and assumptions: -- We expect sources of liquidity will exceed uses by 1.2x or more. -- Sources include more than $150 million of cash reserves, about $65 million of availability on its $110 million revolver after outstanding letters of credit, and FOCF that we now project to range from $90 million to $100 million annually in 2012 and 2013. -- Uses include capital expenditures of less than $25 million annually, and an upfront principal payment on the company's term loan of $50 million that was made in connection with a credit agreement amendment. -- We expect sources will still exceed uses, even if EBITDA declines by 15%. -- We expect the debt covenant cushion on bank-calculated debt to EBITDA and interest rate coverage covenant to be at least 20%. -- We expect the company will have limited availability to absorb low-probability, high-impact events with existing liquidity. Recovery analysis The issue-level rating on the company's credit facility, which includes a $180 million term loan A, $550 million term loan B, and a $110 million revolver, is 'B'. The recovery rating on the credit facility is '2', indicating our expectation for substantial (70% to 90%) recovery of principal in the event of payment default. The issue-level rating on the $325 million senior unsecured notes is 'CCC', with a recovery rating of '6', indicating our expectation for negligible (0% to 10%) recovery of principal in the event of payment default. For the complete recovery analysis, please see the recovery report on Gentiva, published May 21, 2012, on RatingsDirect. Outlook Our positive rating outlook reflects our expectation that Gentiva will be able to manage through a marginal 2013 home health rate cut and sustain improved margins to aid in continued generation of FOCF. We expect cost-containment measures to partially mitigate ongoing revenue declines and that headroom under revised covenants will continue to exceed 20%. We could raise the rating on Gentiva if the company continues to demonstrate resilience during a difficult reimbursement environment and further establish its track record of steady EBITDA margins and free cash flow generation. We could revise our outlook to stable or lower the rating if the company's operations are further jeopardized as a result of adverse developments in Medicare reimbursement, affecting liquidity and resulting in a possible breach of amended covenants. Related Criteria And Research -- Criteria For Assigning 'CCC+', 'CCC', 'CCC-', And 'CC' Ratings, Oct. 1, 2012 -- Business Risk/Financial Risk Matrix Expanded, Sept. 18, 2012 -- Liquidity Descriptors For Global Corporate Issuers, Sept. 28, 2011 -- Use Of CreditWatch And Outlooks, Sept. 14, 2009 -- Criteria Guidelines For Recovery Ratings, Aug. 10, 2009 -- 2008 Corporate Criteria: Analytical Methodology, April 15, 2008 -- 2008 Corporate Criteria: Rating Each Issue, April 15, 2008 -- 2008 Corporate Criteria: Ratios And Adjustments, April 15, 2008 Ratings List Ratings Affirmed; Outlook Revised To From Gentiva Health Services Inc. Corporate Credit Rating B-/Positive/-- B-/Stable/-- Senior Secured B Recovery Rating 2 Senior Unsecured CCC Recovery Rating 6 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.