Jan 29 - Fitch Ratings has downgraded the rating on the following revenue
bonds issue on behalf of Elmhurst Memorial Healthcare (EMH) to 'BBB' from
--$124.5 million Illinois Health Facilities Authority revenue refunding bonds,
--$120.5 million Illinois Finance Authority revenue bonds, series 2008A;
--$250 million Illinois Finance Authority variable-rate demand revenue bonds,
series 2008B-E (*)
*Underlying Ratings. The series 2008B bonds are supported by a letter of credit
(LOC) from JPMorgan Chase; the series 2008C bonds are supported by an LOC from
RBS; the series 2008D bonds are supported by an LOC from the Northern Trust; and
the series 2008E are supported by an LOC from Fifth Third Bank, N.A.
The bonds are removed from Rating Watch and have been assigned a Stable Rating
Debt payments are secured by a pledge of the gross revenues of the obligated
FINANCIAL PERFORMANCE BELOW EXPECTATIONS: The downgrade reflects EMH's continued
weak operating performance and debt service coverage levels compared to Fitch's
expectations outlined in the February 2011 surveillance review.
MIXED LIQUIDITY: Days cash on hand of 205.5 at Nov. 30, 2012 (five-month
interim) and cushion ratio of 8.4x during the same time period are in line with
the respective 'BBB' category medians of 138.9 days and 9.4x. However, cash to
debt of 40.4% at Nov. 30 was very light compared to the 'BBB' category median of
82.7%. Furthermore, liquidity is not expected to improve, as EMH is constructing
a $21 million cancer center, which will mostly be funded from cash flow.
VOLUMES REMAIN UNDER BUDGET: Patient volumes continue to lag expectations since
the move to the new facility, reflecting overall softness in the service area.
Fitch expected EMH to capitalize on the benefits of the replacement facility to
a greater degree and to increase top line growth through increased volumes and
affiliation and alignment with physicians.
RISKY CAPITAL STRUCTURE: Fitch believes EMH's interest rate exposure in its debt
structure (52% variable-rate debt), interest rate swap exposure, asset
allocation (43% equities) and pension obligation has had a negative impact on
the corporation's financial performance and will continue to elevate overall
volatility going forward. EMH is in discussions with its LOC providers
(JPMorgan, RBS, Northern Trust and Fifth Third) for renewal. Fitch expects
renewals to be complete within the next couple months.
AFFILIATION DISCUSSIONS WITH EDWARD HOSPITAL: EMH signed a non-binding letter of
intent with Edward Hospital and Health Service (not rated by Fitch) in January
2013 to merge. However, these discussions are preliminary and are subject to due
diligence. In addition, the expectation is that the two organizations will
maintain separate obligated groups. Fitch will assess the impact of the merger
when it is completed.
WHAT COULD TRIGGER A RATING ACTION
Negative rating action is likely if EMH fails to renew its LOCs, has erosion in
its volume growth, or if there is a deterioration in its financial profile.
The downgrade to 'BBB' reflects EMH's financial results in fiscal 2012, which
were significantly below Fitch's expectations. In fiscal 2012, operating margin
was negative 10.2% and operating EBITDA margin was 7.5%, below the respective
'BBB' category medians of 1.9% and 8.3%. The compression in profitability
reflects softer than expected inpatient volumes and increased expenses
associated with the new facility. Management began implementing expense control
initiatives in 2012 that resulted in some expense savings in the fourth quarter
of fiscal 2012 and through the Nov. 30, 2012 interim period. These expense
reductions were focused in the areas of labor, supply chain management and
clinical effectiveness. Fitch expects to see operational improvements and
further progress in operating profitability in fiscal 2013. If operating
profitability does not improve over the near to medium term, negative rating
pressure may be warranted.
EMH's liquidity is mixed. At Nov. 30, 2012 EMH's unrestricted cash and
investments totaled $204.7 million, which is an 8% increase from fiscal 2012
year-end but still below historical balances. Days cash on hand and cushion
ratio of 205.5 and 8.4x, respectively, at Nov. 30 are in line with the
respective 'BBB' category medians of 138.9 and 9.7x. However, cash to debt is
very light for the category at 40.4% compared to the 'BBB' category median of
82.7%. In addition, cash to demand debt of 82% is a concern as EMH has
significant variable-rate exposure. Fitch notes that EMH's liquidity position
has been negatively affected by a $30.8 million collateral posting for its swaps
as of November 2012 and $20 million draw on its lines of credit (which has been
deducted from unrestricted cash and investments by Fitch). EMH is in process of
building its cancer center on its new campus and is scheduled to be completed in
the spring of 2013. The total project is expected to cost $21 million and will
be funded mostly from cash and investments. After the completion of the cancer
center in 2013, Fitch expects EMH to build up its balance sheet, as future
capital spending requirements are minimal.
EMH's inpatient volumes have been relatively flat over the past four years,
which has had an impact on operating profitability as management projected a 6%
increase in volumes with the move to the new facility. However, resource
consumption better aligned with utilization led to a staffing decrease of 80
FTEs in December/January of last fiscal year, which will result in an annual
decrease in expenses of $4.8 million. Also, despite a decline in inpatient
volumes, surgical and emergency room volumes are up for November 2012 compared
to the same period the prior year. Physician visit volumes are also up almost 6%
as of November 2012 compared to the same period in 2011. Fitch believes
continued physician recruitment is important to bolstering volumes.
EMH's substantial debt burden is a credit concern with maximum annual debt
service (MADS) a high 6.3% of fiscal 2012 revenue compared to the 'BBB' category
median of 3.3%. EMH will need to realize the benefits from its new facility
quickly as MADS coverage by EBITDA is currently low at 1.6x in fiscal 2012
compared to the 'BBB' category median of 2.8x. Management is projecting a 1.5x
debt service coverage ratio for fiscal 2013, which Fitch expects it to meet.
Failure to make at least 1.5x coverage will likely result in negative rating
pressure. In addition, due to a 100 basis point decrease in its pension plan
discount rate, EMH's pension expense has increased by about 47% in fiscal 2013
($12.8 million expense up from $6.8 million in fiscal 2012), which will dilute
profitability in 2013. Fitch views EMH's effort to pay down certain terminated
vested pension plan participants positively as it will save the pension plan
about $1 million annually.
Fitch views EMH's capital structure as being aggressive in light of its balance
sheet liquidity, consisting of 52% variable-rate demand obligations (VRDOs) and
six swaps with a total notional amount of $555 million. EMH has hedged its risk
to any one bank through five different swap counterparties and four different
LOC providers backing the variable-rate bonds with credit quality ranging from
'AA-' to 'A-'. The LOCs expire in May 2013, and management is currently in
renewal discussions. However, the corporation remains exposed to interest rate,
remarketing, renewal and put risks associated with the LOCs. EMH's collateral
posting threshold is at mark-to-market with any one counterparty and at Nov. 30,
2012 EMH had $30.8 million posted as collateral.
EMH operates in the suburban area directly west of Chicago. Service area
characteristics are strong, which is reflected in a favorable payor mix.
However, the service area is very fragmented, with several strong competitors
including Good Samaritan Hospital, part of Advocate Health Care Network (rated
'AA'; Stable Outlook by Fitch), Alexian Brothers Health System (rated 'A-';
Stable Outlook), Vanguard Westlake Hospital (not rated by Fitch) and Hinsdale
Hospital, part of Adventist Health System - Sunbelt (rated 'AA'; Stable
Outlook). Despite this competition, EMH has maintained a leading inpatient
market share of roughly 26% in its primary service area over the last four
years. EMH has signed a letter of intent with Edward Hospital (not rated by
Fitch), which is located in Naperville, IL. Fitch believes this merger would be
accretive to EMH as Edward is part of Illinois Health Partners - a partnership
with DuPage Medical Group and many independent physicians- who manage about
100,000 HMO patients in the region. DuPage Medical Group has more than 370
physicians and has a strong presence in the western suburbs. The merger
discussions are preliminary and subject to due diligence. Fitch will monitor the
relationship and assess the impact of the merger when it is completed.
While Fitch views the long-term, strategic benefits of the replacement hospital
project favorably, EMH will need to quickly realize the benefits of its
investment in its new plant to service its high debt load. The Stable Outlook
reflects Fitch's expectation that EMH will continue to achieve the benefits of
its new facility and improve its financial performance over the near term. EMH
should be able to stabilize operations and build up its liquidity with the
completion of the Cancer Center, as future capital expenditures are expected to
moderate materially after the cancer center project.
EMH operates a 259-staffed bed acute care hospital, a multi-specialty physician
practice, three freestanding outpatient centers, and other health care entities.
Located in Elmhurst, IL, approximately 17 miles west from downtown Chicago, EMH
reported $409.9 million in total revenue in fiscal 2012. EMH covenants to
provide annual audited financial statements within 150 days of fiscal year-end
and unaudited quarterly statements within 60 days of quarter end to bondholders.
Quarterly disclosure has been timely and includes a balance sheet, income
statement, statement of cash flow, utilization statistics, and a management
discussion and analysis. In addition, EMH's disclosure on its derivative
instruments is very detailed and thorough, which Fitch views as a best practice.
Additional information is available at 'www.fitchratings.com' . The ratings
above were solicited by, or on behalf of, the issuer, and therefore, Fitch has
been compensated for the provision of the ratings.
Applicable Criteria and Related Research:
Revenue-Supported Rating Criteria, June 12, 2012
Nonprofit Hospitals and Health Systems Rating Criteria, July 12, 2012
Applicable Criteria and Related Research:
Revenue-Supported Rating Criteria
Nonprofit Hospitals and Health Systems Rating Criteria