Fitch Affirms Duncaster, Inc.'s (CT) Ratings at 'BBB-'; Outlook Stable
--$12,000,000 revenue bonds, Duncaster, Inc. issue, series 2014A.
The Rating Outlook is Stable.
The bonds are secured by a pledge of Duncaster's gross revenues, a mortgage, a debt service reserve fund, and a foundation guarantee not to let debt service coverage fall below the 1.2x covenant.
KEY RATING DRIVERS
IMPROVED INTERIM PERFORMANCE: Duncaster's cash flow has improved through the six-month interim period (ended June 30, 2016), with $2.3 million in net entrance fee receipts, compared to $2.0 million for the full 2015 fiscal year. Stronger cash flow and better operating profitability has resulted in improved debt service coverage of 2.8x through the interim, compared to 1.3x in 2015.
SOLID LIQUIDITY POSITION: Duncaster's liquidity position remains solid with 324 days cash on hand (DCOH), 68.9% cash to debt and 6.8x cushion ratio, compared to Fitch's 'BBB' medians of 400 days, 60% and 7.3x, respectively. Fitch notes that unrestricted cash growth has been tempered over the last few years due to increased capital expenditures and lower than historical net entrance fee receipts in 2015.
GOOD OCCUPANCY: Duncaster's occupancy remains strong across all levels of care with 92% independent living unit (ILU), 98% assisted living unit (ALU), and 98% skilled nursing facility (SNF) occupancies as of June 30, 2016. Occupancy has improved significantly from 2012 when ILU occupancy was at just 79%.
SUCCESSFUL PROJECT FILL-UP: Duncaster opened its new independent living and Memory Care assisted living units, on time and on budget, in the fall of 2015. All ILUs were filled by the 2015 calendar year-end and the initial entrance fee receipts were used to repay Duncaster's temporary construction loan. Fitch believes that the successful fill-up of the expansion project will help Duncaster grow its top-line revenues and improve profitability over the medium term.
CONTINUED OPERATING IMPROVEMENT: Fitch expects the successful fill-up of the newly constructed units to improve Duncaster Inc.'s core operating profitability. Improved operating performance and debt service coverage may lead to positive rating movement over the medium term.
Duncaster operates a not-for-profit type-A life-care community in Bloomfield, CT, which is located just to the northwest of Hartford, CT. Opened in 1984, Duncaster's unit mix of units currently includes: 195 ILUs, 42 ALUs, and 60 private skilled nursing facility (SNF) beds. In 2015, Duncaster had total operating revenue of $23.0 million. For purposes of analysis, Fitch includes the endowment of a separate non-obligated foundation which exists solely to support Duncaster. The foundation had approximately $8.4 million in unrestricted cash and investments at June 30, 2016.
Duncaster had strong net entrance fee receipts of $2.3 million through the six-month interim, significantly above $380,000 through the same period last year. Improved cash flows have resulted in stronger debt service coverage of 2.3x, which is in line with historical levels. Management reports that demand for most units remains strong and that they only have a small quantity of vacant studios and smaller one-bedrooms that are more difficult to sell. Management expects to end 2016 with $3.8 million in net entrance fee receipts, which Fitch views as feasible given year-to-date sales momentum.
Duncaster's operating performance has been improving over the last four years as indicated by an 93.8% operating ratio through the interim period, better than Fitch's 'BBB' median of 96.1%, and much improved from 103.7% in 2012. Operating improvement is attributed to improved occupancy across all levels of care, as well as the successful fill-up of Duncaster's IL and Memory Care AL expansion project, which should help grow incremental top-line revenue over the medium term.
SOLID LIQUIDITY POSITION
Duncaster's $17.9 million in unrestricted cash and investments (including $8.1 in unrestricted foundation investments) at June 30, 2016 equated to 324 DCOH, 68.9%, and 6.8x cushion ratio were all in line with Fitch's respective 'BBB' medians. Cash growth has been limited over the last four years due to increased capital spending and low net entrance fee receipts in 2015. Fitch expects Duncaster's cash position to improve over the medium to longer term as it realizes the benefits of improved occupancy and incremental revenue growth from the new project.
SUCCESSFUL PROJECT FILL-UP
Duncaster's ILU and ALU expansion project, which included the addition of 12 ILUs and 12 AL Memory Care unites, has opened on time and on budget in the fall of 2015. All apartments have been filled as of the 2015 year-end and the initial entrance fees were used to pay off Duncaster's $3.5 million construction loan. Extra funds from the initial entrance fees were used to repave certain roads and pathways on Duncaster's campus. Monthly service fees from the new units should help grow top-line revenue and core operating profitability over the medium term. Operating improvement is evident even through the six-month interim period of 2016 with an improved operating ratio of 93.8%, compared to 97.9% at 2015 year-end.
Duncaster expects capital expenditures over the medium term to track closely to depreciation expense and be in the $3 - $3.5 million range. Management is contemplating an expansion and renovation of its Aquatic and Health Center; however, this project is preliminary at this time.
Duncaster has approximately $26.4 million in long-term debt. The debt mix is approximately 42% fixed and 58% variable, which Fitch views as aggressive at the current rating level. The variable rate debt is privately placed and has a call date of 2020, which mitigates some remarketing and put risks. The private placement is on parity with the 2014 bonds and the bond documents contain cross-default provisions and similar covenant language for both series. The variable rate debt is hedged with a fixed payor swap that also extends to 2020 and matches the par amount of the variable rate bonds. The mark-to-market on the swap was a negative $888,313 as of Aug. 15, 2016. There are no collateral posting requirements.
Duncaster covenants to disclose annual reports no later than 150 days after the fiscal year-end and quarterly reports no later than 45 days after quarter-end. Duncaster posts its disclosure to the Municipal Securities Rulemaking Board's EMMA website.