S&P: Catalyst Healthcare (Manchester) Financing Outlook Revised To Stable, 'BB+' Ratings Affirmed
The recovery rating on the senior secured debt is unchanged at '2'. Our recovery expectations are in the lower half of the 70%-90% range, although there has been limited experience regarding default or loss in this sector to date.
The rating action reflects the settlement agreement reached by Central Manchester University Hospitals NHS Foundation Trust, construction contractor Lend Lease Construction (EMEA) Ltd., and ProjectCo in relation to the long-standing dispute concerning whether a hospital's fire compartmentation was in breach of contractual documentation. In our opinion, the relationship between the parties has been re-established, resulting in a collaborative working environment developing between the Trust and ProjectCo. In April 2016, the parties to the contract signed a settlement deed that was approved by the funders in June 2016. During the negotiations, the Trust did not apply any further deductions on ProjectCo and remitted full unitary payment. Based on the settlement agreement, we understand that:
All the deductions in relation to firestopping defects accrued during the dispute period have been waived. ProjectCo will receive full payments, subject to a minimal reduction in the annual unitary payment for the rest of the concession. In our opinion, this deduction does not materially affect the project's operating cash flow. The Trust will assume all responsibility for pending remedial works relating to the firestopping defects, which is likely to be completed in 18-24 months. Under our base-case scenario, we expect the project to demonstrate stable operational performance, with minimal deductions under its facility management services going forward. The operation phase stand-alone credit profile (SACP) remains at 'bb+', even though we revised our preliminary operations phase SACP to 'bbb-' from 'bb+'. The change reflected that we had updated our base-case minimum annual debt service coverage ratio (ADSCR) to 1.20x from 1.17x and our average ADSCR to 1.28x from 1.26x. Our base-case assumptions include an annual unitary charge (UC) of ?41.8 million, a total life cycle profile of ?158 million and annual hard and soft facilities management (FM) costs of ?11 million (all in real values and in line with ProjectCo's assumptions). We assume that the Retail Price Index (RPI) will be 1.8% for 2016, 3% for 2017, 2.5% for 2018, and between 2.6% and 3.7% thereafter (3.0% after 2026).
In addition, the transaction is resilient to our downside scenario, with ADSCRs always above 1.0x. Under our downside case, we increase FM and life cycle costs by 10% and management costs by 5%. We also lower RPI by 1% compared with our base case for the first five years. In addition, we assume that 35% of the largest semiannual life cycle payments will be paid two years earlier than in our base case. Compared with closest peers, this project includes a significant back-ended debt amortization, causing us to adjust the rating down by one notch.
The stable outlook on the issue ratings reflects our forecast that the project will keep delivering steady operational performance, that postsettlement defects will be rectified within the agreed timetable, and the parties will aim to maintain a collaborative working relationship. We also project that the minimum ADSCR, calculated in accordance with our criteria, will remain above 1.20x.
We could raise the issue rating by one or more notches following a period of greater operational stability, in which the Trust and ProjectCo establish a more constructive relationship, resulting in no deductions and maintenance of a minimum ADSCR above 1.2x.
We could lower the rating if the project's operational performance deteriorates, negatively affecting the working relationships between the parties, or if the project is exposed to deductions that cannot be passed through to the respective subcontractors. We could also lower the rating if the project's financial profile deteriorates due to higher-than-expected costs, for example, insurance costs, or as a result of the exposure to RPI.