Fitch Rates Lutheran Senior Services, MO Revenue Bonds 'BBB+'; Outlook Stable
--$97.69 million senior living facilities revenue bonds, series 2016B.
Bond proceeds and monies from a direct purchase bond issue of $10.55 million will be used to replace LSS' health care center in Columbia, MO ($28 million), contribute $5 million to its independent living unit (ILU) expansion project in Columbia, MO, provide funds for renovations to its newly acquired care center in Chesterfield, MO ($3.5 million), refinance existing debt ($76 million), fund a debt service reserve account, and pay issuances costs. The bonds are scheduled to sell via negotiated sale during the week of Sept. 26, 2016.
In addition, Fitch affirms the 'BBB+' rating on LSS' outstanding debt, which is listed at the end of the press release.
The Rating Outlook is Stable.
The bonds are secured by a pledge of the LSS obligated group's gross revenues and debt service reserve funds.
KEY RATING DRIVERS
LARGE BUSINESS BASE; STRONG REGIONAL PRESENCE: LSS benefits from the size and scale as the owner of five continuing care retirement communities (CCRC) in Missouri, three CCRCs in Illinois and several other senior care providers with a total of 2,056 ILUs, 690 assisted living units (ALUs), and 1,128 skilled nursing facility (SNF) beds. LSS' historically good operating performance is supported by a large revenue base (approximately $191 million in fiscal 2015; Dec. 31 year-end) and a strategically-focused leadership team that has consistently executed on its growth and development plans.
SIGNIFICANT CAPITAL SPENDING: LSS has focused on the repositioning and expansion of several of its CCRCs over the last five years. In addition to the series 2016A bonds issued earlier this year and the $31 million of new money proceeds from the series 2016B bonds, LSS issued about $56 million in new money debt in 2014 to complete expansion and renovation projects at several of its campuses. Besides the projects being funded with the series 2016B bonds, management is progressing with an ILU expansion project at Lenoir Woods in Columbia, MO, a new start-up CCRC campus in Lake St. Louis, MO, and the potential addition of ILUs to the newly acquired campus in Chesterfield, MO.
ELEVATED DEBT BURDEN: Certain of LSS' debt metrics are elevated when compared to Fitch's 'BBB' category medians, reflecting its robust capital reinvestment strategy and expansion plans. Pro forma maximum annual debt service (MADS) of $29.67 million equated to 15.2% of 2015 total revenues which is improved from earlier years but is above the 'BBB' median of 12.4%. Pro forma debt to net-available of 8.9x in 2015 is above the 'BBB' category median of 5.9x. Pro forma MADS coverage (including turnover entrance fee receipts) was solid at 1.8x in 2015 compared to the 'BBB' category median of 2x.
GOOD, BUT WEAKENED REVENUE-ONLY COVERAGE: LSS' historical revenue-only debt service coverage has been good when compared to 'BBB' category rated peers reflecting its Type-C resident contracts and solid core profitability. Pro forma revenue-only coverage was 1.2x for fiscal 2015, but weakened to 0.8x through the first six months of fiscal 2016 mostly as a result of greater than expected operating losses at LSS' newly acquired care center. However, coverage is projected to improve during the second half of the year due to recovering operations and increased investment returns.
CONSISTENTLY SOLID OCCUPANCY: Occupancy across the continuum of care has been mostly consistent despite fill-up periods at several facilities and averaged a very good 95% in the ILUs, 89.5% in the ALUs, and 84% for the SNFs during the six month period ending June 30, 2016. SNF occupancy softened in the current fiscal year due to shorter lengths of stay for rehabilitation patients and the acquisition and consolidation of a large care center earlier this year.
CAPITAL SPENDING PLANS: Lutheran Senior Services (LSS) has demonstrated its ability to execute on its campus expansion and repositioning projects which has resulted in strong revenue growth and maintenance of liquidity, profitability and debt metrics. However, there is nearly no debt capacity at the current rating level unless ILU demand is evident and balance sheet and debt service coverage metrics remain consistent with fiscal 2015 levels. Management is reviewing various projects that may result in the issuance of additional debt or use of cash balances. Fitch will incorporate any potential additional debt issuance or capital spending into the rating at the time when plans are finalized.
OPERATIONS OF ACQUIRED FACILITY: While operating losses during the consolidation of its new skilled care facility are running above budgeted levels, Fitch believes the LSS'losses are manageable at the current rating if coverage improves from year-to-date levels and liquidity metrics are not diluted. However, the worsened financial performance could lead to negative rating pressure if LSS does not meet its updated projections. Over time, the new campus is expected to provide LSS with growth opportunities to broaden its business base and enhance returns.
LSS is a Type-C CCRC system headquartered in St. Louis, MO and the majority of its entrance fee contracts are refundable. Any refunds are payable upon re-occupancy of the ILU and receipt of a new entrance fee. LSS directly or through various affiliated nonprofit corporations, owns, operates, and manages a regional, multi-site senior living system comprising 17 owned communities or providers, and five communities under management but not owned by LSS or any of its affiliates. These communities are located throughout Missouri and Illinois, with a high concentration in the St. Louis area. In the obligated group, LSS has 1,263 ILU apartments, 314 ILU patio homes, 690 ALUs, and 1,128 SNF units for a total of 3,395 units. LSS had total operating revenue of $191 million in fiscal 2015. The financials and ratios cited in this press release are based on the consolidated LSS system.
Four of LSS' full service retirement communities, one stand-alone assisted living facility and one skilled care center are located in the St. Louis metropolitan area. Additionally, the care center that was acquired earlier this year is also located in suburban St. Louis. As a result, LSS enjoys strong brand recognition, favorable geographic coverage and benefits from economies of scale in the region.
MASON POINTE OPERATIONS
Most of the series 2016A bond proceeds were used to acquire a 230-unit skilled care community (Cedars at Town and Country or CTC) and to consolidate and replace the care center operations of a business that LSS assumed from Mercy Hospital of St. Louis during August 2015. As expected after the acquisition, LSS moved all operations to the new site and renamed the campus Mason Pointe. Mason Pointe gives LSS a fifth location in the St. Louis area, providing enhanced geographic coverage, broader sub-acute care service offerings, and increased scale to support its Medicare business and bundled payment initiatives for certain short-stay rehabilitation cases.
However, both census levels and financial performance trailed initial projections since LSS had to limit admissions as they completed renovations and prepared to consolidate operations. Therefore, at the end of May 2016 after the consolidation, census at Mason Point was about 196, verses a budgeted level of 238. As a result, operating losses increased above budgeted levels and amounted to $3.5 million through the first six months of fiscal 2016. Losses at the care center operations assumed from Mercy Hospital prior to the consolidation were also slightly above budget at $1.4 million.
Updated projections for the remainder of fiscal 2016 indicate another $3 million of losses at Mason Pointe. Strategies to accelerate census and earnings improvements include expanding ALU options, adding a new 30-bed SNF unit, and increases to short stay rehabilitation programs. Fitch anticipates that LSS meet its updated projections and steadily improves Mason Pointe's operations thereafter.
Capital spending has been very robust, particularly over the last five years, averaging about 207% of depreciation expense (2011-2015). This level of capital spending exceeds Fitch's 2015 'BBB' category median average of 106.2%, as LSS has been funding campus renovations and upgrades throughout its system. A large portion of the money borrowed with the series 2014 bond issue was to fund an expansion at Concordia Village in Springfield, IL. The $24 million expansion was completed in October 2015 and added 67 new entrance fee ILUs, additional parking, updated common areas and a new wellness center. All of the units are sold and 66 of the 67 ILUs are occupied with $16 million of initial entrance fees collected. The $20 million Lutheran Hillside Village (Peoria, IL) care center project partially funded with the series 2016A bonds is mostly complete and awaiting licensure approvals. LSS' significant capital investments has resulted in a very low average age of plant of 8.9 years as of June 30, 2016, compared to the 'BBB' category median of 11.5 years.
Certain of LSS' debt metrics are elevated when compared to Fitch's 'BBB' category medians reflecting its robust capital reinvestment strategy and expansion plans. Pro forma MADS as a percentage of revenues has moderated over the last four years reflecting strong revenue growth and anticipated savings from the series 2016B refunding. For 2015, pro forma MADS equated to 15.2% of total revenues which is a sharp improvement from 19.6% in 2011. Pro forma debt to net-available of 8.9x in 2015 is above the 'BBB' category median of 5.9x but is improved from 10.6x in 2011. Pro forma MADS coverage (including turnover entrance fee receipts) was solid at 1.7x in 2015 compared to the 'BBB' median of 2x. LSS' pro forma revenue-only coverage in 2015 was good at 1.2x compared to the 'BBB' category median of 1.0x, reflecting the predominance of LSS' Type-C resident contracts and good core profitability. This is viewed favorably by Fitch as LSS is not dependent on entrance fee receipts to cover debt service, which is more typical for Type-C communities. Regardless, coverage weakened through the first six months of 2016 mostly due to greater than expected operating losses at Mason Pointe.
Occupancy across the continuum of care has been mostly consistent despite fill-up periods at several facilities. LSS enjoys strong demand due to its long operating history, proactive marketing strategies, favorable locations and attractive facilities. ILU occupancy averaged nearly 93% from fiscal 2012-2015, increasing slightly each year. For the six month period ending June 30, 2016, ILU occupancy averaged 95% even as LSS was in the process of filling 67 new units at Concordia Village that were placed in service during October 2015.
ALU occupancy averaged 92.1% from fiscal 2012-2015, increasing from 89% in 2011. For the six month period ending June 30, 2016, ALU occupancy was down a bit and averaged 89.5% as a result of above average unit turn over. SNF occupancy averaged 91.2% from fiscal 2012-2015 and decreased to 84% for the six month period ending June 30, 2016, given the consolidation at Mason Pointe and growing rehabilitation business which has much lower and declining lengths of stay. Nonetheless, the number of short stay rehabilitation admissions has accelerated over the past few years providing LSS a growing market presence in that service line.
LSS' operating profitability was solid and consistent from 2011-2015. Additionally, LSS benefits from good revenue diversity due to its multiple locations, with no single community or enterprise representing more than 22% of total operating revenues. For 2015, LSS posted an operating ratio of 91.3% which was slightly above the prior year levels and on par with 2013's 91.2% operating ratio. Fiscal 2015's net operating margin (NOM) and NOM-adjusted of 14.3% and 20.5%, respectively, were relatively stable versus the last few years and compares well to the 'BBB' category median NOM of 8.9% and NOM-adjusted of 19.3%.
LSS' revenue growth has been strong. Total operating revenues grew steadily over the last four years from $147.6 million in 2011 to $191 million in 2015. The revenue growth and consistent profitability are indicative of management's ability to grow services and execute on campus improvements without diluting system profitability. Regardless, profitability weakened through the first six months of 2016, with the operating ratio increasing to 95% and the NOM falling to 12% as of June 30, 2016. The operating losses are mostly occurring at Mason Pointe and are expected to continue until census improves, but Fitch views management's improvement plan to be reasonable. Fitch believes the losses are manageable at the current rating if coverage improves from year-to-date levels and liquidity metrics are not diluted. However, the worsened financial performance could lead to negative rating pressure if LSS does not meet its updated projections.
LSS' liquidity measures are adequate, but were stagnant over the last few years given the heavy capital spending. At June 30, 2016, LSS had $195.3 million of unrestricted cash and investments which equals levels at the end of 2014. Liquidity metrics at June 30, 2016 of 366 days cash on hand (DCOH), 6.6x pro forma cushion ratio and 42% pro forma cash-to-long-term debt are mostly consistent with the respective 'BBB' category medians of 400 days, 7.3x and 60%. DCOH in the current fiscal year is compressed given the increase in operating expenses from to the Mason Pointe acquisition. Fitch notes that LSS' Type-C resident contracts and significant capital investment suppresses liquidity metrics when compared to 'BBB' category medians.
LSS' disclosure practices are excellent. In addition to audited financial statements, quarterly disclosure includes balance sheet, income statement, statement of cash flows, occupancy statistics and detailed management discussion and analysis.
Outstanding LSS debt rated by Fitch as of Sept. 13, 2016:
--$53.3 million Missouri Health and Educational Facilities Authority senior living facilities revenue bonds, series 2016A;
--$78.5 million Missouri Health and Educational Facilities Authority senior living facilities revenue bonds, series 2014A;
--$45.7 million Missouri Health and Educational Facilities Authority senior living facilities revenue bonds, series 2011;
--$37.8 million Missouri Health and Educational Facilities Authority revenue bonds, series 2010;
--$15.9 million Missouri Health and Educational Facilities Authority revenue refunding bonds, series 2007C;
--$11.6 million Missouri Health and Educational Facilities Authority revenue refunding bonds, series 2007B;
--$18.8 million Missouri Health and Educational Facilities Authority revenue refunding bonds, series 2007A;
--$40.2 million Illinois Finance Authority revenue refunding bonds, series 2006.