Fitch Affirms Virginia Hospital Center, VA Revs at 'AA-'; Outlook Stable
OREANDA-NEWS. Fitch Ratings has affirmed its 'AA-' rating on the following Industrial Development Authority of Arlington County, Virginia hospital revenue bonds issued on behalf of Virginia Hospital Center Arlington Health System (VHC):
-- $122.1 million series 2010.
The Rating Outlook is Stable.
Debt payments are secured by a pledge of the gross revenues of the VHC obligated group, which consists solely of Virginia Hospital Center. Fitch reports on the performance of the consolidated Virginia Hospital Center Arlington Health System (VHCHS), which includes the Virginia Hospital Center Physician Group as well as several other affiliates.
KEY RATING DRIVERS:
EXCELLENT LIQUIDITY: VHC has maintained its strong liquidity metrics supported by solid cash flow from operations. At Dec. 31, 2015 (fiscal year-end, unaudited), VHC reported unrestricted cash and investments of $692.5 million, equal to 632.5 days cash on hand (DCOH), 60.2x cushion ratio, and cash equal to 587% of long-term debt, all significantly higher than the 'AA' category medians. VHC's investment allocation is relatively aggressive, but in Fitch's view acceptable given its liquidity levels.
STRONG PROFITABILITY MAINTAINED: VHC continues to produce strong operating results based on good volumes, in part due to the contract with Kaiser Permanente (Kaiser), recently extended for an additional five-years to 2021. VHC has consistently produced operating and operating EBITDA margins in the last several years exceeding Fitch's 'AA' rating category medians, most recently 6.3% and 14.5%, respectively, in 2014 and 5.4% and 13.2% in 2015 (unaudited).
COMPETITIVE SERVICE AREA: Despite the competitive nature of VHC's market, VHC's volumes and market share have been stable in what is a demographically desirable area (Arlington County is rated 'AAA' by Fitch) and at times the facility faces capacity issues. Market share at 34.2% is still the highest among the individual providers, slightly better than Inova Fairfax's 33.6% and Inova Alexandria's 21.9%. The recent construction of an HCA hospital in Loudon County has not had a negative impact on VHC's volumes.
MODEST LEVERAGE: VHC's coverage of maximum annual debt service (MADS) was a robust 8x and 7.9x in 2014 and 2015, and MADS is moderate 2.5% of 2015 revenues. Capital budget will increase slightly in 2017-2018 when the system plans to replace its IT platform, but the potential expense can be absorbed from operating cash-flow. A Master Facility Plan (MFP) is being developed to address capacity issues.
MAINTAIN STRONG OPERATING PROFILE: While the typically conservative budget for fiscal 2016 calls for a slightly lower operating margin in the 2.9% range, Fitch expects VCH to continue to produce strong coverage, while maintaining low leverage and substantial liquidity.
Virginia Hospital Center Arlington Health System (VHC) is a 350-bed tertiary teaching hospital located in Arlington, VA, which is across the Potomac River from Washington DC. VHC generated total revenues of $454.3 million in fiscal 2015 (unaudited). The system recently became a member of the Mayo Clinic Care Network, which facilitates clinical collaboration on several levels, including access to common clinical protocols and second opinion through 'e-consult'.
VHC's cash and unrestricted investments increased to $692.5 million at Dec. 31, 2015 year-end, up from $532.3 million at year-end 2012, equal to 632.5 DCOH and cash equal to 587% of debt, well exceeding the 'AA' category medians of 289.4 DCOH and 202% cash-to-debt. Fitch notes that VHC's investment allocation is aggressive, with close to 84% in equities and 16% in alternative investments, but in Fitch's view this is acceptable given the liquidity levels and given that all of VHC's long-term debt is in fixed-rate mode with no swap exposure. Fitch views VHC's strong liquidity position as a mitigant against the potential operating volatility associated with VHC's smaller revenue base relative to the rating category.
SOLID PROFITABILITY MAINTAINED
VHC consistently generates operating metrics better than Fitch's 'AA' medians. Fiscal 2014 ended with operating income of $27.6 million, equal to operating and operating EBITDA margins of 6.3% and 14.5%, respectively, and the system reported operating income of $24.3 million, equal to 5.4% operating margin and 13.2 % operating margin, both favorable to the 'AA' category medians of 4.9% and 11.5%. The partnership agreement with Kaiser, which designates VHC as the hospital of choice for Kaiser subscribers and their tertiary provider in the market, has been extended to November 2021 and it is management's expectation that the contract is likely to be extended beyond that date. Kaiser patients accounted for 25% of VHC's managed care revenues in 2015, and the Kaiser patient load has contributed to VHC's stable volumes and market share. Management reports that at peak times utilization is pressing up against inpatient capacity.
Management has taken several steps to improve productivity and reduce physician losses, including converting physician compensation to relative value unit (RVU) basis, expanding its primary care network, and retrenching on some specialties, with the goal of reducing physician losses by 50%. The budget for fiscal 2016 is for operating income of $13.5 million, but the system typically budgets conservatively and produces operating gains exceeding budget.
ADEQUATE DEBT CAPACITY
Given capacity challenges and its landlocked location, the institution is in the process of formulating an MFP to address the institution's needs for the longer term. In December 2015 the system signed an option to purchase a five-acre track of county-owned land adjacent to the hospital. The option can be exercised in 30 months but no later than 48 months and the purchase price, which the institution can pay by cash or a combination of cash and a land swap, is currently estimated at $12.6 million. Due to various approval requirements, including certificate of need (CON) and the need to complete the MFP, any potential construction is unlikely within the next three years. Other than routine capital expense of approximately $30 million (equal to depreciation expense) medium-term capital needs will include a new IT platform to be implemented in 2017-2018, which management plans to fund from operating cash-flow.
Fitch views VHC's relatively light debt burden as a credit positive. MADS coverage by EBITDA of 7.9x in 2015 was better than the 'AA' category median of 5.7x and MADS as a percent of revenues at 2.5% is moderate and consistent with the rating category median; debt-to-capitalization is a very low 13%. In Fitch's opinion, with any potential financing for the MFP being several years off, VHC does have debt capacity at the current rating level.