OREANDA-NEWS. Fitch Ratings has affirmed the 'BBB' rating on the following Westchester County Local Development Corporation revenue refunding bonds (Kendal on Hudson Project):

--$66.4 million series 2013 bonds.

The Rating Outlook is Stable.

SECURITY

The bonds are secured by a gross revenue pledge, a mortgage pledge, and debt service reserve fund.

KEY RATING DRIVERS

PROJECT COMPLETION SHOULD BOLSTER SALES: Kendal on Hudson (KoH) is completing its repositioning project in March and is currently awaiting the survey report and approval from the New York State Department of Health. Delays and disruptions from the construction project prevented KoH from meeting its sales and occupancy targets in 2015, but the community expects to reverse the decline in 2016. Management is enhancing its marketing efforts in 2016 and is targeting to double sales of its independent living units (ILUs) to 36 from 17 sales in 2015.

THIRD YEAR OF WEAK OCCUPANCY: Fiscal 2015 represents the third year of declining occupancy from the organization's historical high of 97% in 2012, when KoH began to experience higher attrition due to the first round of natural turnover since beginning operations in 2005. Revenue erosion yielded a weak operating ratio of 111.7% in 2015 from 109.5% in fiscal 2014 and a stressed net operating margin of -4.2%, which represents a further decline from -2.8% in 2014.

MIXED BALANCE SHEET METRICS: Unrestricted cash and investments totaled $35.7 million in fiscal 2015, which translated to a strong 587 days cash on hand (DCOH), slightly higher than 569 DCOH for fiscal 2014 and exceeding the 'BBB' category median. The repositioning project was debt financed, so while liquidity has remained stable, KoH is highly leveraged. Operations will need to improve to better support debt service.

ASSOCIATION WITH KENDAL: Fitch views KoH's relationship with Kendal Corporation as a positive credit factor. Although Kendal does not have any control at the board or management levels, Kendal provides assistance and guidance in the areas of finance, purchasing, marketing and human resources, as well as a recognizable brand name.

RATING SENSITIVITIES

OPERATING IMPROVEMENT EXPECTED: The rating affirmation and Stable Outlook reflects our expectation that Kendal on Hudsonwill realize the benefits of its marketing strategy to significantly increase sales and net entrance fee receipts in 2016. Further, opening of the reconfigured health center project should bolster core operating performance in the current year. However, a lack of meaningful improvement in financial performance in 2016 would likely trigger negative rating action.

CREDIT PROFILE

KoH is a type-A continuing care retirement community located in Sleepy Hollow, NY. KoH benefits from limited competition and strong real estate values in its market.

With the repositioning, the community consists of 222 ILUs, 34 assisted living unites (ALUs), 13 memory care beds, and 26 beds at the skilled nursing facility (SNF). The project included a renovation of common areas, and added the 13 memory care beds, 10 ALUs, while right sizing the mix of skilled nursing and enriched housing units. KoH's health center repositioning project allows the organization to take advantage of new state licensing regulations to provide memory support services and a wider array of aging-in place services. Fitch views the upgrade to the common areas as favorable and expects these renovations to boost interest in the community's products. KoH had total revenues of approximately $25.8 million in fiscal 2015 (unaudited).

OCCUPANCY CHALLENGES CONTINUED IN 2015

Contrary to plan, KoH's occupancy declined again in 2015 to an average 83% in its ILUs from 87% in 2014. Historically, KoH had experienced high occupancy of over 95% until early 2013 when the community began to experience the first round of natural turnover since beginning operations in 2005. By December 2013, 25% of the ILU residents were at least 90 years old, and the community began to feel the financial effects of lower occupancy at the ILUs, while the increased transfers to ALUs and skilled nursing resulted in less availability for Medicare or private pay entries to the health center.

Management implemented several marketing strategies in 2014, which successfully resulted in enhanced sales of 22 for the year from 10 sales in 2013, yielding improved net entrance fees of $7.5 million from $5.1 million in 2014. At the time of the last rating update, it was expected that 2015 would build on that momentum. However, the repositioning project proved to be disruptive as the common areas that were being renovated were not viewable during tours for prospective residents. Also, the community's focus in 2014 on closing sales prevented the marketing staff from continued emphasis on building lead generation to convert to sales in 2015. Consequently, the community missed its sales targets for the year with only 17 sales. Although sales declined to 17 from 22, the average entrance fee per unit increased, thereby generating net entrance fee levels of $7.8 million in 2015, on level with the $7.5 million in 2014.

KoH has increased its marketing budget in 2016 and added two experienced sales counselors. By adding to the sales staff, KoH was able to re-define the role of the marketing director to focus exclusively on marketing and maintaining a pipeline of potential residents. Management has instituted aggressive targets for generating leads and tours to meet its goals of 36 ILU sales in 2016 and another 36 in 2017. Management also believes that the new common areas, such as the library with glass walls and scenic views and the new fitness center, will help draw interest in the community. As of February, KoH had 15 prospective residents that had been approved by KoH and a longer wait of 140 people with deposits at KoH. Fitch believes this is continued evidence of strong product demand.

ADDITIONAL OPERATING CONSTRAINTS IN 2015

While addressing its occupancy shortfalls, KoH also experienced additional operating challenges in 2015. The memory care center was completed by the fall of 2015 and KoH had expected to be open this unit and occupy it with current contract residents by the end of the year. KoH encountered an unexpected delay in approval from the Department of Health as the new memory care beds were tied to the license for the ALU expansion. KoH is currently awaiting survey results and approval from the department for the memory care beds.

Similar to other retirement communities, KoH also lost Medicare revenue at the health center in 2015 as a result of shorter hospital length of stays that eliminated the three-day qualifying stay for Medicare. KoH estimates that this shift translated to a loss of just over $700 thousand for the year. KoH's average Medicare daily census for the year was just three patients and KoH is budgeting for a continuation of this low census in 2016.

DECREASED COVERAGE AND WEAKENED METRICS

The revenue decline in 2015 is reflected in weakened operating metrics for the year. Maximum annual debt service (MADS) coverage on $5.9 million (Fitch includes the aggregate debt service for the outstanding series 2013 and 2014 bonds) decreased to 1.3x in 2015 from 1.5x in 2014. (Fitch notes that debt service coverage as calculated under the Master Trust Indenture (MTI) for the capitalization period was 1.6x and 1.8x in 2015 and 2014, respectively. MADS increases to $5.9 million in 2016.) These coverages fall short of the 2.0x median for the 'BBB' rating category. MADS represents a high 22.9% of 2015 revenues, up from 21.4% in 2014.

If it meets its sales target in 2016, KoH expects to improve operations by growing net entrance fees to a budgeted $20.1 million from $7.3 million in 2015. Management is targeting occupancy levels above 91% by the end of 2017 with a goal of improving its net operating margin to approximately 6%, from the negative 4.2% margin in 2015. These targets are aggressive, but Fitch believes that the community is better positioned now than it has been in prior years to begin its operating turn-around.

CONSERVATIVE DEBT PROFILE

All of KoH's $85 million of outstanding debt is fixed rate with no outstanding swaps, which Fitch views as conservative. In 2014, KoH privately placed $18 million in a fixed-rate 10-year bank debt with First Niagara Bank, N.A. Security covenants are on parity between KoH's outstanding series 2013 bonds.

DISCLOSURE

KoH provides audited financial statements and operating data to the MSRB's EMMA system not later than 120 days after each fiscal year-end and quarterly unaudited financial statements and operating data with 45 days of each fiscal quarter-end.