Fitch affirms Catholic Health Initiatives at ‘BBB+’; removes from Rating Watch Evolving

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Fitch Ratings announced it has affirmed Catholic Health Initiatives’ ‘BBB+’ rating, removing it from Rating Watch Evolving and assigning it a Stable Outlook. Catholic Health Initiatives is the financier for Centura, which operates Penrose-St. Francis Health Services locally.

Fitch has also affirmed the short-term “F2” rating on approximately $912 million of debt additionally supported by CHI’s self-liquidity, removing the “F2” from Rating Watch Evolving.

CHI, a nonprofit, received a credit rating downgrade from S&P Global Ratings, Fitch Ratings and Moody’s during the summer of 2016, and the Arapahoe County-based organization started 2017 with a negative outlook.

The Rating Outlook today is Stable.

As for the resolution of the rating watch, a news release issued by Fitch states the decision reflects “the final terms of CHI’s definitive agreement to align its operation with another sizable nonprofit health care system, Dignity Health (A/Rating Watch Negative). Pursuant to the transaction, which is not expected to close until late 2018, the credit groups will remain separate for at least a couple of years after the close. Over the long term, Fitch views the alignment as a positive for CHI as Dignity Health has a more solid financial profile and maintains strong operational oversight of its acute care markets.”

The release also states that a stronger start to fiscal year 2018 supports the stable outlook: “CHI’s unaudited five month results through November show a continuing trend of improvement based on improvements from the continuing operations in Kentucky, strong results in the Pacific Northwest and Colorado markets, and continued improvements from labor and supply cost initiatives throughout the system. … Fitch anticipates that fiscal 2018 will be the first year of improved, albeit modest, results following years of low cash flow generation and large operating losses.”

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According to the release, CHI’s operating results were below budget again in fiscal 2017, marking the fifth year of consecutive losses (as calculated by Fitch) and weak operating earnings before interest, taxes, depreciation and amortization.

“Poor performance has been the result of the failed execution of its strategic decisions in Kentucky, continued challenges in the Texas market and lack of organic growth in most markets,” the release states. “Further, CHI recognized a net asset loss from discontinued operations at the end of fiscal 2017 with the divestiture of substantially all of the KentuckyOne’s Louisville operations.”

Fitch states CHI has sufficient liquidity “in the form of highly liquid unrestricted cash and investments and dedicated lines of credit to support the short-term rating of ‘F2.'”

The release states that, as of September, “CHI’s ratio of eligible cash and investments to variable-rate obligations exceeded Fitch’s criteria threshold of 1.25x. The ‘F2’ short-term rating is correlated with the long-term rating of ‘BBB+.'”

Regarding operating cash flow, Fitch found CHI has begun to see progress on its cost initiatives, but the system “needs to grow market share and garner significant incremental volumes in key markets to improve operating cash flow to a level that provides higher debt coverage. Failure to achieve these goals and improve cash flow may stress the rating. Alternatively, a successful completion of the alignment with Dignity may bring a stronger operating model that may yield longer-term financial advantages.”

CHI generates nearly $16 billion in annual revenue, making it one of the largest nonprofit integrated health care delivery systems in the nation. The system comprises 10 regions in 17 states that are operated as integrated health systems.

Locally, CHI’s financial problems led to a nine-month delay in the construction of a $102-million expansion at the St. Francis campus on the city’s Eastside. That expansion is expected to open in 2019.

Additionally, CHI and Dignity Health ended 2017 with an announcement that they had entered into a  Definitive Agreement. The transaction is expected to close in just less than a year after undergoing a series of approvals. The newly formed system will be headquartered in Chicago and the two companies will continue to operate local hospitals under their current respective names and brands.

“In the meantime, CHI is focusing on sustaining the modest trend of operating improvement that it [began] in 2017,” according to the Fitch release. “Overall system improvement is heavily conditioned on stabilizing the Texas market, which accounts for approximately 14 [percent] of system revenues. Texas is the third largest CHI market and its lowest performer. Management has invested heavily in the success of this market and despite the time and resources spent to date the strategies have yielded limited success. Much of the improvement in 2017 for Texas came from significant labor reductions. In the first quarter of 2018, Texas experienced a $26 million loss from business interruption after hurricane Harvey.”

CHI’s two largest regions, Pacific Northwest and Colorado, are performing well, according to Fitch, posting double-digit operating EBITDA margins.

“Improved physician alignment and utilization growth in Texas would significantly boost CHI’s recovery, but Fitch expects that this process is likely to extend beyond the 2018 horizon,” the release states.