[October 30, 2014]

Fitch Affirms Swedish Covenant Hospital (IL) Revs at 'BBB+'; Outlook Stable

Fitch Ratings has affirmed the 'BBB+' rating on the following Illinois Finance Authority bonds issued on behalf of Swedish Covenant Hospital (SCH):

--$94.1 million revenue refunding bonds, series 2010A;

--$53.3 million variable rate demand revenue bonds, series 2008A.

The Rating Outlook is Stable.

SCH has an additional $37.9 million in privately placed debt, which Fitch does not rate but includes in its analysis.

SECURITY

The bonds are secured by a pledge of the gross revenues of the obligated group and a fully funded debt service reserve.

KEY RATING DRIVERS

UNEXPECTED LOSSES IN 2014: Profitability was pressured in 2014 due to financial challenges associated with the physician practice and reduced inpatient volumes, as well as other operating pressures. Through the nine month interim period ended June 30, 2014, SCH generated a -2.2% operating loss and a 7.5% operating EBITDA margin compared to Fitch's 'BBB' category medians of 1.1% and 7.9%, respectively. The rating action reflects Fitch's expectation that operating profitability will improve in fiscal 2015. Management expects to achieve a small operating gain in 2015 which Fitch considers to be attainable given management's assumptions.

LIQUIDITY REMAINS SOLID: SCH's liquidity has continued to improve despite recent operating pressures; due in part to the hospital's waning capital needs, and serves as an important buffer to mitigate the risks of SCH's relatively limited scale. Unrestricted cash and investments totaled 145.6 million at June 30th, which translated to 190.8 days cash on hand (DCOH) and a cushion ratio of 11.2x, both favorable relative to the 'BBB' medians of 145 DCOH and cushion ratio of 10.5x. Cash to debt of 76.9% is somewhat light against the median of 93.6%, but improved from 65.3% in fiscal 2013.

HEAVY DEBT BURDEN: SCH's heavy debt burden elevates the importance of reversing recent operating losses in order to generate satisfactory debt service coverage. Through the nine month interim period ended June 30, 2014, maximum annual debt service (MADS) represented 4.4% of operating revenues which is above the 'BBB' category median of 3.6%. Coverage of MADS by operating EBITDA was 1.7x through third quarter (3Q) which is weak relative to the 'BBB' category median of 2.3x. There are no additional debt plans over the near-to-intermediate term.

COMPETITIVE SERVICE AREA: The greater Chicago market is competitive, and SCH's service area in northern Cook County houses several sizeable competitors with comparable services. While SCH managed to grow its inpatient market position over the past few years, most recently to 48.5% in year-to-date fiscal 2014, Fitch expects heightened competitive activity for a limited clinical volume base to remain an ongoing credit challenge.

RATING SENSITIVITIES

BETTER OPERATING RESULTS: Rating stability is predicated on management's ability to successfully achieve its budgeted financial performance over the next 12 months. Specifically, management is budgeting for an operating EBITDA of 9.5% in fiscal 2015 and multi-year projections indicate sustaining steady profitability and stable balance sheet metrics. While Fitch believes that SCH will improve operating profitability in fiscal 2015, an inability to improve operating performance will likely result in negative rating action.

CREDIT PROFILE

Located approximately 10 miles north of Chicago city center in the avenswood community, SCH is a 323-bed acute care hospital which was founded by the Evangelical Covenant Church in 1886.

The sole corporate member of SCH is Covenant Ministries of Benevolence (CMB), which is a subordinate entity of the Church. Total operating revenues were $287.2 million in fiscal 2013 (Sept. 30 year end).

MARGIN COMPRESSION IN 2014

A variety of factors impacted SCH's operating profitability during 2014, including an overall decline in clinical volumes SCH's primary and secondary service area, the ongoing shift to outpatient services and the increased expenses associated with SCH's physician practice acquisition/growth. As of June 30, 2014, admissions, inpatient surgeries, and deliveries were down year-over-year by 9.5%, 8.1% and 1.6%, respectively. Revenue-related pressures have been exacerbated by losses in the physician practice which are expected to narrow by approximately 25% on a per-provider basis in fiscal 2015.

The rating affirmation and Stable Outlook reflects Fitch's expectation that SCH will meet improved operating results in fiscal 2015, and continue preserve its balance sheet strength. Fitch believes that the underlying assumptions in SCH's 2015 operating budget are reasonable and attainable. Specifically, management is seeking to reduce expenses through various initiatives, including right-sizing hospital staffing and curtailing capital expenditures. Additionally, management is seeking to bolster revenues through new clinical practices and improve physician productivity. While better performance is anticipated, Fitch believes negative rating pressure is likely should SCH fail to return to its historical levels of operating profitability.

SERVICE AREA CHALLENGES

While SCH operates in a competitive and diverse market, its position has strengthened and is bolstered by its safety net designation. In addition to recent operating losses, credit challenges including a competitive landscape in the greater Chicago area, and SCH's significant level of government and supplemental revenues. This continues to be offset by SCH's position as a safety net provider, which affords some supplemental reimbursement from Medicare and Medicaid, as well as legislative support both locally and at a state level.

SCH received approximately $26.7 million in Medicare disproportionate share hospital (DSH), safety net designation payments, Medicaid high volume DSH, and net Illinois provider assessment payments in fiscal 2013, and expects largely flat receipts for 2014. The uncertain future of these supplemental funds presents risk to SCH's revenue base over the longer term.

While SCH experienced a decline in inpatient admissions, inpatient surgeries and emergency room visits, Fitch notes that SCH maintained its leading inpatient market share position of 48.5% in the primary service area through the 2Q 2014.

DEBT PROFILE

SCH has approximately $185.3 million in outstanding debt (approximately 21% is privately placed debt). Excluding the current portion, long-term debt is comprised of $123.3 million of fixed rate debt (66.5%), $53.3 million of variable rate demand bonds (28.7%) and the remainder in variable rate notes. With swaps, debt mix is 90% fixed and 10% variable. No collateral was required to be posted at Sept. 30, 2014. The variable rate demand bonds are supported by a letter of credit with PNC (News - Alert) (rated 'A+/F1') that expires on Sept. 26, 2016.

ONGOING DISCLOSURE

As part of its continuing disclosure agreement, SCH covenants to disclose annual financial information within 150 days of each fiscal year end and quarterly information within 60 days on each fiscal quarter-end to the Municipal Securities Rulemaking Board's EMMA system. Fitch reports that SCH has provided consistent disclosure with very good access to management.

Additional information is available at 'www.fitchratings.com'.

Applicable Criteria and Related Research:

--'Nonprofit Hospitals and Health Systems Rating Criteria', dated May 24, 2014.

Applicable Criteria and Related Research:

U.S. Nonprofit Hospitals and Health Systems Rating Criteria

http://www.fitchratings.com/creditdesk/reports/report_frame.cfm?rpt_id=746860

Additional Disclosure

Solicitation Status

http://www.fitchratings.com/gws/en/disclosure/solicitation?pr_id=912316

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