Fitch Rates Lexington Retirement Community's (d/b/a Kendal at Lexington, VA) 2016 Revs 'BBB-'
---$27,430,000 residential care facility refunding revenue bonds, series 2016.
The Rating Outlook is Stable.
SECURITY
The bonds are secured by a mortgage lien on the facility and a security interest in the gross receipts, unrestricted funds and other pledged assets of the obligated group, of which KAL is the sole member. A debt service reserve fund will be funded.
KEY RATING DRIVERS
SOLID FINANCIAL PERFORMANCE: KAL maintains high occupancy across all levels of care, which drives solid financial performance. KAL's operating ratio and net operating margin - adjusted compare well to Fitch's 'BBB' category medians, and have averaged 98.8% and 28% over the last four audited years. Pro forma maximum annual debt service (MADS) coverage over this time averaged 2.1x compared to the category median of 2x. The steady financial performance offset KAL's smaller revenue base, which at $15 million in 2015 is one of the smallest at the investment grade level.
GOOD MARKET POSITION: Fitch views KAL's market position as a positive credit factor. KAL is the only Type 'A' Lifecare contract facility in its primary service area of Lexington, VA. The service area characteristics are solid, anchored by two colleges, Washington and Lee University and the Virginia Military Institute. KAL also attracts residents from a broad geographical region, with 55% of current residents coming from outside the five mile service area, including 38% from outside of the state.
KENDAL ASSOCIATION: Fitch views KAL's relationship with Kendal Corporation as a positive credit factor. Kendal provides guidance in the areas of finance, purchasing, marketing and human resources, as well as a recognizable brand name.
LIQUIDITY GROWTH: Unrestricted cash and investments improved 53% over the last four audited years, and KAL's liquidity metrics are currently in line with 'BBB' category medians.
CAPITAL PROJECT EXPECTED: KAL is contemplating various capital improvements including a health center renovation, assisted living (AL) renovation and a cottage expansion. While plans have not been finalized the rating incorporates the likelihood of additional debt to fund the projects, as many of KAL's current financial ratios are strong for the rating level and closer to the middle of the 'BBB' category. This gives KAL some debt capacity at the 'BBB-' rating level.
RATING SENSITIVITIES
STEADY OPERATING PROFILE: Fitch expects Lexington Retirement Community, Inc. d/b/a Kendal at Lexington (KAL) will maintain its current financial performance supported by the strong market position and high occupancy.
CAPITAL PROJECT: The impact of the project and any associated borrowing will be determined by the final size, scope, and timing of the project. More clarity on the project is expected in the next year.
CREDIT PROFILE
KAL is a not for profit corporation that operates a continuing care retirement community. The campus is located close to downtown Lexington, VA, and sits on approximately 84 acres of land. The campus currently has 120 IL units (65 cottages/55 apartments), 20 AL units, and 60 skilled nursing beds. KAL offers both a Type 'A' and Type 'B' contract, but 66% of current residents have a Type 'A' contract. Total operating revenue in 2015 was $15.5 million.
Solid Financial Profile
Most of KAL's financial metrics are good for the rating level. After a weaker year in fiscal 2012 in which the operating ratio was 103.9% and pro forma MADS coverage was 1.6x, KAL has put together three solid years of operating performance. Fiscal 2015 results show a 97.4% operating ratio, a 30.3% net operating margin - adjusted, and MADS coverage 2.4x, relative to Fitch's 'BBB' category medians of 96.1%, 19.3%, and 2x, respectively. Six month 2016 interim results show performance remaining steady.
The good performance has been supported by high occupancy across all levels of care. At June 30, 2016, IL occupancy was 97%, AL occupancy was 90%, and skilled nursing occupancy was 92%. These figures are mostly consistent through the historical period. KAL is unusual in that it has a high number of skilled nursing beds relative to its IL units.
Approximately 50% of resident service revenue comes from the health centers, with approximately 29% of health center revenue from Medicaid. KAL has a large number of outside admits flowing through its skilled nursing facility given the number of beds. This need for referrals could be a risk but there is limited competition, with only two other skilled nursing facilities in a 10 mile radius and the skilled nursing center at KAL has a 5 Star Medicare rating.
Currently KAL has a limited number of Type 'A' residents in the skilled nursing center, as the majority of the older residents are on the Type 'B' contract. However, moving forward as the residents on Type 'A' contracts begin to age through the continuum, there could be an impact to KAL's skilled nursing payor mix. KAL does have a younger age of entrance for residents, currently below 80.
KAL's liquidity metrics compare well to the 'BBB' category median. At June 30, 2016, KAL had $16.8 million in unrestricted cash and investments, which equated to 491 days cash on hand and 56.1% cash to debt. Fitch 'BBB' category medians are 466 and 60.6%, respectively. KAL has added approximately $6.2 million to its balance sheet since fiscal 2012.
Over this time, capital expenditures have been restrained, averaging 36% of depreciation over the last four audited years, with depreciation at about $2 million a year. Fitch is not concerned about the lower capital spending affecting the marketability of the campus. However, with the expected capital project coming Fitch would expect limited further growth to unrestricted cash and investments.
Good Market Position
Fitch views KAL's market position as a positive credit factor. KAL is the only Type 'A' Lifecare contract facility in its primary service area of Lexington, VA. The area has two colleges, Washington and Lee University and the Virginia Military Institute. The draw of the schools and the region overall is reflected in that 38% of current KAL residents come from outside of the state. The Type 'A' contract and price point keep KAL competitive regionally.
Additionally, KAL's management relationship with the Kendal Corporation provides a level of resources and expertise not often available to smaller standalone CCRCs. Fitch notes as a positive that the founders of the community brought on Kendal, recognizing early the challenges of developing and running a CCRC. Kendal's management fee is subordinate to debt service. This provides an extra layer of financial flexibility as KAL pursues its expansion.
Capital Project
KAL is considering a capital project that would include a health center renovation and an AL and IL expansion that would add more cottages. KAL has engaged an architectural and engineering firm for renderings on these and other identified campus needs.
In terms of an IL expansion, KAL's cottages are fully occupied, and it currently has a waitlist of 145, which indicates good demand. KAL's assisted living apartments and health center were built in 2000 and 2002, respectively. Fitch believes models for skilled nursing care and assisted living have evolved since then, including in cognitive and rehabilitation care. The renovations of these areas would likely enhance KAL's marketing of the campus.
KAL is expected to complete a land swap in the next few months, which would provide buildable land to meet current and future needs. KAL would also need to request rezoning from both the City of Lexington and Rockbridge County before any construction could move forward.
The cost of the project is currently being determined. The 'BBB-' rating reflects, in part, the likelihood that the project will move forward. Given that KAL's current financial ratios are closer to the middle of the 'BBB' category, there is some debt capacity at the 'BBB-' rating level for KAL to pursue the project.
Disclosure
KAL covenants to disclose on EMMA within 45 days after the end of each quarter of each Fiscal Year income statements, balance sheet, and statement of cash flows, as well as occupancy data, debt service coverage ratio, and MD&A.
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