Fitch Rates Oregon Health and Science Univ (OR) Series 2015C Bonds 'AA-'; Upgrades Outstanding Debt
The Rating Outlook is revised to Stable from Positive.
Proceeds from the series 2015C taxable fixed-rate bonds will be used for general corporate purposes. The bonds will be structured as a 30-year bullet maturity. The bonds are expected to price the week of July 6 via negotiation.
SECURITY
The bonds are secured by a gross revenue pledge of the obligated group (OG). The OHSU and Doernbecher foundations are not part of the OG. Fitch's analysis is based on the OG (total university) and consolidated financials. The OG accounted for 99% of total assets and 99.9% of total revenue of the consolidated entity in fiscal 2014 (June 30 year-end).
KEY RATING DRIVERS
SUSTAINED STRONG OPERATING PERFORMANCE: The rating upgrade to 'AA-' from 'A+' reflects OHSU's sustained strong operating performance, which has been the result of good revenue growth, focus on cost reduction, and leveraging the qualitative strengths of the organization by partnering with various entities across its missions of research, education, and clinical activities. The rating upgrade also incorporates another \\$240 million of debt that is expected in April 2016.
IMPORTANCE TO THE STATE: OHSU is a public university that became an independent corporation in 1995 to better serve its various missions. OHSU trains over a third of the physicians in the state, provides tertiary and quaternary care at its academic medical center, and is a significant driver of economic activity. The state has provided capital funding in the past and most recently, the state legislature has committed \\$200 million in capital funding toward the Knight Challenge.
BUILDING PARTNERSHIPS: Fitch believes OHSU possesses strong qualitative factors that lead to credit stability in the changing healthcare environment. OHSU is the only academic health center in the state and has developed partnerships with other providers to coordinate care with a goal of improving access and quality while reducing cost. OHSU is also partnering with one of the largest commercial payers in the state (Moda Health) to provide an alternative insurance product focused on population health management.
SIGNIFICANT BOOST IN FUNDRAISING: OHSU'S level of fundraising has significantly increased due to the Knight Challenge, which offered a matching \\$500 million gift if OHSU could raise \\$500 million in calendar year 2014 and 2015. OHSU has met this goal ahead of schedule, and \\$200 million was from the state. OHSU has been the beneficiary of several large gifts from the Knight family, which has been instrumental in the growth in research activity; the additional \\$1 billion will be for cancer research.
LEADER IN HIGH ACUITY CARE IN CONSOLIDATING MARKET: OHSU is located in a competitive and consolidating market, but given its high acuity of services, utilization and revenue growth has exceeded other Oregon hospitals. Over the last eight years, OHSU's total discharges and patient revenue increased 12% and 76%, respectively, while all other Oregon hospitals had a 1% decline in discharges and 50% growth in revenue.
CAPITAL PLANS: OHSU'S 10-year capital plan totals \\$2.4 billion and the two main projects include the Knight Cancer Research Building and an ambulatory care facility adjacent to its current Center for Health and Healing (CHH; outpatient services), which will create capacity for high-tech ambulatory diagnostic and treatment capabilities. The 10-year capital plan will be funded by \\$240 million series 2016 bonds, \\$279 million in gifts and grants, and the remainder from cash flow. Fitch believes these capital plans are manageable given OHSU's current operating cash flow.
RATING SENSITIVITIES
MAINTAIN SOLID FINANCIAL PERFORMANCE: Fitch expects Oregon Health and Science University to maintain its solid financial profile as it continues to further develop strategies related to population health and the changing reimbursement environment. OHSU's long-term profitability targets include a 4% operating margin and 10+% operating EBITDA margin.
CREDIT PROFILE
In addition to the Schools of Medicine, Nursing, and Dentistry, OHSU operates 556 beds in its two hospitals (OHSU Hospital and OHSU Doernbecher Children's Hospital) as well as several outpatient sites, including the CHH its South Waterfront campus. The adjacent Schnitzer campus, also on the waterfront, houses the Collaborative Life Sciences Building (CLSB), which opened in June 2014 and the Knight Cancer Research Building will be constructed adjacent to the CLSB. In fiscal 2014, OHSU had \\$2.3 billion in total revenue.
Fitch's income statement analysis is focused on the 'total university' column in the consolidating statements of OHSU's annual audited financials, which exclude the foundations' activity, which is subject to more volatility in performance as a result of gift activity. Liquidity metrics include the foundations because if the foundations were dissolved, the assets would be distributed to OHSU. In addition, liquidity covenant calculations include unrestricted cash and investments at the foundations.
Distinctive Operating Profile
Fitch believes OHSU has strong qualitative factors such as its relationship with the state, position as the state's only academic health center, and its role in teaching and research that lend it significant credit stability. OHSU is capitalizing on its strengths as a provider of highly complex tertiary and quaternary care by developing partnerships with other providers and payers.
Strong Relationship with the State
Since OHSU is a public university with a high percentage of revenue from healthcare operations, Fitch used both higher education and healthcare rating criteria for OHSU's rating. OHSU has total enrollment of over 2,800 in its schools of dentistry, medicine and nursing, generates over \\$300 million of annual research grants, and operates a 576-licensed-bed teaching hospital. OHSU also has a statewide network of 158 clinicians at 46 practice sites across 36 rural communities.
Fitch believes one of OHSU's main credit strengths continues to be its strong relationship with the state. OHSU is a main driver of economic activity due to its operations and development of its South Waterfront campus. OHSU benefits from a tort cap through the state and also receives ongoing operating support through annual state appropriations as well as periodic capital support. The state, the Oregon University System and the Regional Transit Authority contributed \\$90 million to support the construction of the CLSB. In addition, the state has provided a scholarship fund for 21 students who commit to practicing in rural or other underserved areas after graduation. The most recent support includes the commitment of \\$200 million (GO bond authorization) for the construction of the Knight Cancer Research Building as part of OHSU's share in raising funds for the Knight Challenge.
Building Partnerships
The Portland market is competitive and continues to consolidate. However, OHSU has a statewide draw with 44% of its discharges originating outside of the metropolitan Portland area. Within the metro Portland area, OHSU's market share declined slightly to 17.5% in 2014 compared to its main competitors - Legacy Health with 25.9% and Providence Health & Services (rated 'AA' by Fitch) with 32.4%. OHSU maintains the highest case mix index compared to its competitors at 1.98 for fiscal 2014.
OHSU continues to explore clinical affiliation opportunities with community hospitals to expand its geographic reach and to leverage its tertiary and quaternary expertise to enhance clinical service offerings within the local community setting. OHSU and Salem Health (rated 'A'; Stable Outlook) have announced their intent to affiliate and the proposed structure would result in retaining each respective legal entity but there would be common management and the sharing of income. This is expected to be finalized by the end of the year.
Given OHSU's integrated delivery network with a medical group (faculty) of aligned physicians, Fitch believes the organization is well positioned to implement processes to further drive operating efficiencies in a value-based reimbursement environment. OHSU is a founding member of the Population Health Alliance of Oregon, which includes other health systems that are partnering together to deliver evidence-based and cost effective care and manage risk. OHSU has also partnered with Moda Health - one of the largest commercial insurers in the state - to provide an alternative insurance product to state employees. OHSU provided Moda with \\$50 million (to be reimbursed with series 2015C taxable debt) to assist in the development of population health infrastructure.
Solid Financial Profile
OHSU's revenue stream is concentrated in healthcare operations with 71% from patient care. The other revenue sources include 20.6% from gifts, grants, contracts; 2.7% from tuition; 1.5% from state appropriations; and 4.2% from other. The university's enrollment has increased to 2,861 for fall 2014 compared to 2,721 in fall 2010. The schools of medicine and dentistry are very selective with low acceptance rates. Research has been an important revenue stream with over \\$300 million of sponsored awards in fiscal 2014. Despite flat NIH funding, grants are up 17% through the 10 months ended April 30, 201 5, compared to the same prior period. OHSU has implemented guidelines that require researchers to secure at least 70% of outside funding.
OHSU's overall financial profile is solid and performance has been sustained since Fitch's last rating review in Feb. 2014 when the Outlook was revised to Positive. Operating performance (including gifts) was strong with a 4.2% operating margin (\\$94.7 million operating income) in fiscal 2014 compared to 4.6% operating margin in fiscal 2013 and 4.1% in fiscal 2012 (based on total university performance). Solid performance has been the result of the strong revenue growth due to higher acuity, as well as the continued focus on expenses driven by its process improvement initiatives. The areas of focus include increased productivity of faculty and research staff, uniform administrative processes and purchasing, changes to retirement and medical benefit plans, and improvements to hospital throughput and revenue cycle.
Through the 10 months ended April 30, 2015, OHSU's profitability continues to be strong with a 4.1% operating margin and 10.5% operating EBITDA margin compared to 3.9% and 10.1% the same prior year period. Fitch views management's detailed financial forecast and planning favorably, and in its 10-year projections, operating margins are targeted at 4%, up from 3% during Fitch's last review.
Unrestricted cash and investments have grown to \\$962 million as of April 30, 2015, from \\$745 million at fiscal year end 2011. These figures include the assets of the foundations. While not members of the obligated group, the OHSU and Doernbecher foundations exist for the sole benefit of OHSU and have consistently raised funds for capital improvements and program support. In addition, OHSU's liquidity covenants include the foundations' unrestricted cash. At April 30, 2015, OHSU had 179 days cash on hand and 112% pro forma cash to debt.
Significant Boost in Philanthropy
OHSU has received two large gifts from the Knight family - \\$125 million to create the Knight Cardiovascular Institute and \\$100 million to create the Knight Cancer Institute. In 2013, the Knight family presented a challenge to OHSU to raise \\$500 million for cancer research by December 2015 and if the goal was reached, a \\$500 million matching gift would be made. OHSU has met the goal, which significantly increased its annual fundraising, which averaged about \\$100 million a year. The Knight Challenge gift is expected to be payable over the next several years and will be used to fund cancer research in molecularly targeted early detection.
Collaborative Life Sciences Building
OHSU's most recent capital project, the CLSB, was completed on time and within budget. The CLSB is located on the South Waterfront and provides educational and research space for the programs of OHSU and Oregon University System (Portland State and Oregon State Universities) jointly. This allows for a sharing of resources as well as providing a collaborative learning environment for the students. The facility includes lecture halls, classrooms, laboratories, specialty research centers, office space, and the relocation of the OHSU School of Dentistry. The cost of the facility was \\$295 million with \\$205 million funded by OHSU and \\$90 million from the state.
Future Capital Needs
The 10-year capital plan totals \\$2.4 billion with another \\$240 million of additional debt expected in April 2016. Fitch incorporated the series 2016 bonds in this review. The two main capital projects include the Knight Cancer Research Building and CHH South, which total \\$500 million. The remainder of the capital plan is on annual clinical and academic spending. The sources of funding include \\$240 million series 2016 bonds, \\$279 million from gifts, and the remainder from cash flow. Fitch believes the capital plan is manageable based on OHSU's current operating cash flow.
Debt Portfolio
Total pro forma debt is \\$828 million and is 77% fixed rate and 23% variable rate. OHSU just completed several refinancing of its variable-rate debt that reduced its letter of credit variable-rate debt exposure and increased the initial terms on two direct loans (series 2015A&B bonds). OHSU has two floating- to fixed-rate swaps and the collateral posting threshold is \\$30 million at an 'A+' or higher rating level. No collateral is being posted.
Pro forma MADS is \\$59 million with the series 2015 bonds (calculated per MTI treatment for bullet payment) and MADS including the series 2016 issuance and contemplated series 2009 refinancing would increase to \\$63 million. Coverage based on pro forma MADS with the series 2015 issuance is solid at 4.4x in fiscal 2014 and 4.4x through the 10 months ended April 30, 2015 and is still solid at 4.2x and 4.1x, respectively, including the series 2016 issuance.
Disclosure
OHSU covenants to provide bondholders with annual financial disclosure within 150 days following the end of the fiscal year and quarterly financial disclosure within 60 days of the quarter end for the first three quarters.
Fitch has upgraded the following outstanding debt:
--\\$126,365,000 Oregon Health & Science University (OR) revenue bonds series 2012E
--\\$16,175,000 Oregon Health & Science University (OR) variable-rate demand revenue bonds series 2012C (LOC: U.S. Bank National Association)
--\\$28,520,000 Oregon Health & Science University (OR) variable-rate demand revenue bonds series 2012B-3 (LOC: Union Bank, N.A.)
--\\$117,655,000 Oregon Health & Science University (OR) revenue bonds series 2012A
--\\$158,505,000 Oregon Health & Science University (OR) revenue refunding bonds series 2009A
--\\$58,878,000 Oregon Health & Science University (OR) revenue bonds series 1995A (insured: MBIA Insurance Corp.) Capital appreciation bonds - principal + unaccreted interest as of April, 30, 2015.
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