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Ridgewood NJ, Fitch Ratings Fitch Ratings has affirmed the ‘A+’ rating on approximately $356.4 million series 2019 revenue and refunding bonds that were issued by the New Jersey Health Care Facilities Financing Authority on behalf of Valley Health System Obligated Group (Valley). Fitch has also affirmed Valley’s ‘A+’ Issuer Default Rating (IDR).
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The Rating Outlook is Stable.
SECURITY
The bonds are secured by a pledge of gross revenues of the obligated group (OG), which is comprised solely of The Valley Hospital, a 431-licensed bed acute care hospital in Ridgewood, NJ.
ANALYTICAL CONCLUSION
The affirmation reflects Valley’s strong operational performance, the strength of its market position in a favorable service area, and leverage metrics consistent with the rating level, despite the debt associated with Valley’s $800 million replacement hospital project. The new hospital, which is being built on a greenfield site, two miles from the current campus, remains on time and on budget, even as Valley has managed through delays to discrete components of the project.
Valley expects construction to be completed in 3Q23, with the replacement hospital opening to patients in December 2023. About $400 million in debt, issued in 2019, along with an equity contribution and philanthropy, is funding the project. The target for philanthropy is $125 million. Valley reports about $100 million of philanthropic funds raised, with most of those funds already received.
Fitch’s forward look shows Valley producing margins consist with a strong operating risk assessment through the end of 2023. Operating margins tighten as the new hospital opens and ramps up through 2024 and 2025, with margins beginning to improve to levels closer to historical levels starting in 2026. Valley’s financial profile remains stable through Fitch’s stress scenario, as Valley funds, completes, and opens the new hospital.
Additionally, while Fitch’s suggested rating table shows a ‘aa’ financial profile for Valley, the near-term execution risk associated with the last stages of construction and the operational stress as the new hospital opens and ramps up, keeps Valley’s overall credit profile more consistent with an ‘a’ category rating.
KEY RATING DRIVERS
Revenue Defensibility: ‘bbb’
Solid Market Position in Favorable Service Area
The midrange revenue defensibility is supported by Valley’s leading inpatient market share, which is more than double its nearest competitor, in its primary service area (PSA) of Bergen County and parts of Passaic County. Approximately 60% of Valley’s inpatient admissions comes from the PSA. The larger service area is competitive. However, Valley’s sizable group of employed physicians, which includes both primary and specialty physicians, coupled with strategic clinical affiliations, including the Cleveland Clinic for cardiovascular services and Mount Sinai Health System for oncology, pediatrics, gastroenterology, genetics, psychiatry and surgery, have helped Valley maintain and grow its market share.
Valley reports most patient volumes have returned to pre-pandemic levels, with OB/GYN showing notable growth in 2021 and YTD 2022.
Fitch notes that while OB/GYN, especially births, can provide challenging levels of reimbursement due to payor mix, Valley’s positive performance in OB/GYN services reflects the very good demographics in the PSA. Bergen County shows wealth levels well above state and national levels, as well as low unemployment and poverty rates. The positive demographics are further reflected in Valley’s good overall payor mix, with self-pay and Medicaid combining for less than 7% of gross revenues.
Fitch believes the new hospital and the ongoing growth and maturation of the physician group and the clinical affiliations should keep Valley’s market share steady and provide opportunities for further growth in certain service lines.
Operating Risk: ‘a’
Solid Operating Performance; Replacement Hospital on Course
The strong operating risk assessment reflects Valley’s operating performance over the last four audited years, with the operating EBITDA margins averaging 14% over that time. The results have been supported by a $90 million improvement plan implemented by Valley starting in 2018, which also helped Valley manage through the early stages of the pandemic. A return of patient volumes in 2021 and 2022 to levels consistent with or higher than pre-pandemic levels has also contributed to the strong results.
Valley’s performance through the first six months of 2022 shows a 13.7% operating EBITDA margin and Valley is embarking on another improvement plan. Fitch believes Valley’s management’s focus on performance, coupled with the steady volume levels, and supported by Valley’s strong complement of physicians, should help Valley manage through the opening and stabilization of the new hospital.
Valley’s capital spending has been very high, averaging 278.3% of depreciation over the last four audited years, reflecting the new hospital construction project. Fitch’s operating risk assessment reflects the execution risk associated with the project. Capital spending is expected to remain elevated through 2025, then ease to levels closer to depreciation. The capital spending plan includes the transitioning of the current hospital into an outpatient ambulatory center once the new hospital opens.
Financial Profile: ‘aa’
Resilient Financial Profile Through the New Hospital Project
At YE 2021, Valley had approximately $1 billion in unrestricted cash and investments (net of Medicare Advance Funds), which equated to about 198% cash to adjusted debt and days cash on hand of about 403 days. Maximum annual debt service (MADS) coverage was very good at 6.1x (as calculated by Fitch), and the MADS figure used includes the debt service on the 2019 bonds issued in support of the new hospital project.
Fitch’s base case forward look shows the operating performance remaining consistent with historical levels in fiscal 2022. With the opening of the new hospital at the end of fiscal 2023, Fitch assumes the operating performance will weaken, as the new hospital ramps up and the legacy facility transitions to outpatient services, but then gradually improve to levels consistent with the strong operating risk assessment. The forward look incorporates the remaining capital spending for the new hospital project and that includes a combination of remaining bonds funds, philanthropy, and equity.
Base case results show Valley’s adjusted leverage metrics remaining consistent with the ‘aa’ assessment thresholds. For the stress case, a portfolio sensitivity customized to Valley’s asset allocation is included and Fitch’s standard operational stress is applied. Valley’s key leverage metrics show strain in the first two to three years, reflecting the near-term construction and new hospital ramp up stress, but recover to levels consistent with a ‘aa’ financial profile in the latter years of the stress case.
Asymmetric Additional Risk Considerations
No asymmetric risk considerations were factored into the rating determination. The series 2019 bonds represent Valley’s only outstanding long-term debt. They are fixed-rate, fully amortizing bonds with level principal.
RATING SENSITIVITIES
Factors that could, individually or collectively, lead to a negative rating action/downgrade:
–A diminishing of cash flow such that operating EBITDA margins are consistently below 7% and unrestricted cash and investments weakens to below 150%.
–Unexpected project delays or cost overruns that result in material erosion of Valley’s liquidity position.
Factors that could, individually or collectively, lead to a positive rating action/upgrade:
–Positive rating action is unlikely during the Outlook period and would ultimately be predicated on successful completion and stabilization of the new hospital, while Valley maintains a financial profile largely consistent with the current financial profile.
BEST/WORST CASE RATING SCENARIO
International scale credit ratings of Sovereigns, Public Finance and Infrastructure issuers have a best-case rating upgrade scenario (defined as the 99th percentile of rating transitions, measured in a positive direction) of three notches over a three-year rating horizon; and a worst-case rating downgrade scenario (defined as the 99th percentile of rating transitions, measured in a negative direction) of three notches over three years. The complete span of best- and worst-case scenario credit ratings for all rating categories ranges from ‘AAA’ to ‘D’. Best- and worst-case scenario credit ratings are based on historical performance. For more information about the methodology used to determine sector-specific best- and worst-case scenario credit ratings, visit https://www.fitchratings.com/site/re/10111579.
CREDIT PROFILE
Valley Health System (VHS) is a regional healthcare system that includes The Valley Hospital, Valley Home Care, The Valley Hospital Foundation (the foundation) and VHS Insurance Co., LTD (VHS Insurance). Fitch’s analysis is based on the results of the OG, which is comprised solely of The Valley Hospital, but includes the results of Valley Medical Group (VMG), comprised of about 400-employed physicians. In 2021, Valley had total operating revenues of about $1 billion.
In addition to the sources of information identified in Fitch’s applicable criteria specified below, this action was informed by information from Lumesis.
REFERENCES FOR SUBSTANTIALLY MATERIAL SOURCE CITED AS KEY DRIVER OF RATING
The principal sources of information used in the analysis are described in the Applicable Criteria.
ESG CONSIDERATIONS
Unless otherwise disclosed in this section, the highest level of ESG credit relevance is a score of ‘3’. This means ESG issues are credit-neutral or have only a minimal credit impact on the entity, either due to their nature or the way in which they are being managed by the entity. For more information on Fitch’s ESG Relevance Scores, visit www.fitchratings.com/esg.