News Column

Fitch Affirms Covenant Retirement Communities (IL) Revs at 'BBB+'; Outlook Stable

June 17, 2014

CHICAGO--(BUSINESS WIRE)-- Fitch Ratings has affirmed the 'BBB+' ratings on approximately $333.7 million of revenue bonds issued on behalf of Covenant Retirement Communities, Inc. (CRC) through the following issuing authorities:

--Colorado Health Facilities Authority;

--California Statewide Communities Development Authority;

--Plantation Health Facilities Authority.

The Rating Outlook is Stable.

KEY RATING DRIVERS

BENEFITS OF GEOGRAPHIC DIVERSITY: CRC is a multi-state continuing care retirement community system. Fitch believes the system's overall operating risk profile is reduced due to the size of its operations and the geographic dispersion of its communities. CRC operates 13 communities in eight states with no single one community accounting for more than 11% of obligated group revenues.

STRONG ENTRANCE FEE RECEIPTS: In fiscal 2014 (Jan. 31 fiscal year-end), CRC realized materially stronger unit sales and entrance fee receipts compared to fiscal 2013 and 2012. In fiscal 2014, CRC generated net entrance fee receipts of $50.4 million on 452 re-occupancies compared to $34.2 million of net entrance fee receipts received in fiscal 2013 and $35.3 million in fiscal 2012. Fitch expects net entrance fee receipts to be lower in FY 2015 compared to FY 2014 but ahead of levels in fiscal 2013 and 2012.

IMPROVING OCCUPANCY: Strong unit sales in the 4Q of FY 2014 translated into higher independent living unit (ILU) occupancy. At the end of the 1Q fiscal 2015, (quarter-ended April 30th), occupancy in CRC's 3,014 ILU's was 87.8% compared to 83% at the end of prior year 1Q. Aggregate occupancy in the assisted living and skilled nursing units at April 30th was 85.2% and 87.4%, respectively.

ADEQUATE LIQUIDITY POSITION: CRC's liquidity metrics are adequate when compared to Fitch's 'BBB' category medians. At April 30, 2014, unrestricted cash and investments totaled $190.4 million which equated to 343.5 days cash on hand, a cushion ratio of 6.3 times (x) and 45.5% cash-to-debt compared to the respective 'BBB' medians of 369.0 days cash on hand, a 6.6x cushion ratio and 50.9% cash to debt.

MODERATE DEBT BURDEN: Maximum annual debt service (MADS) of $30.2 million equates to a moderate 12.6% of fiscal 2014 revenues while adjusted debt to capitalization at April 30, 2014 of 57% is in line with the 'BBB' category median of 59%. Coverage of MADS was a solid 2.5x in FY 2014 reflecting the strong net entrance fee receipts.

RATING SENSITIVITIES

SUSTAINED IMPROVED CASH FLOW: Fitch expects CRC's improved financial performance to be sustained and debt service coverage is budgeted to remain above 2x in FY2015. Profitability from core operations should improve as the system benefits from higher ILU occupancy and a focus on improving the payor mix in the SNF should add to improved profitability.

SECURITY

The bonds are secured by a pledge of gross revenue, a mortgage on certain property and a debt service reserve fund.

CREDIT PROFILE

Covenant Retirement Communities is a type B continuing care retirement community (CCRC) system that operates 13 facilities in eight different states. In fiscal 2014, the Obligated Group operated a total of 3,014 ILUs, 724 ALUs and 801 SNFs and generated total operating revenues of $229.2 million. Fitch's analysis and the financial ratios referenced in this report are based on the obligated group results.

Geographic Diversity a Key Credit Strength

The 'BBB+' rating reflects CRC's lower overall operating risk profile due to the size and geographic diversity of its operations and adequate liquidity position. CRC is composed of 13 communities in eight states with no single facility accounting for more than 11% of total obligated group revenues. With communities in Florida, Connecticut, Minnesota, Colorado, Illinois, California, Michigan and Washington, Fitch believes the geographic diversity helps to reduce overall operating volatility from adverse economic, demographic or competitive changes in a particular service area or region. Despite challenges at certain communities in California, Illinois and Florida, CRC's size and geographic diversity remains a primary credit strength.

Improving Occupancy and Profitability

CRC's core operating profitability (excluding turnover entrance fee receipts) improved in FY 2014 reflecting improving occupancy across in the ILUs and further payor mix improvement in the SNFs. While average annual occupancy in the ILUs showed mild improvement in 2014 (84%) compared to the prior year (83%), strong sales in the fourth quarter allowed occupancy in the ILUs to jump to 88.4% at FYE 2014. Eleven of CRC's 12 communities showed higher ILU occupancy at FYE 2014 compared to the prior year end. Only one community has an occupancy rate below rate 80% at FYE 2014 compared to five at FYE 2013.

The new marketing programs and personnel changes made over the last 12-18 months gained traction during FY 2014 as evidenced by the strong sales and net entrance fee receipts generated in FY 2014. Net operating margin (NOM) of 4.1% is an improvement over the prior two years but lags the 'BBB' category median of 9.5%. In FY 2014, CRC recorded the highest number of re-occupancies in its history at 452 which is a substantial improvement from the 252 and 249 re-occupancies generated in the fiscal 2013 and 2012, respectively. As a result, net entrance fee receipts jumped to $50.4 million in fiscal 2014 from $34.2 million in the prior year. Net operating margin-adjusted of 24.1% exceeds the 'BBB' category median of 20.3%.

Management is budgeting for 342 re-occupancies in fiscal 2015 which will result in lower level of net entrance fee receipts compared to fiscal 2014. However, debt service coverage is expected to remain above 2x in fiscal 2015.

Adequate Liquidity

At April 30, 2014, CRC had $190.4 million of unrestricted cash and investments, which equated to 343.5 days cash on hand, a 6.3x cushion ratio and 45.5% cash-to-debt. CRC's cash position is up almost $17 million compared to the prior year period despite making roughly $34 million in investment in PP&E during fiscal 2014 and a total of $11 million in swap termination/ restructuring payments ($5.475 million in October 2013 and March 2014).

Modest Debt Burden

CRC's debt burden remains moderate with MADS of $30.2 million equating to 12.6% of fiscal 2014 total revenues. Adjusted debt to capitalization of 57% at April 30, 2014 is in line with the 'BBB' category median of 59%. MADS coverage including net entrance fee receipts was strong 2.5x in fiscal 2014 compared to 1.63x in the fiscal 2013. Revenue-only coverage of 0.8x in fiscal 2014 was improved from 0.5x in the prior year. Through the first quarter ended April 30th, CRC generated 'all in' coverage of 1.6x and 'revenue only' coverage of 1.1x.

Proceeds from the series 2013 bonds are being used primarily to fund construction of 54 ILU apartments at Covenant Village of Northbrook and a new town center at Mt Miguel Covenant Village in San Diego, CA . According to management, the 54 ILU apartments are 89% pre-sold and are expected to be available for occupancy in late fiscal 2015. Construction on the project are on-time and within budget. The entrance fees generated from the new ILUs will be used to payoff the series 2013B TEMPS bonds. Fitch views CRC's capital structure as conservative with roughly 80% fixed rate bonds and 20% variable rate or direct placed debt. Of CRC's non-fixed rate debt, approximately $24.1 million are variable rate demand bonds and $57 million are direct bank placements with expirations in 2017 and 2019. In addition, CRC is counter-party to two floating-to-fixed rate swap transactions with a total notional amount of $28.6 million and a $67.5 million forward starting swap. At May 30th, the aggregate mark-to-market value on the swaps was negative $19.5 million. No collateral is required to be posted as long as CRC's rating is no lower than 'BBB-' by both Fitch and S&P.

Consolidated Results

Consolidated results include the operations of non-obligated Covenant Retirement Services (CRS) which includes a home health company, a management service company and senior rental facilities. At fiscal year-end 2014, CRS had total assets of $34.7 million. In fiscal 2014, CRS generated total revenues of $18.7 million and reported a loss from operations of $3 million which is improved from the $4.2 million loss from operations on total revenues of $15.3 million reported in the prior year. Using consolidated financial results for fiscal year-end 2014, CRC had 341 days cash on hand, a 6.7x cushion ratio, 48.3% cash-to-debt, NOM of 3.3% and NOM-adjusted of 22.2%. MADS coverage on a consolidated basis was 2.4x.

Disclosure

CRC's disclosure requirements under its bond documents include the submission of annual audited statements within 120 days of fiscal year end and quarterly unaudited statements on a GAAP basis within 45 days of quarter end to the Municipal Securities Rulemaking Board's EMMA system.

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

Applicable Criteria and Related Research:

--'Revenue-Supported Rating Criteria' (June 3, 2013);

--'Rating Criteria for Not-for-Profit Continuing Care Retirement Communities' (July 10, 2013).

Applicable Criteria and Related Research:

Revenue-Supported Rating Criteria

http://www.fitchratings.com/creditdesk/reports/report_frame.cfm?rpt_id=750012

Not-for-Profit Continuing Care Retirement Communities Rating Criteria

http://www.fitchratings.com/creditdesk/reports/report_frame.cfm?rpt_id=712401

Additional Disclosure

Solicitation Status

http://www.fitchratings.com/gws/en/disclosure/solicitation?pr_id=835063

ALL FITCH CREDIT RATINGS ARE SUBJECT TO CERTAIN LIMITATIONS AND DISCLAIMERS. PLEASE READ THESE LIMITATIONS AND DISCLAIMERS BY FOLLOWING THIS LINK: HTTP://FITCHRATINGS.COM/UNDERSTANDINGCREDITRATINGS. IN ADDITION, RATING DEFINITIONS AND THE TERMS OF USE OF SUCH RATINGS ARE AVAILABLE ON THE AGENCY'S PUBLIC WEBSITE 'WWW.FITCHRATINGS.COM'. PUBLISHED RATINGS, CRITERIA AND METHODOLOGIES ARE AVAILABLE FROM THIS SITE AT ALL TIMES. FITCH'S CODE OF CONDUCT, CONFIDENTIALITY, CONFLICTS OF INTEREST, AFFILIATE FIREWALL, COMPLIANCE AND OTHER RELEVANT POLICIES AND PROCEDURES ARE ALSO AVAILABLE FROM THE 'CODE OF CONDUCT' SECTION OF THIS SITE. FITCH MAY HAVE PROVIDED ANOTHER PERMISSIBLE SERVICE TO THE RATED ENTITY OR ITS RELATED THIRD PARTIES. DETAILS OF THIS SERVICE FOR RATINGS FOR WHICH THE LEAD ANALYST IS BASED IN AN EU-REGISTERED ENTITY CAN BE FOUND ON THE ENTITY SUMMARY PAGE FOR THIS ISSUER ON THE FITCH WEBSITE.



Fitch Ratings

Primary Analyst

Jim LeBuhn, +1 312-368-2059

Senior Director

Fitch Ratings, Inc.

70 West Madison Street

Chicago, IL 60602

or

Secondary Analyst

Gary Sokolow, +1 212-908-1186

Director

or

Committee Chairperson

Emily Wong, +1 415-732-5620

Senior Director

or

Media Relations:

Elizabeth Fogerty, +1 212-908-0526

elizabeth.fogerty@fitchratings.com

Source: Fitch Ratings


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