In March, we discussed how the new S&P rating criteria was bad news for hospital districts. It turns out the revised Fitch criteria is getting more publicity, most recently with two multi-notch downgrades in South Carolina. Earlier this week, Fitch issued a press release explaining the downgrades and clarifying their relevance to wider healthcare sector trends.
In January, Fitch released its updated criteria for rating not for profit hospitals and health systems, putting more emphasis on leverage and liquidity and treating net pension liabilities and leases as direct debt.
Since then, Fitch has reviewed 138 providers or about half of its overall healthcare portfolio. The rating agency upgraded 35 providers and downgraded 25. For the five providers that were downgraded three or more notches, the rating actions are likely to have a significant impact on their cost of funds:
- Lexington County Health Services District (SC) was downgraded last week an unprecedented five notches from A+ to BB+, which is considered below investment grade.
- University Hospital (NJ) was downgraded in July four notches from BBB to BB-, also below investment grade.
- Spartanburg Regional Health Services District (SC) was downgraded in June three notches from A to BBB.
- El Paso County Hospital District (TX) was downgraded in June three notches from AA- to A-.
- King’s Daughter Medical Center (KY) was downgraded in July three notches from A- to BBB-
In a July 9 press release, Fitch explains the South Carolina downgrades based on its conclusion that their pension obligation belongs at the employer level rather than the state level, and the fact that the two districts do not have direct authority to levy taxes.
Fitch estimates Lexington faces a $1.1 billion pension liability and Spartanburg a $904 million liability.The Fitch press release points out that the SC districts were outliers and that the downgrades are not a sign of things to come for other providers.
This is small comfort for the downgraded providers, because when pricing bonds, institutional investors tend to look at the lowest of all available ratings. Spartanburg is rated A by S&P and A3 by Moody, and the Fitch downgrade to BBB, while it may add up to an additional 30 basis points (0.3%) in borrowing costs, isn’t the end of the world.
Lexington is probably the most affected. While still rated A+ by S&P and A1 by Moody, the new “junk” rating by Fitch –if taken at face value by bondholders– may translate into the district’s cost of funds going up 50 to 100 bps or more. The exact amount is difficult to measure due to the scarcity of below investment grade hospital bond issues going to market.
Fitch stated it does not expect further rating changes solely based on its revised criteria.