Published Fri 16 Jul, 2021 – 5:07 PM ET by Fitch Ratings
Fitch Ratings – New York – 16 Jul 2021: Fitch Ratings has assigned a ‘BB’ Issuer Default Rating (IDR) to Presbyterian Retirement Communities Northwest Obligated Group (PRCN; d/b/a/ Transforming Age [TA]). In addition, Fitch has affirmed the ‘BB’ ratings on the series 2013, 2015, 2016A, 2016B, 2019A, 2019B, and 2019C revenue bonds issued by the Washington State Housing Finance Commission on behalf of TA.
The Rating Outlook is Stable.
SECURITY
The bonds are secured by the obligated group’s (OG) gross revenues, a mortgage on the OG’s facilities and debt service reserve funds.
ANALYTICAL CONCLUSION
The ‘BB’ rating reflects TA’s robust historical census levels, adequate operations and liquidity position, and its high leverage position and execution risks associated with its ongoing independent living unit (ILU) expansion project. TA’s expansion project entails building a new 21-story tower (Olympic Tower) with 77 new ILUs at its Skyline campus. The project is expected to be accretive to TA’s financial and operating profiles, with solid increase in top-line revenues and total cash flow levels and an initial entrance fee pool of approximately $100 million.
TA’s initial entrance fees are expected to be used to pay down temporary debt ($51 million) associated with the project and significantly boost its unrestricted reserves. The Stable Outlook reflects Fitch’s expectation that TA has enough financial cushion at its current rating level to absorb lingering pandemic pressures and that it will successfully execute and fill its Olympic Tower expansion project on-time and on budget.
KEY RATING DRIVERS
Revenue Defensibility: ‘bbb’
Strong Historical Demand; Lingering Pandemic Pressures
TA’s revenue defensibility is assessed at ‘bbb’, reflecting its strong historical ILU census levels, coupled with lingering pandemic pressures that have softened census across all service lines and limited depositors for its upcoming Olympic Tower expansion project. Over the last five fiscal years, TA averaged a strong 95% in its ILUs, 94% in its assisted living units (ALUs), 90% in its memory care units (MCUs), and 85% in its skilled nursing facility (SNF) beds.
At the six-month interim period (ending Mar. 31, 2021), TA averaged 91% in its ILUs, 92% in its ALUs, 94% in its MCUs, and 83% in its SNF. Additionally, in April 2021, TA had approximately 55% of its new expansion project ILUs pre-solid, which is a modest decline from the 74% it had in May 2020 reflecting ongoing pandemic disruptions.
Operating Risk: ‘bbb’
Adequate Operations; Expected to Improve
TA’s operating risk is assessed at ‘bbb’ reflecting its adequate operations in recent years, which are expected to improve following completion of its expansion project, its manageable capital needs, and its high debt burden. TA’s operational performance has remained consistent, albeit thin, in recent years as evidenced by its 113.6% operating ratio and 0.7% net operating margin (NOM). However, TA’s net entrance fee receipts and overall cash flow levels have been strong as evidenced by its 26.9% NOM-adjusted (NOMA) in fiscal 2020.
Overall, TA’s operational performance remains adequate for a primarily Type-A provider, and Fitch expects TA’s key metrics to improve significantly following completion and stabilization of its ILU expansion project.
Financial Profile: ‘bb’
Financial Profile Expected to Improve
TA’s solid demand, strong entrance fee receipts and reimbursement for previous capex from the series 2019 bond proceeds have driven steady improvement in its cash reserves in recent years. At the six-month interim period, TA had approximately $49.4 million in unrestricted cash and investments, which translates into 328 days cash on hand (DCOH), 21.2% cash to adjusted debt, and 3.3x cushion ratio.
TA’s unrestricted reserves and key leverage metrics are expected to significantly improve over the medium-term following completion and fill of its new ILUs, which will boost total cash flow levels and have approximately $100 million in initial entrance fees that will be used to pay down temporary debt ($51 million) and grow its unrestricted reserves ($49 million).
ASYMMETRIC ADDITIONAL RISK CONSIDERATIONS
No asymmetric risk factors impacted the outstanding ratings.
RATING SENSITIVITIES
Factors that could, individually or collectively, lead to positive rating action/upgrade:
–Successful completion and fill of its ILU expansion project, pay down of its temporary debt, and improvement in its key financial metrics such that cash to adjusted debt and coverage levels are above 40% and 1.5x, respectively;
–Improvement and maintenance of its ILU census consistently above 95% that results in revenue defensibility assessment increasing to ‘a’.
Factors that could, individually or collectively, lead to negative rating action/downgrade:
–Any project execution issues such as construction delays, fill-up delays, cost overruns or service disruptions.
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
In October 2016, PRCN was renamed TA to better reflect the organization’s mission and values, and plan to expand its geographic reach, and offer more senior housing options beyond the Pacific Northwest. The PRCN OG now does business as TA Seattle OG. The OG includes TA and three senior living facilities – Park Shore, Skyline and Fred Lind Manor, all located in the Seattle metropolitan area.
Park Shore is a Type B life plan community (LPC) located in the Madison Park neighborhood in Seattle on Lake Washington. Park Shore was built in 1963 and currently has 104 ILUs, 28 ALUs and a 22-bed SNF. Skyline is mostly a Type A LPC located in downtown Seattle and includes 198 ILUs, 48 ALUs, 28 memory care units and a 34-bed SNF. Fred Lind Manor affiliated with PCRN in October 2014 and is an 82-unit senior rental community located in the Capitol Hill neighborhood of Seattle.
Beginning in fiscal 2019, Fred Lind Manor re-categorized its units to assisted living to better reflect the acuity level of its residents. PRCN used to own another facility, Exeter House, that it sold in May 2016, and residents there were transferred to Fred Lind Manor.
In August 2019, TA formed a new not-for-profit corporation, Transforming Age, Inc., for the future purpose of serving as the parent organization of the entire system. The TA board of directors serves as the board of directors for this newly formed corporation. Once Transforming Age, Inc. becomes a tax-exempt organization, TA plans to make Transforming Age, Inc. the sole member of all its affiliates including the OG members.
To capitalize the new parent entity, management plans to transfer about $16 million in cash and net assets over the next few years from the OG. The ‘BB’ affirmation reflects the anticipated corporate restructuring and transfers outside the OG. Additionally, it was anticipated that management staff would be transferred to Transforming Age, Inc. effective Jan. 1, 2021; however, the timing was delayed due to the IRS’s delays in processing tax exemptions applications. This will result in more predictable corporate overhead expenses from management fees and other general and administrative costs. Transforming Age, Inc. will not be a member of the OG.
Operations outside of the OG have accelerated and include a for-profit senior living consulting company; Presbyterian Retirement Communities Northwest Foundation; Minnesota Senior Living, which is a senior housing and care provider that owns and operates seven stand-alone properties throughout Minnesota; Vashon Community Care, a senior living community located on Vashon Island, WA; Eastmont Towers, a retirement community in Lincoln, NE; The Gardens at Juanita Bay, a 48-unit assisted care facility in Kirkland, WA; DASH, an affordable housing operator with 796 units in King County, WA; Sustainable Housing for Ageless Generations (SHAG), an affordable housing operator with more than 5,000 units in WA; and Full Life Care, a provider of community-based elder care services.
After a few prior contributions for the establishment of the corporate office and disposal of Exeter House, management does not have plans to financially support non-obligated affiliates beyond the corporate restructuring mentioned above. In fiscal 2020, the TA OG reported approximately $51.6 million in total operating revenues.
REVENUE DEFENSIBILITY
TA has demonstrated strong demand indicators historically, which Fitch attributes to its solid service area, successful operating history, and favorable local reputation. Overall, in the past five years TA has averaged a robust 95% in its ILUs, 94% in its ALUs, 90% in its MCUs, and 85% in its SNF beds. Additionally, TA maintains solid waitlists of 229 for its Skyline campus, 378 for its Park Shore campus, and 36 for its Fred Lind Manor campus. However, TA has experienced softening across most of its service lines over the last year due to pandemic-related pressures and disruptions on its traditional marketing channels and service area.
At the six-month interim period, TA’s census levels softened to 91% in its ILUs, 92% in its ALUs, 94% in its MCUs, and 83% in its SNF beds. TA management has reported to Fitch that increased marketing efforts and activity has occurred since March 2021, which is expected to improve census levels across most service lines. Overall, Fitch believes TA’s demand indicators remain strong and should support solid census across all service lines following recovery from the pandemic.
TA operates three senior living campuses in and around the Seattle area. While the three campuses are largely in the same geographic area, Fitch views the diversification of revenues among the three campuses positively, which supports its midrange revenue defensibility assessment. Overall, Fitch believes TA operates in a service area with favorable economic indicators, strong demographics, and a moderate competitive environment. Despite some competition, Fitch expects TA’s diverse contract offerings, attractive campuses, and favorable local reputation to support its solid market position moving forward.
TA has a solid track record of annual increases in both its entrance fees and monthly across all campuses. Over the past few years, TA has increased its monthly service fees between 3%- 5%, and its entrance fees between 3%-16%, reflecting the strong historical local real estate market. With a wide range of unit and contract offerings, most of TA’s units remain in line with local housing prices. However, its more expensive units remain higher than median home values.
Additionally, the weighted average entrance fees for TA’s new ILUs are high at approximately $1.3 million and also remain higher than the median home prices in TA’s primary service area. However, the median net worth and annual income levels of the current depositors are well in excess of the amounts required for admission and mitigate some concerns surrounding affordability. Regardless, Fitch believes TA’s higher priced units could experience affordability issues in periods of economic or financial market stress which is reflected in its midrange revenue defensibility assessment.
TA has steadily lost depositors for its new ILUs over the last year, which Fitch attributes to ongoing pandemic-related disruptions on TA’s marketing channels and local service area. At April 2021, TA had approximately 55% of its new ILUs pre-sold, which has softened from its high of 74% at May 2020. While the recent softening is a concern, and is reflected in its midrange revenue defensibility assessment, Fitch believes TA’s demand indicators are strong, which should still position them to execute on their expansion project.
Additionally, the large entrance fee pool and manageable amount of temporary debt provide TA with some financial flexibility if move-ins are below expectations. Furthermore, TA’s existing cash flow levels remain sufficient to support its elevated MADS as evidenced by its average 1.2x MADS coverage over the past five fiscal years. TA’s solid historical demand indicators, strong cash flow levels from existing operations, and the presence of a guaranteed maximum price (GMP) contract helps mitigate concerns over project execution risks, including a slower than anticipated fill-up period.
OPERATING RISK
TA offers a variety of contract offerings across its three senior living facilities. At its Skyline campus, TA offers a 80% refundable, 50% refundable, and nonrefundable (traditional) lifecare (Type-A) contract. Additionally, a 80% refundable, 50% refundable, and traditional modified (Type-B) contract is available to Skyline residents as well. A majority of TA’s Skyline campus residents have chosen one of the refundable lifecare contracts.
At its Park Shore campus, TA offers 90% refundable, 50% refundable, and traditional modified contracts. Park Shore’s modified contracts come with 30 free days in its health center. Each of TA’s lifecare and modified contracts have upfront entrance fees and ongoing monthly fees. At its Fred Lind Manor campus, only rental contracts are offered.
Over the past three fiscal years, TA has averaged 110.9% operating ratio, 2% NOM, and 25.8% NOMA.TA’s core operational metrics have been weak historically, which is largely attributed to its exposure to Type-A contracts as lifecare (Type-A) facilities typically operate with weaker core operations due to the associated healthcare costs. These weaker operations have made TA somewhat reliant on IL turnover and net entrance fee receipts, which have been very strong in recent years.
Fitch expects TA’s robust net entrance fee receipts to continue to supplement weaker operations given the structure of its contracts. Additionally, TA’s expansion project is expected to be accretive to its financial profile, with enhanced top-line revenues and overall cash flow levels that should translate into improved operational metrics following project completion and stabilization.
However, TA has seen a large reduction in performance and overall cash flow levels at the six-month interim period as evidenced by its 124.9% operating ratio, negative 10.3% NOM, and negative 48.2% NOMA. TA’s very weak NOMA reflects its negative $5.5 million in net entrance fees as refunds outpaced move-ins following pandemic related disruptions to TA’s traditional marketing channels.
Given its reliance on entrance fees to support weaker operations, an inability to improve ILU census, move-ins, and net entrance fee receipts by fiscal year end may put TA as risk of breaching its debt service coverage covenant which would be a credit negative.
However, TA management has reported increased sales and lead activity following March 2021 as restrictions continue to get lifted from its campus and traditional marketing channels return. Additionally, TA has implemented various enhanced marketing efforts to improve ILU census and move-ins in 3Q and 4Q of fiscal 2021. Overall, Fitch believes TA’s strong demand indicators and enhanced marketing levels will boost sales and total cash flow levels in the second half of fiscal 2021 and improve its operational and coverage metrics.
TA’s capex levels have been elevated in recent years reflecting its strategic capital outlays, including its Olympic Tower expansion project. Over the last five fiscal years, capex has averaged 215% of depreciation, which has translated into a strong 8.5 years average age of plant in fiscal 2020. TA’s large capital expansion project is underway and entails building a new 21-story tower (Olympic Tower) at its Skyline campus that will include 77 new ILUs. The project is largely on time and under budget. Project construction is expected to be completed by September 2021 and initial occupancy is to begin in October 2021.
The project is expected to cost approximately $114 million and will be funded entirely by the series 2019 bond proceeds. Project costs include a $4.8 million contingency fund and a GMP contract, which includes a contractor contingency and a liquidity damages provision. Additionally, TA is using a reputable owner’s representative to monitor construction progress. Concerns surrounding construction risk of the project are partially mitigated by the presence of the GMP, contingency fund and construction monitor.
The project is expected to generate approximately $100 million in initial entrance fees. Fitch believes TA’s capital needs are manageable following completion of its expansion project and expects routine capex levels to be under 100% of depreciation moving forward. TA currently has no additional debt plans and routine capex will be funded by operating cash flow.
Overall, TA’s debt burden remains elevated as evidenced by its MADS equating to a high 29.9% of fiscal 2020 revenues. Additionally, debt to net available and revenue only coverage measured a weak 20.3x and 0x in fiscal 2020. Fitch expects TA’s debt burden to remain elevated over the near term through construction of its capital project. However, Fitch expects TA’s debt burden to moderate significantly over the medium-term following completion and fill of its new ILUs, which will enhance its revenue base and overall cash flow levels.
FINANCIAL PROFILE
At the six-month interim period, TA had approximately $49.4 million in unrestricted reserves, which translates into 328 DCOH, 21.2% cash to adjusted debt, and 3.3x cushion ratio. Fitch’s calculation of TA’s cash to adjusted debt includes approximately $15.5 million in DSRFs. Overall, TA’s key leverage metrics remain a bit light for its current rating level, but are expected to improve significantly following project completion and stabilization as the new project will generate approximately $100 million in initial entrance fees that will be used to pay down $51 million in temporary debt and boost its liquidity position.
Additionally, TA’s MADS coverage has been solid in recent years as evidenced by its average 1.2x coverage over the last five fiscal years. TA’s ability to cover its elevated MADS without the inclusion of the additional revenues from its new ILUs is viewed favorably and mitigates some concerns with a slower than anticipated fill up of its project. Overall, Fitch expects TA’s financial profile to significantly improve over the next few years if it successfully executes on its ILU expansion project. Therefore, if TA successfully executes on its expansion project and improves its key leverage, coverage, and operational metrics near Fitch’s expectation, there could be upward rating movement.
Fitch believes TA’s solid historical demand and expected improvement in its operations and liquidity position from its new ILUs provides enough financial flexibility to absorb a stressed scenario. Fitch’s stressed scenario includes both an investment portfolio and cash flow stress that are in line with current economic conditions and expectations. TA’s investment portfolio stress was somewhat high given approximately 72% of its portfolio is in equities or hedge funds. Fitch expects that TA’s capex levels remain elevated over the next year due to ongoing costs of its expansion project, which will be entirely funded by its remaining series 2019 bond proceeds.
Fitch expects TA’s routine capex levels following project completion to be below 100% of depreciation. Fitch also assumes that TA transfers approximately $15 million from the OG over the next two years to fund its separate parent corporation. Additionally, Fitch expects TA to successfully execute its ILU expansion project that will generate $100 million in initial entrance fees and will produce revenue growth that exceeds expense growth over the next five years. Under these assumptions, TA demonstrates the ability to successfully improve its key leverage metrics over the next five years despite a stress on its revenues and investment earnings.
ASYMMETRIC ADDITIONAL RISK CONSIDERATIONS
No asymmetric risk factors impacted the outstanding ratings.
Debt Profile
As of Sept. 20, 2020, TA had approximately $303 million in outstanding debt, which primarily consists of $51 million in short-term temporary debt and $232 million in long-term bonds. TA’s $51 million in short-term bonds are expected to be paid down by 2023 from initial entrance fees generated from its ILU expansion project. While pre-sales have lagged initial expectations, they currently remain sufficient to pay down all TA’s temporary debt. All of TA’s long-term bonds are fixed rate and have a final maturity of 2055.
Additionally, TA has approximately $9 million in bank loans, capital leases, and revolving bank notes. TA has no exposure to a defined benefit pension plan or derivative instruments; however, TA had an approximately $7.4 million future service obligation (FSO) at fiscal 2020. TA management expects its FSO to be eliminated once its new ILUs are completed/filled and their additional revenues get included in its next FSO calculation.
SOURCES OF INFORMATION
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.
| ENTITY/DEBT | RATING | PRIOR | |||
|---|---|---|---|---|---|
| Presbyterian Retirement Communities Northwest (WA) | LT IDR | BB | New Rating | ||
| Presbyterian Retirement Communities Northwest (WA) /General Revenues/1 LT | LT | BB | Affirmed | BB |
VIEW ADDITIONAL RATING DETAILS
Additional information is available on www.fitchratings.com
APPLICABLE CRITERIA
- Public Sector, Revenue-Supported Entities Rating Criteria (pub. 23 Feb 2021) (including rating assumption sensitivity)
- U.S. Public Finance Not-For-Profit Life Plan Community Rating Criteria (pub. 02 Mar 2021) (including rating assumption sensitivity)
APPLICABLE MODELS
Numbers in parentheses accompanying applicable model(s) contain hyperlinks to criteria providing description of model(s).
- Portfolio Analysis Model (PAM), v1.3.2 (1)
ADDITIONAL DISCLOSURES
ENDORSEMENT STATUS
| Washington State Housing Finance Commission (WA) | EU Endorsed, UK Endorsed |
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