Fitch Ratings has downgraded Australian private healthcare operator Ramsay Health Care Limited's Long-Term Issuer Default Rating (IDR) to 'BBB-', from 'BBB'.

The Outlook is Stable.

The downgrade reflects our expectation that Ramsay's EBITDAR leverage will remain above 3.3x until at least the financial year ending June 2026 (FY26). Its Fitch-calculated EBITDAR margin deteriorated in FYE23 to 13% and EBITDAR leverage stayed elevated at 4.5x, as it continued to face high labour costs, and inflation and efficiency challenges (FYE22: 14%, 4.5x). We expect these challenges to delay realisation of the full benefits of Ramsay's initiatives as it seeks to restore profitability. This, alongside its material medium-term capex plans, leads to our view that leverage will remain higher for longer.

The Stable Outlook reflects Fitch's expectation that a successful completion of the proposed sale of the Ramsay Sime Darby joint venture (RSD), with binding bids due over the coming month, will help the company reduce its leverage to well below 4.0x, the level around which we may take further rating action. In any case, our forecasts without the sale show leverage of around 4.0x, which is consistent with its rating.

At the same time, Fitch has downgraded Ramsay's senior unsecured rating to 'BBB-', from 'BBB', and is withdrawing the rating. We no longer consider it relevant to the agency's coverage because Ramsay does not have outstanding bonds.

Key Rating Drivers

Cost Pressures Remain; Delayed Deleveraging: The downgrade of Ramsay's IDR reflects delays in the company's deleveraging as it continues to address labour market and inflationary challenges, alongside efficiency issues across its portfolio. Ramsay has implemented a number of initiatives to restore profitability, but the full benefits are taking longer to realise than it expected. The company is also renegotiating terms with private health insurers. However, we believe this may not fully offset cost increases while inflation remains high.

Ramsay remains committed to its elevated development pipeline and has accelerated its digital and data project. These will incur up to an additional AUD90 million in capex and AUD120 million in operating expenses in FY24 and FY25. As a result, Fitch now expects Ramsay's EBITDAR leverage to be between 4.0 and 4.3x until at least FY26, without including the impact of the proposed asset sales.

Potential Asset Sale: Ramsay has announced that it is exploring a sale of RSD. Fitch expects that successful completion of the sale would help accelerate its deleveraging and create significant headroom relative to its leverage sensitivities. However, the sale remains subject to execution risk, as we note that the company did not reach a binding agreement after it terminated discussions regarding a sale last year.

Favourable Demographics Support Revenue Visibility: Fitch believes demand for private-hospital services in Australia and the UK should rise over the medium term, driven by ageing and growing populations, longer life expectancies, a rise in chronic diseases and improving medical technology, since activity has returned to pre-pandemic levels. We also expect higher demand for mental health services as they become a priority for governments. Nevertheless, challenges remain in certain segments, including in psychiatry in Australia, hampering Ramsay's case mix and profitability.

Government Policies Support Long-Term Demand: The Australian and UK governments are increasingly using the private sector to address rising budgetary and capacity constraints in the public system such as tendering out procedures to the private sector to reduce waiting lists at public hospitals. This complements the supportive policies in Australia to maintain high levels of private health insurance. We believe these policies will be complemented by higher private-health uptake or self-funding as patients seek to expedite their treatment.

Private hospitals are likely to continue to receive a disproportionate share of healthcare growth in the two countries, and we expect Ramsay to remain a leading provider to the public sector, supporting long-term demand for its facilities.

High-Quality Revenue: Around 95% of Ramsay's Australian and UK revenue is derived from private health insurers and government-related bodies. Neither countries' universal healthcare systems oblige Ramsay to treat patients who cannot pay, resulting in low incidence of bad debt.

Derivation Summary

Ramsay is rated one notch below Australian peer, Downer EDI Limited (BBB/Negative), due to its weaker financial profile. Ramsay has a slightly better business profile that benefits from its higher entry barriers and exposure to the expanding role of private healthcare in the UK, while Downer's leading position in Australia is subject to greater competition from foreign companies. Nevertheless, we believe both issuers have strong business profiles, benefitting from high-quality revenue with significant government exposure and the high priority the Australian government places on healthcare and infrastructure.

Labour challenges, alongside the Covid-19 pandemic and ongoing, prolonged changes in behaviour in the healthcare sector, have had a greater impact on Ramsay's financial profile at a time when its leverage was elevated following the Elysium acquisition in early 2022. This has delayed Ramsay's ability to delever and, combined with a substantial capex pipeline, led to its EBITDAR leverage remaining above its negative sensitivity for longer and leading to the IDR downgrade.

The Negative Outlook on Downer's IDR, on the other hand, reflects that ongoing labour challenges continue to delay its ability to return margins to above 5%, but that it has maintained a more conservative balance sheet during this period.

Ramsay's rating can also be compared with that of US healthcare provider, Universal Health Services, Inc. (BB+/Stable). Ramsay benefits from Australia's and the UK's supportive regulatory environments, while US healthcare providers have greater exposure to lower-quality counterparties. A significant portion of hospital revenue is not collectible as US hospitals are obligated to treat emergency room patients regardless of their ability to pay. This remains an issue in the US despite the Affordable Care Act encouraging health insurance take-up, underscoring the one-notch difference between the ratings.

Key Assumptions

Fitch's Key Assumptions Within Our Rating Case for the Issuer:

Revenue in FY24 to FY26 to increase by around 5% each year as conditions and capacity normalise in Australia and the UK;

EBITDA margin to improve from 10% in FY23 to around 15% in FY27 as Ramsay addresses labour market shortages and agrees on prices to offset inflationary pressures;

Capex at between 7% and 10% of revenue;

Dividend payout ratio to be at the lower end of the guided range of 60%-70% of net profit after tax for the consolidated group.

RATING SENSITIVITIES

Factors that Could, Individually or Collectively, Lead to Positive Rating Action/Upgrade:

EBITDAR leverage improving to below 3.0x for a sustained period.

Factors that Could, Individually or Collectively, Lead to Negative Rating Action/Downgrade:

EBITDAR leverage above around 4.0x for a sustained period;

loss of commercial agreements with one or more major private healthcare insurers in Australia;

private health insurance participation in Australia declining to below 40%. This may be driven by a material change in government policies that support private health insurance participation, including the Medicare Levy, Federal Government Rebate and Lifetime Guarantee Benefit;

stronger legal, operational and strategic linkages between Ramsay funding group and Ramsay Sante, Ramsay's France-based subsidiary; for instance, tangible support in the form of equity injections or inter-company loans that may lead Fitch to proportionately consolidate Ramsay Sante. The resultant change in the financial profile may lead to a downgrade.

Liquidity and Debt Structure

Refinancing Underway: The Ramsay funding group is in the process of refinancing its bank facilities. It completed AUD500 million, AUD305 million and AUD1,500 million in new bilateral facilities in FY23, and it is in the middle of extending the tenor of each AUD500 million tranche of its sustainability-linked loan maturing in 2024, 2025 and 2026. Once this is completed, the funding group will terminate any facilities that it considers surplus to its requirements.

The group currently relies on bank funding, limiting its proven funding sources within credit markets. However, the AUD1.5 billion share issue at the beginning of the pandemic demonstrates its access to equity markets. The company used its available facilities to complete the Elysium acquisition in early 2022.

Issuer Profile

Ramsay is a global hospital group operating in over 530 locations around Australia, the UK, France, Sweden, Norway, Denmark, Indonesia, Malaysia and Italy. It treats over 8.5 million patients and employs over 89,000 staff. The company offers a broad range of healthcare services, from day surgery procedures to highly complex surgery, as well as psychiatric care and rehabilitation.

Summary of Financial Adjustments

Rated on Australian, UK Operations: Sante is excluded from the credit profile as we believe there are weak linkages between Sante and the funding group due to the separation of funding and management decision-making, no guarantees or cross-defaults, and no cash-flow leakage. However, Sante has a weaker credit profile, and should linkages strengthen, such as through tangible support in the form of equity injections or intercompany loans, Fitch may incorporate this into our ratings. This may result in negative rating action.

Asset Intensity: We assess Ramsay's financial profile using lease-adjusted metrics to reflect the industry's asset-intensive nature and the impact on Ramsay's decision to lease its entire UK hospital portfolio and a portion of its Australian portfolio, in contrast to peers that may rely on debt. This makes Ramsay's leverage comparable with those of investment-grade peers, although its fixed-charge cover is lower. We believe this is mitigated by Ramsay's revenue stability and substantial unencumbered pool of Australian hospital assets.

Equity Credit on Hybrids: Fitch has applied a 100% equity credit to Ramsay's convertible adjustable-rate equity securities preference shares, as they are senior only to equity, the coupon is deferrable and non-cumulative, there are no material covenants or events of default, and they form a permanent part of Ramsay's capital structure. Fitch's assessment of permanence is based on discussions with management and our belief that Ramsay does not have any incentive to redeem the instruments, as there are no future coupon step-ups.

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

The highest level of ESG credit relevance is a score of '3', unless otherwise disclosed in this section. A score of '3' 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. Fitch's ESG Relevance Scores are not inputs in the rating process; they are an observation on the relevance and materiality of ESG factors in the rating decision. For more information on Fitch's ESG Relevance Scores, visit https://www.fitchratings.com/topics/esg/products#esg-relevance-scores.

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