Fitch Ratings has affirmed Universal Health Services, Inc.'s (UHS) ratings, including the Long-Term Issuer Default Rating (IDR) at 'BB+' and senior secured debt ratings at 'BBB-'/'RR1'.

The Rating Outlook is Stable.

KEY RATING DRIVERS

Coronavirus Hits Volumes; Impact Short-lived: Fitch believes that U.S. healthcare and pharmaceutical companies, including providers of healthcare services, should be less affected long-term by coronavirus and its influence on U.S. consumers' behavior than other corporate sectors because demand is less economically sensitive and often times is not discretionary. However, Fitch notes that while the impact for healthcare service providers, including UHS, is expected to be relatively muted compared to more discretionary sectors, depressed volumes of elective patient procedures have begun to meaningfully weigh on revenue and cash flow beginning in Q220. Healthcare providers cancelled elective procedures in both inpatient and outpatient settings in order to increase capacity for COVID-19 patients and in response to government orders.

Fitch currently believes UHS has sufficient headroom in the 'BB+' rating to absorb these impacts, which is predicated on an assumption that the healthcare services sector will experience a strong recovery in elective patient volumes beginning in late 2020 and into 2021. However, there could be downward pressure on the rating if the outbreak is of longer duration and impacts cash flow in 2020 more than currently anticipated (perhaps due to patient preference to continue to defer care) or the healthcare services segment proves to be more economically sensitive than during past U.S. economic recessions, leading to a slower recovery in elective patient volumes and pricing in 2021-2022.

Sustainably Low Debt Leverage: Fitch expects UHS will operate with gross debt/EBITDA after net distributions to associates and minorities around 3x in 2020 as a result of the volume declines, the upper end of the range considered consistent with the 'BB+' IDR. This is before consideration of grants received under the CARES Act. Amounts received to-date, should they be kept and accounted for as revenues, would increase EBITDA by $239 million and reduce leverage to the mid-2x range. This compares to leverage of 2.1x at Dec. 31, 2019, the lowest among Fitch-rated hospital companies, driven by management's relatively more conservative balance sheet management and M&A strategy. Management acknowledged on the 2Q19 earnings call that the leverage profile is low and 'probably relatively inefficient', but provides the company a large amount of flexibility to return capital to shareholders or opportunistically make acquisitions.

Fitch believes that as a result of that flexibility, EBITDA declines as a result of volume reductions during the coronavirus pandemic are not expected to cause UHS to meaningfully and persistently exceed its negative sensitivities. Fitch also believes that given the uncertainty of the current environment and the company's pause on its dividend and share repurchase activity, the company would be unlikely to act aggressively with respect to leveraging transactions or capital allocation in the intermediate term.

Diversification, Stability from Behavioral Health: UHS operates acute care hospitals and a behavioral health segment, which provides revenue diversification as well as improved financial stability and profitability. Good organic growth, including in admissions and revenues, in the mid-single digits and stable profit margins are expected over the ratings horizon as the behavioral segment continues to benefit from improving parity between payers' coverage of care relative to the general acute segment. Recent acquisitions are in line with Fitch's expectation that opportunities to expand the behavioral health segment will be a primary focus of capital deployment.

Post-Pandemic Margin Headwinds: Fitch expects that healthcare providers, including UHS, will adapt operations to manage the business disruption effects of coronavirus on operations through initiatives like telehealth. This will help minimize the effects of localized outbreaks of the virus on patient volumes before a vaccine or highly effective treatments are available. The longer-term effect of the economic disruption caused by the pandemic on healthcare consumers is less certain. The sector has historically been fairly resilient, but not immune, to the effects of economic recessions. Healthcare providers typically experience lower operating margins during and immediately following recessions due to treating greater numbers of uninsured patients and patients with relatively less profitable government sponsored health insurance.

Fitch assumes UHS will continue to perform well in terms of volumes and commercial pricing, due in large part to its strong market shares in favorable urban markets where volumes tend to be weighted toward a higher-acuity patient mix. However, UHS's markets may exhibit more economic cyclicality over time due to the services-oriented employment markets in Las Vegas and Southern California. This solid operating profile will help the company defend profitability in the face of weak organic operating trends, but probably not enough to entirely overcome the effects of coronavirus-related unemployment on patient mix. Fitch expects operating margins for healthcare providers to rebound sharply in 2021 following a 2020 trough that reflects the peak pandemic business disruption, but to remain below the 2019 level for several years.

Flexibility from Solid Cash Flows: Fitch expects FCF will sustain generally within $500 million to $700 million per year. These levels compare with $712 million and $588 million for the years ended 2019 and 2018, respectively.

DERIVATION SUMMARY

UHS's 'BB+' IDR reflects the company's strong financial profile resulting from low leverage, ample liquidity and strong operating margins. The company's operating profile is strong with operations focused in urban and large suburban markets, which have better organic growth prospects than rural and suburban markets. UHS's markets may exhibit more economic cyclicality than others. UHS is also diversified in its revenue stream, with approximately half of net revenues coming from its inpatient behavioral health segment. UHS's operating position and low leverage are the primary factors that distinguish its ratings from lower rated peers such as Tenet Healthcare Corp. (B/Stable) and Community Health Systems (CCC). UHS is rated a notch above HCA, Inc., which Fitch views as having a strong competitive position and market leading access to capital offset by higher leverage.

KEY ASSUMPTIONS

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

Revenue declines by 5.8% in 2020 due to pandemic related business disruption, with a steady recovery in patient volumes beginning in the second half of the year and into 2021;

EBITDA margin contracts 450 bps in 2020 due to negative operating leverage on patient volumes declines and rebounds strongly in 2021 but remains below the 2019 Fitch-calculated level of 16.5% through 2022 because of recessionary impacts on healthcare consumers in the post-pandemic period;

Fitch's revenue and EBITDA forecast for UHS do not include CARES Act or other fiscal stimulus grant funding;

There is no notable impact to the company's cash conversion cycle;

Capex is reduced to 5.5% of revenues in 2020 commensurate with guidance, increasing as a percent of revenue over the ratings forecast. The company halts share repurchases and dividends in 2020-2021, resuming in 2022;

FCF remains around $500 million to $700 million.

RATING SENSITIVITIES

Factors that could, individually or collectively, lead to positive rating action/upgrade:

An upgrade of UHS's IDR to 'BBB-' is unlikely in the near to intermediate term, as Fitch views the risks around reimbursement and other regulatory factors associated with healthcare providers in the U.S. - and UHS's reliance on government payers - as a material and uncontrollable risk for UHS and its peers;

UHS's ratings and credit metrics provide it with flexibility to participate in healthcare provider consolidation, which Fitch expects to continue through the intermediate term. Positive momentum would also likely require a more specific financial policy.

Factors that could, individually or collectively, lead to negative rating action/downgrade:

A downgrade of UHS's IDR to 'BB' could result from pressured margins and cash flows, or a large, leveraging transaction that results in total debt to operating EBITDA after net distributions to minorities and associates expected to be sustained above 3.0x or CFO after capex-to-gross debt below 7.5%.

The negative rating sensitives could be tripped if the coronavirus pandemic has a greater impact on cash flow than Fitch currently anticipates. There is still a high degree of uncertainty about the pace of acceleration of coronavirus cases along with the ultimate level of coronavirus patient volumes in UHS's markets and these factors will be important to the trajectory of 2020 revenue and EBITDA.

BEST/WORST CASE RATING SCENARIO

International scale credit ratings of Non-Financial Corporate 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 four 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.

LIQUIDITY AND DEBT STRUCTURE

Good Financial Flexibility: UHS's liquidity profile is solid for the 'BB+' IDR. There are no significant debt maturities until 2021, when the $450 million A/R securitization ($260 million outstanding at March 31, 2020) terminates, with the nearest bond maturity being $700 million of 4.75% notes due 2022. Fitch's forecast assumes that UHS will refinance this debt. UHS does not have large cash needs for working capital or exhibit much seasonality in cash flow generation. Cash on hand is typically low, around $50 million to $100 million; the company has $998 million in revolving credit capacity and in recent periods has maintained close to full availability on this credit line.

UHS also has good flexibility under the debt agreement covenants. The bank agreement includes a financial maintenance covenant that limits consolidated net leverage to 3.75x or below, increasing to 4.25x for four quarters following an acquisition. At March 31, 2020, Fitch estimates that UHS has incremental secured debt capacity of roughly $3.1 billion under the 3.75x consolidated leverage ratio test.

Debt Issue Notching: Fitch does not employ a waterfall recovery analysis for issuers rated 'BB+'. The further up the speculative-grade continuum a rating moves, the more compressed the notching between the specific classes of issuances becomes. As such, Fitch rates the senior secured credit facility and senior secured bonds 'BBB-'/'RR1', one notch above the IDR. This rating illustrates Fitch's expectation for superior recovery prospects in the event of default. Furthermore, Fitch believes UHS has good financial flexibility at the 'BB+' IDR, illustrated by relatively low secured debt leverage, supporting the one notch uplift.

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 - 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.

UHS has an ESG Relevance Score of 4 for Exposure to Social Impacts due to pressure to contain healthcare spending growth; highly sensitive political environment, and social pressure to contain costs or restrict pricing which has a negative impact on the credit profile, and is relevant to the rating in conjunction with other factors.

UHS has an ESG Relevance Score of 4 for Governance Structure due to the significant control the Miller family has via its ownership and the relative voting rights of different share classes.

RATING ACTIONS

ENTITY/DEBT	RATING	RECOVERY	PRIOR
Universal Health Services, Inc.	LT IDR	BB+ 	Affirmed		BB+

senior secured

LT	BBB- 	Affirmed	RR1	BBB-

VIEW ADDITIONAL RATING DETAILS

Additional information is available on www.fitchratings.com

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