Fitch says demand most important factor in rating retirement centers' credit quality.

CHICAGO -- Demand for retirement services is the most important quantitative factor in assessing the credit quality of a nonprofit continuing care retirement community, Fitch Investors Service said in a special report released on Friday.

Edward C. Merrigan, a senior vice president of health care and higher education at Fitch, said that "demand has to be looked at first before you get into financial feasibility. That's what drives the numbers."

The report detailed Fitch's rating guidelines for retirement communities.

To obtain an investment-grade rating, a retirement community must "clearly exhibit demand" in all three areas of its operations -- independent care, assisted living, and nursing care -- "and continually monitor its market," Fitch said.

Factors affecting the demand of the independent living portion of a retirement center include the size and economy of a market, competition, marketing, and the size of waiting lists, which identify the interest of prospective residents to move into the center.

One important factor in gauging the demand for a retirement community is the amount of "presales," which are deposits paid for independent living units, Fitch said.

When rating debt issues by established retirement communities, Fitch said that a presale level of independent units below 50% "raises serious credit concerns."

However, "favorably high" presale levels above 75% "indicate, but do not guarantee, reasonably fast" occupancy of the units, the report said.

Another key credit factor is how a retirement community finances services for patients as they progress from independent living units to nursing home care.

"While this obligation obviously poses a risk for the [retirement center], proper pricing should cover it," Fitch said.

In terms offinancial analysis, Fitch examines five components -- cash flow, revenues, expenses, assets, and liabilities.

Merrigan said the rating agency drafted the guidelines in a special report in response to questions from market participants about how Fitch rates the credits. "The market is demanding this," he said.

Continuing care retirement communities provide senior citizens with care for the rest of their lives in exchange for an advance fee and a monthly fee. Fitch views the retirement communities as health care-related entities that provide housing, ranging from independent living facilities to nursing home services.

Fitch has issued ratings, ranging from BB to A, for 25 retirement communities, Merrigan said.

Standard & Poor's Corp. and Moody's Investors Service also have issued ratings on the same communities.

Fitch's guidelines supplement its 1992 report on retirement center financial ratios, which are just one part of the guidelines, Merrigan said.

"The ratios were more definitional to get people to measure things the same way," Merrigan said.

Though Fitch will not rate new retirement communities, it will continue to issue ratings for established facilities.

"Debt issued to finance the construction of a start-up venture presents a profile whose risks are too significant to warrant an investmentgrade rating," Fitch said.

Many bond defaults have occurred when management underestimates the length of time required to fill the units, Fitch said.

Merrigan said he expects the number of community care retirement centers to increase in the coming years, primarily due to the aging of baby boomers.

"It's a growth area and will continue to evolve," Merrigan said.

In the 1980s, Merrigan said, abuses by developers of retirement centers led to a rash of bond defaults. However, the 1986 tax law and other positive changes in the industry, such as better accounting standards and more stringent government regulation, have helped to provide better analytical data to assess the facilities' credit quality.

For reprint and licensing requests for this article, click here.
MORE FROM AMERICAN BANKER