Moody’s Investors Service (“Moody’s”) has today downgraded to Baa1 from A2 the underlying rating of the GBP138.4 million of index-linked senior secured bonds due in 2036 (the Bonds) issued by United Healthcare (Bromley) Limited (Project Co). The outlook remains negative. The A1 backed senior secured rating of the Bonds, based upon the unconditional and irrevocable guarantee by Assured Guaranty UK Limited (A1 stable), is unaffected by this rating action.
Project Co is a special purpose company that in 1998 entered into a 60-year project agreement , with a first breakpoint at 2037 (year 35 post construction completion), with the Bromley Hospital NHS Trust, which was assigned to King’s College Hospital NHS Foundation Trust (the Trust) in 2013, to design, construct and finance an acute general hospital and a mental health unit in Orpington, Kent, and provide certain facilities management and maintenance services during the term of the Project Agreement (PA).
RATINGS RATIONALE
The rating action reflects the progressive deterioration in the relationship between the Trust and Vinci Facilities (Vinci), the Hard FM subcontractor, since the end of 2021. The Trust have issued several notices to Project Co claiming breaches by Vinci of PA obligations, including of health and safety procedures and water safety requirements. Moody’s understands that Project Co has correspondingly made the Hard FM subcontractor aware of such breaches alleged by the Trust. Under the PA, failures to remedy fundamental breaches of obligations notified by the Trust within required periods, could qualify as Events of Default. Similarly, under the Hard FM Services Contract (which includes Lifecycle services) with Vinci, failures to remedy, within the required remediation period, fundamental breaches of PA obligations that are notified by the Trust and forwarded by Project Co could qualify as Events of Default.
In addition, the Trust believe that they have recently detected what appear to be fire compartmentation deficiencies. Project Co report that they have provided the Trust with reports related to a 2019 survey that indicate that there are no outstanding fire stopping breaches. A fire stopping survey was undertaken at the end of 2022 by a specialist provider commissioned by Vinci, for which results have yet to be communicated to the Trust and Project Co. Should it identify material defects, this could result in increased deductions, remediation works and/or costs which could weigh on Project Co’s liquidity and financial profile.
In response to the Trust’s claims, at the end of 2021, Project Co commissioned an audit of Vinci’s health and safety policies and sub-contractor management processes, as well as a compliance review, from independent consultants. Vinci implemented a service improvement plan resulting from the findings of these two audits. By the end of 2022, most actions arising from the first and second audits were reported as being closed. However, the Trust have not accepted the improvement plan and associated remedial measures delivered and have declined any engagement with Vinci, with all discussions being coordinated through Project Co. In addition, in an escalation of tensions between the parties, lifecycle works were put on hold by the Trust at the end of 2021, only very recently allowing Vinci to resume all lifecycle works from March 2023.
Notwithstanding the above, the self-reported Hard FM deductions (passed down to Vinci) and service failure points (SFPs) currently remain low: in the 12 months to August 2022 Hard FM deductions amounted to £5,600 and monthly SFPs averaged around 280 – well below the three-month PA warning notice threshold of 1,924 SFPs per month. However, these figures are subject to potential amendments as the Trust have rejected a number of Vinci’s performance reports over 2021-2022, while a resolution needs to be reached on some helpdesk tasks which the Trust claim have been outstanding for a number of years. Project Co report that they have commissioned a review of helpdesk reporting by an independent consultant, which concluded that the reporting is generally accurate, except for a few anomalies.
In addition, Soft FM performance has weakened since July 2021, resulting in an increase in deductions, amounting to around 0.5% of pro-rata Unitary Payment in the 12 months to August 2022 (compared to minor deductions over the previous five years). These deductions have been passed down to the Soft FM subcontractor, ISS Mediclean. Nevertheless, SFPs have remained well below the three-month PA warning notice threshold of 726 SFPs per month, with a monthly average of around 130 SFPs over the same period.
Notwithstanding the above, the Baa1 underlying rating continues to benefit from: (1) the availability-based revenue stream and benign payment mechanism under the long-term PA with the Trust, (2) the credit strength of the Trust supported by a Deed of Safeguard provided by the Secretary of State, and (3) the expectation that there is a likelihood of high recovery for senior lenders in the event of PA termination by the Trust following a Project Co Event of Default. However, the underlying rating remains constrained by (1) Project Co’s high financial and operational leverage, with a minimum forecast debt service coverage ratio (DSCR) of 1.21x and all-cost breakeven of 6%, which reduce its ability to withstand unexpected stress, albeit partly mitigated by a high average DSCR of 1.42x and protection against cost volatility through contractual pass-through of costs and benchmarking / market testing provisions; and (2) the absence of a traditional maintenance reserve account, although this weakness is partially mitigated through Project Co’s full pass through of lifecycle risk and the use of a dynamic lifecycle reserve account.
RATIONALE FOR THE NEGATIVE OUTLOOK
The negative outlook reflects the progressive escalation of tensions between Project parties and the risks that (1) the fire stopping survey undertaken at the end of 2022 might identify defects resulting in increased deductions, material remediation works and/or costs which could weigh on Project Co’s liquidity and financial profile; (2) the alleged breaches of PA obligations by Vinci might result in Project Co Events of Default under the PA; and (3) Project Co might have to assume increased risks related to Lifecycle and Hard FM and/or face increased costs should the Hard FM Services Contract with Vinci be terminated.
FACTORS THAT COULD LEAD TO AN UPGRADE OR DOWNGRADE OF THE RATING
Given the negative outlook, Moody’s currently does not envisage any upward rating pressure. The outlook could be changed to stable if: (1) the relationship issues between the Trust and Vinci are resolved without termination of Vinci and with no adverse impact on Project Co’s financial metrics, (2) the fire stopping survey does not identify any material defects resulting in increased deductions, material remediation works and/or costs, and (3) operating performance improves on a sustained basis.
Conversely, Moody’s could downgrade the rating if: (1) the fire stopping survey identifies defects resulting in increased deductions, material remediation works and/or costs; (2) operating performance or relationships further deteriorate, leading to increased deductions; (3) the alleged breaches of PA obligations by Vinci result in Project Co Events of Default under the PA; (4) the Hard FM Services Contract with Vinci is terminated, resulting in an increased likelihood of Project Co having to assume increased risks related to Lifecycle and Hard FM and/or face increased costs; and/or (5) the resolution of the current issues between the Trust and Vinci continues to be delayed.
