DALLAS – Catholic Health Initiatives and Dignity Health are in negotiations that could result in creation of the nation's largest nonprofit hospital chain.
"We are in preliminary discussions to explore the potential of aligning the two organizations in the future," said CHI spokesman Mike Romano. "At this early stage, it's far too early to tell how any alignment will look in the future, or how it will affect markets."
They signed a non-binding letter of intent to explore "aligning their organizations," according to a press statement Dignity Health released late Monday.
CHI, based in suburban Denver, is the second-largest nonprofit health-care provider in the U.S. behind Ascension Health. San Francisco-based Dignity is ranked No. 5.
CHI has about $9 billion of outstanding debt, $15.2 billion in annual revenue in 2015 and 103 hospitals in 18 states.
Dignity has about $5.4 billion of outstanding debt, $12.9 billion in revenue, and 400 facilities in 22 states, a term that includes hospitals and outpatient clinics.
The potential combination would be the latest of many in the nonprofit hospital sector amid a dramatically changing healthcare landscape.
Both operators have suffered credit downgrades as financial performance weakened.
Merger talks are expected to carry on well into 2017.
The letter of intent to pursue an "alignment" follows last month's announcement that the two systems formed a partnership called Precision Medicine Alliance.
"The potential to align the strengths of these two organizations will allow us to play a far more significant role in transforming health care in this country," said Kevin E. Lofton, chief executive officer of Catholic Health Initiatives. "Together, we could enhance our shared ministry as the health industry transitions to a system that rewards the quality and cost-effectiveness of care."
Lloyd H. Dean, president/ chief executive officer of Dignity, said the talks come at a "turning point" in healthcare.
"Through a stronger strategic and financial foundation, an aligned ministry would accelerate our ability to advance our healing mission into the future," he said.
In April, S&P Global Ratings placed a negative outlook on Dignity's A rating
and downgraded CHI one notch to A-minus from A, leaving the outlook negative.
"The downgrade and negative outlook for CHI reflect persistent and large operating losses which have resulted in what we consider weak maximum annual debt service coverage," said Standard & Poor's credit analyst Martin Arrick.
"Furthermore, there was a meaningful drop in unrestricted cash and investments as of Dec. 31, 2015, to levels that are only adequate for the revised rating as they are well below comparable medians."
While Dignity Health was able to benefit from the Affordable Care Act-driven Medicaid expansion in the three states in which it operates acute facilities, the number of admissions from commercial insurers has dropped, Arrick said, while admissions from governmental payers, including Medicare, have risen.
"A lower rating would likely be premised on failure to improve operating margins to levels more consistent with rating medians over the next one to two years, and returning maximum annual debt service coverage to above 3x on a sustained basis," he said. "In addition, failure to see unrestricted reserves rebound to at least 100% of outstanding debt would be a negative factor at the current rating level."
In May, Moody's Investors Service downgraded CHI to A3 from A2 and retained a negative outlook, noting that total debt had increased by about $585 million since fiscal year 2014. Moody's rates Dignity's bonds A3.
In July, Fitch Ratings downgraded CHI to BBB-plus from A-minus and retained a negative outlook.
The downgrade "is driven by a financial profile that is no longer consistent with an 'A' category rating as well as Fitch's heightened concerns as the system struggles to rein in the losses throughout a substantial part of its operations," analyst Olga Beck explained. Fitch has an A rating on Dignity.
Dignity Health was known as Catholic Healthcare West until 2012.
CHI reached its present size in part through previous acquisitions, including the $2 billion 2013 absorption of St. Luke's Episcopal Health System.