Verity Health System's executive team renegotiated debt covenants on $278.6 million in revenue bonds.

LOS ANGELES — Verity Health System of California agreed to pay its bond investors a higher interest rate in exchange for breathing room on debt-service coverage requirements.

Verity's executive team took charge of the former Daughters of Charity Health System, a chain of six hospitals in the San Francisco and Los Angeles areas, in December.

Verity and bondholders finalized the agreement on bond covenant amendments on Feb. 4 to give bondholders a half-percent interest rate increase, according to Stephen Forney, Verity's chief financial officer.

The agreement affects $278.6 million in outstanding long-term revenue bonds rated at speculative-grade CCC by Standard & Poor's.

The first 0.25% interest rate increase is retroactive to Jan. 1 and the second 0.25% increase takes effect on June 30, according to disclosure documents trustee U.S. Bank National Association posted on the Municipal Securities Rulemaking Board's EMMA website.

The agreement boosts the interest rate in January to 5.5% on the 2024, 2025, 2030 and 2035 maturities. The 2039 and 2022 maturities rose to 5.25% last month.

The rate increases were made in exchange for an agreement that Verity would receive a "debt service coverage holiday," Forney said.

As a result, the bonds will not have to undergo a debt service coverage test during Verity's first year of managing the hospital system, but has to warrant that it can cover the debt service payments, he said.

The required coverage levels will ratchet back to previous levels three years out, he said.

"It gives us flexibility on the turnaround, but provided an oversight mechanism with the bond trustee," Forney said.

Verity negotiated the amendment change to err on the side of flexibility, he said.

"You never expect going into a turnaround to have problems, but you make sure you have situations that won't create problems," he said.

DCHS struck an agreement with BlueMountain Capital Management LLC in July in which the hedge fund would invest $250 million in the chain. The chain was renamed to Verity and has been converted from a nonprofit religious corporation to a nonprofit public benefit corporation.

Integrity Healthcare, wholly-owned by BlueMountain, will manage and operate the hospitals and the medical foundation, enabling it to maintain its nonprofit status.

Under the 15-year management agreement, BlueMountain pays $100 million for the option to purchase the hospital chain. It will also provide $150 million of guaranteed financing to support the system's financial and capital needs and commit $180 million for capital expenditures.

Daughters of Charity, with hospitals near the San Francisco Bay Area and Los Angeles, had been seeking a buyer for nearly two years before it was able to reach the agreement with Verity; a deal with a for-profit operator was rejected by the state attorney general's office.

The debt was issued at investment grade, but S&P has rated it at junk levels since April 2014, lowering it to CCC with a negative outlook in December 2014.

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