Fitch Ratings affirms the 'AA-' long-term rating on the following
General Authority of Southcentral Pennsylvania and York County Hospital
Authority bonds issued on behalf of WellSpan Health:
--$174,780,000 fixed rate revenue bonds, series 2008A;
--$24,570,000 auction rate bonds, series 1993B (York Hospital).
WellSpan also has $211.7 million of series 2008B-D direct bank loans
outstanding, which Fitch does not rate.
The Rating Outlook is Stable.
The bonds are secured by a pledge of gross receipts.
KEY RATING DRIVERS
BUSINESS PLATFORM PREPARES FOR PAYMENT REFORM: Fitch views WellSpan's
integrated delivery model with high physician alignment favorably, which
allows for changes in care management. The ability to leverage its
integrated platform with its information technology capabilities will
prepare WellSpan for a declining reimbursement environment. WellSpan has
begun to collaborate with payers on new payment models, including
bundled payments and patient centered medical homes.
SOLID MARKET POSITION: WellSpan has maintained a leading market position
despite declining volume across the region. Market share was strong in
the 2011 calendar year with 59% of inpatient admissions and 42% of
ambulatory surgery procedures compared to 10% and 12%, respectively, for
the closest competitor.
IMPROVED PROFITABILITY: Given WellSpan's high percentage of employed
physicians, profitability has historically lagged the 'AA' category
medians. Operating profitability improved in fiscal 2012 due to strong
revenue growth and expense management with a 4.2% operating margin
compared to 2.4% in fiscal 2011 and 1.6% in fiscal 2010. Although year
to date profitability is lower than the same prior year period,
operating margin in fiscal 2013 is projected to return closer to
historical levels of around 3%.
PENSION FUNDING IMPACTS LIQUIDITY: WellSpan's defined benefit plan,
which was partially frozen in 2007, was only 61% funded as of fiscal
year end 2012 (June 30). This necessitated a pension contribution of $41
million in the first quarter of fiscal 2013 and led to a decline in
liquidity metrics. Unrestricted cash and investments of $657.3 million
as of Sept. 30, 2012 equated to 217.9 days cash on hand and 17.4x
cushion ratio, which are only slightly below Fitch's AA category medians.
HIGH DEBT BURDEN: Debt load metrics compare unfavorably to Fitch's 'AA'
category medians with debt to capitalization of 50.3%, MADS as a
percentage of revenues of 3.2%, and debt service coverage of 3.9x
through the interim period. However, the debt burden should improve as
amortizing principal is paid down and future capital needs are funded by
cash flow with no additional debt plans.
The rating affirmation reflects WellSpan's integrated business model
including a highly aligned physician network facilitating a considerable
level of penetration in its primary service area (PSA), improved
operating performance, adequate liquidity, and modest future capital
needs. Primary credit concerns include its high debt burden and erosion
in funded status of its pension plan.
WellSpan's main credit strength remains its integrated business model
including a high level of physician alignment, with over 75% of active
physicians in the market affiliated with the health system. Of these
physicians (766), 411 are employed and 259 are sole admitters to
WellSpan. WellSpan has a strong primary care base with 49.7% of the PSA
population having visited a WellSpan employed or loyal primary care
physician in 2010 or 2011. Leveraging this position, WellSpan's
inpatient market share increased from 56% in 2010 to 59% in 2011,
compared to the next competitor, Hanover Hospital, with only 10%.
In October 2012, WellSpan and Ephrata Community Hospital (Ephrata),
located i Lancaster County about 40 miles northeast of WellSpan's York
Hospital, announced plans to explore a potential affiliation. Management
expects the transaction to finalize in early 2013. Management believes
that the affiliation will allow WellSpan to expand its population health
management efforts in the service area. Each entity will remain
separately obligated on its respective debt although it is expected that
Ephrata will be consolidated into WellSpan's financials. Fitch believes
the financial impact of the transaction will be minimal to WellSpan due
to Ephrata's relatively small size.
WellSpan has begun to collaborate with payers on new payment models,
including bundled payments and patient centered medical homes. This was
a result of its PRICE (Payment Reform Involving Corporate Engagement)
initiative which focuses on increasing value. WellSpan tailored
strategies to different segments of the population with varying
healthcare utilization rates. WellSpan has started a bundled payment
initiative with regional employers, other providers and payors, which
will initially cover a limited number of conditions. The portion of
revenues derived from new payment models will initially be very small,
but may expand depending on the initial results.
Profitability rebounded to historical levels in fiscal 2012, producing a
robust operating margin of 4.2% ($48.9 million operating income) due to
various expense reduction initiatives including supply chain and lean
management tools compared to 2.4% in fiscal 2011 and 1.6% in fiscal
2010. Operating EBITDA margin was 10.6% in fiscal 2012 compared to 9.3%
in fiscal 2011, respectively. Fitch notes that WellSpan's overall
profitability is somewhat depressed by its large employed physician
base. The physician group generated losses of $21.4 million in fiscal
2012 and $19.6 million fiscal 2011. Through the three months ended Sept.
30, 2012, operating margin of 2.7% is closer to historical performance.
Although year to date performance is below the same prior year period,
WellSpan is on target to meet its budgeted operating margin of 3.3% in
fiscal 2013. In the next several years, management is preparing for
continued revenue pressure, which will necessitate ongoing expense
reductions to sustain operating profitability. WellSpan is projecting to
maintain an operating EBITDA margin of approximately 10%.
Liquidity grew steadily from 2009 to 2012 but dropped in the quarter
ended Sept. 30, 2012 due to cash contribution to the pension plan of $41
million (about 14 days cash on hand). Unrestricted cash and investments
totaled $657.3 million producing 217.9 days cash on hand and 17.4x
cushion ratio, down from 240.1 days and 18.0x from June 30, 2012.
Slightly below Fitch's 'AA' category medians, liquidity is adequate for
Long-term debt totaled $430.8 million at Sept. 30, 2012, producing debt
metrics that are unfavorable to rating category medians. Through the
interim period, MADS coverage by EBITDA of 3.9x, MADS as a percentage of
revenue of 3.2%, and debt to capitalization of 50.3% were weak compared
to respective medians of 4.8x, 2.5%, and 33.9%. Debt to capitalization
is particularly high, and increased from fiscal 2011 due to a decline in
unrestricted net assets affected by an increase in pension liability.
Concerns with the debt load are mitigated by WellSpan's plans to reduce
its debt burden by paying down maturing principal and funding capital
expenditures using internally generated cash flow. Modest capital plans
are supported by a low average age of plant of 8.1 years. WellSpan
continues to restructure its debt portfolio with 39% fixed rate bonds,
49% direct bank loans, 6% auction rate bonds, and 6% notes payable and
capital leases. Although there is no near-term put and remarketing risk
with the direct bank loans (refinanced outstanding VRDBs), the loans do
face renewal risk with initial terms of five to 10 years. WellSpan does
not currently have any new debt plans.
Another key credit concern is the erosion in pension funding status that
has declined from 98.2% in 2008 to 61.3% in 2012 driven by a combination
of investment losses and decline in the discount rate. The unfunded
liability could pressure future liquidity growth. However, the pension
was partially frozen in 2007.
The Stable Outlook reflects Fitch's expectation that WellSpan will
continue to produce consistent results due to its market position and
integrated delivery model. A significant variance from projections could
lead to negative rating pressure.
Headquartered in York, Pennsylvania, WellSpan consists of two acute care
hospitals (York Hospital, with 550 staffed beds, and Gettysburg
Hospital, with 95 staffed beds) located about 31 miles apart, Surgical &
Rehab hospital (73 beds), 34 ambulatory and outpatient care locations,
and various other health care-related entities. WellSpan covenants to
provide quarterly and annual disclosure to bondholders.
Additional information is available at 'www.fitchratings.com'.
The ratings above were solicited by, or on behalf of, the issuer, and
therefore, Fitch has been compensated for the provision of the ratings.
Applicable Criteria and Related Research:
--Revenue Supported Rating Criteria, June 12, 2012;
--Non-Profit Hospital and Health System Rating Criteria, July 23, 2012.
Revenue-Supported Rating Criteria
Nonprofit Hospitals and Health Systems Rating Criteria
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