August 28, 2008

Fitch Rates WellSpan Health’s (Pennsylvania) $427MM 2008 Bonds ‘AA-‘

Fitch Ratings has assigned an 'AA-' underlying rating to the General Authority of Southcentral Pennsylvania's approximately $427 million revenue bonds, series 2008A and 2008B (issued on behalf of WellSpan Health). In addition, Fitch has affirmed the 'AA-' underlying rating on WellSpan Health's (WellSpan) $445 million outstanding parity bonds. The Rating Outlook is Stable.

The proceeds from the series 2008 bonds will be used to redeem a $105.7 million term loan (used to purchase the system's outstanding auction-rate securities) and refund various outstanding Ambac-insured variable-rate debt including series 2002, 2005A-D, and 2007A-B bonds. Series 2008A will be issued as unenhanced fixed-rated bonds and series 2008B bonds will be issued as variable-rate demand obligations (VRDOs) backed by direct-pay letters of credit (LOC). The preliminary estimated par amounts for series 2008A and 2008B are $355.1 million and $82.3 million, respectively. The exact mix between variable- and fixed-rate is not yet determined and will hinge on market conditions at the time of pricing. The series 2008A bonds are expected to price the week of Sept. 15, 2008 and the series 2008B pricing is expected to occur two weeks later. Fitch expects to assign ratings to the series 2008B bonds based on the LOC support closer to the date of issuance.

The 'AA-' rating is supported by WellSpan's solid financial profile; considerable footprint in the service area through its two acute hospitals, multiple outpatient centers, and a large multi-specialty physician group; and a history of disciplined and conservative financial and strategic planning. WellSpan's liquidity and profitability ratios have compared well to Fitch's 'AA' medians. For fiscal 2008, WellSpan's days cash on hand and operating EBITDA ratios were 227.9 days and 9.3% compared to category medians of 227.9 days and 9.3%, respectively. Fiscal 2008 operating margin of 2.6% is less than WellSpan's annual average for previous four years of 4.2%, reflecting ramp-up in staffing to meet volume growth and an increase in fixed costs which came on line in the fiscal year.

WellSpan maintains a dominant presence in its south central Pennsylvania service area (approximately 50 miles north of Baltimore, MD) with a market share of 73% as of fiscal 2007. WellSpan's planning and budgeting practices are seen as above average by Fitch, with the management continually beating their multiple year projections. The health system has a history of methodically fortifying its presence in the service area through vertical and horizontal diversification and growth strategies while maintaining strong financial performance. From fiscal 2003 to 2007, WellSpan invested on average 194% of depreciation cost into plant renovation and expansion. Ongoing investments include inpatient expansions and reconfigurations at the system's two acute hospitals, construction and expansion of multiple outpatient centers, and buildup of clinical and managerial information systems. WellSpan also employs approximately 45% (354 of 781) of its active medical staff with an average loss per provider of approximately $50,000.

Primary concerns include WellSpan's relatively elevated debt burden and significant physician competition in the service area. WellSpan's fiscal 2008 debt-to-capitalization ratio of 44% and MADS as percentage of revenue of 3.7% are higher than Fitch's 'AA' category medians of 32.8% and 2.7%, respectively. Fitch believes that WellSpan's young age of plant and lack of debt plans in the foreseeable future alleviate some of this concern. In fiscal 2007, entrepreneurial physicians in the service area opened a large orthopedic surgery center, diverting a significant number of cases from WellSpan's facilities, notably WellSpan's Apple Hill Surgical Center (AHSC). The number of surgical cases at the facility dropped to 7,618 in fiscal 2008 from 8,099 in fiscal 2007 and 9,460 in fiscal 2006. Management projects that this declining trend at AHSC will moderate in fiscal 2009; however, a onetime 19% decline in volume is projected for fiscal 2011 due to an expected opening of a competing endoscopy center. AHSC accounts for a modest portion of the system's total operating income (2.8% in fiscal 2007) and patient volume trends are stable in WellSpan's other facilities.

The Stable Outlook is indicative of a low likelihood for a positive or negative rating action in the near term. WellSpan's market presence and good management practices largely negate a possibility for negative rating pressure while relatively high debt burden and limited geographic diversification make an upgrade unlikely.

Headquartered in York, Pennsylvania, WellSpan consists of two hospitals (York Hospital, with 550 staffed beds, and Gettysburg Hospital, with 95 staffed beds) located about 31 miles apart, 32 ambulatory and outpatient care locations, and various other health care-related entities. WellSpan covenants to provide quarterly and annual disclosure to bondholders. To date, quarterly disclosure provided to industry participants (including NRMSIRs) has been timely and complete, and includes management discussion and analysis, a balance sheet, income statement, and utilization data, but no cash flow statement.

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