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Rating Update:

MOODY'S AFFIRMS Aa3 RATINGS ASSIGNED TO WELLSPAN HEALTH'S (PA) DEBT; OUTLOOK REMAINS STABLE

22 Dec 2010

$427.5 MILLION OF RATED DEBT AFFECTED

SouthCentral General Authority, PA
Health Care-Hospital
PA

Opinion

NEW YORK, Dec 22, 2010 -- Moody's Investors Service has affirmed the Aa3 ratings assigned to WellSpan Health's bonds issued by the General Authority of Southcentral Pennsylvania. The rating outlook remains stable. The affirmation affects outstanding debt as listed at the conclusion of this report.

RATING RATIONALE:

The Aa3 rating continues to reflect WellSpan's formidable presence in a growing market which has translated into a long trend of solid financial performance and more than adequate coverage of debt

LEGAL SECURITY: All parity bonds are secured by a lien on and security interest in the Gross Receipts of the Obligated Group, on parity with all existing Master Notes. The Obligated Group currently consists of the York Hospital and The Gettysburg Hospital.

INTEREST RATE DERIVATIVES: Floating to fixed rate swap related to the Series 2005 and 2007 bonds with a notional amount that is equal to the total par on the bonds collectively. The counterparty is Citigroup Financial Products.

STRENGTHS

*Distinctly leading and growing market share (nearly 57%) of the two-county primary service area encompassing over 510,000 people; WellSpan's integrated model of delivery positions it well to sustain an indispensability quotient

*Long standing trend of very good operating performance with healthy operating cash flow; though most recent performance of 1.6% operating margin and 8.8% operating cash-flow margin in FY 2010 is slightly softer then peak levels though absolute operating cash-flow of nearly $95 million compares well with historic levels

*Healthy absolute level of liquidity of $538.7 million or 196 days cash on hand at FYE 2010 provides 254% coverage of demand debt

*Manageable capital plans with no near-term plan to increase debt outstanding

*Management team's track record of implementing strategies swiftly and effectively to meet competitive and operating challenges

CHALLENGES

*Increasing competition for inpatient orthopedic services with the recent addition of inpatient beds to a competitor's existing ambulatory campus

*Flat inpatient volume trend

*Historically modest debt coverage ratios as compared with Aa3 peers with peak debt service coverage of 4.5 times, debt to cashflow of 4.1 times, and cash to debt of 123.6% (Aa3 medians 5.6 times, 2.9 times and 155%, respectively)

*Ongoing losses incurred by employed physicians ($19.3 million in FY 2010), though value of this strategy is evidenced by System wide financial and competitive strength

RECENT DEVELOPMENTS/RESULTS

WellSpan continues to maintain a strong market position. Market share is reportedly 56.6% in the two-county primary service area, increasing from about 55.7% several years ago. Key strategies have included the recruitment of specialists to provide more clinical depth, closer alignment with physicians through employment or other models, expanded services and primary care locations to increase the hospitals' geographic reach. The economies of the service areas remain diverse and stable with growing populations.

York Hospital, WellSpan's flagship facility, is the largest of the three hospitals in York County, followed by competitors Memorial Hospital and Hanover Hospital, which concentrate on basic acute care services rather than specialty tertiary services. Neither of the two local competitors poses measurable threat to WellSpan's fundamental position. York Hospital continues to maintain the highest market share at approximately 57% of York County. Niche provider competition for outpatient services, specifically orthopedic services, has existed for several years, though the very recent addition of 30 inpatient beds to this ambulatory campus will pose a challenge to WellSpan's inpatient clinical enterprise. The addition of inpatient capacity could temper revenue growth at the hospitals.

The Gettysburg Hospital remains the only hospital in Adams County. Despite competition from hospitals in neighboring counties, it continues to capture the highest market share in Adams County at approximately 36%. In addition, York Hospital captured a growing 17.7% of the inpatient services market share in Adams County.

WellSpan's Medical Group functions across both York and Adams Counties, enhancing access to System services through its primary care and specialty network. Employed physicians now total nearly 400, representing more than half of the active physicians practicing at WellSpan Hospitals.

We believe the success of WellSpan's strategies is evident in its long track record of favorable operating results. Though performance for FY 2010 shows a softening from historic levels, performance remains healthy with an operating margin of 1.8% and operating cashflow margin of 8.8% and cash flow remains more then sufficient to sustain solid measures of leverage. Softer financial performance reflects flat acuity and inpatient volumes, reflecting shift to observation as well as growing losses of the WellSpan Medical Group. WellSpan will likely be challenged to grow revenues at historic rates with the continued shift to observation stays and the emerging challenge of orthopedic competition for inpatient services.

It remains noteworthy that the system generates a healthy operating profile in spite of sizable losses incurred by the employed physicians. Operating losses incurred by the employed physicians are meaningful at $19.3 million in FY 2010. Management remains focused on reducing these losses to manageable levels over the longer term, however, they acknowledge that the need to grow the employed group will continue to be costly in the near to mid-term. While Moody's retains concerns about the size of the losses, particularly given the organizations' ongoing commitment to support this strategy, our concern is tempered by the imputed value these physicians bring to the organization as evidenced by the significant patient referrals which aid in diluting the 'cash loss' and the added indispensability quotient of the System's alignment with a wide breadth of clinicians.

The unrestricted cash position of the System continues to provide satisfactory debt protection measures; with cash to demand debt a healthy 254%. Historical cash balances have increased to nearly $539 million at FYE 2010 equating to a modest, but improved, 124% cash-to-debt. Historic cash growth has been a direct result of operations, more recent initiatives to slow capital spend and sustained revenue cycle management initiatives that have reduced days in receivables to a favorably low 49 days.

After reducing capital spend in 2009 and 2010 in response to the challenging economic environment, management reports that capital spend in 2011 will be approximately $111 million, partially supported by unexpended bond proceeds from 2007 issuance. The capital budget for the next five years is expected to be a manageable $350 million and no new debt is anticipated in the short-term. Management is anticipating replacing current letter of credit debt (Series 2008B,C&D bonds) with bank qualified loans within the next few months; the removal of renewal risk would be viewed favorably.

Outlook

The stable outlook reflects WellSpan's leading market position which we believe should continue to translate into solid operating performance providing solid coverage of a debt position which is not expected to grow

What could change the rating--UP

Substantially improved operating performance and cash flow that translates into materially strengthened balance sheet and liquidity measures, growing market share

What could change the rating--DOWN

Significant volume declines leading to material market share loss; decline in operating cash flow that weakens debt measures; sustained decline in liquidity ratios; increase in debt without commensurate increase in cash flow

KEY INDICATORS

-Based on financial statements for WellSpan Health

-First number reflects Audit year ended June 30, 2009

-Second number reflects audit year ended June 30, 2010

-Investment returns smoothed at 6% unless otherwise noted

*Inpatient admissions: 32,429; 32,146

*Total operating revenues: $1.01 billion; $1.08 billion

*Moody's-adjusted net revenue available for debt service: $130.6 million; $128.0 million

*Total debt outstanding: $446.9 million; $435.9 million

*Maximum annual debt service (MADS): $28.3 million; $28.3 million

*MADS Coverage with reported investment income: 2.2 times; 4.5 times

*Moody's-adjusted MADS Coverage with normalized investment income: 4.6 times; 4.5 times

*Debt-to-cash flow: 4.2 times; 4.1 times

*Days cash on hand: 191 days; 196 days

*Cash-to-debt: 109.1%; 123.6%

*Operating margin: 2.3%; 1.6%

*Operating cash flow margin: 9.9%; 8.8%

RATED DEBT

Series 1993B, auction rate, Ambac insured

Series 2008A, fixed rate

Series 2008B, variable rate demand bond supported by LOC

Series 2008C, variable rate demand bond supported by LOC

Series 2008D, variable rate demand bond supported by LOC

CONTACTS

Obligor: Michael O'Connor, Senior Vice President & Chief Financial Officer, (717) 851-2123

Richard Harley, Director Treasury Management, (717) 337-4123

Underwriter: Victor Radina, Citigroup, (212) 723 - 5494

The principal methodology used in this rating was Not-For-Profit Hospitals and Health Systems, published in January 2008.

The last rating action was on September 17, 2008 when the Aa3 ratings and stable outlook were affirmed. The rating was subsequently recalibrated to a Aa3 global scale rating on May 7, 2010

Moody's adopts all necessary measures so that the information it uses in assigning a credit rating is of sufficient quality and from sources Moody's considers to be reliable including, when appropriate, independent third-party sources. However, Moody's is not an auditor and cannot in every instance independently verify or validate information received in the rating process.

Please see ratings tab on the issuer/entity page on Moodys.com for the last rating action and the rating history.

The date on which some Credit Ratings were first released goes back to a time before Moody's Investors Service's Credit Ratings were fully digitized and accurate data may not be available. Consequently, Moody's Investors Service provides a date that it believes is the most reliable and accurate based on the information that is available to it. Please see the ratings disclosure page on our website www.moodys.com for further information.

Please see the Credit Policy page on Moodys.com for the methodologies used in determining ratings, further information on the meaning of each rating category and the definition of default and recovery.

Analysts

Beth I. Wexler
Analyst
Public Finance Group
Moody's Investors Service

Nyisha Hohn
Backup Analyst
Public Finance Group
Moody's Investors Service

Contacts

Journalists: (212) 553-0376
Research Clients: (212) 553-1653


Moody's Investors Service
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MOODY'S AFFIRMS Aa3 RATINGS ASSIGNED TO WELLSPAN HEALTH'S (PA) DEBT; OUTLOOK REMAINS STABLE
No Related Data.
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