Fitch Rates Mary Washington Healthcare, VA Bonds 'BBB+'; Outlook Negative

NEW YORK--()--Fitch Ratings has assigned a 'BBB+' rating to the approximately $58.3 million series 2014 bonds expected to be issued by the Economic Development Authority of the City of Fredericksburg, VA on behalf of Mary Washington Healthcare (MWHC, or the system):

Fitch also affirms the following outstanding bonds at 'BBB+':

--$30.4 million Economic Development Authority of the City of Fredericksburg Mary Washington Healthcare), VA hospital facilities revenue refunding bonds series 2013A;

--$60.9 million Economic Development Authority of the City of Fredericksburg (MediCorp Health System), VA hospital facilities revenue refunding bonds series 2007;

--$125 million Economic Development Authority of Stafford County (MediCorp Health System), VA revenue bonds series 2006;

--$65 million Industrial Development Authority of the City of Fredericksburg (MediCorp Health System), VA revenue bonds series 2002B.

The Rating Outlook is Negative.

The series 2014 bonds will be issued as tax exempt fixed-rate bonds. Proceeds will be used, together with the release of the debt service reserve fund (DSRF) of the series 2002B bonds, to refund the outstanding series 2002B bonds. A DSRF will not be funded for the series 2014. Maximum annual debt service (MADS) of $22 million was provided by the underwriters and occurs in 2037. The refunding is expected to generate present value savings estimated at $4.2 million. The series 2014 bonds are expected to price the week of April 28, 2014.

SECURITY

The bonds are secured by gross revenues of the MWHC obligated group which accounted for 84% of consolidated system revenues and 97% of the system assets in fiscal 2013 (Dec. 31 year-end, unaudited).

KEY RATING DRIVERS

PARTIALLY IMPROVED FISCAL 2013 RESULTS: The affirmation reflects the significant improvement in year-over-year operating profitability; however, Fitch notes that operating income fell short of budgeted expectations. Fiscal 2013 operating income improved to negative $11.6 million from negative $24.9 million in fiscal 2012, but was short of the budgeted target of negative $7.8 million. Fitch expects that management will continue to improve operating profitability in fiscal 2014 as management implements a $30 million expense reduction initiative, of which approximately $7.5 million is expected to be realized in fiscal 2014. The Negative Outlook reflects Fitch's concerns regarding the compressed profitability levels which remain below historical levels.

LEADING MARKET SHARE: The system's market share has stabilized following the 2010 opening of the HCA's Spotsylvania Hospital at the still dominant 60% plus market share in the demographically favorable eight-county primary services area (PSA) located approximately half way between Richmond, VA and Washington, D.C. Stafford's admission increased by 9% in 2013. The recently established relationship with Kaiser Permanente (Kaiser), where MWHC will provide certain services to Kaiser patients in its market, is expected to further bolster volumes.

LIGHT LIQUIDITY: Liquidity increased to $190.9 million at Dec. 31, 2013 from $173 million at 2012 fiscal year-end, but remains relatively light for the rating level, equating to 123.8 days cash on hand (DCOH), cushion ratio of 8.7x and cash equal to 65.7% of long-term debt.

ELEVATED LEVERAGE: Coverage of MADS by EBITDA was 2.1x in fiscal 2013 and MADS represents 3.7% of system revenues, both slightly unfavorable compared to the 'BBB' category median, but the system has a conservative debt structure with pro forma debt at 90% fixed-rate debt, no swaps and no major capital needs.

RATING SENSITIVITIES

CONTINUED OPERATING IMPROVEMENT EXPECTED: Fitch expects operating profitability to continue to improve through fiscal 2014 and that year end results will approximate budgeted targets. The failure to demonstrate continued operating improvements consistent with the fiscal 2014 budget or a decline in liquidity would result in a downgrade.

CREDIT PROFILE

MWHC is the parent of a group of health care-related organizations including Mary Washington Hospital (Mary Washington), a 442-licensed bed acute care hospital located in Fredericksburg, VA, and Stafford Hospital Center (Stafford), a 100-bed acute care hospital located in Stafford, VA. Revenues for the system totaled approximately $589 million in 2013.

PARTIALLY IMPROVED FISCAL 2013 RESULTS

MWHC's operations in fiscal 2013 were an improvement over the large loss incurred in fiscal 2012, which led to the Negative Outlook. Net patient revenues increased by 3.2%, driven by good inpatient volumes, particularly the 9% increase in admission at Stafford, which now averages a census of 46 patients. Days in accounts receivable (DAR) returned to the mid-40 day level after the system corrected revenue cycle issues and billing problems in 2012 related to a billing system conversion. For fiscal 2013, MWHC reported an $11.6 million loss from operations, equal to a negative 2% operating margin and a 6.7% operating EBITDA margin, a significant improvement over the $24.9 million operating loss in fiscal 2012.

The 2013 budget was a $7.8 million operating loss, which included $11 million of the Stockamp consulting fee to reengineer billing and to help implement revenue cycle initiatives, with management projecting return to positive operating performance in 2015. The factors which contributed to the budget shortfall included a $2.5 million negative impact from sequestration cuts which was not included in the budget, as well as a slightly higher than anticipated physician losses. Management engaged Kaufman Hall and is working on a major $30 million cost reduction program, with savings to be fully realized in fiscal 2015. The budget for the current fiscal year is a loss of $2.6 million (breakeven operations based on MWHC financial reporting, but Fitch excludes investment income of $2.5 million from other operating revenue). The 2014 budget does not include the impact of the costs reduction program, of which approximately $7 million are expected to be achieved in the current year. Performance through the two months ended Feb. 28, 2014 shows the system ahead of budget with a small operating loss of $0.3 million versus the budgeted loss of $2 million, despite patient revenues 2.6% under budget, as the cost reduction effort takes hold.

MANAGEMENT TRANSITION

MWHC's CEO is planning to retire at the end of this calendar year. His decision was disclosed to the board in the spring of 2013, providing the organization with 18 months to find a replacement. The board launched a national search in January 2014 and Fitch expects the transition to be orderly.

LEADING MARKET SHARE

After initially losing some market share to the for-profit Spotsylvania Hospital, which opened in 2010, market share stabilized in mid-2011 and the system is maintaining its leading market share of 62.7% with Mary Washington Hospital at 54.2% share and Stafford with 8.5%, versus HCA's Spotsylvania Hospital's 10.7%. Mary Washington is the only provider of tertiary services in its market, including open-heart surgery. The only outmigration is for some cancer, cardiac, high-end pediatrics and high-end quaternary services, such as transplants. The system's service area continues to exhibit strong economic and demographic characteristics and the opening of Stafford has enabled the system to benefit from the well-insured suburban growth to the north, which would have gone to the system's competitors. After Kaiser recently ended its contract with Inova Health System, effective Feb. 2, 2014, Stafford Hospital acquired 'core hospital' status with Kaiser for obstetrics and several medical services and it is anticipated that the relationship may expand further over time to include provision of additional services.

LIQUIDITY AND LEVERAGE METRICS LAGGING MEDIANS

Despite the recent operating losses, liquidity levels have been slowly improving. The system reported unrestricted cash and investments of $190.9 million at 2013 fiscal year end, up from $162.6 million two years ago, translating to 123.8 DCOH, cushion ratio of 8.7x and 65.7% cash-to-debt, but lower than the respective category medians of 144.7 days, 10.2 and 91.7%. Coverage by EBITDA improved to 2.1x in 2013 from a weak at 1.4x in fiscal 2012 for the consolidated system, compared to the category median of 3.1x. MADS as percent of revenues at 3.7% is now close to the Fitch's 'BBB' category median of 3.5%.

The system executed a refunding of its series 2011 bonds in November 2013, thereby eliminating certain restrictive covenants. The series 2013A bonds were issued as variable rate bonds without a liquidity facility with a 2017 mandatory tender and rate based on SIFMA plus 1.90% basis points spread. A $2.2 million VHA Capital Assets Financing Program loan was also paid off in 2013. A mitigating factor to the system's still slightly elevated leverage is its conservative debt structure with 90% fixed-rate debt and modest capital needs going forward. Planned capital investment is focused on clinical integration and only minor renovations at Mary Washington and is budgeted to mirror the system's depreciation expense over the next several years.

DISCLOSURE

MWHC covenants to provide audited annual financial statements and quarterly disclosure to bondholders.

For additional information, refer to: 'Fitch Rates Mary Washington Healthcare, VA Bonds 'BBB+'; Outlook Negative' dated Sept. 9, 2013.

Additional information is available at 'www.fitchratings.com'.

Applicable Criteria and Related Research:

--'Nonprofit Hospitals and Health Systems Rating Criteria' (May 20, 2013);

--'Fitch Affirms Mary Washington Healthcare, VA Bonds at 'BBB+'; Outlook Revised to Negative' (June 28, 2013).

Applicable Criteria and Related Research:

U.S. Nonprofit Hospitals and Health Systems Rating Criteria

http://www.fitchratings.com/creditdesk/reports/report_frame.cfm?rpt_id=708361

Additional Disclosure

Solicitation Status

http://www.fitchratings.com/gws/en/disclosure/solicitation?pr_id=827232

ALL FITCH CREDIT RATINGS ARE SUBJECT TO CERTAIN LIMITATIONS AND DISCLAIMERS. PLEASE READ THESE LIMITATIONS AND DISCLAIMERS BY FOLLOWING THIS LINK: HTTP://FITCHRATINGS.COM/UNDERSTANDINGCREDITRATINGS. IN ADDITION, RATING DEFINITIONS AND THE TERMS OF USE OF SUCH RATINGS ARE AVAILABLE ON THE AGENCY'S PUBLIC WEBSITE 'WWW.FITCHRATINGS.COM'. PUBLISHED RATINGS, CRITERIA AND METHODOLOGIES ARE AVAILABLE FROM THIS SITE AT ALL TIMES. FITCH'S CODE OF CONDUCT, CONFIDENTIALITY, CONFLICTS OF INTEREST, AFFILIATE FIREWALL, COMPLIANCE AND OTHER RELEVANT POLICIES AND PROCEDURES ARE ALSO AVAILABLE FROM THE 'CODE OF CONDUCT' SECTION OF THIS SITE. FITCH MAY HAVE PROVIDED ANOTHER PERMISSIBLE SERVICE TO THE RATED ENTITY OR ITS RELATED THIRD PARTIES. DETAILS OF THIS SERVICE FOR RATINGS FOR WHICH THE LEAD ANALYST IS BASED IN AN EU-REGISTERED ENTITY CAN BE FOUND ON THE ENTITY SUMMARY PAGE FOR THIS ISSUER ON THE FITCH WEBSITE.

Contacts

Fitch Ratings
Primary Analyst
Eva Thein, +1 212-908-0674
Senior Director
Fitch Ratings, Inc.
One State Street Plaza
New York, NY 10004
or
Secondary Analyst
Dmitry Feofilaktov, +1 212-908-0345
Associate Director
or
Committee Chairperson
Jim LeBuhn, +1 312-368-2059
Senior Director
or
Media Relations:
Elizabeth Fogerty, +1 212-908-0526
elizabeth.fogerty@fitchratings.com

Sharing

Contacts

Fitch Ratings
Primary Analyst
Eva Thein, +1 212-908-0674
Senior Director
Fitch Ratings, Inc.
One State Street Plaza
New York, NY 10004
or
Secondary Analyst
Dmitry Feofilaktov, +1 212-908-0345
Associate Director
or
Committee Chairperson
Jim LeBuhn, +1 312-368-2059
Senior Director
or
Media Relations:
Elizabeth Fogerty, +1 212-908-0526
elizabeth.fogerty@fitchratings.com