(Sewickley, PA, March 11, 2009) – Standard & Poor's Rating Services recently affirmed its “AA-” underlying rating for Heritage Valley Health System with a stable future outlook.

In their report issued Friday, March 6, Standard and Poor’s (S&P) said that the rating decision reflects Heritage Valley’s excellent balance sheet, highlighted by light leverage, strong cash to debt and overall growth in liquidity over the past five years. The report stated that the stable outlook reflects Heritage Valley’s solid business position and operational improvements achieved over the past several fiscal years (see S&P Report below).

“We are extremely pleased with S&P’s affirmation of the rating for Heritage Valley,” said Norm Mitry, president and chief executive officer of Heritage Valley Health System. “It is a testament to the hard work of our management group, medical staff and employees who do their best with the resources entrusted to them and work together as a team to improve the health and well-being of all people in the communities we serve. This recognition wouldn’t be possible without our dedicated board of directors who have the vision and commitment to invest and reinvest in our organization as we continue to grow as regional leader in community healthcare.”

“The board of directors constantly emphasizes the importance of balancing strategic direction and expansion with operation excellence and performance,” added Laura Vassamillet, chair of the Heritage Valley Health System Board of Directors. “In the last year, Moody’s Investor Service affirmed our A1 rating and upgraded our outlook from stable to positive and Fitch Ratings of New York affirmed our A+ rating and also revised our outlook from stable to positive. This current rating from S&P further affirms our continuous planning efforts, coupled with the diligent work of our exceptional management team, dedicated medical staff and employees as well as our committed board of directors, especially during this challenging economy.”

Heritage Valley Health System provides comprehensive health care for residents of Allegheny, Beaver, Butler and Lawrence counties, in Pennsylvania; eastern Ohio; and the panhandle of West Virginia. In partnership with more than 400 physicians, Heritage Valley offers a broad range of medical, surgical and diagnostic services at its two hospitals, Heritage Valley Sewickley and Heritage Valley Beaver; in physician offices; and community satellite facilities. For more information about Heritage Valley Health System, please visit www.heritagevalley.org.

Summary: Beaver County Hospital Authority, Pennsylvania
Heritage Valley Health System

Primary Credit Analyst:  Cynthia Keller Macdonald, New York (1) 212-438-2035; cynthia_keller-macdonald@standardandpoors.com

Secondary Credit Analyst:  Antionette W Maxwell, Chicago (1) 312-233-7016; antionette_maxwell@standardandpoors.com

Publication date: 06-Mar-09, 09:21:19 EST
Reprinted from RatingsDirect
         
Rationale
Standard & Poor's Ratings Services affirmed its 'AA-' underlying rating (SPUR) on $76.6 million series 1998 bonds issued by Beaver County Hospital Authority, Pa. for Heritage Valley Health System, formerly known as Valley Health System.
The rating decision reflects Heritage Valley's:

• Strong balance sheet, highlighted by light leverage, strong cash to debt and overall growth in liquidity over the past five years although 2008 and 2009 balances have dropped;
• Improved operating income, which generated strong maximum annual debt service coverage (MADS) of 6.9x for fiscal 2008. Although coverage has decreased to 1.2x in the first six months of fiscal 2009, primarily due to significant realized investment losses--the system has posted four years of positive operating earnings, and
• Solid business position in suburban Pittsburgh, with two hospitals and a large contingent of employed physicians creating geographic dominance.

Offsetting factors include:

• Management's commitment to use internal funds to finance facility expansion and improvements at both acute-care campuses which, in combination with weak investment markets, has resulted in a nearly 25% reduction in liquidity as of December 2008. However, these projects are necessary as the average age of plant is high at almost 14 years in 2008 and management has made plans to reduce its annual capital budget in other ways to preserve liquidity;
• Overall volume softness in the current fiscal year stemming largely from generally weak regional demographics.

Heritage Valley Health System is the parent of 10 operating entities: Valley Medical Facilities, which operates the two hospitals; two foundations (one for each hospital); five medical groups with about 162 employed physicians; and Heritage Valley Insurance Co. The system is not a party to any swap transactions.

Heritage Valley's balance sheet continues to be a strength and is in line with 'AA' category median financial ratios. At the end of fiscal 2008, Heritage Valley had unrestricted cash reserves of $296 million, or a strong 285 days' cash on hand and almost four times $77 million long-term debt outstanding. However, overall liquidity has declined from $327 million and 325 days' cash on hand in 2007 due to market value losses and capital expenditures. Unrestricted cash and investments on Dec. 31, 2008, are $253 million or 234 days' cash on hand. Leverage remains low at 20% and management has no future financing plans.

Operating performance was adequate in fiscal 2008, with operating income of $8.7 million, or a 2.1% margin, and excess income of $18.9 million, for a 4.5% margin. While nominally improved from $3.1 million in fiscal year 2007, 2007 results included a $12.5 million litigation settlement; excluding the settlement, operating earnings in 2007 were $15.6 million (4% margin). Heritage Valley's positive margins are the results of better managed-care contracts, its physician relations strategy, efficiencies initiated through the six sigma process, and prudent management of operating expenses. MADS coverage remained strong at 7x in fiscal 2008, although it declines to 4.2x if operating leases are included. The debt burden remains low at just 1.5% of revenues.

Operating earnings in the first six months of fiscal 2009 remain positive at $1.8 million (0.85% operating margin), but are behind budget. The issues stem mainly from inpatient volume declines, increased salary costs, and a rise in charity care and bad debts expenses. Management has implemented expense-cutting actions and expects to post about a 1.0%-1.5% operating margin by the end of fiscal year 2009. Of equal concern is the year-to-date bottom-line loss of $8.9 million after $10.5 million of realized investment losses. Heritage Valley has always been reliant on nonoperating earnings, however, the absolute liquidity balances and positive operating margins are sufficient for now to maintain the rating. However, a prolonged slump in the investment markets or a reversion to operating losses would likely warrant a negative outlook or lower rating.

The two hospitals--Heritage Valley Beaver (351 beds) and Heritage Valley Sewickley (186 beds)--are about 17 miles from each other and share complementary service areas, with modest overlap in their secondary service areas. Heritage Valley serves a 60-mile radius around its facilities, which includes parts of four Pennsylvania counties as well as portions of eastern Ohio and West Virginia. Heritage Valley's overall primary service area market share remains solid at 62%. Although there are several hospitals on the fringes of Heritage Valley's market area, the recently closed Aliquippa Community Hospital, which was located midway between the two acute-care facilities, was its only direct competitor.

Heritage Valley's admissions have been flat to slightly declining as Pittsburgh is a mature market with little growth. After remaining flat from 2006 through 2007, inpatient admissions declined 2% in 2008 and are below budget for the first half of fiscal year 2009. Other volume indicators are also soft this fiscal year. Management has made efforts to expand, both geographically and from a service line standpoint. In addition, the system has multiple outreach sites throughout its service area and it is exploring further expansion opportunities. The primary outreach is done via the system's 162 employed physicians, who basically breakeven from operations each year. This network continues to have considerable strategic value to the system, but is not expected to grow significantly, as it already includes almost all of the primary care practitioners in the service area. Heritage Valley is also a part of three joint ventures and it just added a fourth as it now owns 51% of an existing ambulatory surgery center started by an orthopedic group practice about one and one-half years ago. Although Heritage Valley's outpatient surgery volumes continue to decline, at least the new joint venture will return half of its volumes and profits to the system.

Heritage Valley is currently in the midst of building projects at both Beaver and Sewickley. Beaver is constructing a $20 million three-story addition, which will expand the emergency department and other space, create a new gastrointestinal laboratory as well as a heart and vascular center, and improve the main entrance and parking. At Sewickley, a smaller $6 million project will renovate the lobby and emergency department. The system is paying for the projects from internal funds, which has contributed to the drop in liquidity year to date. Management expects both projects to be completed in fiscal year 2010. Management has reduced capital spending this year by about 25% in light of the weak investment markets with spending restricted largely to the two capital projects, radiology, and information technology. Heritage Valley has an electronic medical record in place and continues to spend ample funds on information technology. Management has funded capital in excess of depreciation expense for the past five years and expects to spend about $31 million (1.5x depreciation) in 2009.

Outlook
The stable outlook reflects the system's operational improvements achieved over the past several fiscal years, coupled with excellent balance sheet strength and a solid business position. Heritage Valley remains reliant on nonoperating earnings, however it is important, especially in light of the volatile investment markets, that management continue to focus on positive results from operations. A higher rating is unlikely until margins significantly improve. A lower rating is precluded for now by ample balance sheet strength, although a prolonged market decline might ultimately warrant a lower rating or negative outlook, especially if operating margins continue to be modest or drop lower.

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