Fitch Affirms Nanticoke Health Services, Delaware’s Bonds at ‘BBB-‘; Outlook Stable

NEW YORK--(BUSINESS WIRE)-- Fitch Ratings has affirmed Delaware Health Facilities Authority (Nanticoke Health Services Project) series 2002 bonds at 'BBB-' as part of its ongoing surveillance effort. The Rating Outlook remains Stable.

RATING RATIONALE:

--The operational turnaround that started in fiscal 2009 continues, but 2010 and the first half of 2011 results were lower than expectations due to several factors that are either of a nonrecurring nature or are being addressed and are expected to lead to positive operating performance in the 2012 fiscal year.

--Recent designation as a 'Medicare Dependent Hospital' will add an estimated $4 million of reimbursement annually.

--Recruitment of several key physicians and the restoration of the trauma designation have helped stabilize volumes.

--Nanticoke continues to be the dominant provider in its primary service area with market share of 70%.

--Liquidity remains weak for the rating level but was stable with 98.4 days cash on hand, 51.8% cash to debt and 7 times (x) cushion ratio at Dec. 31, 2010.

--Despite still experiencing small operating losses, Nanticoke's coverage of debt is acceptable for the rating category at 2.1x of maximum annual debt service (MADS). MADS represents a manageable 3.3% of revenues and all of the organization's debt is fixed rate.

KEY RATING DRIVERS:

--Ability to produce stronger and consistent operating results. Failure to achieve improved performance in fiscal 2011 and profitable operations by fiscal 2012 would lead to downward rating pressure.

--Realize volume growth and augment revenues from additions to medical staff.

SECURITY:

Debt payments are secured by a pledge of gross revenues and a mortgage on the Obligated Groups' facilities in Seaford, and debt service reserve account.

CREDIT SUMMARY:

Nanticoke has maintained the turnaround that has marked its financial performance starting with fiscal 2009 (fiscal year end June 30), after the large $8 million operating loss in 2008. The results for fiscal 2010 and through the first half of 2011, however, have been slightly lower, which was somewhat disappointing given management's expectation of a return to positive financial performance in 2010. The lower operating results were caused by several factors, which were either of a one-time nature and/or are being addressed and should produce improved performance by fiscal 2012. Fiscal 2010 ended with an operating loss of $1.7 million, equal to a negative operating margin of 1.3% and operating EBITDA margin of 7.2%, somewhat higher than the $0.8 million operating loss in the prior year. For the first half of 2011 ended Dec. 31, 2010, the organization reports operating loss of $1 million, for a negative operating margin of 1.6% and operating EBITDA margin of 6.9%. According to management, the reasons for the 2010 and year to date 2011 performance include volume challenges for the hospital, and the excessive cost of benefits for both the hospital and the extended care facility.

In 2010 the hospital changed its reserving methodology for bad debts, resulting in additional expenses of over $2 million. After addressing a number of expense issues in the turnaround, management is still grappling with compensation levels, which are being evaluated and redesigned for the 2012 fiscal year. The impact of the changes will not be realized in the current year, but savings from the benefit redesign of $2 million will be incorporated into the 2012 budget. An additional boost to operations is expected from Nanticoke's designation in November 2010 as a 'Medicare Dependent' hospital, which should increase Medicare reimbursement by approximately $4 million per year, of which only $0.8 million was realized through the six months ended Dec. 31, 2010. Management expects fiscal 2011 to end with an operating loss of approximately $0.8 million, before returning to positive operating performance in fiscal 2012. Fitch views a return to positive operating performance as key in maintaining the investment grade rating given its small revenue base and vulnerability to adverse events.

The chief credit concerns include the limited size of the hospital's staff and the exposure to changes in reimbursement given the institution's dependence on governmental sources of revenue (69% of gross revenues for Medicare and Medicaid combined). Mitigating factors are Nanticoke's inpatient market share of 70% in its primary service area and a manageable debt load. Despite the negative operations, MADS coverage by operating EBITDA has remained above 2x over the last two audited fiscal years and is reported at 2.1x for the interim period. MADS as a percentage of revenues of 3.3% at the interim period is in line with Fitch's 2008 'BBB' category median of 3.5%.

Focus on physician recruitment given the hospital's declining volumes between 2007 and 2009 (17.8%) had finally stabilized hospital admissions in 2010. The decline in the 2011 interim period of 5.3% was partially due to challenging weather in the second quarter, but management reports volume has increased in February as the physician practices brought onboard mid last year, including a neurologist, pulmonologist, a vascular surgeon and two obstetricians, are beginning to ramp up.

The liquidity position remains weak but stable, with days cash on hand of 98.4 days, cushion ratio of 7x and cash to debt at 51.8%, compared to the 'BBB' rating category medians of 122.2 days, 8.5x and 75.9%, respectively. Nanticoke's debt structure is conservative, as all of Nanticoke's debt is fixed rate.

Located in Seaford, DE, Nanticoke Health Services operates 99 acute care beds at Nanticoke Memorial Hospital and 110 skilled nursing beds at Nanticoke Alternative Care, Inc. The obligated group of NHS (which excludes a captive insurance company) posted $130.6 million in operating revenue in fiscal 2010. Nanticoke covenants to disclose annual audited financial statements and quarterly disclosure to bondholders. Disclosure has been timely and includes a balance sheet, income statement, statement of cash flows and utilization data.

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

Applicable Criteria and Related Research:

--'Revenue-Supported Rating Criteria', dated Aug. 16, 2010;

--'Nonprofit Hospitals and Health Systems Rating Criteria', dated Dec. 29, 2009.

Applicable Criteria and Related Research:

Revenue-Supported Rating Criteria

http://www.fitchratings.com/creditdesk/reports/report_frame.cfm?rpt_id=564565

Nonprofit Hospitals and Health Systems Rating Criteria

http://www.fitchratings.com/creditdesk/reports/report_frame.cfm?rpt_id=493186

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 Ratings
Primary AnalystEva TheinSenior Director
+1-212-908-0674
Fitch, Inc.</org>
One State Street Plaza
New York, NY 10004
or
Secondary AnalystsGary Sokolow+1-212-908-9186
or
Committee ChairpersonEmily Wong+1-212-908-0652
or
Media RelationsCindy Stoller+1-212-908-0526
[email protected]

Source: Fitch Ratings