Passing Marks for WRMC Bonds

Health care industry investment ratings slip

Washington Regional Medical Center’s planned sale of $84.1 million worth of bonds won investment-grade ratings from three ratings firms, but just barely.

It’s not the fault of Washington Regional; rather, it’s the industry as a whole that’s suffering. And although the rating companies believe the hospital will repay the debt, they note it won’t be easy, especially in a competitive market like Northwest Arkansas.

Regional is borrowing the money to build a new 181-bed hospital, a 280,000-SF structure to be built on a 26-acre site at North Hills Medical Park. The site is more accessible and larger than the hospital’s current land-locked location on College Avenue in Fayetteville.

Paul B. Young Jr. is managing director for Morgan Keegan & Co., underwriter for the bonds that are expected to be placed this month. The bonds are exempt from both state and federal income taxes. The hospital plans to use $72 million for construction, equipment and professional fees.

The Series 2000 bonds were rated BBB- by Standard & Poor’s, BBB by Fitch IBCA and Baa3 by Moody’s Investors Service.

The S&P and Moody’s ratings are the lowest the firms give investment-grade bonds. One step lower on either scale, and the bonds would be considered speculative.

But just obtaining an investment-grade rating is a milestone for a relatively small hospital, said Martin Arrick, an analyst with Standard & Poor’s in New York.

“That’s significant because different types of institutional buyers can only purchase investment-grade paper,” he said.

S&P rates about 600 hospitals or health systems but relatively few of them are smaller hospitals like Washington Regional, Arrick explained. “We don’t have ratings on many of the smaller hospitals across the country, so getting to be investment grade is a significant plus.”

He added, “Once you get to the [hospitals] that are rated, BBB- is on the lower side.”

John E. Wells, an analyst for Fitch IBCA in New York, says his firm’s BBB rating on the bond issue “means [Washington Regional] can adequately pay that back. It’s a good rating, an investment grade [but] a little below average” for nonprofit hospitals.

Wells also noted that Washington Regional’s relatively small size must be considered in comparing its bond ratings with those of other not-for-profit hospitals. “I would say for a stand-alone hospital organization of their size, they’re closer to average.”

Wells says he thinks Washington Regional has positioned itself well with Arkansas Blue Cross and Blue Shield and with its physician affiliations.

“That was definitely a strength in our opinion,” he says. “We think they’re on the right track in terms of the new facility they’re planning to build. They face a lot of the same pressures that a lot of other hospitals around the country do.”

The rating from Moody’s, Baa3, by that company’s definition means the bonds “are considered medium-grade obligations, i.e., they are neither highly protected nor poorly secured. Interest payments and principal security appear adequate for the present but certain protective elements may be lacking or may be characteristically unreliable over any great length of time. Such bonds lack outstanding investment characteristics and in fact have speculative characteristics as well.”

By comparison, Moody’s recently downgraded an existing $7 million bond issue from Sparks Medical Center in Fort Smith from Aa3 to A2. That was a two-step downgrade but still left the issue one step above Moody’s median rating of A3 for nonprofit hospitals.

Still, it’s not surprising for an industry hit hard by the federal Balanced Budget Act of 1997 — it reduced Medicare reimbursements — and increased pressures from managed care and competition. Last year, for the first time in several years, S&P’s downgrades exceeded upgrades in the health-care industry.

“Health care in general has been very difficult,” Arrick said. “It’s in the middle of what I would categorize as weakened.”

S&P’s researchers found downgrades outnumbered upgrades in the health-care industry by 5 to 1 in 1999. Also, health care has been the most volatile public finance sector for the past five years.

Standard & Poor’s believes 2000 will be another year when downgrades exceed upgrades on nonprofit hospital bonds, Arrick said. “But, in a year or two, we think things will stabilize.”

By late 1999, S&P reported that 36 percent of its nonprofit ratings were in the “A” range; 44 percent fell into the “BBB” categories. Only three health-care entities have ever achieved S&P’s highest rating of AA+, and one of those is Sisters of Mercy of St. Louis, which owns Mercy Health System of Northwest.

Fitch IBPCA’s primary credit concerns about Regional’s bonds include the large debt burden, the light debt service coverage, the competitive environment and the currently open CEO position. (Patrick D. Flynn recently left the hospital where he had been CEO for six years for a similar position with a larger system in Fort Worth, Texas).

One concern cited by Moody’s is the new Willow Creek Women’s Hospital currently under construction at Johnson, about two miles from where Washington Regional’s new facility will be.

“The construction of this specialty hospital could potentially decrease newborn admissions at WRMC by an estimated 25 percent,” Moody’s report notes. It goes on to say that Washington Regional has enhanced its obstetrical and gynecological services by recruiting more doctors and by including a women’s center in the new hospital.

Willow Creek, an $11 million project being developed by the physicians of Parkhill Clinic for Women in Fayetteville, Northwest Arkansas OB/GYN in Springdale and MediSphere Health Partners Inc. of Nashville, Tenn. It’s expected to open in November..

Still, Fitch IBCA was complimentary of the hospital’s plans for a new facility, its management and its affiliation strategy.

“This new facility should allow WRMC to capitalize on its overall leading market position,” the company said.

While Fitch IBCA anticipates a decline in operating performance in fiscal 2002, when the new hospital is scheduled to open, it also expects a rebound to meet or exceed BBB medians.