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Fitch Rates Western Connecticut Health Network, CT's Revs 'A'; Outlook Stable.

NEW YORK -- Fitch Ratings has assigned an 'A' rating to the approximately $46.4 million State of Connecticut Health and Educational Facilities Authority revenue bonds (Western Connecticut Health Network Issue), series M.

In addition, Fitch has assigned an 'A' rating to the following Western Connecticut Health Network (WCHN) outstanding debt:

-- Approximately $40.7 million State of Connecticut Health and Educational Facilities Authority revenue bonds (Danbury Hospital Issue), series G;

-- Approximately $41.6 million State of Connecticut Health and Educational Facilities Authority revenue bonds (Danbury Hospital Issue), series H.

The series M bond proceeds ($46 million) in conjunction with funds from direct bank loans ($129 million) and an equity contribution ($25 million) will be used to finance the cost of a new bed tower project ($150 million), refund outstanding debt ($39.6 million), fund capitalized interest ($6.7 million), and pay costs of issuance. The bonds are expected to price the week of June 27 through negotiation.

The Rating Outlook is Stable.

RATING RATIONALE:

-- The 'A' rating reflects WCHN's strong market position, good network strategy, and moderate debt burden despite this debt issuance.

-- WCHN's once strong competitors, Danbury Hospital and New Milford Hospital, recently affiliated, which should result in reduced expenses, improved access to care, and a reduction of outmigration. In addition, WCHN includes Danbury Office of Physician Services (DOPS), one of the largest multispecialty physician groups in the region, which provides an opportunity to alter the delivery of patient care in more cost effective settings. DOPS has 19 offices throughout the primary service area with plans to expand its geographic presence.

-- WCHN has fairly limited competition in its Connecticut primary service area capturing 83.3% of discharges in 2010. This could potentially increase as New Milford historically referred most of its tertiary cases to other facilities.

-- WCHN's financial profile is adequate for the rating level with sufficient liquidity and moderate profitability and debt ratios. Fitch expects profitability to slightly improve as the system begins to realize its cost reduction initiatives, which management has estimated to total approximately $17 million for fiscal 2012.

-- WCHN is building a new bed tower at Danbury Hospital, which should enhance operational efficiency. The tower will cost $150 million and will be funded by debt and equity.

KEY RATING DRIVERS:

-- Realization of the expected benefits from the integration of Danbury Hospital, New Milford Hospital, and DOPS, which should result in improved profitability over time.

-- Completing the bed tower project on time and on budget without a disruption to current operations.

SECURITY:

The bonds will be secured by a pledge of gross receipts of the obligated group.

CREDIT SUMMARY:

Operating performance in fiscal 2009 and fiscal 2010 equated to $20.7 million operating income (3% operating margin) and $17.1 million operating income (2.4% operating margin), respectively. The decline in performance was largely attributable to increased losses at DOPS, which had a $4.8 million operating loss in fiscal 2010 compared to breakeven performance in fiscal 2009. Through the six months ended March 31, 2011, WCHN's operating margin was 1.5%, which is down from the prior year period of 2.1%. Management stated that the reason for the decline was increased expenses; however, management believes that the full year fiscal 2011 operating margin budget of 2.9% will be met. Management has identified several cost reduction initiatives, which include salary expense management, supply chain management, and clinical program integration. Management expects the total cost reduction in fiscal 2012 to total $17 million and to maintain operating margins around 3%. Fitch believes these expense initiatives should be achievable since the organization is at the beginning of its integration phase. Fitch believes WCHN has the potential for better operational performance due to its strong market position in a good service area and its platform should enable the system to perform well under an accountable care environment.

WCHN's main credit strengths include its strong market position and delivery network. WCHN is aligned with over 200 multispecialty physicians with over 19 clinics in its service area with plans to increase and expand the number of clinic locations. Primary care represents the largest component of DOPS (45 physicians) and the other 170 physicians are split among 23 specialties. WCHN's primary service area includes 10 Connecticut and three New York towns with a combined population of 265,000 people. In its Connecticut PSA, WCHN captured 83.3% market share in 2010 compared to 82.5% in 2008. The other competitors include Yale-New Haven Hospital with 3.1%, Norwalk Hospital with 1.7% and St. Vincent Medical Center with 1.7%. An area of opportunity includes the tertiary referrals from New Milford, which historically did not go to Danbury. Over time, management expects to capture more of these tertiary referrals, which is expected to enhance revenue and its market position.

With this bond issue, WCHN will build a new bed tower and expanded parking garage at Danbury Hospital. The tower will consist of eight floors with a relocated and expanded emergency department, a modernized critical care unit, additional med/surg beds (two floors initially shelled), and shelled space for future expansion of its operating rooms. The total cost of the project is $150 million and is expected to be completed by July 2014. WCHN's capital spending (including the project) totals $320 million for fiscal 2011-2014. With the project funded from debt proceeds, the remaining capital expenditures to be funded from cash flow are manageable at approximately $43 million a year.

Liquidity is sufficient with $283 million unrestricted cash and investments at March 31, 2011, which translated into 155.1 days cash on hand. Days cash on hand has dropped from 160.3 days at fiscal year end 2009 due to capital spending. From the bond issue, WCHN will receive $11 million for reimbursement of prior capital expenditures. Pro forma cash to debt (including reimbursement) is still solid at 1.13 times (x).

WCHN's debt burden is moderate despite the additional debt issuance. Maximum annual debt service (MADS) comprised 2.3% of total revenue in 2010 compared to the Fitch 'A' category median of 3%. MADS coverage is strong at 4.2x for the six months ended March 31, 2011 and 4.0x for fiscal 2010 compared to the 'A' category median of 3.3x.

Total pro forma outstanding debt as of March 31, 2011 is $259.5 million and includes $128.6 million of traditional fixed rate debt, $129.3 million direct bank loans (with Citizens and JPMorgan), and $1.5 million of other debt. The pro forma debt mix is 50% fixed rate and 50% variable rate. The direct bank loans have an initial 10-year term and are variable rate based on a LIBOR + a spread. Although the direct bank loans are uncommitted capital, the 10-year initial term eases some of the concern. Aggregate debt service is level with MADS of approximately $16.4 million according to the underwriter. There are no swaps outstanding.

The Stable Outlook reflects Fitch's expectation that WCHN will realize its cost reduction initiatives and meet its fiscal 2011 budget. Liquidity growth is expected over time as capital needs funded through cash flow are manageable.

Western Connecticut Health Network is comprised of Danbury Hospital (371 licensed beds), New Milford Hospital (95 licensed beds), Danbury Office of Physician Services (215 multispecialty physician group), and other healthcare related entities. In fiscal 2010, total operating revenue was $717 million. During 2011, WCHN assumed a controlling financial interest in DOPS, with the result that DOPS will be consolidated into WCHN's financial statements for the fiscal year ending Sept. 30, 2011 and thereafter. Therefore the fully consolidated financial statements are unaudited and were restated for fiscal 2009 and 2010 to include both DOPS and New Milford. The obligated group will include WCHN, Inc. (parent organization), Danbury Hospital, Danbury Hospital Development Fund, New Milford Hospital, New Milford Hospital Foundation, and DOPS. The obligated group comprises about 94% of the consolidated entity's total revenue and about 97% of total net assets. WCHN covenants to provide continuing disclosure to EMMA 60 days from quarter end, including utilization statistics and officer's certificate and audited financials 150 days from fiscal year end.

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

In addition to the sources of information identified in Fitch's Revenue-Supported Rating Criteria, this action was additionally informed by information from the Underwriter.

Applicable Criteria and Related Research:

-- 'Revenue-Supported Rating Criteria', dated Oct. 8, 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.
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Date:Jun 14, 2011
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