High­mark’s bid for West Penn may not be enough to save sys­tem

Will $1.1 bil­lion bid for West Penn res­cue sys­tem?

Modern Healthcare - - NEWS - Me­lanie Evans

One of the na­tion’s largest health in­sur­ers will ac­quire its first hospi­tal in a deal ex­pected to close this week, but still un­re­solved is High­mark’s $1.1 bil­lion bid for a dis­tressed health sys­tem cen­tral to its am­bi­tious ex­pan­sion plans.

Also un­known: Whether $1.1 bil­lion will be enough to res­cue West Penn Al­legheny Health Sys­tem.

The Pitts­burgh-based health sys­tem’s de­te­ri­o­rat­ing fi­nances and weak op­er­a­tions have al­ready re­quired High­mark to in­vest more heav­ily than orig­i­nally pro­posed. High­mark’s ini­tial 2011 ac­qui­si­tion plan for West Penn Al­legheny was val­ued at $400 mil­lion in grants and loans. But in a move that likely kept the five-hospi­tal sys­tem out of bank­ruptcy, the Pitts­burgh-based in­surer said in Jan­uary it would in­vest a to­tal of $525 mil­lion in West Penn Al­legheny and bor­row an­other $600 mil­lion to buy the health sys­tem’s bonds.

“We don’t know what their limit would be,” said Steve Za­haruk, se­nior vice pres­i­dent of Moody’s In­vestors Ser­vice’s U.S. in­surance team. Such a siz­able in­vest­ment will make it dif­fi­cult to walk away or say no to fur­ther cash in­fu­sions if the sys­tem con­tin­ues to strug­gle, he said. And un­til High­mark re­ceives a reg­u­la­tor’s fi­nal ap­proval for the deal, the in­surer can­not fully as­sess West Penn Al­legheny’s op­er­a­tions or pur­sue strate­gies that may turn the sys­tem around.

High­mark’s deal for West Penn Al­legheny won ap­proval in re­cent weeks from a Penn­syl­va­nia court, but con­sent is also re­quired from the state In­surance De­part­ment, which in late Jan­uary noted High­mark’s height­ened risk and said a re­view would likely last un­til early April, at least.

The longer the re­view, the greater the de­lay to ef­forts by High­mark to turn around West Penn Al­legheny, say credit an­a­lysts. “Time gets short,” Za­haruk said.

West Penn Al­legheny’s chronic losses ac­cel­er­ated last year as it hem­or­rhaged $112.5 mil­lion on op­er­a­tions, unau­dited fig­ures show. Sad­dled with debt and un­able to gen­er­ate nec­es­sary cash, West Penn Al­legheny’s cap­i­tal in­vest­ments have lagged its larger, fi­nan­cially stronger ri­val in Pitts­burgh, the UPMC sys­tem, said Lisa Martin, Moody’s lead an­a­lyst for West Penn Al­legheny.

West Penn Al­legheny Health Sys­tem’s credit rat­ing has fallen nearly as far as it can go, and now High­mark is at risk for a down­grade of its credit. Should the health sys­tem drain more than has al­ready been com­mit­ted by High­mark, the in­surer’s rat­ing could drop more than one notch, Moody’s warned. Stan­dard & Poor’s said the in­surer also faces rat­ing pres­sure should its fi­nan­cial in­vest­ment to cre­ate an in­te­grated de­liv­ery net­work grow.

High­mark has also pledged $260 mil­lion in a deal for 373-bed Jef­fer­son Re­gional Med­i­cal Cen­ter, Jef­fer­son Hills, Pa. The deal won ap­proval from a Penn­syl­va­nia court and is ex­pected to close by March 1. And in coming weeks, the in­surer is ex­pected to reach a de­fin­i­tive agree­ment with St. Vin­cent Health Sys­tem, based in Erie, Pa.

Jon Re­ichert, di­rec­tor of in­surance rat­ings for Stan­dard & Poor’s, said West Penn Al­legheny’s fi­nan­cial per­for­mance will be “our pri­mary in­di­ca­tor” of the success of High­mark’s strat­egy.

West Penn Al­legheny’s op­er­a­tions have only made a profit for a sin­gle year since the sys­tem was formed in 1999, ac­cord­ing to Moody’s. Losses nar­rowed in the early half of the last decade, and the sys­tem posted its only pos­i­tive mar­gin of 1.3% in 2005 be­fore slip­ping back into the red. The sys­tem’s mar­gin last year was neg­a­tive 7.2%. Any turn­around in­cludes po­ten­tial haz­ards. In en­ter­ing a deal with a dis­tressed com­pany, High­mark risks clos­ing the deal only to un­cover prob­lems that did not sur­face in vet­ting it, said Tom Cas­sels, ex­ec­u­tive di­rec­tor of re­search and in­sights for the con­sult­ing com­pany the Ad­vi­sory Board.

Turn­ing around money-los­ing hos­pi­tals also hinges on the sup­port of physi­cians and nurses, who can un­der­mine ef­forts with a “vote of no con­fi­dence,” he said. Dis­sat­is­fied doc­tors may leave or di­rect pa­tients else­where. Whole­hearted com­mit­ment by man­age­ment to turn­around strate­gies is also crit­i­cal, he said.

Less tan­gi­ble, but still im­por­tant, is an ac­knowl­edg­ment of the risks from lenders or oth­ers with a stake in the re­sults. Man­age­ment must also clearly con­vey strate­gies to mit­i­gate those risks to in­vestors and oth­ers. “The re­al­ity is turn­arounds don’t hap­pen overnight,” he said.

Trey Crabb, a man­ag­ing di­rec­tor with Ziegler who over­sees the in­vest­ment bank’s health­care merger and ac­qui­si­tion di­vi­sion, said any deal also raises the risk that man­agers are dis­tracted by the trans­ac­tion from their pri­mary busi­ness. High­mark’s push to cre­ate an in­te­grated de­liv­ery sys­tem will ex­pose the in­surer to new busi­nesses, which are re­lated, but still dif­fer­ent, he said. The po­ten­tial gain for such a risky in­vest­ment is the chance that High­mark ac­quired West Penn Al­legheny at a bargain, which would in­crease its value should the turn­around suc­ceed, Crabb said.

Also im­por­tant is the strate­gic ben­e­fit High­mark is seek­ing to gain as a ri­val to UPMC, which owns 11 Penn­syl­va­nia hos­pi­tals and has its own a health in­surance unit, said Stan­dard & Poor’s Re­ichert.

High­mark’s ex­ec­u­tives have re­peat­edly cited com­pe­ti­tion as the rea­son for its en­try into health­care de­liv­ery. “Para­mount to our af­fil­i­a­tion with West Penn Al­legheny is pre­serv­ing provider com­pe­ti­tion and choice in health­care providers for the en­tire com­mu­nity,” Dr. Wil­liam Winken­werder, pres­i­dent and CEO of the in­surer said in a news re­lease in Jan­uary.

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