DBRS Confirms University Health Network at AA (low), Stable Trend

DBRS has today confirmed the rating of the Secured Bonds issued by the University Health Network (the Hospital or UHN) at AA (low) with a Stable trend. UHN’s credit profile is closely tied to that of the Province of Ontario (the Province, rated AA (low)), as a result of the importance of UHN to Ontario’s health-care system and the Province’s incentive to fund health-care institutions. The rating also reflects the bondholders’ substantial security package, which includes a security interest in cash receipts (capturing most provincial funding) and a security interest in all of UHN’s real property assets, including four hospital sites in downtown Toronto. DBRS notes that this security package is considerably stronger than that of most Ontario hospitals, school boards and universities with public bonds outstanding.

UHN maintained its track record of sound management, with a surplus of $23.9 million for fiscal year 2010-11, up from $16.4 million in the prior year and representing 1.5% of the operating budget. Revenues grew by 2.2% year-over-year, outpacing expenditure growth of 1.8%. Base funding from the Province increased by just 1.46% and higher patient volumes helped to boost specially funded program revenues, while prudent expenditure management helped to contain costs. Consistent with the non-profit nature of UHN, a break-even budget was prepared for fiscal 2011-12, although preliminary indications point to a surplus in line with that seen in the prior year. Additional bond amortization is expected to have reduced total funded debt further to $314 million by December 31, 2011, boosting the cash receipts-to-debt service ratio to 43:1. This is well above the required level, and adds greater flexibility to the Hospital within the current rating. In 2011-12, the Hospital commenced the integration of Toronto Rehabilitation Institute (or Toronto Rehab) into its operations, increasing UHN’s scale, research and operational capabilities. The integration is expected to take two years, and is so far unfolding as planned, and is not expected to have a material impact on UHN’s financial position.

Most importantly, starting in 2012-13, Ontario hospitals will be subject to a new provincial funding framework. Prompted by its fiscal challenges, the Province has capped annual growth in health-care expenditures at 2.1%, and revised the hospital funding formula. The new formula will incent volume, type and complexity of service; promote specialization and cost efficiency; and standardize procedure costs across the system. By the end of the three-year phased implementation period, traditional funding will make up just 30% of total hospital funding, while the remaining 70% will be allocated based on the new funding components. During the transition years, the Province will apply funding mitigations to limit deviations in hospital funding attributed to the new funding components.

As with hospitals across Ontario, UHN faces considerable uncertainty with respect to the impact of the new funding regime. DBRS believes that the operating environment will become tighter over the medium term, as the Province looks to squeeze efficiencies out of the sector, to assist in meeting its own budget targets. At the same time, rising service requirements due to an aging population and rapid growth in the cost of leading-edge medical equipment and drug treatments will bring additional cost pressures. Nonetheless, UHN’s role as a leading teaching hospital, its breadth of services in acute and complex procedures, and high patient volumes make it an integral component of Ontario’s health-care system. Additionally, DBRS takes comfort in UHN’s good track record in cost-containment and non-ministry revenue generation, and expects UHN to not be unduly affected by the new funding formula. However, steady demand, cost pressures and tight funding going forward constitute meaningful headwinds that will require a sustained commitment to prudent fiscal management.

Notes:
All figures are in Canadian dollars unless otherwise noted.

The applicable methodology is Rating Canadian Universities, which can be found on our website under Methodologies.