Blue Cross Blue Shield insurer Highmark Inc. of Pittsburgh, embroiled in a battle with crosstown health care provider West Penn Allegheny Health System over their canceled $475 million affiliation agreement, announced a $65 million preliminary deal on Tuesday with Saint Vincent Health System of Erie, Pa.

Saint Vincent’s board approved the affiliation agreement on Monday and the organizations expect to close the deal by year’s end, they said in a joint statement.

Highmark, continuing its buildout in Western Pennsylvania aimed at competing with the dominant University of Pittsburgh Medical Center, has been pursuing West Penn, whose $737 million of double-B-rated revenue bonds in 2007 made it one of the largest junk issuers in the municipal market.

Three weeks ago, West Penn called off the deal, objecting to the demand by new Highmark chief executive William Winkenwerder that it file a prepackaged bankruptcy petition before the sale closes. Highmark responded by suing in an Allegheny County court, looking to enjoin West Penn from courting other offers.

Winkenwerder and West Penn board chairman Jack Isherwood talked by phone last week with an eye toward reviving talks. “We’re confident that our vision with WPAHS will be consummated,” he said Tuesday, according to the Pittsburgh Business Times. “We’ve had some snags in the road and we’ve already invested heavily in it.”

Highmark has already infused ailing West Penn with $200 million in equal parts loans and grants.

A message was left with West Penn officials seeking comment on the possible effect of the Saint Vincent deal. Saint Vincent’s service area in Erie is about 125 miles away from Pittsburgh.

Moody’s Investors Service in March 2011 downgraded Saint Vincent’s bond rating to Baa3 from Baa2, with a negative outlook. The rating agency cited “a decline in operating performance resulting in weakened leverage, thin balance sheet measures, and limited headroom to the 80 days cash on hand covenant.”

Moody’s based its negative outlook on pension underfunding, increased bad debt expense, and significant capital plans.

Under Tuesday’s announcement, Highmark will invest $20 million in cash “to help Saint Vincent maintain financial soundness” and $5 million for capital projects. Highmark will also let Saint Vincent invest more than $40 million over three years for facility improvements and new investments.

Highmark in June announced an affiliation with Jefferson Regional Medical Center in Allegheny County’s Jefferson Hills for $75 million plus an assumption of $200 million of debt.

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