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Rating Update:

MOODY'S AFFIRMS Baa2 RATING ON HOLY REDEEMER HEALTH SYSTEM'S (PA) BONDS; OUTLOOK IS REVISED TO NEGATIVE FROM STABLE

07 Dec 2010

RATING ACTION AFFECTS $110.9 MILLION OF TOTAL RATED DEBT

Health Care-Hospital
PA

Opinion

NEW YORK, Dec 7, 2010 -- Moody's Investors Service has affirmed the Baa2 rating on Holy Redeemer Health System's (HRHS) outstanding bonds, affecting approximately $110.9 million of outstanding debt as listed at the end of this report. At this time, we are revising the outlook to negative from stable.

RATINGS RATIONALE:

The Baa2 rating reflects HRHS' diversified healthcare services, unrestricted cash levels and conservative debt structure and capital plans. The revision of the outlook to negative from stable reflects HRHS' decline in hospital volume and market share loss which has contributed to flat revenue growth and weakened operating margins which is exacerbated by its comparatively low liquidity relative to its unrestricted cash level.

LEGAL SECURITY: Bonds are secured by a gross receipts pledge and a mortgage pledge of the obligated group, which is approximately 73% in fiscal year 2010 of system revenue.

INTEREST RATE DERIVATIVES: None

STRENGTHS

*Sizable provider with diversification of services including a hospital, sizeable home health and long-term care

*Good local market presence in its primary service area of Philadelphia County although market share has declined in the last year

*Sufficient system-wide cash position of $131 million in unrestricted cash (142 days on hand) as of June 30, 2010 relative to rating category

*Conservative debt structure with all fixed rate debt with no interest rate derivative exposure after recent termination of swap

*Manageable capital plans with $20 million budgeted capital in fiscal year (FY) 2011; no future debt plans

*Adequate operating cash flow with $28.5 million operating cash flow (7.9% operating cash flow margin) as of FY 2010 relative to the Baa2 median (8.4% operating cash flow margin)

CHALLENGES

*Significant competition from hospitals in the crowded greater Philadelphia market as indicated by declining volumes and market share over the last year

*Two years of declines in inpatient admissions with 5% and 10% declines in fiscal years 2009 and 2010, respectively; admissions are down 2% in the first quarter of fiscal year 2011

*Flat operating revenue in fiscal year 2010, contributing to a sizable 23% decline in operating cash flow for the system; operating cash flow is down in the first quarter of fiscal year 2011

*Modest liquidity relative to peer-rated organizations with only 50% of unrestricted cash and investments available within one month; monthly liquidity is modest at 81 days cash on hand

*Risks associated with the investment allocation relative to the Baa2 rating category with 15% of investments allocated to hedge funds, 7% to private equity and 39% to equities

*Weak peak debt service coverage of 2.6 times, although debt -to-cash flow is adequate for the rating category at 4.4 times

*Challenging payer mix characterized by high Medicare due HRHS' focus on senior services and a concentration of commercial business with two large payers

RECENT DEVELOPMENTS/RESULTS

The revision of the outlook to negative from stable reflects Holy Redeemer Health System's (HRHS) volume decline and market share loss at the hospital which has translated into flat revenue and weaker operating margins in fiscal year 2010. We believe operating performance will continue to be challenged by competition, further volume declines in part from the economy, and flat or declining government rates for the hospital and homecare businesses. Additionally, although the system's total unrestricted cash and investment position is good, the liquidity of the portfolio is modest; as operating performance becomes more challenged, the importance of liquidity takes on greater weight in our overall credit assessment.

HRHS is a regional integrated delivery system comprised of a 263-bed acute care medical surgical hospital; long-term care facilities and communities in Pennsylvania with a total of 526 independent living and 122 personal care beds, 416 skilled nursing beds and 30 transitional housing units; four home health agencies along with three Medicare certified hospices; a freestanding ambulatory surgery center; and a physician corporation as well as other various affiliates. HRHS' hospital and healthcare services, which accounts for 54% of total operating revenues, operates in the crowded and competitive Philadelphia market, which has challenged the hospital to maintain volumes and market share. Most recently, inpatient admissions declined significantly by10.4% in FY 2010 to 12,343 following a 4.9% decline in FY 2009. Management attributes the admissions decline to a shift of admissions to observation stays (approximately 600 cases), a weakened economy, the loss of a high admitting general surgeon to Abington Memorial Hospital and the loss of three OB/GYNs to St. Mary's. Despite some physician losses, the hospital recently recruited a vascular surgeon and several new primary care physicians to replace volumes. HRHS also experienced a loss in volume due to the shift in patients to a managed care plan that HRHS had not contracted with; the system has since negotiated a contract starting October 2010. HRHS maintains 10.5% market share in its primary service area of Philadelphia and competes for market share with Abington Memorial (13.4% market share), Aria Torresdale Division (17.7% market share) and Albert Einstein Health (7.3% market share).

Operating cash flow declined significantly to $28.4 million (7.9%) in fiscal year 2010 from $36.9 million (10.4%) in fiscal year 2009. Operating cash flow is down again in the first quarter of fiscal year 2011. Operating cash flow declined due to flat revenue and expense growth from bad debt and pension expense with operating income declining to $1.6 million (0.5% margin) in FY 2010 from $8.4 million (2.4% margin) in FY 2009. Bad debt expense grew 33% in FY 2010 to $8.0 million from $6.0 million in FY 2009. Revenues grew a weak 1% in FY 2010 due to the impact of volume declines and reduced reimbursement from observation stays.

HRHS continues to face challenges with reimbursement and payor mix. With a significant focus on senior services, the system is particularly at risk for changes in Medicare, which impact the hospital and home care businesses. Management is budgeting no increases in Medicare rates for the hospital and cuts in rates for home care. Additionally, HRHS is budgeting no increase in Medical Assistance rates for the hospital and a decline in rates (approximately $1 million impact) for the long-term care business.

HRHS continues to maintain sufficient unrestricted cash levels with $132 million in absolute unrestricted cash (142 days on hand) as of June 30, 2010. Cash-to-debt is also sufficient at 95% as of June 30, 2010. Unrestricted cash grew slightly as of September 30, 2010. Despite these cash levels, HRHS has a modest level of liquidity with 81 days cash on hand available within one month, reflecting only half of the portfolio that can be liquidated within a month. This moderate liquidity level reflects a more aggressive asset allocation than is typical for a health system with HRHS' credit profile; 15% of investments are allocated to hedge funds, 7% to private equity and 39% to equities.

Debt coverage is weak with peak debt service coverage for the system at 2.6 times (investment return adjusted to 6%) in fiscal year 2010. Debt-to-cash flow is adequate at 4.4 times in fiscal year 2010. Included in our debt calculations is debt outside of the obligated group a part of which is debt associated with the Villages at Pine Valley development. HRHS maintains a conservative debt structure with no exposure to derivatives following the sale of their swap during FY 2009 and 100% fixed rate debt. Capital spending is expected to be manageable with $20 million budgeted for FY 2011 and no future plans to issue debt. In fall 2010 (FY 2011), HRHS completed a new 12,500 square foot off-campus ambulatory care facility dedicated to women's health that houses a breast surgeon practice, radiology imaging services, a women's wellness area, a profile shop and session space. HRHS continues to expand its maternity and neonatal intensive care services with a total of 19 neonatal intensive care unit (NICU) beds as of early FY 2011. HRHS also plans to open during fall 2011 another ambulatory care facility, Healthcare at Bensalem (Bucks County Specialty Hospital Ambulatory Center), which will house multi-specialty physician practices and offer services including imaging services, lab, a wound center and a spine care center.

Outlook

The revision of the outlook to negative from stable reflects Holy Redeemer Health System's (HRHS) volume decline and market share loss at the hospital which has translated into flat revenue and weaker operating margins in fiscal year 2010.

What could change the rating--UP

Material and sustained volume growth translating into an improvement in operating performance; a significant increase in liquidity and improved leverage measures

What could change the rating--DOWN

Further decline in operating cash flow, substantial increase in debt, prolonged volume declines

KEY INDICATORS

Assumptions & Adjustments:

-Based on financial statements for Holy Redeemer Health Care Corporation and Foundation

-First number reflects audit year ended June 30, 2009

-Second number reflects audit year ended June 30, 2010

-Investment returns smoothed at 6% unless otherwise noted

*Inpatient discharges: 13,772; 12,343

*Total operating revenues: $354.9 million; $358.5 million

*Moody's-adjusted net revenue available for debt service: $49.1 million; $38.9 million

*Total debt outstanding: $141.2 million; $139.0 million

*Maximum annual debt service (MADS): $15.0 million; $15.0 million

*MADS coverage with reported investment income: 3.3 times; 2.6 times

*Moody's-adjusted MADS coverage with normalized investment income: 3.3 times; 2.6 times

*Debt-to-cash flow: 3.4 times; 4.4 times

*Days cash on hand: 153 days; 142 days

*Cash-to-debt: 97%; 95%

*Operating margin: 2.4%; 0.5%

*Operating cash flow margin: 10.4%; 7.9%

RATED DEBT

-Series 1997 fixed rate bonds ($81.4 million): Baa2 rating, insured by Ambac

-Series 2006A fixed rate bonds ($29.5 million): Baa2

CONTACTS

Issuer: Mr. Michael B. Laign, President and Chief Executive Officer, 215-938-4654; Mr. Russell Wagner, Senior Vice President and Chief Financial Officer, 215-856-1114

The last rating action with respect to Holy Redeemer Health System was on May 15, 2009, when a municipal finance scale rating of Baa2 was assigned and the outlook was affirmed as stable. That rating was subsequently recalibrated to Baa2 on May 7, 2010.

RATING METHODOLOGY:

The principal methodology used in this rating was Not-for-Profit Hospitals and Health Systems published in January 2008.

Moody's adopts all necessary measures so that the information it uses in assigning a credit rating is of sufficient quality and from sources Moody's considers to be reliable including, when appropriate, independent third-party sources. However, Moody's is not an auditor and cannot in every instance independently verify or validate information received in the rating process.

Please see ratings tab on the issuer/entity page on Moodys.com for the last rating action and the rating history.

The date on which some Credit Ratings were first released goes back to a time before Moody's Investors Service's Credit Ratings were fully digitized and accurate data may not be available. Consequently, Moody's Investors Service provides a date that it believes is the most reliable and accurate based on the information that is available to it. Please see the ratings disclosure page on our website www.moodys.com for further information.

Please see the Credit Policy page on Moodys.com for the methodologies used in determining ratings, further information on the meaning of each rating category and the definition of default and recovery.

Analysts

Nyisha Hohn
Analyst
Public Finance Group
Moody's Investors Service

Lisa Martin
Backup Analyst
Public Finance Group
Moody's Investors Service

Contacts

Journalists: (212) 553-0376
Research Clients: (212) 553-1653


Moody's Investors Service
250 Greenwich Street
New York, NY 10007
USA

MOODY'S AFFIRMS Baa2 RATING ON HOLY REDEEMER HEALTH SYSTEM'S (PA) BONDS; OUTLOOK IS REVISED TO NEGATIVE FROM STABLE
No Related Data.
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