Fitch Affirms Holy Redeemer Health System, Pennsylvania at 'BBB'; Outlook to Negative.

NEW YORK -- Fitch Ratings today has affirmed the 'BBB' rating on $94,970,000 in outstanding Montgomery County Higher Education and Health Authority health care revenue bonds (Holy Redeemer Health System) 1997 series A, issued on behalf of Holy Redeemer Health System, Inc. (HRHS). The Rating Outlook has been revised to Negative.

The 'BBB' affirmation is based largely on HRHS' solid balance sheet and liquidity, as well as diverse business lines and stable market share at its medical center. At June 30, 2004, HRHS' obligated group had $90.15 million in unrestricted cash, equating to a 92.8% cash-to-debt ratio and 133.9 days cash on hand. Additionally, HRHS' debt burden is considered manageable as maximum annual debt service (MADS) as a percentage of revenue in 2004 was 3.1%. MADS includes the series 1997 debt and some non-obligated group guarantees. HRHS has a relatively broad set of businesses that help spread risk, including its hospital, two large long-term care facilities, visiting nurse agencies in both Pennsylvania and New Jersey, and various smaller non-obligated group entities.

HRHS' biggest revenue generator is its hospital, Holy Redeemer Hospital and Medical Center (HRMC), which has had a stable inpatient market share in the very competitive Philadelphia market from 2001-2003, at roughly 12%. HRHS' cardiac arrangements with Temple University and Abington Hospital have assisted in this market share stability. Occupancy levels in the various services at HRHS' long-term care facilities, St. Joseph's Manor (STJ) and Lafayette-Redeemer (L-R), were all above 97% in 2004. In addition, HRHS' visiting nurse agency operations in both New Jersey and in Pennsylvania each had positive net revenues for the past three fiscal years. HRHS is the largest certified home care provider in New Jersey. On Dec. 31, 2003, HRHS divested its managed care business to avoid losses in this business, which Fitch views favorably.

Credit risks include two years of operating losses, a competitive hospital market in Philadelphia and high nursing costs at the hospital. In 2003 and 2004, HRHS' obligated group lost roughly $577,000 and $9.6 million from operations, respectively. Management cites an $8 million shortfall in Medicare outlier payments, from a budgeted $10 million to an actual $2 million received, as the primary reason for the fiscal 2004 loss. However, HRHS recorded $7.6 million of non-operating income in 2004. HRHS' fiscal 2005 budget for Medicare outlier payments is roughly $764,000, which Fitch considers attainable. Both the long-term care facilities and the visiting nurse programs were profitable in fiscal 2004. Through the three months of fiscal 2005, HRHS' obligated group had a negative 4.8% operating margin (negative variance of $2.7 million), which management attributes largely to the delay of its angioplasty certification by almost three months to October 2004, and lower volumes in its Pennsylvania home health agency. HRHS' fiscal 2005 budget expects an operating loss of roughly $700,000 but has excess income of $8 million. Management asserts that it intends to seek cost cuts through the remainder of fiscal 2005 to try to make this budget. Overall, there are nine competing hospitals in its Philadelphia primary service area, which Fitch considers one of the most competitive in the nation. Largely as a result of this competition, HRHS' nurse staffing situation is one of its major challenges, as it spent about $3.25 million on nurse agency usage, but due to recruiting and retention efforts, the 2005 budget calls for $725,000 in nurse agency labor.

The Negative Rating Outlook is due to negative operating margins since fiscal 2003 and the unlikeliness of HRHS to post a positive margin in fiscal 2005, with the majority of these losses coming from the medical center.

HRHS' obligated group consists of its 272 licensed-bed acute care hospital in Huntingdon Valley, PA (approximately 20 miles from downtown Philadelphia) HRMC, two large long-term care facilities, STJ and L-R, and visiting nurse operations in both Pennsylvania and New Jersey. As of June 30, 2004, HRHS' obligated group accounted for 91% of total system assets and 95% of total system operating revenues. In 2004, HRHS' obligated group reported $262 million in operating revenue. While HRHS provides thorough quarterly financial and utilization data to Fitch, it is not covenanted in the series 1997 bond documents, and there is no consolidated audit for the entire health system, which Fitch considers weak.