Fitch Revises Good Shepherd Rehabilitation Network's (PA) Revs Outlook to Stable; Affirms 'A' Rtgs.

CHICAGO -- Fitch Ratings affirms its 'A' rating and underlying 'A' rating on Lehigh County General Purpose Authority, Pennsylvania's (Good Shepherd Rehabilitation Network Obligated Group) approximately $110 million outstanding revenue bonds. The Rating Outlook is revised to Stable from Positive.

The Outlook revision to Stable from Positive reflects weakened operating profitability and cash flow and a diminished, although very strong, liquidity position. After posting a 0.8% operating margin and 12% operating EBITDA margin in fiscal year (FY) 2008, Good Shepherd's profitability ratios dropped to negative 3.4% and 9.8%, respectively, in FY09. Furthermore, maximum annual debt service (MADS) coverage dropped to 1.5 times (x) in FY09 from a healthy 4.2x in FY08 and 3.7x in FY07. Operating performance was affected by lower governmental reimbursements, increased reserves, staffing cost pressures, and start-up expenses at its new inpatient pediatric rehabilitation unit in Bethlehem. Liquidity levels dropped from unrealized investment losses over the past 18 months. Unrestricted cash and investments declined to $141 million or 490 days operating expenses as of Sept. 30, 2009 from $156 million or 631 days in FY07.

The rationale for affirming the 'A' rating is based on an excellent liquidity position and leading market share for post-acute care services in its core service area. Offsetting credit factors include a relatively high debt position; operating risks associated with Good Shepherd's relatively new joint venture subsidiary in the Philadelphia market (Good Shepherd Penn Partners [GSPP]) and its corresponding start-up losses; and regulatory scrutiny of rehabilitation payments from the Center for Medicare and Medicaid Services (CMS).

As mentioned above, Good Shepherd's liquidity is down, but remains a key credit strength at 490 days cash on hand and 116% of long-term debt as of Sept. 30, 2009. While operating margins are historically thin, Good Shepherd typically generates strong excess margins from a high level of investment income and contributions. However, FY09 was affected by realized investment losses and lower returns resulting in a negative 1.2% excess margin. Fitch continues to note this reliance as a credit risk due to the overall vulnerability of market returns. Non-operating performance was also affected by $1 million of unconsolidated losses from GSPP.

Good Shepherd's market position for post-acute care services in the Lehigh Valley is favorable, as it secures a leading 60% inpatient rehabilitation market share and 56% long-term acute care market share. Fitch believes that GSPP provides Good Shepherd strategic benefits due to its partnership with the University of Pennsylvania Health System (UPHS) and expanded geographic reach, despite the competitive nature of the Philadelphia health care market. Entering a new market does present some risk, however, Fitch believes the combined credit strengths of Good Shepherd and UPHS provides a solid foundation for success. This may be evidenced by greatly improved volumes and financial performance during the current fiscal year. For the first three months of FY10, GSPP had an excess loss of only $200,000, versus an excess loss of over $3 million for the first three months of FY09.

Good Shepherd's debt position is moderately high, with 7.9% MADS as a percent of revenue and 49.2% debt to capitalization. These levels do not compare favorably with Fitch's 'A' rated medians of 3.1% and 40.3%, respectively. Fitch does note that the higher than median debt levels is offset by Good Shepherd's strong liquidity measures.

Given its single specialty focus, Good Shepherd remains susceptible to reimbursement modifications or program changes from CMS as evidenced by the aforementioned payment reductions that affected FY08 and FY09 operating earnings. However, Fitch believes that management's historical ability to adapt to CMS program changes tempers concerns.

Good Shepherd Rehabilitation Network is headquartered in Allentown, PA and consists of two inpatient rehabilitation facilities (82 beds), a long-term care hospital and inpatient pediatric unit at Lehigh Valley Hospital-Muhlenberg (32 beds and 16 beds, respectively), two long-term skilled care facilities (159 beds), 17 owned and six managed outpatient rehabilitation centers, an owned physical medicine and rehabilitation physician group practice (12 physicians), and two rehabilitation management/service contracts. Good Shepherd also provides work and vocational services. GSPP includes a 58-bed inpatient rehabilitation facility, 38-bed long-term acute care hospital, and eight outpatient rehabilitation centers in and around the city of Philadelphia. Good Shepherd's disclosure to Fitch has been excellent in terms of content and timeliness. Fitch receives quarterly disclosure that provides a consolidated balance sheet, income statement, statement of cash flows, utilization statistics, and a management discussion and analysis. Additionally, Good Shepherd has covenanted to provide quarterly disclosure within 45 days and annual audits within 120 days of fiscal year-end and notices of material events to bondholders, which is viewed positively by Fitch.

Additional information is available at www.fitchratings.com.

ALL FITCH CREDIT RATINGS ARE SUBJECT TO CERTAIN LIMITATIONS AND DISCLAIMERS. PLEASE READ THESE LIMITATIONS AND DISCLAIMERS BY FOLLOWING THIS LINK: HTTP://FITCHRATINGS.COM/UNDERSTANDINGCREDITRATINGS. IN ADDITION, RATING DEFINITIONS AND THE TERMS OF USE OF SUCH RATINGS ARE AVAILABLE ON THE AGENCY'S PUBLIC WEBSITE WWW.FITCHRATINGS.COM. PUBLISHED RATINGS, CRITERIA AND METHODOLOGIES ARE AVAILABLE FROM THIS SITE AT ALL TIMES. FITCH'S CODE OF CONDUCT, CONFIDENTIALITY, CONFLICTS OF INTEREST, AFFILIATE FIREWALL, COMPLIANCE AND OTHER RELEVANT POLICIES AND PROCEDURES ARE ALSO AVAILABLE FROM THE 'CODE OF CONDUCT' SECTION OF THIS SITE.