Fitch Upgrades MedStar's Rating to 'BBB+'; Outlook Stable.

NEW YORK -- Fitch Ratings upgrades the underlying rating to 'BBB+' from 'BBB' on the following outstanding MedStar Health issues:

Maryland Health and Higher Education Facilities Authority

--$454 million (MedStar Health Inc.) multi-modal revenue bonds.

District of Columbia

--$300 million (MedStar Health Inc.) multi-modal revenue bonds.

The Rating Outlooks is Stable. Some of the issues are insured by either Financial Security Assurance (FSA) or Ambac Assurance Corp., whose insurer financial strengths are both rated 'AAA' by Fitch.

The rating upgrade is based on MedStar's improving financial profile, improved performance of its Washington, D.C. facilities, and good management practices. MedStar's operating, excess, and EBITDA margins improved to 0.6%, 2.3%, and 6.9%, respectively, in fiscal year ended June 30, 2005, from breakeven, 1.4%, and 6.6%, respectively, in fiscal 2004. Additionally, all of MedStar's hospitals had profitable operations, including its Washington, D.C. facilities which have historically struggled. The Washington Hospital Center's (WHC) earnings from operations improved to $17.9 million in fiscal 2005 from $14.5 million in fiscal 2004, and Georgetown University Hospital (GUH) had an operating gain of $5 million in fiscal 2005 versus a loss of $11.7 million in 2004. Fiscal 2005 was the first profitable year for GUH since MedStar acquired the facility in 2002. Balance sheet measures, including days cash on hand, cash to debt, and cushion ratio, remain healthy and were 106.9 days, 87.3%, and 12.9 times, respectively, at fiscal 2005. Debt service coverage by EBITDA was a strong 3.5 times (x) for the same period.

Through the five months ended November 30, 2005 MedStar had a 0.7% operating margin ($8.7 million). MedStar is budgeting a 0.5% operating margin ($15 million) in 2006 and expects capital spending levels to be around 123% of depreciation expense.

The improvements are primarily due to healthy admissions growth at most facilities, targeted strategic growth of certain service lines, revenue cycle improvements, and expense management initiatives. Fitch continues to believe that management practices related to revenue cycle, supply chain, liabilities and risk, and cost control, among others, are strong factors in MedStar's improvement and will help to insure budgeted and strategic goals are met going forward. Additionally, GUH achieved nursing magnet status in 2004, which Fitch believes reflects strong labor management practices.

Primary credit concerns include an expected increase in leverage over the short term and future capital needs. While MedStar is planning to spend around 125% of its depreciation expense over the next three years, spending since fiscal 2001 has been somewhat light, and the average age of plant has increased to 11.6 years, which compares unfavorably with Fitch's 'BBB' median of 9.3 years. Management indicated their plans to issue debt within the next year for a $175 million, 400,000-square foot expansion project at its Franklin Square Hospital, which will include an increase in bed capacity, expansion of the critical care unit, and an expansion of the emergency department. While MedStar's debt burden relative to operations is low, debt-to-capitalization (60.2% at fiscal 2005) and debt-to-EBITDA (4.3% at fiscal 2005) are somewhat high, and additional debt will further stress these ratios.

Fitch's Stable Outlook reflects the expectation that MedStar will meet its budgeted goals over the short term. The improvements at Franklin Square hospital are expected to contribute to an improvement in operations, and Fitch believes the additional debt can be absorbed without any changes to the current rating, provided MedStar's operating performance is maintained and budgeted goals are met.

MedStar entered into a floating-to fixed-rate swap related to its District of Columbia bonds. The swap has a notional amount of $142.3 million and expires in 2027. The counterparty is Wachovia Bank (rated 'AA-/F1+' by Fitch). At June 30, 2005 the mark to market valuation on the swap was negative $11 million indicating the amount MedStar would have to pay if the swap were terminated. Swap and termination payments are on parity with outstanding debt, which Fitch views negatively. Despite this, Fitch believes the swap poses minimal risk to MedStar.

MedStar Health is a large, integrated health care system composed of seven hospitals (three in Washington, D.C. and four in Baltimore) with a total of 2,442 operated beds and several other health care-related organizations. MedStar had total operating revenues of $2.6 billion in fiscal 2005. MedStar covenants to provide annual and quarterly disclosure to Fitch and bondholders. Quarterly disclosure is very good and includes a balance sheet, income statement, cash flow statement, utilization, and management discussion and analysis and is mailed to bondholders.

The trustee is also responsible for distributing MedStar's disclosure to the nationally registered municipal securities information repositories. Fitch notes that MedStar does not provide fourth-quarter disclosure to bondholders, similar to what is disclosed in the other quarters, which Fitch views negatively; however, management indicated that they are willing to provide information to bondholders supplemental to the audit upon request.

Fitch affirms the following outstanding debt at 'BBB':

--$170,350,000 Maryland Health and Higher Education Facilities Authority (MedStar Health Issue) revenue refunding bonds, series 2004;

--$300,000,000 District of Columbia (Medlantic/Helix) multi-modal revenue bonds, series 1998A, 1998B, 1998C (insured by FSA);

--$166,605,000 Maryland Health and Higher Education Facilities Authority (Medlantic/Helix) revenue bonds, series 1998A (insured by FSA);

--$116,910,000 Maryland Health and Higher Education Facilities Authority (Medlantic/Helix) revenue bonds, series 1998B (insured by Ambac).

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