OREANDA-NEWS. Fitch Ratings has affirmed at 'A' the following City of Gulfport, Mississippi bonds issued on behalf of Memorial Hospital at Gulfport (MHG):

--\$14.1 million hospital revenue refunding & improvement bonds series 1994A;
--\$59.6 million hospital revenue bonds series 2001A.

The Rating Outlook is Revised to Negative from Stable.

SECURITY

The bonds are secured by a pledge of net revenues of the obligated group and a debt service reserve.

KEY RATING DRIVERS

DECLINE IN LIQUIDITY: The Outlook revision to negative is driven by the sharp decline in liquidity in fiscal 2014. At fiscal year-end 2014 (year ended Sept 30), MHG's unrestricted cash and investments fell to \$100.8 million from \$157.5 million at the prior year end. The decline is due, in part, to its EHR conversion which inflated accounts receivable by roughly \$25 million and days in accounts receivable (DAR) to a very high 100.

WEAKER PROFITABILITY: The Outlook revision also reflects the decline in MHG's operating cash flow in fiscal 2014 (Sept. 30 year end), which is primarily the result of its electronic health record (EHR) implementation, and reimbursement pressures. MHG's operating EBITDA fell to 6.2% in fiscal 2014 from 7.3% in fiscal 2013, well below Fitch's 'A' category median of 9.5%.

WANING CAPITAL NEEDS: MHG will spend \$65 million over the next two fiscal years to largely complete its bed tower and NICU expansion projects, before returning to routine capital spending levels near \$15 million in fiscal 2017. No debt is planned, and these projects are expected to support MHG's competitive position for inpatient services, as well as address necessary capital needs. MHG's average age of plant is somewhat elevated at 12.9 years at fiscal 2014.

LEADING MARKET POSITION: MHG maintains leading 61% inpatient market share in Harrison County, which has helped support clinical volume growth via an ambulatory regional growth strategy. Still, Fitch notes the socioeconomic indicators in the service area are challenged, and reflected in MHG's reliance on a substantial amount of disproportionate share hospital (DSH) and upper payment level (UPL) payments.

LOW DEBT BURDEN: MHG's \$85.3 million in total long term debt in fiscal 2014 equaled a low 31.8% of capitalization and 3.2x EBITDA, both below Fitch's 'A' category medians of 36.3% and 3.6x, respectively. Further, max annual debt service (MADS) was a low 2.3% of fiscal 2014 revenue. Despite weaker cash flow, coverage is expected to remain in line with Fitch's median 3.1x coverage of MADS by EBITDA going forward.

RATING SENSITIVITIES

IMPROVED LIQUIDITY: Maintenance of the rating will depend upon MHG's ability to improve its liquidity by fiscal 2015. Management expects its revenue cycle will recover and is targeting to bring DAR back to historical levels, DCOH above 100 and cash to debt to near 145% by year end 2015.

PROFITABILITY IMPROVEMENT: MHG will also need to make significant improvement in profitability and cash flow in order to meet its budget for better than breakeven in fiscal 2015, and further improvements in fiscal 2016. Negative rating action is likely if MHG's operating results or liquidity metrics fail to improve in fiscal 2015.

CREDIT PROFILE

MHG is a 445-licensed bed hospital in Gulfport, MS, with \$410.8 million in operating revenues in fiscal 2014. MHG is jointly owned by the City of Gulfport and the Gulfport-West Harrison County Hospital District. It operates the largest civilian hospital in primary service area and is positioned as the predominant safety net provider for the area.

The hospital is the sole obligor on the bonds, and contributes materially all assets and revenues of the consolidated entity. There are four subsidiary corporations which conduct no significant operations, and hold an ownership interest in affiliates including physician practices, office buildings and other real estate, the foundation, and the auxiliary. Fitch's analysis is based on a consolidated basis, which corresponds with audited financial statements.

OPERATING PRESSURES

MHG produced weaker results in fiscal 2014, which was impacted by the implementation of an EHR implementation, as well as from revenue pressure from Medicare and Medicaid. Along with \$20.7 million in capital costs, the nonrecurring operating cost for implementing the EHR was 3.6 million. Absent this item, MHG would have produced a 7.1% operating EBITDA margin and 3.1x coverage by same. The EHR implementation has also pressured liquidity, with A/R increasing by nearly \$28 million year-over-year. MHG anticipates liquidity will recover within the next 6-12 months, which Fitch believes will be necessary to maintain the 'A' rating.

MHG was also pressured by the impact that the two-midnight rule has had on related reimbursement, as well as by a change in the state Medicaid claims reimbursement methodology and state supplemental payments in 2012. Fitch notes that MHG has filed an appeal to restore \$11 million lost in 2014 due to these changes, and was successful in its earlier appeal for \$7 million in 2013. For fiscal 2014, MHG received \$43.2 million in total supplemental payments for disproportionate share hospital (DSH), upper payment level (UPL) before provider taxes. This is expected to remain flat for 2015, but is likely to decline per health reform timing of DSH reductions beyond that.

MIXED SERVICE AREA

MHG's leading service area share is a key credit factor, and Fitch notes that its regional ambulatory strategy has borne results in consistent growth outpatient volumes since 2010. In addition, the tower renovation and NICU expansion will provide some needed inpatient updates to help maintain MHG's competitive position going forward. Still, Fitch notes that the service area profile is challenging, with income, poverty and unemployment metrics comparing unfavorably to state and national levels. While MHG's competitive position is expected to remain strong going forward, state budgetary pressures absent Medicaid reform could pose reimbursement risk going forward.

DEBT PROFILE

MHG has approximately \$85.3 million in long term debt, including an 11.6 million note payable (10 years), all of which is fixed rate. No swaps. MADS is equal to 9.4 million, and debt service is front-loaded.

DISCLOSURE

MHG provides annual and quarterly financial disclosure to the Municipal Securities Rulemaking Board's EMMA system, which includes a balance sheet, an income statement, management discussion, utilization statistics, and a payor mix. Disclosure has been timely and thorough, with good access to management.