Marquette General Hospital, the largest hospital in Michigan’s Upper Peninsula, recently converted $37 million of 2006 auction-rate securities to weekly rate variable-rate demand obligations.

In advance of the sale, Moody’s Investors Service cut the system two notches to Baa3 from Baa1 and affirmed its negative outlook. The two-notch downgrade is due to the decline in the hospital’s financial performance as well as risks to its liquidity. It would lose its investment-grade status if downgraded again.

The system has about $65 million of outstanding debt. Stern Brothers & Co. was underwriter on the transaction.

Despite enjoying 72% of the market share in Marquette County, the provider faces several financial challenges after years of below-average operating margins. Its liquidity has weakened recently due to thin cash flow as well as a recent $20 million contribution to its pension plan, said Moody’s analyst Mark Pascaris. Additional challenges come from larger economic problems throughout the area, which has below-average median incomes — though it has largely escaped fallout from the declining automobile industry that has plagued the rest of Michigan.

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