Moody's Investors Service has downgraded to Baa1 from A3 the bond rating assigned to San Antonio Community Hospital's $120.7 million of Series 2011 fixed rate certificates of participation issued through the city of Upland, Calif.

The outlook is revised to negative from stable.

The downgrade reflects operating challenges and weaker operating performance in FY 2012 and continuing through the first five months of FY 2013.

Financial results represent a material variance from earlier projections and suppress debt coverage measures of a high leverage position. Competition has heightened with the opening of a new hospital owned by a larger system resulting in unexpected volume declines in FY 2012 over FY 2011 and some departure of clinicians.

Further, the regional economy continues to show a slow recovery which is also contributing to volume declines and increased uncompensated care. Minimal debt structure risks and above average unrestricted liquidity provides short-term financial flexibility as management executes operating improvements and completes the construction of the new patient tower whose opening has been delayed by nine months.

The revision in outlook to negative from stable reflects management's expectation for weak financial performance in FY 2013 with margins anticipated to be below FY 2012 levels. Unrestricted liquidity will decline over the next two years to partially fund the tower project as originally planned.

The improvement in operating cash flow generation is critical in order to absorb the increased expenses associated with the new tower, offset future reimbursement declines, rebuild liquidity and improve leverage ratios.

The inability to improve operating cash flow performance in FY 2014 and in FY 2015 or a larger-than-projected decline in unrestricted liquidity will result in a rating downgrade.

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