Moody's Investors Service said it has downgraded the University of Michigan Hospitals (UM Hospitals) to Aa3 and Aa3/VMIG 1 from Aa2 and Aa2/VMIG 1.

The rating action affects $281.4 million of outstanding hospital rated debt issued by the Regents of the University of Michigan. The outlook is stable at the lower rating level.

The downgrade reflects a marked decline in operating performance in fiscal year (FY) 2012 resulting in a very low adjusted operating cash flow margin of 2.9% after transfers (7.9% before transfers), continued low 3.0% cash flow margin in the first quarter of FY 2013, and expectations for continued pressures that will keep operating cash flow low in full FY 2013.

Additionally, cash on hand deteriorated in 2012, along with a multi-year decline in cash-to-debt with growing total direct debt load.

These challenges are countered with UM Hospitals preeminent reputation with a wide draw for patients, status as a component unit of the Aaa-rated University of Michigan, well-developed health system network with the Medical School and faculty, good cash flow generation before independent transfers back to the university, declining external debt load, and completion of major capital projects.

The self-liquidity debt is managed by the treasury department of the university, and the VMIG 1 rating is based on The University of Michigan's strong internal liquidity and treasury management and dedicated bank line.

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