Pennsylvania hospital bids for assets, not MBIA-backed debt, of Sacred Heart.

Montgomery Hospital in Pennsylvania has submitted a bid to buy the assets of Sacred Heart Hospital, which defaulted on $25 million of outstanding bonds in April, sources familiar with the negotiations said.

"Negotiations are in process on the terms of an asset purchase agreement, inlcudingthe purchase of the hospital," said William Scott, a partner in the public finance department at Ballard Spahr Andrews & Ingersoll, which is sacred Heart's special counsel. The purchase would not include assuming responsibility for the defaulted debt.

Another outcome could entail a merger between Montgomery, Scared Heart, and Norristown, Pa.'s other hospital, Suburban General, sources said.

Sacred Heart defaulted on a $25 million issue on April 15 and then effectively killed any potential for a merger with another entity that would have assumed its debt obligations when it abruptly closed its doors on Mayu 17. Talks were underway last year between the three hospitals in the "over-bedded" town, and Montgomery and Sacred Heart even signed a letter of intent in April to merge, Montgomery officials said, with a provision that Suburban General would be brought in later.

Manrico Troncelliti Jr., special counsel to the Montgomery County, Pa., Higher Education and Health Authority, said the authority expects merger talks to resume, but with a focus now on "sorting out" the situation with Sacred Heart.

The Montgomery's offer does not incorporate the outstanding bonds of sacred Heart increses the likelihood that Municipal Bond Investors Assurance Corp. will be forced to make some payments on the hospital's $25 million of outstanding insured debt, market sources said.

MBIA assumed liability for the issue when it acquired Bond Investors Guaranty Insurance Co., or BIG, in 1989. BIG insured the Sacred Heart offering, which was $30 million initially and issued through the Montgomery County, Pa., Higher Education and health Authority in 1987.

If Montgomery is able to reach an agreement with Sacred Heart, the cash from the settlement would be held until the bankruptcy proceedings are concluded, Scott said. The bankruptcy court must also approve the agreement and provide other potential buyers with the opportunity to submit a higher bid for the failed hospital's assets, he said.

Other parties have been interested in buying Sacred Heart, but Scott declined to name them. Former employees of the hopsital are interested in bidding and would use their pension fund, estimated at $7 million to $10 million, to facilitate the transaction, the Philadelphia Inquirer reported recently.

Assuming no higher bid is submitted or another deal can be realized, the money from the sale would be distributed to Sacred Heart's creditors, "the largest of whom is the trustee for the bondholders," Scott said.

At that time, MBIA might hope to recoup some of the payments on the insured bonds, but Scott said it is premature to speculate on how much money would be available.

A spokesman for MBIA said the insurer is "monitoring the situation closely" but declined to comment further on how the negotiations between. Montgomery and Sacred Heart, should they be successful, would affect the defaulted bonds.

MBIA officials have said in the past they believe Sacred Heart's reserve fund, which now stands at about $1.8 million, will last until at least August 1995, but that the company will step in to make sure bondholers are paid if necessary.

Sacred Heart's assets were valued at $22.6 million on June 30, 1993. Bob Richards, Montgomery's chief financial officer, said MOntgomery has about $6.7 million in an endowment fund and another $6 million available from an affiliate foundation that could be used to purcahse Sacred Heart's assets. He said raising cash in the bond markets would be "an additional option."

Montgomery has about $14 million of outstanding bonds that are also insured by MBIA. Because of Montgomery's poor performance in recent years, which includes a $9.5 million net operating loss in 1993, anlaysts questioned whether MBIA might have another potential exposure at Montgomery.

But Richards said Montgomery "has continually taken some steps to address some of our financial conditions, and we're in the process of controlling our expenses through numerous means."

He said a large portion of last year's loss was due to accounting measures.

"The performance did deteriorate last year if you look at strickly the numbers, but there were some extenuating circumstances that were behind those numbers," Richards said.

In particular, he pointed to a $4 million write-off of a loan to an affiliate that the hospital decided ti would never recoup. Another $3.6 million hit stemmed from a "one-time shot" the hospital took because of a change in accounting estimates for bad debt reserves.

In addition, Richards said, the $2.25 million loss so far in fiscal 1994 includes about $2 million in "provisional contractual allowances," which he said he has been setting aside on a monthly basis in case the yearend audit turns up unexpected costs. If all goes well, and the provisional set-aside is not needed, the hospital would show a loss of just $250,000, he said.

Although May and June results are too early to project, Richards said the hospital saw 890 admissions in May, compared to a previous average of about 720 admissions per month. If the trend continues, the $250,000 loss could even be substantially reduced by the May and June results, he said.

"They appear to be taking necessary steps and appear to be a short-term beneficiary of Sacred Heart's closure, but it would be preliminary to say the credit is evolving or turning around," said Trody Gerleman, a vice president at Kemper Securities Inc. "You'd like to see a second year of improving trends, and we haven't even seen a full year that show us that.

"There's comfort with additional information, but it's still a troubled hospital credit," Gerleman said. "The movement is positive, but we're still talking about a hospital with a net loss" and a "declining trend [where] the situation looks bleak, up to and including 1993."

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