Hospital performance is suffering as bosses struggle with finances and targets, the Healthcare Commission says.
The Royal Free Hampstead NHS Trust was one of a handful which dropped its rating by two stars. It now has a rating of zero.
The Royal Free Hampstead NHS Trust was given a zero rating
More than 40 hospital trusts have seen their star-ratings fall in the last year.
Along with one in three hospital trusts, the Royal Free has had particular difficulties with its finances.
At the end of the last financial year it had run up a £10.2m deficit on a £330m annual turnover.
The trust said this was a culmination of a number of issues.
Chief executive Andrew Way said one of the major problems faced by the trust's three hospitals was that too many patients were staying in wards when there was no need.
"Because we offer a number of specialist services such as liver and ear, nose and throat treatment we get patients from all over the country.
"They do not always need to stay in a ward but because they are so far from home they have to. We are looking at using a hostel to put people up overnight."
Mr Way also said there had been problems with patients being forced to stay extra nights as they were waiting for x-rays or tests.
"It is just about organising yourselves better. Some of our inpatients could be treated as day cases or outpatients, and that saves money because you are not keeping them in wards."
He said up to 80 inpatients a day out of 1,000 could be staying overnight unnecessarily.
The trust is also looking to reduce its reliance on agency staff - nearly an eighth of its £200m a year wage bill went on temporary staff.
And Mr Way also believes progress has been made on the A&E target - another area where the trust was penalised.
For the first three quarters of the year the trust was easily meeting the 90% four-hour wait target.
But when it was increased to 98% for the last quarter the Royal Free missed it by 1%.
"It was a big jump but we should have been ready for it. We are now meeting it, it is just that it took us a bit longer."
But Mr Way said patients should not be worried about the standard of care at the trust, which was responsible for treating scores of people injured in the recent London bomb blasts.
"We are a good trust and I believe if we were assessed now we would not get zero stars.
"It is demoralising for staff, who have worked very hard. But patients should not be concerned about the quality of clinical care they receive here."
Arthur Brill, chair of the Patient and Public Involvement (PPI) Forum for Royal Free Hampstead said the drop in rating was unjustified.
He told the BBC News website: "The PPI Forum for Royal Free Hampstead and the patients and public we consulted with are of the view that the Trust have been performing very well.
"Indeed, the forum rated the Trust 8+ out of 10 at the last two inspections.
"We are, of course, disappointed with the Trust's loss of two stars and feel a zero-star rating does not reflect the clinical standard and services at Royal Free Hampstead.
"We think the challenging finacial position of the Trust may have had maximum impact on its star rating."