Debt Portfolio Management Strategies
Introduction
Healthcare industry if very capital intensive and access to debt financing ensures that businesses remain in business. Only limited hospitals are able to generate sufficient cash flow from their operations and reserves for funding long together with short term strategic investments in technology, facilities and programs. Hospitals are then compelled into accessing external debt on a periodic basis to ensure the provision of continued healthcare services in the areas they operate in.
The ability of issuing and supporting debt can be taken a positive capability; it is important to have the viability of virtually all the hospitals in the United States. Most of the hospitals struggle to keep up with demand for capital that has been higher than any point before. New equipment and technology, increasingly competitive markets and aging facilities have been creating high requirements of capital expenditure. In many ways debt financing helps firms in funding essential strategic initiatives. Currently access to external capital has turned out to being very essential for hospitals.
The reforms in healthcare together with other changes in market have increased the need for capital by hospitals. For a hospital to be successful it needs to make substantial capital investment in various areas. The increasing value-based care delivery and systems of payment calls for fresh and costly competencies in the organization which include highly integrated physician arrangements, sophisticated IT, and care management capabilities. This paper compares some strategies that can help a hospital to attain the best possible capital access.
Understanding the strategic financial position and maintaining credit strength
Considering the new financial and realities of the industry, the leadership team of a hospital should have a precise picture of the current financial and strategic position of an organization. This comprises analyzing the competitive and market position of the hospital, its financial and capital position, facility development needs, weaknesses, program service line strengths, and key market demands. The financial and strategic keystones for fiscal projections done within six moths have most probably changed and need to be re-evaluated. A hospital ought to assess the expected health reform impact as well as market forces effects regularly.
In the coming periods with occurrences of market changes the risks and impacts quantification will be more crucial for the providers of healthcare. at this moment the strategies should comprise of the operating impacts and capital requirements; the monetary implications of rates of payment and payer mix changes coming from the newly insured; capacity for accommodating the trend volumes together with probable shifts in the care sites together with the outpatient and inpatient locations and services; the capital and operating cots related to IT and projected and volume of business including volume created through the Medicaid expansion and the new state insurance exchanges (Kaplan, & Singh, 2009)
External capital access needed for funding of strategic plans is subject to the financial performance of an organization. The organization should therefore have a clear understanding of its present fiscal and strategic standing, its goals and whether there are sufficient resources for attaining the goals.
A strong credit position, normally measured by a strong rating of bond, helps in optimizing capital access. During hard times, hospitals that have stronger profiles of credit rating that is high bond rating possess more elastic options of borrowing which result in access to opportunities of lower-cost restructuring. This impact has increased the growing credit quality with sturdy credits in healthcare and the weak credits becoming even weaker.
Whether a hospital has a public rating or not, the primary principles behind a stronger credit position apply to all the organizations; knowing the credit metrics and integrating them into the current efforts of fiscal management will improve the ability of a hospital to approach a range of the appropriate lenders from relative strength position. When a hospital has a strong credit profile it enjoys certain benefits.
It has access to taxable as well as tax-exempt public debt. Organizations with lower credit rating do not readily access the public taxable debt. This may be required for certain programs or services that do not eligible for tax-exempt debt. Organizations that have strong credit rating may be in need of taxable debt for funding investments like joint venture ambulatory facilities or medical office buildings. Normally the public debt alternatives represents the lowest cost alternative, therefore having the required credit rating for accessing these positions can provide an essential business advantage.
Maintaining strong credit rating also creates an increased pool of prospective lenders, which then drive enhanced terms and pricing and reduces considerably the time and effort required for raising the debt capital. Majority of the large investor funds, groups like insurance firms that usually buy tax-exempt hospital bonds are not allowed to buy debt that have low ratings. In addition banks along with other lenders considerably reduce the credit amount that will be availed to credits that are weaker.
Organizations that are higher rated pay less for debt capital consistently than organizations that have lower rating. The spread between the two has been varying. When there is high market liquidity and investor confidence then the public market for healthcare spreads become narrow; contrastingly when there is limited liquidity resulting from investment losses and sensitivity to risk the credit spreads becomes wider.
Documents on bonds have covenants; which entail requirements of financial compliance that the borrower ought to meet on annually or on periodical basis. For instance, the bond covenants mostly define the least number of day’s debt service coverage ratio or cash on hand that the borrowing organization ought to maintain. If a firm fails to meet the covenant then the bonds that the covenant governs are said to be defaulted technically which comes with its repercussions.
Covenants may restrain the financial flexibility of an organization for instance its ability of responding swiftly to an opportunity of acquisition that may reduce to below the needed levels, at least temporarily, liquidity indicators like the days for cash on hand. Organizations that are lower rated treated with stricter covenant standards which end up limiting their fiscal and operating suppleness (Financing the Future II: Report 5, 2006).
A strong credit rating as well offers foremost financial and strategic advantage. The market consolidators are at all the times credit worthy organizations. In the present healthcare environments, strong firms have been consolidating markets by acquisition or mergers with weak competitors that are usually unable to compete due to lack of access to capital that is cost effective. Since these organizations can provide excess capital capacity and lower capital costs firms that have high credit positions have more attractive partners as compared to the ones with lower ratings. Nonetheless, small healthcare units are usually less dilutive or will perhaps be less accretive, the credit positions of larger potential partners. Whether as consolidate or consolidator to bring up a strong credit profile to a discussion of partnering will impact positively the ability of an organization to secure the best possible transactions for the area it operates.
Management teams and hospital trustees ought to do that which is within their reach to preserve their organization’s credit rating strength. Hospitals are as stable as their credit rating. This is a sensitive environment and a deteriorating or weak position can prompt more restrictive bond and bank document covenants, limit flexibility as well as access to different forms of financing and increase the capital cost. This will result to decrease in debt capacity and more difficult access to debt capital, which eventually will threaten independence (Sussman, et al, 2010).
Identification and evaluation of full range of financial options
Hospitals ought to look at conventional and non-conventional options of financing that are present in the current private and public capital markets. The alternatives of public market may be unavailable for smaller hospitals. Nonetheless, every option is worth understanding and tracking as executives begin considering strategies of capital formation.
Municipal bonds
Debt capital usually comes in many forms, however, bonds that are issued in the municipal, public markets act as key capital financing for health systems and non-profit hospitals. Recently municipal bonds have been funding the bulk of large hospital facility and improvements in technology. In the municipal bonds a public bond offering is made in a way that the hospitals through the issuer channel sell bonds to an underwriter, normally an investment bank, this then resells the debt to any individuals of the party or institutions who have interest to won the bonds. The borrowers of a hospital ought to follow some given regulations to make their bonds eligible as public offering like securing of the required legal opinions concerning the capital use and provision of sufficient disclosure to probable investors in regard to the credit and bond structure.
Direct bank loans
There has been an upward lending trend in the banks. With the current indications of economic recovery and persistent federal incentives, the capacity of direct lending has increased even more. Majority of the banks are participating in lending so as to maintain commercial banking associations with the region hospitals. In contrast to the municipal bonds, direct bank loans do not call for a public rating for the underlying credit and they can be operated with a wide range of banks. They can be undertaken on a faster time timetable than in other public market options. Direct loans can as well provide hospitals with a useful tool for gaining an exposure of floating rate without some risks that go with the public market structures. The rating agencies usually monitor closely the level of risk put back by the investor or lender to the hospital.
Direct loans may capitulate capital cost for hospitals that may not be having access to other financing products offering low costs. Nonetheless, with lower costs there come extra restrictions together with legal covenants that ranges from increased coverage on extant public debt covenants for lender review and approval for every financial decisions (Kaplan, & Singh, 2009)
Conclusion
The stakes are usually high, whether a hospital is strong or not, their management to just wait without taking any action on accessing capital. In order to ensure capital options in the current healthcare setting, the management teams ought to understand the available options to access the external capital. To do this there should commitment for building an far-reaching understanding of the current strategic and financial position, preserving the credit position strength, identification and evaluation of the broadest probable funding sources, securing the best fit options by engaging the right professionals and staying closely connected to their capital ratings by monitoring of the extant finding and new opportunities.
Reference
Direct communication with Lisa Goldstein and Beth Wexler of Moody’s Investors Service: 2010.
Financing the Future II: Report 5 (2006) —Strategies for Financially Distressed Hospitals. Westchester, IL: Healthcare Financial Management Association,
Kaplan, H. L., & Singh, A. R. (2009) “The Opportunity and “Duty” to Restructure Nonprofit Health Care Debt.” ABI Journal,
Sussman, J.H. et al (2010) A guide to financing strategies for hospitals: With special consideration for smaller hospitals
USDA Rural Development: Community Facilities Loans and Grants. Retrieved on July 13, 2012 from www.rurdev.usda.gov/rhs/cf/brief_cp_direct.htm
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