Physicians: Don't Overlook Hospital Financials, Investor Ratings

The majority of the hospitals in the United States are not-for-profit. A misnomer if one thinks about it because no entity can survive without generating revenues that exceed expenses. Physicians and hospitals have always been intertwined because without physicians, who would admit patients, perform surgical procedures, and order laboratory, imaging and other services? Depending on the point in the "lifecycle" of physician and hospital ventures, however, physicians may sell their practice to a hospital or health system, thereby becoming an employee or remain an agent who applies for medical staff privileges. Currently, the trend is to form an accountable care organization (ACO) or a collaborative joint venture. Therefore, it is important for physicians to appreciate the impact a hospital’s financial status may have on their practice’s viability.

In late January 2013, Moody’s, an investor service company that issues financial metrics on various sectors, upheld its August 2012 outlook for the not-for-profit sector as negative. While revenues are slated to remain positive, the rate of growth is projected to diminish based upon federal cuts to healthcare spending and reimbursement and other macro considerations. Since not-for-profit and public hospitals cannot issue stock to raise capital, they often issue bonds.

In light of the various opportunities to merge with a hospital or health system, physicians should closely look at the financial viability of the institution, which includes an entity’s bond rating and financial statements. A recent article in American Health Lawyers Association’s Connections Magazine defined a financially-distressed enterprise as "an entity whose ability to continue as a 'going concern' is in serious doubt or jeopardy." Often, a distressed enterprise is approaching insolvency or is actually insolvent, as can be measured in two ways:" a.) a fair market value evaluation of the balance sheet (quantitative) in light of debts and liabilities exceeding assets; or b.) a cash flow insolvency basis (qualitative) by assessing if an organization is paying its debts on time." Whether or not a hospital is financially distressed can, in turn, impact its financing options, perpetuate the need to restructure, perhaps through bankruptcy, require a sale to a larger, solvent hospital or health system and adversely impact bond ratings.

For example, Moody’s Investors Service rated the debt issuances (bonds) for "400 freestanding hospitals and single-state systems." Bonds are rated along the Moody’s continuum of Aa – A – Baa – Below Baa.[1] "AA" is the highest rating and reflects entities with higher operating margins, cash-to-debt ratios, and capital spending ratios. In turn, this translates to a higher likelihood of solvency and stability. By way of contrast, "Below Baa" represents a significant risk because the measures are much lower than the AA counterparts and the likelihood of default (i.e., the inability of a hospital to pay its coupon payments) and insolvency are much greater. While these "junk bonds" typically have a much higher rate of return, they also carry a much higher risk. And, if a physician is considering merging with an entity, the bond ratings can lend valuable insights.

Whether considering entering an ACO, joint venture, merger, or acquisition, looking at the financials and investor service ratings and reports can provide valuable insights. By knowing what to expect from both the sector and the individual institution, physicians can better determine fair market value and engage in more productive negotiations. Once part of an organization, a physician’s willingness to work with the chief financial officer can positively impact not only overall performance, but also have a positive impact on the physician’s financial health, too

[1] Moody’s Investor Service: U.S. Not-For-Profit Hospital Medians Show Operating Stability Despite Flat Inpatient Volumes and Shift to Government Payers, Median Report, August 23, 2012, Appendix 2, p. 25.