Bor­row­ing break­down

Hos­pi­tals ad­just or de­lay plans as debt grows more costly, in­vestors flee

Modern Healthcare - - The Week In Healthcare - Me­lanie Evans

In­vestors spooked by dis­tressed states and the econ­omy’s un­cer­tain direc­tion are mak­ing debt more costly for not-for­profit hos­pi­tals and health sys­tems, forc­ing some bor­row­ers to scale back, re­struc­ture or de­lay fi­nanc­ing plans.

Of­fi­cials at one Mary­land hos­pi­tal went to mar­ket last week pre­pared to walk away should in­vestors de­mand rates that add more than $2.9 mil­lion a year to ex­penses. A ma­jor Cal­i­for­nia sys­tem dropped $150 mil­lion from a $900 mil­lion deal that went to mar­ket last month. In Wis­con­sin, ex­ec­u­tives with a planned $99 mil­lion deal de­cided last week to wait—at least for a few months—to see if in­ter­est rates re­treat af­ter a re­cent climb.

“We pretty much have to live with what the mar­kets are dic­tat­ing,” said Sid­ney Sczygel­ski, chief fi­nan­cial of­fi­cer and se­nior vice pres­i­dent of fi­nance for Wausau, Wis.-based Aspirus, which owns four hos­pi­tals in Wis­con­sin and Michi­gan and had hoped to ask in­vestors to re­fi­nance $34 mil­lion and lend an­other $65 mil­lion in March.

Sczygel­ski said the sys­tem can af­ford to spend cash re­serves on con­struc­tion that be­gan last month—at least un­til the fall. “I think the mu­nic­i­pal mar­kets are right now be­ing un­fairly im­pacted by news” of se­vere bud­get stress among state and lo­cal gov­ern­ments, he said.

Hos­pi­tals and health sys­tems bor­row along­side states and coun­ties in the mu­nic­i­pal bond mar­kets, where un­cer­tainty since last Novem­ber has con­trib­uted to higher bor­row­ing costs. The mu­nic­i­pal mar­ket has seen in­vestors pull back sharply dur­ing the past few months as gov­ern­ment deficits have in­creas­ingly made head­lines, though an­a­lysts also cite other fac­tors for the re­treat and higher yields.

Bor­row­ers flooded the mar­ket in the fi­nal weeks of 2010 to beat the ex­pi­ra­tion of tem­po­rary pro­grams de­signed to im­prove credit ac­cess af­ter the fi­nan­cial cri­sis. In­vestors gained lever­age to de­mand higher rates with the rush of bor­row­ers. The Fed­eral Re­serve’s plans to boost the econ­omy, an­nounced last Novem­ber, fur­ther un­set­tled in­ter­est rates.

But news of state fis­cal dis­tress, no­tably the con­tro­ver­sial com­ments by a high-pro­file an­a­lyst about po­ten­tial mu­nic­i­pal de­faults, ap­pears to have fu­eled in­vestor anx­i­ety, an­a­lysts and health­care fi­nance in­sid­ers say.

Mered­ith Whit­ney—in­tro­duced on “60 Min­utes” in De­cem­ber as “one of the most re­spected an­a­lysts on Wall Street” af­ter her warn­ings of bank dis­tress ahead of the credit cri­sis that shook mar­kets in the fall of 2008—drew sharp crit­i­cism in news re­ports af­ter she pre­dicted mu­nic­i­pal

de­faults dur­ing the news show.

Whit­ney was de­scribed last week as “a me­dia lu­mi­nary” by Bloomberg Busi­nessweek and “a me­dia dar­ling” by the New York Times, and the sig­nif­i­cance of her com­ments was also ap­par­ently on the minds of par­tic­i­pants at a hear­ing last week on state and mu­nic­i­pal debt by a House Over­sight and Gov­ern­ment Re­form sub­com­mit­tee.

“This isn’t about one an­a­lyst,” Rep. Pa­trick McHenry (R-N.C.) said in his open­ing re­marks. “It’s about the loom­ing fis­cal cri­sis in states and mu­nic­i­pal­i­ties and the lack of trans­parency in their pen­sion obli­ga­tions.”

The lat­est un­rest in the mu­nic­i­pal mar­ket comes as Congress and reg­u­la­tors have ex­pressed a grow­ing concern with bor­row­ers’ trans­parency. Re­sults of a sur­vey by DPC Data, re­leased this month, found mu­nic­i­pal in­vestors lacked yearly fi­nan­cial re­ports for at least one of the past five years for more than half of 17,000 bonds is­sued since 1996. Among gen­eral hos­pi­tals in­cluded in the sur­vey, dis­clo­sure was not much bet­ter: 47% failed to re­lease yearly fi­nan­cials at least one of the past five years.

“In times of concern, and maybe call it para­noia, on the part of mu­nic­i­pal in­vestors, spotty dis­clo­sure is not go­ing to ap­pease them,” said Pierre Bo­gacz, a man­ag­ing di­rec­tor of HFA Part­ners, a health­care fi­nan­cial ad­viser. “It’s not go­ing to take away the concern,” he con­tin­ued. “If any­thing, it am­pli­fies” in­vestor anx­i­ety.

John Top­per, se­nior vice pres­i­dent and CFO of Mercy Med­i­cal Cen­ter, a 298-bed hos- pital in Bal­ti­more, be­gan prepa­ra­tions last fall to re­fi­nance roughly $79 mil­lion in vari­abler­ate bonds con­sid­ered to be a higher risk to bal­ance sheets as banks have fal­tered and failed in re­cent years.

“The debt is­sue oc­curred be­fore the eco­nomic blows that we’ve been suf­fer­ing in the re­cent years,” Top­per said. Mercy bor­rowed $305 mil­lion in late 2007 to build a pa­tient tower; roughly half of the bonds were sold to short-term in­vestors as vari­able-rate debt.

In­vestors buy vari­able-rate bonds as of­ten as weekly or monthly and may de­mand re­pay­ment from the bor­rower if bonds fail to sell in the mar­ket. Banks of­ten back hos­pi­tal vari­able-rate bonds with a credit and cash guar­an­tee that must be re­newed af­ter one or more years. Weak banks prompted some in­vestors to de­mand higher in­ter­est rates for vari­abler­ate bonds and raised the risk bor­row­ers would find no buy­ers, which would force hos­pi­tals to rapidly pay off or re­fi­nance the debt.

“We’ve learned a lot about vari­able-rate debt,” Top­per said. Mercy’s gov­ern­ing board, ea­ger to re­duce such risks, ap­proved re­fi­nanc­ing plans de­spite the sig­nif­i­cantly lower in­ter­est rate on vari­able-rate bonds. An ex­pected slump in bor­row­ers in Jan­uary—and an an­tic­i­pated cor­re­spond­ing dip in rates—prompted Mercy Med­i­cal Cen­ter to sched­ule its planned re­fi­nanc­ing for af­ter Jan. 1.

Rates didn’t drop, Top­per said. “It didn’t hap­pen to the ex­tent we ex­pected.”

As the higher cost of re­fi­nanc­ing held, Mercy Med­i­cal Cen­ter moved to scale back the mu­nic­i­pal bond deal to $40 mil­lion and re­struc­ture the rest with a di­rect bank loan, he said. The board fi­nance com­mit­tee met again in late Jan­uary, Top­per said, and agreed the po­ten­tial ex­tra cost was worth less risk—up to a point. The hos­pi­tal could as­sume an ad­di­tional $2.9 mil­lion in an­nual in­ter­est ex­pense, the com­mit­tee said, but no more.

The Cen­tral Florida Health Al­liance won’t scale back a planned $72 mil­lion deal in March, though rates may de­lay the deal, said Dale Hock­ing, CFO for the Health Al­liance. Most of the deal will re­fi­nance out­stand­ing vari­able-rate bonds; $20 mil­lion will fi­nance cap­i­tal projects.

Hock­ing said the re­fi­nanc­ing will lower the sys­tem’s bal­ance sheet risk as it read­ies for sig­nif­i­cant cap­i­tal projects to meet de­mand in the grow­ing ar­eas sur­round­ing its two hos­pi­tals: 120-bed Vil­lages (Fla.) Hos­pi­tal, which opened with 60 beds in 2002, and 429-bed Lees­burg (Fla.) Re­gional Med­i­cal Cen­ter. The sys­tem has pro­posed spend­ing $240 mil­lion on cap­i­tal projects in the next five years, ac­cord­ing to Moody’s In­vestors Ser­vice.

The Health Al­liance is also seek­ing to re­duce pos­si­ble risk from vari­able-rate debt, which Hock­ing said he be­lieves may ben­e­fit the sys­tem’s credit rat­ing.

Higher rates have en­ticed non­tra­di­tional in­vestors—those usu­ally un­in­ter­ested in nor­mally staid mu­nic­i­pal debt—to buy tax-ex­empt bonds, which has helped to sta­bi­lize the mar­ket, said Jim Cain, man­ag­ing di­rec­tor of health­care in­vest­ment bankers Cain Bros. “The mu­nic­i­pal bond mar­ket is one that is driven very much by sup­ply and de­mand.”

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