Capital Project Solutions – June 2012 Financing Healthcare's Future Patrick E. Duke, SVP "Long term structural change in the sector has favored a minority of larger, well managed hospitals and systems, while creating ever tighter competitive conditions for the majority of smaller, especially free�standing, hospitals. While some years of robust economic growth have stabilized the outlook for the sector, credit trends have been negative and will remain so until the next wave of regulatory and business model changes are more clearly established in the coming years"1 In January 2012, Moody's provided the above assessment of the healthcare market. With the need for capital not waning in order to meet meaningful use requirements, replace aging infrastructure, acquire new partners and develop a more robust ambulatory care network, healthcare organizations must develop a flexible financing strategy that utilizes all sources available. The lack of a strategic financial plan and swift execution to enable growth and improve defensive position in the market will put an organization in a perilous position. While capital markets have become a club for those "AA" and "A" rated healthcare organizations that enjoy more financing options and some very low tax exempt debt at today’s rates, it is not totally exclusive. All investment grade healthcare organizations have a myriad of options available, but some take more time than others to syndicate. In this issue of Capital Project Solutions we will briefly explore strategies and options to ensure your organization can access the widest range of lower cost capital. Leading Versus Lagging More often than not, healthcare organizations let the development of capital needs lead while the development of a plan to finance them lags behind. Given the sensitivity of time to market in such a tightly competitive and
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Capital Project Solutions – June 2012 regulatory environment, alternative financing strategies are often abandoned and perhaps opportunity lost due to the lack of time to perform due diligence. In order to position your organization to be able to access the lowest cost options for capital we recommend the following:
Monitor and Measure – Set up tools and account code in order to closely monitor financial performance at a service line level and measure that against available benchmarks. The ability to get good data from within your organization can allow you to maintain and strengthen your financial position. While this sounds simple, we see situations everyday where good internal data is not available and thus impedes the ability to provide sufficient analysis and recommendations. Open Up to Alternatives - There are many alternatives that can be syndicated together and provide capital to address current needs. Identify one person within the organization to be responsible for identifying all options within your jurisdiction and developing a decision matrix to evaluate options as needs arise. It is imperative to continuously update this decision matrix as local, state and federal funding grants can have a shelf life. Think About Partnerships Differently - The past featured a majority of partnerships between hospitals, physician groups, long term care providers and the like. The future will feature partnerships with insurance companies, private equity groups, large corporations, research and pharmaceutical companies, technology firms and academic institutions at all levels. This transition seems logical as healthcare affects the lives and balance sheets of our entire population. As healthcare continues to transform, partnerships that never would have been considered in the past will arise. These new options can help to increase available capital and improve an organization’s long term financial position.
While there are many details surrounding these three strategies that remain to be completed by a healthcare 2
Capital Project Solutions – June 2012 organization, following this approach will ensure that the financial plan is leading the development of capital needs.
Financing Options to Consider There are many options available to healthcare organizations as they look to develop sources for capital uses. The feasibility of each of these varies based on credit rating, tax treatment, timing and type of capital need. It is difficult to provide an all encompassing list due to local, state and federal programs that are ever changing. The list below provides useful guidance on the more prevalent options.
Tax Exempt Debt - Organizations that enjoy tax exempt status may access variable and fixed rate debt on the capital markets. Today's rates are low and the expectation is the flight from Europe combined with the Federal Reserve's monetary policy will continue to provide a favorable rate environment. However, the reserve requirements and origination costs for fixed rate tax exempt debt can make this option less attractive for organizations with lower credit ratings. The Federal Housing Administration's 242 program is offered to acute care providers as a means to enhance credit ratings and access lower rates. Taxable Debt - Tax exempt as well as taxable organizations have favorably viewed taxable debt. Recently, there have been articles published on larger tax exempt academic institutions, such as Harvard and Columbia, turning to taxable debt given its favorable rate spreads and limited restrictions on use. In an environment where healthcare organizations need flexibility and credit spreads that are favorable, taxable debt may be an option. Typically, taxable debt does not make sense for needs under $250M, but is an alternative that should be investigated. Derivatives - This option has certainly gotten everyone's attention. Interest rate swaps, in part, led to many problems for healthcare organizations
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during the 2008 market collapse. After working to refinance and pick up the pieces, interest in derivative markets could be hard to generate. However, changes in the market that may mitigate past issues and favorable rates suggest that derivatives should remain an option. But be aware of the challenges that may be faced upon presenting this option to the hospital Board. Third Party Capital - For years, healthcare organizations have primarily worked with medical real estate developers to provide turn-key solutions for medical office and ambulatory care facilities. While this is still a viable option, analysis needs to align with the changing accounting rules that govern operating and capital leases. Third party capital does not need to be restricted to medical real estate developers. There are partnerships with insurance companies, private equity groups, large corporations, research and pharmaceutical companies, technology firms and academic institutions at all levels that can provide third party capital as well. EB-5 - The EB-5 Immigrant Investor Program is a federal program establishing a fifth employmentbased preference immigrant visa category. Administered by the U.S. Citizenship and Immigration Service (USCIS), it provides 10,000 visas per year for qualified foreign investors and their immediate families. Their investment must result in a commercial enterprise that benefits the U.S. economy and creates new jobs or preserves existing jobs for American citizens or legal residents. The program is open through September 2012 and will likely be extended. Healthcare organizations have successfully applied for financing from the program and it can be a source of low cost capital. Local, State and Federal Grants - Numerous local, state and federal grants exist, but typically have restricted use requirements and a limited shelf life. Therefore, a resource must exist within the organization to remain current on existing grants and include them in the decision matrix in order to
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move quickly when warranted. For example, Build America Bonds were part of the Stimulus Act, but some healthcare organizations were able to access them in a small window from 2009 through 2011. Other agencies such as the Maryland Hospital Association offer annual grants to members that can be useful in purchasing new diagnostic equipment or for small projects. Performance Guaranteed Facilities - For projects in value of $50M and above, the Performance Guaranteed Facility (PGF) delivery model may be utilized. The PGF model is about more than just financing, although that is a major part of it. This model can achieve 15%-20% average lower life cycle costs over a 30 year partnership with a third party. The third party brings a project delivery and facility maintenance team to the table and finances, designs, builds and maintains a facility for the return of an availability payment from an organization if the facility is able to be utilized for its intended purpose. Healthcare organizations that choose this model have no out of pocket development costs and make their first payment upon initial use of the facility. This approach has been utilized successfully in other parts of the world and may be an attractive model for US healthcare facilities.
There are many options available to the healthcare organization looking to provide for their ever growing capital needs. Those listed above are just a sampling of what is available. Assign someone within your organization to be responsible for maintaining a current list that can be referred to on a continuous basis. Conclusion Capital needs have not waned in recent years and will not in the future. While the financial well-being of our nation's healthcare organizations is under stress due to disruptions in the capital markets, worldwide economy and new regulatory restrictions, there are a myriad of options available to organizations looking to syndicate capital sources. It is imperative strategic financial planning leads
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Capital Project Solutions – June 2012 and not lags the planning for capital deployment. Getting ahead of the curve gives the organization time and leverage to access more capital at lower costs and with less restriction. For more information on Financing Healthcare’s Future other Capital Facility topics, visit KLMK’s Educational Insights.
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