The improving economy and the PPACA are not the only reasons why not-for-profit hospitals are doing better than three years ago, says a senior analyst at Moody's Investors Service.
Financial profiles at not-for-profit hospitals have strengthened over the past three years, thanks in large part to the recovering economy and the Patient Protection and Affordable Care Act, Moody's Investors Service says.
"Stronger operating performance is the result of significant gains in the number of people with insurance, growing patient volumes, and sizeable reductions in bad debt expense. The Affordable Care Act increased insurance coverage in states that expanded Medicaid coverage, contributing to lower bad debt expense," Moody's says in its April Healthcare Quarterly newsletter. "The improving economy, related job gains, and stronger patient volumes also contributed to the sector's stronger performance."
Dan Steingart, a senior analyst Moody's, says the improving economy and the ACA are not the only reasons why not-for-profit hospitals are doing better than three years ago.
"I don't want to give the wrong impression that they haven't been working on their own, because they have," he says. "On the expense side hospitals have been working for several years to take a lot of costs out of the system, but there is a lot more work that can and will be done."
"Those hospitals that have installed electronic medical records systems and have them up and running do realize some incremental savings, but that's sort of a small, sexy area," he says. "There are a lot of nuts-and-bolts, blocking-and-tackling around supply costs, along with productivity. Reducing excess layers of middle management has been a popular area."
The productivity improvements include ensuring that providers work at the top of their licenses, and that the administrative bloating that often comes with mergers and acquisitions is addressed.
"Over the past few years there was slower wage growth, and salaries and benefits are the number one line-item for hospitals," Steingart says.
The improved finances come as hospitals contend with medical inflation, especially around pharmaceuticals. "It's been growing rapidly," Steingart says. "That's a big challenge because after labor, supplies, and drug expenses are a big portion of supplies. [Drugs are] the number two expense for hospitals."
The Effects of M&A
Although mergers and acquisitions in the not-for-profit hospital sector have increased over the past few years, Steingart says it's "a notoriously hard thing to measure" how these consolidations have affected hospitals' financial profiles.
"M&A in the not-for-profit sector ranges from large systems acquiring a much smaller community hospital to two larger hospital systems coming together," he says. "I wouldn't say you're seeing savings from M&A, but that is not because it's not necessarily there. It's just much harder to measure because you don't have these big deals that you can point to. You have a lot of drips and drabs in M&A."
"The other side of it, there was a big run up in financial performance in the past two years and that is due to a lot of other factors, the economy, the ACA and the hospitals' own cost-saving initiatives. To attribute that to M&A wouldn't be fair," he says.
The bottom line, Steingart says, is that the improved financial profiles for not-for-profit hospitals means they'll be better positioned to adjust to looming value-based and population health payment models.
Higher Debts Weaken For-Profit Profile
The financial profile for much of the for-profit hospital sector has weakened over the past three years because of higher debt burdens brought on by a spate of acquisitions, Moody's says. However, the debt burden does not affect all for-profits equally, and Moody's says the outlook is expected to improve in the coming year as for-profits look to reduce debt.
"There was definitely a load-up on debt through M&As, in part due to the fact that credit markets were readily available to them," says Dean J. Diaz, a senior vice president with Moody's Corporate Finance Group. "It is nothing that was surprising given the level of M&A activity we've seen of late. It's a period in the cycle and very definitely a consolidation in the sector."
According to Moody's, the for-profit sector's "median debt/EBITDA increased to 5.2x at year end 2015 from 4.7x in 2012, as consolidating companies failed to effectively reduce leverage as much as we had expected. However, we expect that modest deleveraging over the next year will improve the sector's financial flexibility."
The biggest drivers were Tenet Healthcare Corporation's acquisition of Vanguard Health Systems, Inc., in October 2013 and Community Health System's acquisition of Health Management Associates, Inc., in January 2014.
"The rationale for both of these transactions included the desire to increase and leverage scale to combat pressure on reimbursement rates," Moody's says. "Each company's debt/EBITDA increased to close to 6.0x as a result of these transactions. However, we had expected leverage to return to closer to 5.0x through a combination of debt repayment and EBITDA growth resulting from the realization of significant synergies."
That didn't happen. With CHS, leverage remains high owing to weak volumes.
"Many of the initiatives to grow those margins have taken much longer to take hold. While we expect to see improvement at the HMA facilities during 2016, Community's leverage will now remain high into 2017," Moody's says.
Tenet reduced its leverage but then re-levered in 2015 to acquire a majority interest in United Surgical Partners International.
"For-profit operators will continue to invest in outpatient services," Moody's says. "Volume growth at these facilities will outpace inpatient admissions as commercial payers shift patients to lower cost settings. Outpatient services also require much less in capital expenditures to maintain."
John Commins is the news editor for HealthLeaders.