The continuing changes in the hospital industry makes analyzing health-care bonds particularly challenging for today's investors.
Medicare reimbursements are declining. Growing state budget deficits are affecting Medicaid payments. Bond documents are increasingly complex. Against this backdrop, negative news stories chronicle the fiscal problems of the health-care industry. These and other factors make it far more difficult than ever for investors to assess the financial condition of hospital credits.
For those investors who have the time and expertise to conduct a comprehensive analysis, many credit factors must be taken into account -- financial position, utilization trends, competitive marketplace, managed care contracting, strategic planning, and quality of management. While financial statements are important and must be carefully reviewed, they should not be overemphasized as they do not reveal a full credit picture. Just as a doctor would not base his or her diagnosis by only taking a patient's temperature, health-care analysis cannot rely solely on financial ratios. Certain credit factors have emerged as being critical in determining a hospital's long-term financial viability.
Forces Shaping the Industry
The number and type of competing institutions within a hospital's service area dictate its competitive strategy and potential for revenue growth. Cities such as Cleveland, Denver, Pittsburgh, Dallas, and Los Angeles are recognized as being "overbedded markets" whefre hospitals compete on price, quality, attractiveness of physical plant, and technology. Larger, more diversified facilities will continue to survive and are better equipped to adapt to changes because of their market presence.
Investors need to examine closely the impact on a hospital's operations of managed care contracting. In markets such as Minneapolis, San Francisco, Kansas City, Albuquerque, and Denver, there is a high proportion of alternative delivery systems such as health maintenance organizations, preferred provider organizations, and "managed indemnity plans." It is estimated that these plans will cover more that 50% of the population in these cities by 1995. Some hospitals now derive as much as 25% of their business from HMO/PPO contracts. The discounting of prices in order to secure managed care contracts has led to lower operating margins. For management, the challenge is to enter into those contracts that will be profitable and increase utilization.
An analysis of a hospital's relationship with its physicians is also important. A hospital's medical staff is the driving force for enhancing utilization. Hospitals that are able to integrate physicians' economic interests with those of the institution will cultivate loyalty from their medical staff.
In order to foster good relations with physicians, many hospitals have chosen to enter into joint ventures with physicians. Many of these have taken the form of joint partnerships for the delivery of out-patient care and joint ownership of medical office buildings.
In addition, investors must recognize that a well formulated strategic plan is the building block for a hospital's future growth. All hospitals essentially have the same objectives -- maintaining market share and a favorable payor mix, increasing admissions and outpatient volume, and sustaining profit margins. However, their methods for achieving these goals vary, depending on management philosophy and competition.
Investors should carefully review the feasibility of a hospital's strategic plan, outlined in many official statements. A hospital's ability to achieve long-term financial success is to a large degree dependent on the quality of management and its ability to meet its business objectives.
Use of Bond Insurance Rising
Because most investors are unable to complete a comprehensive analysis of a hospital's operations, there has been a dramatic rise in the use of bond insurance. The growing complexity of hospital credit analysis, raising credit concerns, and uncertainties in the marketplace -- the impact of the new capital reimbursement rules, possible cutbacks in graduate medical education payments, and the effect of a National Health Insurance Plan -- have led investors in record numbers to seek the protection that bond insurance provides.
The percentage of new issue long-term municipal health-care bonds insured has jumped from 38% in 1990 to 58% for the first half of 1991.
Contributing to skyrocketing demand for credit enhancement has been the proliferation of new financing techniques. New financing structures such as PARs/Inflows, RIBS/SAVRS, Float/Rits, and asset-backed health-care accounts receivable financings have added another dimension of complexity to hospital bond issues. Since many investors are unfamiliar with these products, bond insurance is becoming increasingly popular because it simplifies the analysis and makes the bonds more marketable.
Over the next few years, changes in the health-care industry may be even greater than in the past. Governement and private payors will exercise greater control of utilization and reimbursement. Industry consolidation through mergers and growth of hospital systems will continue, leading to fewer but stronger hospital credits. New forms of service delivery such as free-standing ambulatory and oncology centers will become available. Physician clinics and faculty practice plans will become more prevalent. While all of these changes will make hospitals better equipped to face the challenges of the future, it will make it even more difficult for investors to effectively analyze hospital credits in the years ahead.
Ms. Rocha-Sinha is vice president and manager of the health-care department at Municipal Bond Investors Assurance Corp.
