CHICAGO - Not-for-profit hospitals have been hard hit by recent capital markets turmoil, as providers have been forced to postpone debt sales while facing failed remarketings, negative swap valuations, and stricter covenants from a shrinking pool of credit providers, according to a pair of reports out this week.
The pressures facing the nonprofit health care industry prompted Moody's Investors Service to revise its outlook for the sector to negative from stable. Moody's analysts during the last few months have started to take a closer look at hospitals' debt structures to determine levels of risk, particularly with regard to liquidity, said analyst Lisa Martin, one of the authors of the outlook revision report.
The credit crunch intensified just months after the collapse of the auction-rate securities market, a market long favored by health care issuers. The collapse of the ARS market forced providers to restructure large swaths of their debt portfolios, and many opted to replace the troubled ARS with variable-rate demand bonds backed by letters of credit or standby bond purchase agreements. Now those issuers are facing a new set of problems - including failed remarketings, analysts said.
Health care providers, like other issuers, are finding it increasingly difficult or expensive to secure LOCs or SBPAs. This could force hospitals to begin to issue fixed-rate debt with higher interest rates, Moody's said, adding that "long-standing relationships between hospitals and their commercial banks appear to have less value today."
Lack of access to credit is only one of many problems facing the sector, which until last year enjoyed strong profits, operating margins, and investment returns.
Deterioration in the larger national economy has lead to a decline in volume, especially for surgeries, a rise in bad debt, and significant investment losses, health care consultants at Chicago-based Wellspring Partners said in a report on the impact of the credit markets on the industry. And while many providers continue to postpone or defer bond sales, experts expect borrowing costs to rise as health care paper remains somewhat unattractive to buyers.
Providers that restructured their failed auction-rate debt into variable-rate demand bonds now face new challenges, analysts said. Failed remarketings pose one of the biggest problems, as bank bonds typically trigger accelerated payment periods.
"We've been seeing failed remarketings, which is extremely unusual when you look back in history, and we're trying to more heavily monitor our hospitals that have variable-rate bonds to determine when they have failed remarketings," Martin said. But she added that bank bonds can be successfully remarketed again, so many issuers face a "very fluid situation" when it comes to how many of their bonds are being held by a bank at any one time.
A bigger problem is that a failed remarketing can trigger an accelerated repayment period - many ranging from one year to five years, according to Moody's - which could be difficult for providers already struggling with restricted liquidity. Moody's said in recent weeks it has seen draws on hospitals' self-liquidity programs for the first time since the programs were started.
Compounding the problem is if the provider violates a covenant, which could trigger an even faster repayment period for bank bonds, Martin said. Financially stressed issuers may find it more difficult to avoid violating covenants as they struggle with other economic problems.
For example, some banks have covenants requiring a certain number of days cash on hand, which could prove suddenly tough for hospitals struggling with significant investment and liquidity declines. To avoid triggering defaults, hospitals could be forced to re-negotiate the terms with their banks or enter the market to restructure the bonds into a fixed-rate mode, Moody's said.
"In the course of normal surveillance, we are now asking questions about these issues, and for the lower-rated hospitals and systems, we are more actively enhancing our surveillance and outreach to try to determine their risk," Martin said.
In its report, Moody's analysts noted that many hospital management teams remain unaware of the details of their repayment terms.
Meanwhile, issuers that have outstanding floating-to-fixed-rate swaps are also facing fresh pressure in the current market, said analysts. Many are dealing with negative swap valuations, and are being forced to post collateral to the counterparty, Martin said. As a result, providers are increasingly considering terminating their swaps - even if it requires a large payment - in the process of restructuring their debt, Moody's said.
