CHICAGO — Storm clouds are gathering across the nonprofit health care sector, credit analysts warned in a pair of reports released this week.

Standard & Poor’s, in its annual report on sector medians, said the stability of 2011 medians and upgrade-to-downgrade ratios is likely to evaporate as the sector appears perched at the top of the credit cycle and about to head down the other side.

Moody’s Investors Service titled its mid-year 2012 outlook, released Thursday, “Strong Headwinds Continue.” The rating agency is maintaining its negative outlook on the sector and warning that fresh risks have developed in the last six months.

Standard & Poor’s 2011 median reports revealed several positive trends — medians were largely stable compared to 2010; revenue ticked up; liquidity rebounded; upgrades continued to outpace downgrades; and negative outlooks fell to 9% from 14% of the rated credits.
But the numbers don’t tell the whole story, Standard & Poor’s health care analyst Martin Arrick said Thursday in a conference call to discuss the reports, which cover health care systems and stand-alone hospitals separately.

“I don’t think things have been as complicated as they are now for a long period of time,” Arrick said. “Stable outlooks rose from 78% to 82%, again showing broader stability in the sector. We’re seeing it in the numbers, we’re seeing it in the ratings. And yet I think that masks an unbelievable amount of information about what’s going on.”

Health care executives have spent much of the last four years cutting costs, moves that improved balance sheets and stabilized performance to deal with the post-2008 recession. Cost cutting is also the main way that managers are preparing for the new health care law, set to take effect in 2014, according to Arrick.

“Many [chief financial officers] we speak with are focused on reform, and frankly, they’ve never been more concerned about the future than now,” he said. “Folks have really restored their financial profiles so they can enter into this incredibly difficult period with as much strength as they can.”

Persistent challenges facing the sector continue to be low revenue growth, a still-soft economy and reimbursement pressures from both commercial and governmental payers. Operating pressures are expected to increase over the next few years and managers that have already cut may find it harder to identify new savings, Standard & Poor’s said.

“We’re at the crest of the credit cycle, and the choppiness in the numbers represents that we’re at the point where the sector is starting to change,” Arrick said. “We’re at the curve.”

In addition to existing problems, Moody’s identifies a new set of risks. Among them is the Supreme Court’s June decision allowing states to opt out of Medicaid expansion. That’s a credit negative for the nonprofit health care sector, as it’s likely to mean more uncertainty and tighter reimbursements, Moody’s said.

“First, it diminishes one of the credit-positive features of the law, namely the expansion of health insurance for previously uninsured individuals,” Moody’s said in its report. “Second, the ruling throws into relief the uncertainty over how reform will be implemented and the negative impact that has on strategic planning for hospitals.”

Pressures tied to the federal deficit create another layer of uncertainty for providers as they try to plan for the future, Moody’s said.

Another new risk for hospitals is the increasing integration of health insurance companies and hospitals, and the rising number of hospitals that are acquiring physician practices, Moody’s said.

“All of these challenges emphasize the continued need for more effective governance and management to adapt to a rapidly changing industry and to execute various strategies,” the Moody’s report said. “We expect reform to continue driving merger and acquisition activity as hospitals seek to create greater scale and revenue diversity, as well as an integrated presence across the continuum of care.”

On the capital spending side, health care systems rated AA or higher issued more new-money bonds in 2011 than in 2010, indicating “a slight loosening of purse strings after multiple years of conservative capital spending,” according to Standard & Poor’s.

Systems rated BBB and lower continued to hold spending down, as did most stand-alone hospitals.

Bond sales overall ticked up in 2011 — driven mostly by refundings — but remained low compared to pre-2008 levels. That trend is likely to continue through 2013, posing a possible credit challenge due to aging facilities.

“Capital spending increased in 2011 but remains well below historical levels,” said analyst Kenneth Gacka during the Standard & Poor’s conference call. “That comes at a cost, as the average age of plant increased across the board.”

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