Moody's: Nonprofit Healthcare Debt Sees Record Downgrade

Moody's Investors Service's dollar value downgrade of not-for-profit healthcare debt increased by 213% in 2012—the largest one-year drop by the rating agency since it began tracking the sector in 1995.

In total, a record $20 billion in not-for-profit debt was downgraded in 2012 by Moody's compared with a $6.4 billion downgrade in 2011. The downgrades were driven largely by falling patient volumes and weak revenue growth. Other factors included declines in liquidity, more competition, increased debt load, pension fund pressures, and management and governance problems.

The $20 billion downgrade was more than double the $9.7 billion in upgraded debt for the not-for-profit healthcare sector for 2012. Nonetheless, Beth Wexler, Moody's vice president and senior credit officer, downplayed suggestions that the not-for-profit healthcare sector was teetering.

"There is a lot of headwind but this isn't a signal on our part that the whole industry is going to collapse onto itself," Wexler told HealthLeaders Media.

"In spite of the fact that the dollar amount seems large, the number of debt downgrades and upgrades, the increase wasn't precipitous the way the dollar amount was. It's in a sense the way the data got cut this way and who the downgrades impacted as opposed to this being the beginning of Armageddon, which is not the case at all."

Wexler says three large health systems: Catholic Health Initiatives in Colorado, Dignity Health in California, and Memorial Sloan-Kettering Cancer Center in New York accounted for nearly $13 billion of the $20 billion total.

"Some of this has to do with consolidation activity, ramping up of debt not necessarily for reasons that have to do with credit deteriorations," Wexler says.

"Sometimes as organizations grow they swell a little bit and if the judgment bears out to be the right strategy they go back to where they were. If you take something like Memorial Sloan-Kettering and the downgrades that affected almost $2 billion, that does aid in skewing the dollar downgraded debt but certainly the rating they remain at it's very healthy. They have a lot of strategies that they're executing upon. It creates more risk but risk is relative—Aa2 versus Aa3. But at the end of the day, it still speaks to the downgrade of a large amount of debt."

Wexler says Moody's expects that if the cost of floating bonds remains at near-historically low levels, then there will be more financing of future strategies. "That has contributed to organizations executing on what seem to be very healthy strategies at maybe a pace that has them swell a little bit more."

"Sometimes," Wexler says, "strategy costs upfront. It's not necessarily the wrong thing to do. It's just the risk profile changes because of it and if it's the right strategy it is going to bear itself out over time with the credit profile."

Linda MacDonald, vice president of treasury services at Catholic Health Initiatives, says the downgrades were not completely unexpected, but come as the health system grapples with major strategic moves that necessitated floating about $1.5 billion in bonds.

"Our financials were quite good last year. However, we did experience those volume declines and weaker or negative revenue growth," MacDonald says. "We are not immune to those types of occurrences, but what really caused our downgrade was the issuance of debt in such a large amount."

"It was a large issuance of debt that pretty much changed our profile. We were able to access the market with a $1.5 billion issuance, the largest issuance of an organization of our type ever done, so we were a little bit in unchartered territory."

MacDonald says CHI used about $550 million of the new debt to finalize the "sponsorship" of the remaining 50% of Omaha-based Alegent Creighton Health.

"The remainder continues to sit on our balance sheets today," she says. "We've made investments in an insurance company, Soundpath, as well as looking at other opportunities, some of which aren't public yet," she says, adding that the risks of taking on bond indebtedness in a volatile market have been offset by "the exceptional capital market environment that we were in."

"At the time we issued the debt the cost was only slightly greater than that which we could achieve with the exempt debt and we have much more flexibility in how we spend these proceeds. We issued a five-year tranche, a 10-year tranche and a 30-year tranche and each of them were index eligible, which means they were at least $250 million each," she says.

"We decided to enter the debt market last fall because we saw in our future strategic opportunities that we wanted to be ready to avail ourselves of. The issuance of the magnitude of the debt that we put into the market last fall can cause something like this to occur. We certainly realized there was a possibility."