Moody's Upgrades For-Profit Hospital Outlook to 'Positive'

A reduction in bad debt will come as more people obtain health insurance under the Patient Protection and Affordable Care Act, Moody's says. An improvement in earnings is expected mainly because 2013 was marred by declining patient volumes and the cuts to Medicare reimbursements under sequestration.

For-profit hospitals are expected to see a reduction in bad debt and favorable year-over-year earnings over the next 18 months and that has prompted Moody's Investors Service to upgrade its outlook for the sector from "stable" to "positive."

Moody's says the reduction in bad debt will come as more people obtain health insurance through Medicaid expansion or the health insurance exchanges under the Patient Protection and Affordable Care Act.

"The impact will vary among institutions based on factors including their location, since only 26 states and the District of Columbia have expanded their Medicaid programs under the act," says Dean Diaz, a senior vice president at Moody's.

The expected year-over-year improvement in earnings is expected mainly because 2013 was marred by declining patient volumes and the 2% cuts to Medicare reimbursements under sequestration.

"Our outlook is predicated on the year-over-year projections, and 2013 was a tough year for the sector, for-profit or not-for-profit," Diaz says. "There were a lot of volume and EBITDA (earnings before interest, taxes, depreciation, and amortization)declines so it creates a lower base for companies to grow off of. The prior year was lower, so we have an easier comparison as far as our growth number, because that is what our outlook is based off of."

"A piece of it is an expectation that we will see a little bit better growth in volumes… as we get more clarity around observation days and the two-midnight rule and we get more clarity as the projection period goes out over the next 12 to 18 months."

In addition, Diaz says the CHS/Community Health Systems Inc.'s acquisition of Health Management Associates and Tenet Healthcare Corp.'s acquisition of Vanguard Health Systems are expected to bring cost reductions and operational improvements to the sector, and to boost aggregate EBITDA growth in 2014.

For-profit hospitals will continue to compensate for in-patient volume declines by bolstering investments in out-patient services. "You've got a lot of investment and acquisitions of imaging centers, ambulatory surgery centers, and oncology," he said.

"Our measure of volume that we typically look at is the adjusted admission. That outpatient piece is bolstering it. There is more of a migration toward outpatient. Payers are looking to manage the costs of care and keep people out of the hospital when necessary. You are going to see the operators start to adjust to what I think is a secular change there."

In stark contrast, for the past six years Moody's has issued a "negative" outlook for the not-for-profit hospital sector. Officials from the bond rating agency said in December that the dour outlook is not likely to change anytime soon.

Diaz says that larger, for-profit health systems hold significant advantages in the market over most not-for-profit hospitals.

"These are multi-facility, multistate operations, whereas a lot of the ratings that are maintain on the not-for-profit side… are individual sole site that may not have the flexibility to do some of the things that the for-profits do, such as exit services or exit markets that don't work for them."

Diaz says for-profits aren't necessarily "cherry picking" the more affluent areas but that they are very deliberate when they pick the demographics and the areas they want to be in. "They will go to high-growth markets. They will research the demographics in that market as far as payer mix and employment so they do have that flexibility," he says.

"There is a bit of portfolio management that plays into the way these companies are built. They may have that market presence to have a stronger negotiating position with payers. They may also have more in the way of purchasing power that would reduce the cost of their supplies to provide that service. In that respect, they've got a benefit of scale and diversification that allows them to drive efficiencies across their portfolio, whether it be from the pricing perspective or the cost perspective."