The financial outlook for not-for-profit hospitals and health systems is once again under scrutiny.
With operating margins at risk of a permanent reset, concerns have been raised among investors as it may lead to widespread downgrades, a new report by Fitch Ratings says.
While we are not expected to face a "sector-ending incident," hospitals and health system CFOs must carefully manage their liquidity and capital spending to navigate these challenges.
What is Happening with Operating Margins?
Traditionally, healthy operating margins for hospitals have ranged from 3% or higher.
In fact, even Kaufman Hall has reported that the median calendar year-to-date operating margin index was 2.0% through the end of this past November, “still well below the 3%-4% range often cited as a sustainable operating margin for not-for-profit hospitals and health systems.”
Now, Fitch Ratings predicts that the ideal range will likely reset to 1%-2% for not-for-profit hospitals in the future. While a significant reduction, the report suggests that widespread downgrades are unlikely due to the robust balance sheets and capital spending discipline demonstrated by many health systems.
Despite this, individual hospitals may face downgrades if they are unable to defer capital investments and fail to improve operational efficiencies.
What is the Cause?
One of the critical factors contributing to the financial uncertainty ahead is the aging population Fitch says.
By 2030, the last of the baby boomer generation will reach the age of 65, leading to a larger population in need of heightened healthcare services.
This scenario may strain healthcare providers' resources, potentially impacting their profitability. The need for increased staffing and the associated costs, the report says, may offset any gains made in operational efficiencies.
Another area of concern in the report is the days' cash on hand ratio. It questions whether the current range of 200-250 days may be too high, given the ongoing struggles of the sector.
However, the data shows that the ratio has consistently remained above 200 days in nine out of the last ten years, with a median of 216 days based on 2022 financials. Despite potential improvements in profitability and investment gains, the report suggests that this metric may see little improvement.
So how can CFOs prepare?
There are a few strategies hospital and health system CFOs can use to stay ahead.
Maintain a robust balance sheet: The report highlights the importance of building and maintaining a robust balance sheet to withstand potential financial challenges. CFOs should focus on healthy liquidity cushions to protect against unforeseen circumstances and maintain financial stability.
Optimize capital spending: As the industry faces financial headwinds, CFOs should evaluate capital spending carefully. Prioritizing investments that directly contribute to operational efficiency and improved patient care will be crucial to ensure long-term success.
Plan for the aging patients: With the incoming surge of the baby boomer generation requiring increased healthcare services, CFOs must develop strategic plans to support the growing demand. This may include proactive workforce planning, optimizing processes, and leveraging technology to enhance efficiency.
Monitor days' cash on hand ratio: While the current days' cash on hand ratio range may be appropriate given the sector's challenges, CFOs should continue monitoring this metric. A robust ratio can provide a buffer during economic downturns or unforeseen circumstances, safeguarding against potential financial instability.
While moving in a positive direction, the outlook for not-for-profit hospitals and health systems presents challenges that demand careful financial planning and strategic decision-making. While the reset of operating margins and the pressure to improve profitability may not result in widespread downgrades, it is essential for CFOs to maintain strong financial foundations.
This time, CMS is to blame for upsetting Humana's funding expectations for 2025.
CMS recently released its proposed Medicare Advantage (MA) payment rules for 2025—and it includes a 0.2% decrease in average benchmark payment rates for next year.
One payer quick to speak out on the decrease? Humana.
Coming on the heels of a huge fourth quarter loss, Humana says if CMS’ rate changes are finalized as proposed, the MA changes will lower Humana’s benchmark funding by around 160 basis points.
Humana, one of the major players in the MA program, analyzed the proposed rule and found that the changes will lower its funding even though the company had expected rates to stay the same.
The issue revolves around the effective growth rate restatements, which Humana didn't anticipate considering the industry's higher medical cost trends, according to its filing with the SEC.
While this rate decrease would be bad news for Humana, CMS says payers are expected to still make $16 billion more next year compared to this year. Even still, it’s likely payers will lobby for a higher payment rate before the final notice is released in April.
Although MA has historically been lucrative for insurers, recent regulatory changes and rising costs due to increased medical care for seniors are putting the offering at risk.
In fact, while MA is still growing, it is showing signs of becoming less profitable for payers, a report by Moody's said.
We may see an uptick in MA payers raising premiums, reducing benefits, and even considering leaving certain markets to improve their margins—changes that would make providers even less likely to keep their MA contracts.
Hospitals and health systems aren't the only ones dealing with revenue loss from Medicare Advantage (MA).
Humana, the second largest provider of MA plans in the U.S., recently released its Q4 2023 earnings report, and it missed Wall Street's earnings expectations by a surprising margin.
Even though Humana lowered its profit outlook due to increased spending, it still didn't perform well. Its CEO, Bruce Broussard, called the results "disappointing" during a call with investors.
Overall, Humana had a net loss of $540 million in the fourth quarter, which is a huge jump compared to the $18 million loss they had at the same time last year.
So what went wrong?
Well, Humana received more claims in December and January than they expected, which reflected higher inpatient and outpatient utilization at the end of the fourth quarter, the company says.
More seniors had short stays in the hospital, while fewer had observation visits in the ER. As we know, those short-stay admissions are more expensive than observation visits.
And when it comes to outpatient spending, Humana saw a higher cost per member in the fourth quarter compared to the third. This was because of increases in physician and outpatient surgical care and supplemental benefits.
Broussard told investors that the increase in utilization towards the end of the fourth quarter was a big deviation from what they expected.
To turn things around, Humana is planning to increase premiums and cut benefits in 2025 to improve their margins, but analysts predict they might have below-market membership growth.
Humana has gone all-in on government plans and even refocused their business on MA and Medicaid. But it's a tough market with risk adjustment and rate changes, along with other uncertainties. In fact, Humana is currently suing the federal government over its plan to audit MA payers.
This is Humana's first earnings release since their potential merger with Cigna fell through at the end of last year due to investor concerns.
At the time, "shareholders balked" and the companies couldn't agree on what would have been a Cigna cash-and-stock acquisition of Humana "with a large stock component," the WSJ said.
What providers might be thinking
It's likely providers have little sympathy for MA plans, especially as they have been dealing with the same MA cost challenges for years.
As HealthLeaders has been reporting, the payer-provider battle is raging, and more organizations have been fighting back against MA.
But why MA? While not the only culprit of the turmoil, organizations have been fighting back against MA’s low reimbursement rates for years, and CFOs are finding no fiscal viability in the relationship with the payer.
One case in point is Scripps Health. Two medical groups within the system canceled their MA contracts for 2024 because of low reimbursement rates, denials, and administrative costs to manage high utilization and out-of-network care.
“We’re unfortunately on the vanguard of what I think is going to be a very ugly few years between hospitals and commercial insurance companies,” Chris Van Gorder, president and CEO of Scripps, told USA Today.
While the government has even begun weighing in on MA regulations, the MA turmoil being felt from both the provider—and the payers—isn’t likely to ease up anytime soon.
HCA released a positive Q4 2023 earnings report while simultaneously announcing a new CFO.
HCA Healthcare recorded revenues of $17.303 billion for the fourth quarter of 2023, a 11.6% increase compared to the same period in 2022.
Along with an increase in revenue, HCA also announced Mike Marks as it’s new CFO. Let’s get into the numbers, the new CFO, and what it all means.
HCA By The Numbers
According to its earnings report, the net income attributable to HCA Healthcare totaled $1.607 billion, or $5.93 per diluted share, compared to $2.081 billion, or $7.28 per diluted share, in the fourth quarter of 2022.
Adjusted EBITDA for the fourth quarter amounted to $3.618 billion, an increase of 13.7% year-over-year. Same facility admissions increased 3.1% and same facility equivalent admissions increased 3.9% in the fourth quarter of 2023 compared to the previous year.
How did HCA come out on top?
There are a few key items that played into the overall positive results:
Strong financial performance: HCA Healthcare reported solid financial performance in the fourth quarter of 2023, driven by strong demand for services across their portfolio of markets, facilities, and service lines.
Increase in admissions: Same facility admissions and equivalent admissions both saw an increase in the fourth quarter of 2023 compared to the prior year period. This indicates a higher demand for healthcare services, which is a positive trend for CFOs to note.
Revenue growth: HCA Healthcare's revenues for the year totaled $64.968 billion, compared to $60.233 billion for the previous year. Other CFOs can consider implementing strategies to drive revenue growth, such as expanding service lines or entering new markets as HCA has.
HCA's Newest CFO and Growth Plans
In its earnings report, HCA Healthcare also announced the retirement of their CFO, Bill Rutherford, after a 34-year career with the company.
Mike Marks, the current senior vice president of finance, will succeed Rutherford as the new CFO on May 1.
This is just one of the many CFO changes that HCA saw in 2023 across all of its subsidiaries. With all of these changes in financial management also comes HCA’s prediction that it will have substantial growth in 2024.
HCA placed its 2024 net income guidance between $5.2 billion and $5.6 billion, primarily due to its plans for expansion.
In November, the hospital operator laid out its expansion plans in its first investor day in 20 years, reflective of the organization's aim to go from "strength to strength," CEO Sam Hazen said at the time.
Those plans include investing billions of dollars to expand its service lines, increasing its market share in healthcare services from 27% to 29% by 2030, and targeting adjusted EBITDA growth of between 4% and 6% over the next five years.
HCA has $5.3 billion allocated for projects across the next two years, with about half ($2.7 billion) going to expansion and renovation, while $2 billion is earmarked for a roughly even spend on new inpatient and outpatient facilities, chief operating officer Jon Foster said.
Where the operator is focusing its growth efforts is in existing markets, such as Austin, Denver, and Nashville, where it is headquarter.
The volume of healthcare bankruptcy cases in 2023 was more than three times the level seen in 2021.
In 2023 there were 79 bankruptcy filings in the healthcare industry, the highest in the past five years—a significant increase compared to the 51 cases reported in 2019, according to the newest report from Gibbins Advisors.
The volume of cases in 2023 was more than three times the level seen in 2021 and 1.7 times the level in 2022. Even more, large healthcare bankruptcy filings with liabilities over $100 million surged in 2023, reaching 28 filings, compared to only 7 in 2022 and 8 in 2021.
The rise in healthcare bankruptcies in 2023 primarily impacted the senior care and pharmaceutical subsectors, so should CFOs of hospital and health systems care?
Yes. CFOs should still care.
Hospital and health system CFOs should still take note as challenges lie ahead. Capital market constraints, labor and supply cost pressures, and revenue strain all contributed to the bankruptcies seen in 2023, and all three of those challenges weigh heavy on hospital and health system CFOs too.
In fact, hospital bankruptcy filings also saw a significant increase in 2023, with 12 filings compared to a total of 11 filings from the previous three years combined.
Though there may be some optimism for providers with expected rate and volume increases in 2024, costs will likely remain a challenge. And as we know, smaller organizations with revenue under $500 million may face greater difficulties than larger health systems.
So, what was behind the three factors that contributed to financial distress in healthcare organizations?
Capital market constraints: Despite an expected softening of interest rates in 2024, healthcare providers continue to face challenges in refinancing, accessing capital, and transactions due to relatively high rates, the report said. Additionally, new FTC and state anti-trust protections may limit strategic options.
Labor and supply costs: Over the past two years, healthcare organizations have experienced significant cost increases, creating a margin squeeze. While agency labor is stabilizing in some markets, workforce challenges persist, and potential federal mandates for minimum staffing ratios could exacerbate the situation.
Revenue pressure: Payment rate increases often do not keep up with cost inflation. Payers are also playing a role in revenue pressure, the report says, especially since there has been a considerable increase in denials from payers, particularly from Medicare Advantage plans.
What does the future hold?
Looking ahead to 2024, Gibbins Advisors predicts that senior care bankruptcies may return, despite the absence of filings in Q4 2023.
The firm also expects continued levels of healthcare bankruptcies similar to those seen in 2023.
Restructuring activity in the hospital sector is anticipated to remain high, particularly for rural and standalone hospitals dealing with profitability, liquidity, and leverage challenges.
CFOs know they need to be ten steps ahead, so even though there's a delay in CA's mandated wage increase, now is not the time to ease up on strategy.
Eyes were wide when California Governor Gavin Newsom signed a law that would gradually raise healthcare workers' hourly minimum wage to $25, a bill that had an estimated price tag of $4 billion for the 2024-25 fiscal year.
Because of California’s $38 billion projected budget deficit, Newsom said he is seeking changes to the law. According to reports, the first pay increases were expected to take effect in June, and it’s still unclear how long the proposed changes could push back that schedule.
In Newsom’s announcement he says he wants the wage increases to take place when the state’s fiscal outlook is healthy.
What does this mean for CA CFOs?
CFOs know they need to be ten steps ahead, so while there is a delay in the bill, the need to budget and strategize for these added costs shouldn’t be suspended.
In fact, that estimated $4 billion price tag is just at the state level and doesn't necessarily include the costs for private organizations or those in the non-profit healthcare world.
Luckily, even before this delay, health systems that have focused on sustaining high credit ratings may have found themselves with a slightly longer lead time to adapt to these higher, unfunded costs—and they need to continue to do so.
“For the last 20 or 30 years, healthcare systems have been building up these balance sheets, and the beauty of that is that it gives those organizations a little bit more time to find that point of stability,” Brett Tande, CFO of California-based Scripps Health, previously told HealthLeaders. “But not every organization is similarly situated, and all will have to weather these higher costs at some point.”
While California hospital and health systems were gifted more time to budget, they will still need to respond and maintain, especially as these costs will still be coming down the pike at some point.
“For an organization of Scripps’ size, the cost of the minimum wage bill is measured in the tens of millions of dollars per year. This will definitely have an impact on labor expenses, no matter how much you strategize,” Tande said.
What about CFOs in other states?
Healthcare workforce unrest across the US has been building since the pandemic and it doesn't appear to be calming down anytime soon. And a major point of contention? Wages.
This goes to say that no CFO is off the hook, regardless of a state mandated increase. Budgeting for higher labor expenses should be a continued top priority for CFOs in all states.
Pulling uncomfortable levers is a must for providers when negotiating with payers. But how do providers fare after pulling the plug on a payer?
Amid a heated payer/provider landscape, some CFOs are feeling like they have no option but to terminate a payer’s contract. What we hear even less about though, is how the organizations fare after contract termination.
Is contract termination a financial loss for a provider? Is it a win? Or is it somewhere in between? Two leaders recently shared their experience with the aftermath of termination.
First, understand your leverage.
CFOs have more leverage in talks with payers than they think, but it requires willingness and preparation to pull levers that may be uncomfortable yet necessary for financial survival.
Dropping a payer is “absolutely an important strategy,” Britt Berrett, managing director and teaching professor at Brigham Young University and former CEO with HCA, Texas Health Resources, and SHARP Healthcare, says.
“Providers are becoming more capable in measuring the impact of the slow or rejected payments, and providers are looking at the actual cost of care by patient. Payers need to be aware of that.”
But what is it like on the other side of a termination?
Hamilton Health Care System, a not-for-profit, fully integrated system of care serving the northwest Georgia region, has been out of network with Medicare Advantage (MA) after terminating its contract with the payer years ago.
“We are not currently in network with any Medicare Advantage plans. We would end up netting less than traditional Medicare because of denials and administrative hassles,” said Julie Soekoro, EVP and CFO at Hamilton Health Care System.
In addition to a lessened administrative burden, being out of network hasn’t affected Hamilton’s bottom line or patient experience.
“Since we are out of network, the MA plan should be paying us as if the patient were a regular Medicare patient, so it has not affected the patients adversely,” Soekoro said.
All the time and money spent on takebacks, pre-authorizations, and denials add up. Coupled with low reimbursement rates, CFOs can find it doesn’t make business sense to continue with a payer.
Another example comes from Berrett and his time at Texas Health Resources.
While Berrett didn’t specify the type of plan, the organization terminated a payer contract because its patients had significantly higher CMI, resulting in losses for their patients.
“The impact [of terminating the contract] was very positive for the hospital. We lost volume but improved margins,” he said. “The payer was able to promote a significantly lower premium for companies because their rates to the providers were so low. When we terminated the agreement, they could no longer sell lower premiums and their market share dwindled. They eventually retreated from the market.”
Having been on the other side of a fruitful termination can provide CFOs with more confidence in future negotiations too.
For example, Hamilton Health Care has spent a lot of time going back and forth on a contract with a national payer that wanted to bring them in network, only for Hamilton to walk away from the negotiation table.
“After spending a great deal of time and effort modeling the contract, we learned the payer will require all diagnostic imaging business to go to a freestanding competitor, while building in very attractive looking rates for imaging,” Soekoro said. “This is misleading in that they never intended to allow their subscribers to come to us for imaging.”
“This was discovered incidentally by our contracting director, rather than fully disclosed by the payer,” she added. “Also, certain provider-favorable terms that we built into the language have mysteriously fallen out of the most recent version of the language.”
As stated, Hamilton walked away from that particular negotiation.
When considering a contract termination, there are two important questions providers need to ask themselves, Berrett says.
“Are we able to collect our negotiated rates, and are the patients covered by this payer more expensive to treat?”
A record number of CFOs were promoted to CEO positions last year at some of America's biggest companies.
There seems to be a growing trend of CFOs moving into CEO or president roles, according to a report by Bloomberg.
As previously highlighted by HealthLeaders, this shift shows the changing nature of the CFO's role in healthcare and the need for finance leaders to possess a deep understanding of what drives growth to succeed in top leadership positions.
Historically, CFOs across all industries have been primarily responsible for number crunching and financial management. However, their responsibilities have expanded to include more operational duties, requiring a broader skill set—especially in healthcare.
This shift has helped a record number of CFOs ascend to CEO positions last year at some of America’s biggest companies, Bloomberg said.
So what are the numbers? Among the firms represented in the S&P 500 and Fortune 500, 8.4% of them promoted a CFO to CEO, according to exclusive data from Crist Kolder Associates cited by Bloomberg. That’s up from 5.8% a decade ago.
“CFOs are taking on a more operational role in those businesses, ingratiating themselves,” Josh Crist, a co-managing partner at Crist Kolder, told the outlet. “The more you can grab as CFO, the more likely you will have chances at the top gig.”
OK, But What About Healthcare?
The same sentiment rings true. From a strictly operational perspective, the pandemic has significantly increased the workload for most healthcare CFOs—but this could have really benefited them for future roles.
This shift includes handling and accounting for rounds of stimulus money, complying with new regulations, and managing skyrocketing accounts for healthcare services.
In fact, HealthLeaders has spoken to multiple CFOs on just that.
"My role as CFO has become much more active as I try to balance the normal work of the monthly financial statement process; the annual budget process; year-end and audit preparation; and cost reports, with managing the additional funding received as a result of COVID—how to effectively and appropriately expend it; and analyzing new services along with market evaluation of pay structures," explained Terry Lutz, CFO at Scheurer Hospital, a 25-bed critical access hospital in Pigeon, Michigan.
On top of COVID, the Great Resignation also played a part in the expansion of the CFO role.
"[The great resignation also] forced me to think about things that are not 100% germane to finance numbers," said Carlos Bohorquez, CFO at El Camino Health. El Camino Health includes two nonprofit hospitals: Mountain View Hospital and Los Gatos Hospital, as well as urgent care, multi-specialty care, and primary care facilities.
Bohorquez said he now needs to have a strong grasp on human resources issues, including recruiting and retention—issues that have also been on the top of finance leaders’ minds in our HealthLeaders Exchange community.
So How Can CFOs Move Forward (And Up)?
CFOs who take on a more operational role within their organizations increase their chances of eventually becoming CEO, Crist said to Bloomberg.
In order to advance to the CEO role, hospital and health system CFOs can take several steps.
CFOs can continue to focus on broadening their skill set to include more operational expertise. This may involve gaining experience in areas such as supply chain management, revenue cycle management, human resources, and overall strategic planning—areas that I have seen most CFOs already prioritize.
On top of this though, building strong relationships and networking within their organization and the healthcare industry can help create opportunities for growth.
But, while the path to CEO is becoming more attainable for CFOs, serving as a COO still remains the clearest route to the top leadership position, Crist Kolder says. In fact, nearly 50% of CEOs who rose from within their organization previously held COO-type roles. This means gaining experience in operational leadership positions can provide valuable insights and experiences that translate well into the CEO role.
Sanford Health System's new CFO will be facing challenges head on by investing in multiple areas of the business.
Low reimbursement, staffing shortages, low patient volumes, regulatory barriers, and COVID-19 disruptions all played a role in the shuttering of 136 rural hospitals between 2010 and 2021, including a record 19 closures in 2020.
Unfortunately, a lot of these challenges have not let up as rural hospitals contend with rising costs for labor, inflationary pressures, and more.
For these reasons and more, Sanford Health System, the largest rural health system in the United States, faces a unique set of financial challenges that make serving the small communities in which they operate more difficult than their larger counterparts.
To hear how Sanford’s new CFO Scott Wooten plans to address these challenges, I chatted with him on the third day in his new role. By placing a focus on its investments and long-term success and stewardship, Wooten is confident in Sanford’s financial future.
Scott Wooten, former CFO at both Baptist Health and AdventHealth, has big plans for financial success in his new role.
Sanford Health, the largest rural health system in the United States, recently tapped Scott Wooten, FACHE, MBA, as its CFO following a comprehensive national search process, but the financial landscape he is stepping into won’t be without its hurdles.
As we know, rural health systems like Sanford face a unique set of financial challenges that make serving the small communities in which they operate more difficult than their larger counterparts.
But, Wooten told me on the third day in his new role, between building relationships with his new team and placing a focus on its investments and long-term success and stewardship, he is confident in Sanford’s financial future.
“Sanford Health is an incredible organization,” Wooten said. “It has a strong team, and my job is to support the team in implementing the current plans that are already in place first and foremost,” he says.
From there, Wooten says he plans to begin to look more long-term and examine how Sanford will grow and invest.
Pictured: Scott Wooten, CFO of Stanford Health. Photo courtesy of Sanford Health.
"For example, right now we're investing huge in automation and AI to streamline how we do our work. We're also making investments in the future models of care," he says. "This includes a very large investment in virtual care to ensure that we can continue to provide access to world class healthcare in rural areas."
On top of this, Sanford is also looking at growing in the ambulatory and outpatient space.
In addition, Sanford will be making investments in growing its workforce—specifically in its graduate medical education (GME) program. “We will be adding 15 new programs to make it a total of 27 GME programs by 2027. Then, we'll have over 300 fellows and residents coming out of those programs,” Wooten says.
What comes hand-in-hand with investments, though, is capital.
Luckily for Sanford, Wooten, a seasoned finance leader with deep experience in the nonprofit healthcare sector, previously served as CFO at Florida-based Baptist Health for eight years. Wooten also held executive finance roles with Alegent Creighton Health in Nebraska, AdventHealth Central Florida, and AdventHealth North Texas.
The financial expertise he gained in those roles will help to foster the financial success of his new organization.
“What I’ve learned is every market is different, and every culture is different, so what we're going to focus on is long-term success and long-term stewardship here at Sanford,” Wooten says. “And to do that, a person needs to focus on what their balance sheet will look like in the future and then strategize on how to get there from a strength perspective.”
“In addition, that long-term stewardship sometimes creates different conversations, and Sanford has tremendous forward-looking structures in place. We're just going to align those a little bit and have some additional conversations about where we want to be in the future, both physically as well as from a balance sheet perspective,” Wooten says.
