Dive Brief:
- Acute care operating profitability at U.S. not-for-profits hospitals is on track to decline for the third year in a row despite acute care credit strength showing an all-time high, a new Fitch Ratings report finds.
- The discrepancy raises questions about whether acute care in the sector has peaked or just needs to be rethought to be more profitable.
- Credit strength has traditionally been defined by balance sheet metrics such as days' cash on hand and maximum annual debt service. To better depict such strength, Fitch recommends measures like cash to adjusted debt and net adjusted debt to adjusted EBITDA (earnings before interest taxes depreciation and amortization).
Dive Insight:
Several factors are affecting payer mix and driving the slump in acute care profitability, according to the report. One is the large numbers of baby boomers leaving commercial payers for Medicare. In addition, Medicaid expansion has increased demand for clinical services outside the emergency department. And continued increases in patient deductibles are leading to more bad debt.
While large health systems can often trim costs by eliminating waste and negotiating higher rates with private insurance carriers, smaller systems typically don't have those advantages.
"Fitch believes that a healthy unrestricted cash and investment position compared to debt and debt equivalents remains a key credit differentiator for the sector, providing a financial cushion to navigate the evolving delivery system and changing reimbursement models," the report says. "As such, with our updated criteria, Fitch is utilizing two new metrics that are key to our analysis: cash to adjusted debt and net adjusted debt to adjusted EBITDA."
According to Fitch, cash to adjusted debt depicts an organization's "promise to pay," whether that is in long-term debt, long-term lease or pension obligation. Net adjusted debt to adjusted EBITDA can be negative or positive depending on whether unrestricted cash and investments are larger or smaller than debt and debt equivalents.
Either way, Fitch predicts consolidations of nonprofit hospital systems will continue, and possibly accelerate, in the future. With the move to value-based payment models and lower Medicare reimbursements, hospitals are looking for size and scale to boost negotiating power with insurers and increase workflow and supply chain efficiencies. But bigger is not always better, the report warns.
"Size and scale are 'better' for a hospital’s rating if its enhanced size and scale means improved operations, stronger balance sheets and more market essentiality," Kevin Holloran, Fitch Ratings' senior director, said in a statement. "Conversely, a hospital getting bigger just for the sake of getting bigger at time can lead to an initial dip in operating profitability as the two or more organizations come together."
One segment facing particularly rough waters is critical access hospitals, which are vital to many rural communities. Despite higher payment levels (Medicare patients are reimbursed at 101% of reasonable costs), declining admissions and a shift to more care in outpatient services has reduced daily census counts to "largely unsustainable levels," the report says. Fitch gives CAHs a negative outlook, predicting most will either close or convert to freestanding centers focused on triage services.