When investors purchased St. Louis-based SSM Health Care's new fixed-rate tax-exempt bonds last month, they need not have worried about losing the principal or interest due them. The entire $303 million issue was backed by MBIA Insurance Corp., an Armonk, N.Y.-based bond insurer.
SSM, which has underlying ratings of AA from Fitch IBCA and Standard & Poor's, is one of a growing number of highly rated healthcare systems opting to buy insurance instead of issuing bonds on their own credit.
In the past couple of years, bond insurers have been reaching out to AA-rated systems to increase the credit quality of the insurers' own portfolios, says Thomas Whalen, a vice president in the public finance department of Smith Barney, lead manager of SSM's bond deal.
In the first quarter of 1998, 68% of all new tax-exempt healthcare bonds carried insurance, according to figures compiled by MBIA. That's an 11 percentage-point gain from 1996.
MBIA insured $8.2 billion in healthcare bonds last year -- including issues from seven AA-rated systems.
Why are more systems opting to insure their bonds? One reason is pricing. Although executives at MBIA and New York-based AMBAC, two of the healthcare industry's top insurers, declined to discuss pricing, financial analysts and advisers say the major bond insurers have significantly lowered their prices. As a result, some systems are buying insurance if they can keep the cost below what it would cost them to issue the bonds on their own credit. It's one of the main factors driving the bond insurance market, finance experts say.
Catholic Health East, a Radnor, Pa.-based system that issued more than
$1 billion of debt earlier this year, saved about 5 basis points -- or $5 million -- by insuring the bulk of its debt through MBIA and AMBAC, says Edward Malmstrom, managing director and manager of Merrill Lynch's healthcare group.
The typical bond insurance premium is a percentage of the total principal and interest payments due, and that premium is collected upfront. A decade ago, insurers were charging 80 to 110 basis points -- or $400,000 to $550,000 on a deal costing $50 million -- in total debt service over the life of the bonds, financial analysts and advisers say. A few years ago, the price dropped to 65 to 85 basis points. More recently, insurers' premiums dipped to a range of 45 to 75 basis points. Riskier credits, though, are likely to pay more.
In part, insurers' premiums reflect the amount of money they have to allocate to insure against the risk of default. That's called the capital charge. The premium also covers fixed costs and builds in the bond insurer's profit.
In recent years, insurers have introduced new pricing structures that have enticed higher-rated credits. AMBAC, for example, assesses a lower capital charge for a AA credit than it does for a lesser-rated system. That lowers the premium it needs to charge.
The use of capital charges that vary by rating category "probably has had the most direct impact on pricing," says Ruben Selles, a managing director at AMBAC, which insured $3.2 billion on healthcare bonds in 1997.
SSM decided to purchase insurance because it made the system's $303 million of fixed-rate bonds more marketable, particularly among institutional investors who only buy AAA-rated paper, says Elizabeth Alhand, the system's senior vice president of finance. SSM also chose to insure an upcoming $170 million variable-rate issue rather than put its own credit at risk.
Although SSM didn't save money by insuring the debt, the cost was "economically neutral," Alhand says. "MBIA made it so that the differential between what a double-A would trade at vs. what a triple-A would trade at was cost effective for us to purchase insurance."
Insurers say the trend toward insuring more bond issues is partly a move by healthcare systems to guard against uncertainty in the market. A credit may be rated A+ or A1 today "but maybe not 20 years from now," says Emmeline Rocha-Sinha, MBIA's senior managing director of enterprise finance. With the backing of a bond insurer, "any credit swings don't necessarily have to be explained to the investor community," she says.
Rocha-Sinha also believes the move by a number of AA-rated systems to new "corporate debenture-style" legal documents is fueling the bond insurance market.
SSM, which operates 15 acute-care hospitals in four states, is one of those systems. With its recent bond offering, the system amended its master trust indenture, adopting a new set of legal documents that makes the corporate parent solely responsible for principal and interest payments. Previously, many of the parent's affiliates also were obligated to repay bondholders.
Alhand said the new structure did not prompt the system to buy insurance.
Because the structure is new in the not-for-profit healthcare arena, it is still somewhat controversial. But the guarantee of a bond insurer automatically sweetens the deal for worried bond buyers.
"To the extent that most of the debt of CHE was insured by MBIA or AMBAC, that in many respects shifts the acceptance of the corporate-control debenture model from bondholders to insurers," Malmstrom says.