Nobody seemed surprised when Moody's Investors Service announced earlier this month that it would begin charging annual fees to not-for-profit hospitals to cover the cost of ongoing surveillance of their credit worthiness. In fact, some asked what took the rating agency so long.
Ratings analysts have been under pressure from investors to step up their scrutiny since the healthcare industry meltdown of the late 1990s. They have struggled to keep up as stand-alone hospitals were replaced by complicated integrated delivery systems and as forces such as government cutbacks and managed care destabilized operating margins, causing a record pace of downgrades and outlook revisions.
A decade ago, most hospitals and systems were scrutinized by analysts only once every couple of years. Now, the standard review is annual, with more frequent assessments for volatile credits.
"Healthcare is a high-maintenance security to own because the rules change all the time," said Fred Martucci, a managing director at Fitch Ratings in New York. "You can pick up the paper any day of the week and there's something there about healthcare."
Fitch already has experimented with its fee structure for healthcare credits, as has the other competitor, Standard & Poor's. Eighteen months ago, Fitch quietly began charging annual fees to cover surveillance. And in early 2001, S&P launched a fee-based service called Disclosure Plus for providers that want to give investors quarterly reports (See chart).
The new fees, which apply only to long-term fixed-rate debt, are in addition to transactional fees that rating agencies charge when new debt is issued. Rating agencies cannot pull their ratings if issuers refuse to pay, although there are incentives. For example, Moody's will provide online access to its research only to hospitals and systems that pay the fee.
"It's really a request on our part to recognize the value we offer," said John Nelson, a senior vice president and manager in Moody's public finance group. Nelson, who declined to estimate how much revenue the fee will generate, said healthcare is "by far the most volatile" sector in public finance, which includes municipalities, higher education and housing.
Pamela Federbusch, a senior vice president in Moody's healthcare group, said the firm plans to use the extra revenue to expand its "swamped" stable of 11 healthcare analysts, who track about 60 credits apiece.
Corporate debt issuers have paid annual surveillance fees for years, but it's relatively new in public finance, where clients' pockets tend to be shallower. Previously, surveillance fees have been charged only for variable-rate debt. But with investors demanding higher yields for healthcare debt, providers appear willing to pay for more oversight.
At Fitch, no client has refused to pay the surveillance fee, once the reasons for it have been explained, Martucci said.
"To the extent that more fees will permit the rating agencies to invest more time and energy in coverage of our industry, that should translate into a better interest rate structure and freer access to capital," said Lawrence Majka, executive vice president and chief financial officer of Advocate Health Care, an eight-hospital system based in Oak Brook, Ill. The system has annual revenue of $2.5 billion.
Though S&P has no stated plan to bill for ongoing surveillance, many expect it will. For now, it continues to promote Disclosure Plus. The firm gives investors in Disclosure Plus clients free subscriptions to its industry research, hoping investors will prod more hospitals and systems to enlist.
"For a year now we've been trying to convince everyone of the importance of disclosure," said Sharon Gigante, a director in S&P's healthcare group. "Not everyone sees it yet."