Operating margins took a major hit in fiscal 2008, the Modern Healthcare survey shows.
Defined as net operating income divided by net patient revenue, the overall average operating margin at systems in the survey dropped by more than 50% in one years time, from 3.6% in fiscal 2007 to 1.6% the following year. I think thats a real cut, Arrick says. Its this underlying notion that operations are really under pressure.
Not-for-profit Baylor Health Care System, Dallas, typifies many of the trends at work in the survey, including the drop in operating margins. Although the 16-hospital system is several times more profitable than the average, its operating margin dropped by a roughly proportional percentage as the group average, going from 11.25% in fiscal 2007 to 6.9% the following year.
Days cash on hand at Baylor dropped more than 20% from its highest point during fiscal 2008, which is typical of the range noted by Fitch analysts in a Jan. 29 outlook paper on not-for-profit healthcare. Implications vary from institution to institution and partially depend on the original liquidity level: a 30% decline is less of a concern for a hospital that started at 250 days cash on hand, according to the Fitch outlook, than for one that started at 100, all else being equal.
Baylor also took a $125 million loss on its investments, which was about 10% of the systems portfolio. If the market ever comes back, well recover all that, but it makes for some interesting paper losses, says Kitty Mann, vice president of corporate finance at Baylor. Its wreaking havoc on balance sheets.
Despite the shrinking margin and losses in nonoperating revenue, Mann says that Baylors bottom line has larger trends working in its favor because market growth is still driving same-store volume while labor costs tend to be lower in Texas than in places like the Northeast. In some of the markets, back in the Northeast especially, where their labor market is higher than ours and theyre in areas that are not growing, it would be a great cause for concern, Mann says. We still have a pretty attractive payer mix.
For-profit LifePoint Hospitals, Brentwood, Tenn., maintained the highest operating margin of any system on the list, posting a margin of 16.7% in fiscal 2008, down one-half of a percentage point from the year before.
Jeff Sherman, executive vice president and chief financial officer for the 48-hospital system, credits LifePoints business model of acquiring smaller community hospitals that are often sole providers in their communities. Small hospitals
have had to focus on being efficient. We have a long track record of being strong operators of small hospitals, Sherman says.
Judicious use of debt was another key. In contrast to some of the largest for-profit hospital operators, LifePoint eschews borrowing when it can, retaining internal control over free cash that would otherwise go to make interest payments. The company has made a conscious decision to keep a conservative balance sheet and maintain low debt levels in comparison with our peers, he says.
LifePoint announced in February that it purchased 154-bed Rockdale Medical Center, Conyers, Ga., for $80 million. Sherman says that the money for the purchase came from cash reserves.
At the same time, LifePoint invested $160 million in its hospitals in 2008, and executives anticipate a similar level of investment for 2009. Community reported a similar trend, with plans to make about $600 million in capital investments in 2009, compared with $700 million in 2008a difference attributable mainly to the halting of replacement hospital construction for 2009, Smith says.
Lieberman of Wachovia Capital Markets says that investor-owed hospital companies are reporting that their not-for-profit competitors are cutting capital spending by about 25%, presumably because of investment losses.
The cutbacks come on the heels of a long period of good access to cheap capital that fueled competition in capital spending, Lieberman says. If investor-owned companies are able to exceed the capital spending of their not-for-profit competitors, the question is whether they will gain market share, improve quality or both.
Potentially, thats one of the bigger, more impactful stories for the next few years, Lieberman says.