Hospitals handling growing debt loads—for now

Hospital borrowing has the debt markets booming.

Whether that's the case a year from now is anyone's guess. Although efforts to replace elements of the Affordable Care Act will likely come to a head this week, 2018 won't be without its share of uncertainty. The midterm elections will be looming, and healthcare won't go away as a political hot potato. Importantly for providers, they're sure to be studying the impact any new healthcare law will have on access to care, including the prospects that millions of people will lose coverage and the consequent harm that would do to patient volumes.

"That's the great unknown," said Mark Claster, partner at Carl Marks Advisors and board chairman of Northwell Health, the large not-for-profit system in New York City.

Storm clouds notwithstanding, hospital companies are borrowing as if they'll be able to handle whatever's ahead.

Some of the dollar amounts are eye-popping.

Nashville-based HCA is preparing to sell $1.5 billion of senior secured notes with an interest rate of 5.5% that will be used to retire higher-cost debt and pay for the $725 million announced acquisition of three hospitals in Houston from rival Tenet Healthcare Corp.

Community Health Systems in March raised $2.2 billion through the sale of senior secured notes and another $900 million in May. The Franklin, Tenn.-based hospital giant, which is selling hospitals to try to reduce $15 billion in total debt, used much of the proceeds to retire debt maturing in 2018 by pushing its new borrowings further into the future.

Dallas-based Tenet announced a $3.5 billion private placement of secured and unsecured notes to refinance higher-interest borrowings with notes mostly at 5% or below.

And not-for-profit Kaiser Permanente set a system record in May by raising $4.4 billion through a series of three bond offerings that will be used to finance growth at the nation's largest integrated health system.

Except for Kaiser, which enjoys a stellar A+ bond rating, the three investor-owned hospital companies have debt rated as high-yield, or "junk" in the investor vernacular, by Fitch Ratings, Moody's Investors Service and S&P Global Ratings.

Though leverage has risen at four of the six investor-owned systems Fitch studied in the latest edition of The Checkup: High-Yield Healthcare Handbook, the agency is not overly concerned by their positions—so long as they continue to execute on the strategies they've identified, said Britton Costa, director in Fitch's corporates group. "It's case-by-case," Costa said.

For example, struggling CHS is selling 30 hospitals with lower operating margins to reduce its debt. The new borrowings were a plus, Costa said, because they repaid debt that was maturing over the next year or two while CHS tries to get healthier.

The company posted a net loss in 2016 of $1.7 billion on revenue of $18.4 billion.

Tenet, too, is selling hospitals to focus on building out markets where it is either first or second in market share.

Tenet's agreement last month to sell its three Houston hospitals to HCA is a prime example, said Brian Tanquilut, senior healthcare analyst in Nashville for Jefferies & Co.

Using the sale proceeds to increase its stake in ambulatory surgery center chain United Surgical Partners International is a good use of the money, Tanquilut said. On the flip side, HCA tucks in three more hospitals in Houston to boost its number to a market-leading total of 13.

HCA​ isn't​ breaking​ a​ sweat to raise the money for the acquisition and other debt refinancing through its $1.5 billion bond offering.

The company is refinancing maturing debt at more favorable rates without pushing the ratio of debt-to-earnings before interest, taxes, depreciation and amortization much above the 3.8 times with which it finished the first quarter, said HCA Chief Financial Officer Bill Rutherford.

HCA tries to keep that ratio between 3.5 and 4.5 times to use the abundant cash it generates for growth and investor-friendly stock buybacks rather than debt service, he added.

"We're pleased that our debt will continue to remain well within that range upon completion of the bond transaction," Rutherford said.

For four of the six largest investor-owned hospital chains, leverage ratios have increased over the past six months, Jefferies noted in an analysis, with LifePoint Health's remaining the same.

The combined leverage increase is partially a function of the companies issuing debt and, in some cases, suffering a decline in EBITDA, the data show.

For example, CHS' leverage ratio jumped to 7.7 times EBITDA this year from 6.3 in the second half of 2016. Tenet's increased to 6.9 times from 5.6. and HCA's rose a tick to 3.8 from 3.. Universal Health Services, which traditionally has had one of the lowest leverage ratios in the industry, rose to 2.1 from 2, the Jefferies analysis shows.

Only Quorum Health, which is selling noncore hospitals after its spin-off a year ago from CHS, showed a lower leverage ratio. It dipped from 6.9 to 6.2.

Hospital companies are being coaxed to borrow by low interest rates and opportunities to snap up strategic acquisitions, said Anu Singh, managing director at healthcare financial advisory firm Kaufman Hall.

Most of the 30 hospitals that CHS is divesting are being bought by regional not-for-profit hospital systems that believe they can improve operations by adding capital, physicians and other resources to the acquired hospitals, Singh said.

Not-for-profit systems are going to the bond markets with equal enthusiasm. Even riskier issues that are barely investment grade, such as the nearly $1 billion issue completed last month by Cleveland-based MetroHealth System, are pulling low interest rates of 5% or less.

Total hospital issuance of tax-exempt, fixed-rate revenue bonds, for example, has reached a pre-recession high of $27.7 billion in the 12 months ended May 31, according to a recent analysis by HFA Partners.

That compares with a strong $21.1 billion in the previous 12 months and $20.5 billion in the period before that. By contrast, hospital issues totaled only $9.4 billion for the 12 months ended June 30, 2014.

The big wild card in the borrowing bonanza is the ACA replacement bill, Costa said.

If the House-passed American Health Care Act becomes law with Medicaid cuts and smaller subsidies to insure low-income consumers, it could result in 13 million to 23 million fewer Americans with health insurance, depending on which budget analysis is used.

Eventually, that would result in declining hospital volumes and a spike in uncompensated care that would not only hurt systems' ability to borrow but also their ability to service debt.

"Capital markets could become more choppy," Costa said.

Claster at Carl Marks Advisors said that while the bond markets are still robust, some banks that loan money to hospitals and health providers are preparing to tighten lending in the face of such uncertainty.

"There's a bit of skittishness right now," Claster said.