The outlook on health care providers is likely to stabilize through the rest of the year, reversing the downward trend in 2009, according to Standard & Poor’s.
In a new report, S&P reviewed 500 of its health care ratings and affirmed 422 (85%) with no rating change.
Despite the effects of the recession and the badly damaged investment portfolios of many hospitals and health care systems, S&P made relatively few rating changes compared to those it left in place. For the credits that had a rating change, the ratio of positive outlooks to negative improved as the year progressed, contrary to expectations.
Effective cost management
Battered by rising charity care, bad debts and an expected decrease in Medicaid funding, hospitals would be expected to face a bleak future. But a key strength of this sector, S&P indicated, is the ability of health care management teams to improve operations through expense management, elimination of unprofitable services, curtailed capital expenditures and a return to more conservative debt and investment policies.
Larger, higher rated health care credits are expected to lead upside rating actions since such institutions are more dominant in their service areas, have greater liquidity to cushion effects of the economic downturn and generally have stronger management than smaller facilities.
So far this year, S&P is, “…encouraged to find that many providers’ financial results and balance sheets have rebounded, even exceeding prior peaks in a few cases or holding steady in some cases.” The improvement appears related most closely to actions taken by individual institutions, not the broader health care environment. On a more somber note, however, S&P indicated that the sector overall faces pressures from continued cost escalation, more uninsured patients and weakening reimbursement prospects. Additional pressures include pension funding, capital needs and declining state support for indigent care.
Proven investments
Health care credits have proven to be solid investments, but going forward, a disciplined approach must be adopted. Qualities investors need to evaluate include essentiality, strong market share, management stability, low to moderate leverage and a history of balanced financial operations.
Generally, hospitals that are recognized as the market leaders, are likely to attract the most community support and be seen as essential. A strong management team will work to build that support, place a strong emphasis on patient care and make strategic decisions to strengthen services that are profitable. A well-run institution has an easier time attracting physicians and their patients while keeping employee turnover low.
As expected, successful health care providers are often found in suburban settings where the major payors are commercial insurance carriers, and there is less reliance on federal Medicaid and Medicare. Health care institutions that are likely to continue to struggle will lack these qualities and tend to be reliant on governmental subsidies for the large charity and bad debt case loads they are forced to carry.
Other providers of health care, such as senior living and long-term care facilities, face different challenges. The weak housing market of recent years has limited the ability of seniors to sell their existing homes and move to senior residential communities.
Many long-term care facilities rely heavily on Medicaid, a program likely to see cuts at the state level. Discerning investors will need to use similar criteria as detailed above to identify better credits for investment.
Overall, it is clear that health care is a growing need whose financing will have to be addressed. Whether current attempts to “fix” health care at the national level will be successful is still undetermined. But, the essentiality of both acute care and highly specialized medical centers will not diminish, and their continued need for capital will provide excellent opportunities for the educated investor.