An hfm Web Extra
James W. Blake
Eric A. Jordahl
Andrew J. Majka
In an attempt to prevent a recurrence of the worldwide financial crisis of 2007-2009, global and U.S. bodies have been developing laws and regulations promulgated in 2010 that warrant healthcare finance leaders' attention.
Basel III. A comprehensive set of reform measures developed by the Basel Committee for Banking Supervision (an international group with representatives from 25+ nations, including the U.S.), Basel III could affect the availability, cost, or terms of bank facilities for borrowers. Basel III rules, among other things, require banks to hold larger capital reserves to guard against losses and to keep higher-quality funding that is unlikely to evaporate in a crisis.a In other words, banks must keep more cash on hand to finance their daily operations and lending. According to one analysis, the potential impacts to healthcare borrowers include, among other impacts, decreased availability of bank credit facilities; increased cost of bank credit facilities and a steeper credit curve; and curtailment of credit extension or the exit of some banks from the U.S. municipal credit "backstop" market.b
Moody's Investors Service (Moody's) has also indicated that Basel III requirements are likely to increase the cost of capital for banks and facility fees for borrowers.c Certainly, credit agencies will place additional emphasis on assessing the impact of bank renewal risk for municipal borrowers, including hospitals. Moody's indicates that a borrower's debt structure and bank liquidity agreements will add to renewal risks if there is lack of diversification of bank exposure, concentration of expiration dates of bank agreements, unfavorable bank agreement terms, immediate repayment terms, operating pressures, a large swap program with cash collateral requirements, and variability of investment returns and potential investment losses.d
FASB and IASB Updates. The U.S. Financial Accounting Standards Board (FASB) and the International Accounting Standards Board (IASB) released proposals to change the accounting for operating leases. The new accounting treatment will bring all operating leases "on balance sheet" as a long-term liability, possibly effective as early as June 2011.
Hospitals and health systems use operating leases for many purposes, including medical office buildings, office space, and technology. Leasing now exceeds traditional debt as a financing instrument at many organizations. Increased lease use has been driven by the desire to proceed with projects, despite limited capital and credit capacity, and to new lease obligations incurred through physician acquisitions and partnership strategies.
Leasing obligations will likely have a major impact on an organization's capital and credit positions. Bringing such obligations on balance sheet for accounting purposes will increase the debt reported by a hospital, which may weaken leverage ratios and trigger failure of certain debt covenant tests. Rating agencies have had somewhat varied approaches to leases over the years, but the expectation is that they will become more rigorous about taking leases into consideration.
Dodd-Frank Wall Street Reform and Consumer Protection Act. Instigated by the financial/economic crisis of the late 2000s and signed into law in July 2010, the Dodd-Frank Wall Street Reform and Consumer Protection Act aims, among other purposes, "to promote the financial stability of the U.S. by improving accountability and transparency in the financial system, to end 'too big to fail,' to protect the American taxpayer by ending bailouts, and to protect consumers from abusive financial services practices."e The act has 16 titles that cover a wide variety of items.
Of interest to healthcare borrowers is the new Securities Exchange Commission (SEC) requirement. Municipal securities issuers must provide more information to regulators so that investors in municipal securities have the same access to information as investors in public companies. The objective is to increase transparency. For example, effective Dec. 1, 2010, issuers of variable-rate demand notes/obligations in denominations of $100,000 or more are no longer exempt from continuing disclosure requirements. The Municipal Securities Rulemaking Board (MSRB) is the body assigned to oversee certain details related to tax-exempt debt.
At the time of this writing, of particular concern are rules proposed by the SEC that include a very broad definition of the "municipal advisors" who must register with the SEC. According to a thorough review by one law firm, the scope of who would be covered potentially includes more categories of people than one would expect to be covered by the registration requirement.f The firm indicates that the registration requirement may cover appointed members of a governing body of a municipal entity who are not elected ex officio members and key employees of Obligated Persons (such as officers of the organization). If this turns out to be the case in the final rules, not-for-profit hospitals could have a much more difficult time attracting and retaining board members and key employees who may not wish to disclose the personal information required as part of SEC registration or be subject to certain legal responsibilities.
Healthcare Reform. Enactment of the Affordable Care Act in March of 2010 and regulations forthcoming from the Centers for Medicare & Medicaid Services will accelerate the market-driven new business model, as described in the professional literature.g Thorough documentation of the likely effects of the act is beyond the scope of this article, but in brief, it can be said that many hospitals and health systems will require transformational change to achieve financial success under a value-based (rather than activity-based) payment system.
The new model has as its core principle "doing more with less," so hospitals must determine how to live and succeed within such an environment on a permanent basis. The action items related to improving an organization's financial position described next represent a very good place to start implementing the new operating lifestyle.
James W. Blake is managing director, Kaufman, Hall & Associates, Inc., Skokie, Ill. (firstname.lastname@example.org).
Eric A. Jordahl is managing director, Kaufman, Hall & Associates, Inc., Skokie, Ill. (email@example.com).
Andrew J. Majka is managing director and COO, Kaufman, Hall & Associates, Inc., Skokie, Ill., and a member of HFMA's First Illinois Chapter (firstname.lastname@example.org).
a. Enrich, D." "Banks Need More Cash to Meet Basel Requirements." The Wall Street Journal, Dec. 17, 2010.
b. JPMorgan Chase & Co.: "Basel III Overview and Implications." November 2010.
c. Moody's Investors Service: "Weekly Credit Outlook, Banks Will Need Significant Capital to Meet New Basel III Requirements: A Credit Positive." Sept. 20, 2010.
d. Moody's Investors Service: "U.S. Public Finance Borrowers Face Increasing Renewal Risk of Bank Facilities." Special Comment, Sept. 28, 2010.
e. The Dodd-Frank bill can be found at www.opencongress.org/bill/111-s3217/show.
f. Vinson & Elkins: SEC Proposes Broad-Reaching Registration Requirement for Municipal Advisors, Jan. 7, 2011. www.velaw.com/uploadedFiles/VEsite/Resources/SECProposesBroad-ReachingRegistrationRequirement.pdf.
g. Kaufman, K.., "A New Business Model for Hospitals," Trustee magazine, May 2010. Available at www.kaufmanhall.com.
For more information, see James W. Blake, Eric A. Jordahl and Andrew J. Majka's "8 Strategies for Hospital Borrowers in 2011," hfm, April 2011
Publication Date: Friday, April 01, 2011