The Healthcare Breakdown No. 015 - Breaking down health systems' insatiable thirst for bonds

Brought to you by the letter "B"

What we’re breaking down: Hospital revenue bonds

What you’ll learn: More than you probably wanted

Why it matters: Health systems are financial institutions because they have to be, this is a big part of that

Read time: The length of the amount of naps you’ll need to get through this (6 minutes for real though)

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BUT FIRST! AN ANNOUCEMENT!

Healthcare Breakdown - The Finance Course! is live!

Wow, that’s a lot of exclamation marks.

Don’t worry, I won’t do one of those long soul crushing sales emails.

It would mean the world to me if you checked it out. I think it’s awesome and I hope you do to.

Check it out here: https://prestonalexander.gumroad.com/l/hcbthefinancecourse

Back to the action! Cause if bonds aren’t action packed, nothing is. Minus every Arnold Schwarzenegger movie. Including Junior, the most outrageous movie ever.

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Here’s the skinny. Hospitals, health systems, love to issue bonds. It’s probably their second favorite thing after charging you for parking.

Most larger health systems carry billions (that was a “b” back there) in bond liabilities.

Here are some:

That’s like $26B from 5 health systems.

But what are bonds? Why do health systems raise them? Why does any of this matter?

So glad you asked. And frankly you probably wouldn’t be here if you didn’t.

Here’s the breakdown:

Bonds – a super brief primer

Bonds are debt that a company issues. Non-profits use bonds because they can’t issue stock. It’s how they raise money from investors.

Health systems issue Hospital Revenue Bonds, which are a type of municipal bond. Municipal bonds are tax free. That means that bond holders, the people buying the bonds, are not taxed on the income they earn from the bond.

Real quick side bar, just because you read the part too fast. The bonds that health systems issue are more often than not tax free for investors.

Ok, back to it.

The bond issuer (the company), pays interest to the bond holder. Just like any other debt.

That’s the long and the short of it. No time for how bonds work after market… call your local investment banker for that one. Plus, I’m not over here tryna give investment advice. My cousin Rick is still pissed about the tip I gave him in 2008…

Health systems’ love affair with bonds

Ok, maybe not a love affair, more like an arranged marriage.

Why arranged? Well, frankly, what choice is there?

Say a hospital wants to build a stunning 16 story surgical tower so it can attract all those saucy commercially insured patients for some highly profitable cardiac surgeries.

Well, unless Daddy Warbucks was delivered at your hospital, chances are you ain’t got the $600M to build the thing.

Actually, you might, but why would you invest that capital in a building which will take years to generate returns, when that $600M will bring in more money if it’s invested in all this kind of fun stuff:

Two things are at play here. The first is that maybe a health system doesn’t have the money. The second, is that money is probably best socked elsewhere.

Is that right? I’m not here to judge.

Ok fine, I judge a lot. But in all honesty, I see this as a macro issue. More on that in a mo.

The other reason that money is best invested somewhere else, is because the health system can cover the costs of interest on the bond from operations. It becomes an expense.

If revenue can cover Opex (cool guy talk for operating expense), including interest payments on debt and there’s money left to be invested at a higher return, then that’s what a company should do.

And does do. Can you blame em?

You could, you for sure could, but like, it’s a good financial decision.

Unfortunately, it turns health systems into financial institutions. Which brings us to our next section.

Who the hootenanny cares?

We all should care. Here’s why.

First, here’s why health systems with outstanding bonds or intentions to raise future bonds need to operate like financial institutions.

All organizations that issue bonds are given a rating. The rating indicates how likely they are to pay what is owed on the bond.

You’ve probably heard of Fitch and Moody’s. Those are the rating folk.

Here is Moody’s rating criteria for hospital revenue bonds:

See anything about patient safety? Patient outcomes? Quality of care? Patient satisfaction?

No.

And why would you? We are talking about finances, investments, and money over here people!

Not that one doesn’t drive the other in my opinion, but no one asked me.

So now we have this wonderful cycle we’ve created.

Hospitals want to expand, buy stuff, build stuff. To do that they issue bonds. To issue bonds, they need a high rating. To get a high rating they need to do well on the rating criteria.

Naturally the focus then goes to finances. Often at the expense of what’s really important.

But I really don’t see this as a health system problem. I see it as a macro problem.

The macro issue

Individual motivation, compensation, board seats on your buddy’s company aside, what are we asking when a hospital needs to expand service lines and grow?

We talk about public and community need, but then shift all the responsibility to a private entity to serve those needs with little to no oversight. Along with all the responsibility to operate in a highly complex, financially challenging industry to that entity.

There is little to no planning at county, state, or federal levels.

Imagine a world where we had all the healthcare services we needed, which were appropriately matched to the needs of the communities being served.

If that were happening, a hospital wouldn’t need to issue $139M bond to be used for who knows what, fighting for patients in the name of growth, profitability, and pleasing investors.

Oh wait, I know what that money is going to be used for…

Remember, market position is the highest weighted category for a high bond rating.

I know. I know. You didn’t sign up for my musings on idealistic states of healthcare. And I certainly don’t have all the answers.

My point is, when you place to entire onus on private organizations to grow, serve, flourish, whatever, they are going to use the means they have. Those means are debt, investments, and operating with financial interests first.

One more rub

Taxes.

Health systems shirk billions in tax dollars every year. There’s that “b” again.

Now we have investors getting returns from health systems also tax free. And do you think those returns go back into the local communities already suffering from a lack of tax revenue and a lack of appropriate community care to justify the tax exemptions?

Nuh-uh-uh (as my teenage 5 year old would say).

Check out this gem:

For the mathletes, that’s $1.2B raised. Tax, not included.

All to do this:

“As a not-for-profit health system, our passion for people extends beyond our system and into the communities we serve. Each year, we reinvest in you.”

And this:

“To enhance the health and wellbeing of every person we serve.”

Well, I guess if they just stop serving a community, there’s no misalignment.

There you have it. No longer do you have to avoid that cousin who’s a bond trader at J.P. Morgan. I mean, you probably should for other reasons, but not about the bonds anymore. This isn’t just for Scotch swilling, financial times reading, insiders.

At the end of the day, health systems use debt to grow. They can afford it and prefer higher returns with existing capital while debt builds future profit earning assets.

The problem is it turns health systems into financial systems.

Ok, cool. Happy 4th of July!

America!

Bonds. Not just for Dog the bounty hunter. For a hospital near you too.