The consensus in the capital community is that a positive economic trend is running through the healthcare industry despite hiccups that have arisen just about everywhere else. And while healthcare may not be insulated from the challenges facing the general economy, it is currently viewed by lenders as a relatively safe, stable and potentially lucrative place for investment dollars.
This attitude provides a stark contrast to the widespread pessimism about the general economy, fueled by concerns about subprime mortgages that have left residential real estate in a shambles. Risky lending practices that led to the current groundswell of foreclosures have sent ripples of worry through Wall Street, lending institutions, big business and consumers.
A recent Duke University survey of more than 800 CFOs generated mostly negative outlooks for corporate earnings, capital spending and hiring. Among the main reasons for the outlook is a weak housing market, said survey director John Graham.
Healthcare is certainly not immune to the economic woes plaguing other sectors and even has its own inherent concerns to deal with, such as fluctuating Medicare reimbursement rates and a variety of federal regulatory mandates. At this point, though, conditions are appealing enough that lenders see healthcare as an attractive investment, says Randy Waring, hospital market leader for GE Commercial Finance in Chicago.
“From the lender’s perspective, hospitals have a favorable level of financial performance – a positive trend that should continue over the next few years,” he said. “They are doing a much better job with cost control, which has been a big emphasis for them. They are also managing their revenue cycles well. There is a lot of positive upside, and in the last few years, we’ve seen a lot of hospitals coming out with smart joint venture strategies with physicians.”
In terms of timing, hospitals couldn’t have picked a more opportune time to seek capital. Many facilities are 40 to 50 years old and in desperate need of renovation or replacement. Moreover, the healthcare industry is mounting a strong financial resurgence after going through a rough patch at the start of the decade.
“There is a huge construction boom going on – the biggest in 40 years,” Waring said. “A lot of hospitals are undergoing new construction or renovation and are spending loads of money on upgrading their IT systems and medical technology. The financial picture has dramatically improved, and they need capital for much-needed investments.”
Various instruments are being used for securing capital, though most involve underwriting from bonds, commercial bank loans, leveraged finance deals and real estate investment trusts, sources said.
“However they can get their deals done,” said Neil Salzgeber, director of the healthcare evaluation group for Cushman & Wakefield in Tampa, Fla.
There is a distinction between how not-for-profits and for-profits approach capital. Not-for-profits still rely mainly on bond issues, while for-profits have established relationships with lending institutions. Still, Salzgeber says, more not-for-profits are finding ways to work with commercial lenders.
Deals worth $100 million or less tend to be private placements because of “a lot of investor appetite for private, tax-exempt bonds where the borrower can get competitive financing and a little more flexibility on pre-payment terms than through a public offering,” Waring said.
The top of the market – say, in the $500 million range – will still involve public bond issues, he said, “but deals in the $50 million range will be structured as a private deal because it’s simpler, faster and offers more flexibility.”
Patrick Coffey, director of Chevy Chase, Md.-based CapitalSource’s healthcare credit group, describes the hospital market as “frothy” for investors, perhaps a spillover from the hot long-term care environment.
“We’re seeing equity players getting into acute care just within the past 12 months,” he said. “It could be carryover from skilled nursing, where there has been an absolute explosion of traditional real estate players getting into the market. We’re seeing some of that in acute care, though it is much more difficult to unlock the real estate value. But there are private equity players backing physician groups who are peeling off properties from HCA and Tenet.”
Indeed, the evolution of traditional hospitals into sophisticated new specialty care and outpatient surgery centers has drawn a great deal of investor interest, Salzgeber said.
“They have generated a lot of enthusiasm. REITs have been very active in new surgery centers and outpatient malls,” he said. “The cap rates seem to mimic medical office cap rates, and there is a lot of competition to underwrite those. Physician groups are seen as a good investment, and there has been a lot of commercial bank interest in financing them.”
Some investors are widening their involvement in healthcare entities beyond capital financing. G.E., for instance, has set up shop in the property management business, Waring said.
“G.E. is making equity investments in medical properties, offering 100 percent financing for the project and leasing it to a third-party operator so the hospital doesn’t have to worry about being a landlord,” he said.