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Not-for-profit hospital 2008 medians show weakening across the board

By Richard Pizzi

Not-for-profit hospital medians for fiscal year 2008 show a weakening of credit measures across all major ratios and all broad rating categories, says Moody's Investors Service in a new report.

The New York-based rating agency's outlook for the sector was changed to negative from stable in November.

"The negative outlook reflects tightened credit markets, broad-based weakening in hospital operating performance, a decline in liquidity, softer volumes, and a worsening payer mix," said Moody's Vice President and senior analyst Brad Spielman, author of the report. "As was anticipated, fiscal year 2008 medians illustrate these trends, particularly with respect to the weakening of profitability and balance sheet strength."

Moody's reports that, while measures of operating performance have been declining since FY 2005, balance sheet measures had strengthened through FY 2007. The FY 2008 medians, however, show weakening of both operating performance and balance sheet measures, with the median for every major ratio declining from the prior year.

"Medians for days cash on hand, cash-to-debt, and Moody's-adjusted debt to cash flow have weakened, as have the medians for operating margin, operating cash flow margin, and Moody's-adjusted maximum annual debt service coverage," said Spielman. "This combination of weakening balance sheets and the continuing decline of operating performance challenges the general credit profile of the sector."

Median operating performance and liquidity have weakened in every rating category, says the Moody's report. For example, the median operating cash flow margin for Aa-rated credits declined to 9.8 percent in FY 2008 from 10.5 percent in FY 2007, A-rated credits declined to 9.1 percent from 9.7 percent and Baa-rated credits declined to 7.5 percent from 7.8 percent.

"While downturns in the past have sometimes by-passed stronger organizations while affecting the weaker rating categories more significantly, the current situation is having a material effect on credits across the rating spectrum," said Spielman. "The weakening of balance sheets was one of the most significant credit developments in 2008."

Spielman said that, while investment losses were most pronounced in the fourth quarter of calendar year 2008, the majority of organizations experienced a loss in liquidity regardless of their fiscal year end date – a dynamic consistent with the overall trend of investment market performance in 2008.

"The drop in liquidity was experienced by hospitals in all rating categories, and was most pronounced among more highly rated credits," said Spielman. "This is due to the likelihood that organizations with larger investment balances employ more aggressive investment strategies with higher allocations to equity and alternative investments."

The median liquidity balance for Aa-rated credits dropped to 209 days cash on hand in 2008 from 258 days in 2007, a decline of 19 percent. In contrast, the median for A-rated credits fell to 157 days from 182 days, a drop of 14 percent and the median for Baa-rated credits declined to 100 days from 115 days, a decrease of 13 percent.

For the third consecutive year, Moody’s found that operating performance declined, and the rate of operating decline continues to be among the highest in recent history.

In 2008, the differential between revenue growth rates and expense growth rates increased, causing operating performance to decline at a faster rate.

"Since calendar year 2008, rating pressure has continued to be significant through the first two quarters of 2009, and we expect that operating measures in 2009 will continue to come under pressure," said Spielman. "Volume growth is likely to continue to be modest, revenue growth is at historically low levels, and hospitals will continue to search for ways to keep expense growth similarly low."