Importance chief financial officers are placing on investments represents a major shift in the past 10 years, experts say.
With regulation and competition increasing pressure on hospitals, hospital finance execs are turning more than ever to Wall Street to add stability to their balance sheets.
The importance chief financial officers are placing on investments represents a major shift in the past 10 years, said Sheila Noonan, managing director and a senior client advisor for JPMorgan Asset Management in Chicago.
Noonan said the first question CFOs are asked is whether their investment strategy is aligned with organization objectives. This determines risk and the type of allocations they make, she said.
The focus is then on developing a long-term strategic plan.
A very attractive area for healthcare is the private credit market for peer-to-peer lending, according to Noonan. The loans have a high rate of return. But before allocating assets, due diligence is needed for assessing the risk.
If health systems issue debt at 4.5 percent and inflation is 2 percent, they are looking at a 7 percent return, she said.
Real estate and hedge funds are in the investment mix, while increased merger activity and a revived interest in the way pension plans are funded are also a factor, said Noonan. In fact, pensions dominated the conversation at the JPMorgan Healthcare Conference in January, she said.
“CFOs in healthcare really get involved in these efforts, coming up with a strategy for a defined benefit plan.”
The same challenges that are causing pension plans to be underfunded in the corporate and public sector are affecting healthcare, Noonan said.
Nonprofit healthcare pensions are being replaced by 403b plans just like 401ks are replacing pensions in corporations. Healthcare has been slower to close pension plans, Noonan said.
“We’ve had a lot of conversations with CFOs around this,” Noonan said. “They want clarity on what the contributions are going to be for the balance sheet.”
For CFOs, it’s important to diversify and have different pools for a defined benefit plan and a board designated plan, she said. There is also increased focused on health plans and how they’re managed.
Nonprofit hospitals operating on 2.5 percent annual profit margin need investment income, but should not count on it for their operating budgets, according to Christopher Kerns, managing director of Research and Insights at The Advisory Board Co. in Washington, D.C.
Proper investments are “not only wise, but necessary,” Kerns said. “Hospitals are a cash hungry business. It takes a lot of money to do what they do. They need to find ways to invest in high return businesses.”
Investments must also be diversified and managed so that credit agencies remain comfortable.
No provider has an AAA rating for nonprofit healthcare, and perhaps only three to five have an AA plus rating, Noonan said. This is because when they need capital, nonprofits can’t issue shares of stock. They only have access through the debt market.
Organizations that can’t come up with significant cash may need liquidity to maintain a stable rating.
The nonprofit Mountain States Health Alliance has a credit rating of BBB plus that the board of directors has worked hard to achieve after taking on a debt of $1 billion and riding out the 2008 financial crisis.
Board members Clem Wilkes Jr. and Rick Storey said the debt was created in 1998 when the single organization expanded to a 14-hospital system in four states. Mountain States Health Alliance, based in Johnson City, Tenn., serves Northeast Tennessee, Southwest Virginia, Southeastern Kentucky and Western North Carolina.
When the governance was set up, they made sure to set up an investment committee, Wilkes said.
“We started working on formula and investment policy,” said Wilkes, a former chairman and treasurer. “In the early 2000s, with the best of times, we didn’t have to make a lot of adjustments.”
But when bottom fell out, they were forced become more conservative with their portfolio.
“After the crash in 2008, we learned what can happen to investments,” Storey said. “That’s when we took a hard look at what we did with investment and set a minimum of 250 days cash on hand.”
They invested in 40 percent equity and 60 percent fixed income, using a financial advisor to set up separately managed accounts, he said. They bought and sold securities, stocks and bonds, and gravitated towards institutional mutual funds.
They planned a conservative return of 2.5 percent each year and “patiently waited for the market to come back,” Storey said.
That benchmark rose to 3.3 percent.
“Anything over, we’re using our funds to reduce the debt,” Wilkes said.
That happened even after losing Medicare money in 2013, Storey said.
Mountain States’ portfolio includes fixed income, real estate investments and liquid funds. And their high bond rating helps them secure cash on hand.
“If you need to make payroll, you can’t sell CT scanners,” Wilkes said.