U.S. PUBLIC FINANCE

APRIL 23, 2014

Profitability and Revenue Growth Drop in US Not-for-Profit Hospital Preliminary Medians

MEDIAN REPORT

Operating Performance Pressure Continues as Predicted; Balance Sheet Measures Remain Stable

Summary

Table of Contents: SUMMARY MAJOR FINDINGS FROM FY 2013 PRELIMINARY MEDIANS FINAL FY 2013 MEDIANS TO BE PUBLISHED IN THE SUMMER 2014 APPENDIX 1: FREESTANDING HOSPITALS, SINGLE-STATE MEDIANS FISCAL YEARS 2011-2013 [1] APPENDIX 2: FREESTANDING HOSPITALS, SINGLE-STATE MEDIANS BY BROAD RATING CATEGORY, FY 2013 [1] MOODY’S RELATED RESEARCH

1 2 3 5

7 9

The fiscal year (FY) 2013 not-for-profit hospital preliminary medians point to continuing operating pressures in the industry. Both the operating margins and operating cash flow margins dropped as revenue growth continued to slow and expense growth continued to surpass revenue growth. Debt coverage metrics remained stable and balance sheet measures grew despite weaker operating performance. Important findings discussed in this report include: »

Median operating margins and operating cash flow margins declined, reflecting continued operating pressure on not-for-profit hospitals.

»

Median expense growth outpaced median revenue growth for a second year contributing to the drop in margins.

»

Unrestricted cash and investments grew as equity market returns were strong and capital spending levels decreased.

Analyst Contacts: NEW YORK

+1.212.553.1653

Jennifer Ewing +1.212.553.4429 Analyst [email protected] Lisa Martin Senior Vice President [email protected]

+1.212.553.1423

Kendra M. Smith +1.212.553.4807 Managing Director - Public Finance [email protected]

The preliminary medians are based on FY 2013 audited financial statements of about 45% of Moody’s rated portfolio. These medians primarily reflect audit year ends of September 30, 2013 and prior; therefore, they do not incorporate the full impact of the Affordable Care Act (ACA) as coverage under the individual mandate did not go into effect until January 1, 2014. We present the preliminary medians in two formats: by year for three years, FY 2011-FY 2013 (Appendix 1), and by rating category for FY 2013 (Appendix 2).

U.S. PUBLIC FINANCE

Major Findings from FY 2013 Preliminary Medians »

Profitability margins continued to decline. The preliminary median operating margin and operating cash flow margin declined in FY 2013 for a second year in a row. The declines in both margins come after several years of growth or stability in profitability (see Exhibit 1). The drop is also seen across the Aa and A rating categories, while the Baa and below-Baa rating categories remain relatively flat compared to the prior year. The margin declines reflect the second straight year of the annual expense growth rate (4.6%) outpacing the annual revenue growth rate (4.1%) as well as a decline of the median annual revenue growth rate (see Exhibit 2). The decline in performance can be attributed to a number of factors including: 1) low rate increases from commercial payors and rate cuts from Medicare and Medicaid; 2) a payor mix shift to governmental payors from commercial payors; 3) an increase in high-deductible health plans with higher levels of patient responsibility contributing to increases in bad debt and lower healthcare demand; and 4) a shift to lower reimbursed outpatient visits and observation stays from inpatient admissions.

EXHIBIT 1

Profitability Margins Dropped in FY 2013 Preliminary Median Operating Margin

Preliminary Median Operating Cash Flow Margin

10.0% 8.0% 6.0% 4.0% 2.0% 0.0% 2010

2011

2012

2013

Source: Moody’s. Margins for each year are calculated with bad debt as an operating revenue deduction and based on audited financial statements for the same 203 organizations.

»

For research publications that reference Credit Ratings, please see the ratings tab on the issuer/entity page on www.moodys.com for the most updated Credit Rating Action information and rating history.

1

2

Median expense growth rate dropped, but remained greater than the median revenue growth rate for a second straight year. The median annual expense growth rate declined in FY 2013 compared to FY 2012, demonstrating a focus on cost containment among hospital operators and the shifting of care to a lower-cost and more efficient setting. The median annual revenue growth rate continued its decline, dropping to 4.1% from 4.6% (see Exhibit 2). It remained lower than the median expense growth rate for a second year in a row contributing to the drop in operating margins. The slowdown in expense growth comes in the midst of increasing costs for physician alignment and information technology, but demonstrates strategies and focus on cost control. We anticipated the decline in revenue growth in FY 2013. 1 For some hospitals, however, revenue growth was supported by nonrecurring funding sources, including information technology, meaningful use payments and payments under state provider fee programs.

2014 Outlook – US Not-for-Profit Hospitals

APRIL 23, 2014

MEDIAN REPORT: PROFITABILITY AND REVENUE GROWTH DROP IN US NOT-FOR-PROFIT HOSPITAL PRELIMINARY MEDIANS

U.S. PUBLIC FINANCE

EXHIBIT 2

Median Expense Growth Rate Exceeded Median Revenue Growth Rate For a Second Year in FY 2013 Median Annual Revenue Growth Rate

Median Annual Expense Growth Rate

10.0% 9.0% 8.0% 7.0% 6.0% 5.0% 4.0% 3.0% 2002

2003

2004

2005

2006

2007

2008

2009

2010

2011

2012

2013

Source: Moody’s. The data prior to 2013 are from different sample sets. However the multiple years of data still accurately reflect the trend in the industry over this period. * 2013 is based on audited financial statements of 203 organizations.

»

Balance sheet ratios remained stable despite lower cash flow. The median unrestricted cash and investments increased in FY 2013 compared to FY 2012. This growth is consistent across all rating categories and comes as equity market returns were strong and capital spending levels declined. With the increase in cash, preliminary median days cash-on-hand increased, while median cash-to-direct debt remained relatively stable. The median cash-to-comprehensive debt improved as discount rates increased and market returns were strong, reducing defined benefit pension plan liabilities.

Final FY 2013 medians to be published in the summer 2014 We expect the final medians to show weaker operating performance than the preliminary medians due to the inclusion of more hospitals with calendar year-end audits after September 30, 2013 as well as hospitals concentrated in geographic regions with weaker economies. We anticipate the maintenance of general healthy balance sheet ratios in similar to the preliminary medians. The full medians report will reflect a larger sample size of our rated portfolio of hospitals and health systems. Our entire portfolio of not-for-profit acute care hospitals and single-state health systems consists of 448 rated organizations. We exclude certain specialty hospitals, such as children’s hospitals, cancer centers, and other non acute-care organizations from the medians. The preliminary medians differ from the full medians in some important respects. Most significantly, the preliminary medians consist mainly of audits ended June 30, 2013 and prior, with a smaller number of audits ended September 30 (see Exhibit 3). In contrast, we estimate just over 60% of the full year medians will consist of audits ended after June 30.

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APRIL 23, 2014

MEDIAN REPORT: PROFITABILITY AND REVENUE GROWTH DROP IN US NOT-FOR-PROFIT HOSPITAL PRELIMINARY MEDIANS

U.S. PUBLIC FINANCE

EXHIBIT 3

Distribution of Fiscal Year End Dates for 203 Free-Standing and Single-State Systems Included in FY 2013 Preliminary Medians Oct-1 to Dec-31 1%

July-1 to Sept-30 36%

Jun-30 & Prior 63%

Source: Moody’s.

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APRIL 23, 2014

MEDIAN REPORT: PROFITABILITY AND REVENUE GROWTH DROP IN US NOT-FOR-PROFIT HOSPITAL PRELIMINARY MEDIANS

U.S. PUBLIC FINANCE

Appendix 1: Freestanding Hospitals, Single-State Medians Fiscal Years 2011-2013 [1] NOTE: Bad debt is presented as an expense for FY 2011 and as a revenue deduction for FY 2012 and FY 2013. Published FY 2012 Medians are presented with bad debt as a revenue deduction. Preliminary Medians 2011

Preliminary Medians 2012

Preliminary Medians 2013

Published Medians 2012

433

421

442

421

23,215

24,027

23,380

24,262

4,797

5,736

6,263

5,218

27,873

28,908

29,858

28,908

107,396

104,463

107,292

109,330

1.60

1.60

1.63

1.59

4.7

4.6

4.7

4.6

Utilization [2] Maintained Beds Admissions Observation Stays Combined Admissions and Observation Stays Patient Days Medicare Case Mix Index Average Length of Stay (Days) Maintained Bed Occupancy (%)

[3]

66.6

63.7

64.7

63.5

81,367

83,344

85,812

81,703

298,927

319,886

345,870

291,039

10,440

10,323

10,389

10,516

Net Patient Revenues

507,885

479,083

495,718

488,218

Total Operating Revenue

528,222

515,276

542,128

527,589

7,662

7,267

7,932

8,104

26,919

27,978

30,689

29,819

504,684

500,082

531,149

506,597

Income from Operations

14,749

14,706

10,775

13,392

Operating Cash Flow

52,804

53,393

48,312

52,297

Excess of Revenue Over Expenses

30,959

31,124

26,395

29,811

Net Revenue Available for Debt Service

67,066

67,670

65,567

68,313

Debt Service

15,380

13,513

15,617

15,508

Additions to Property, Plant, & Equipment

34,756

39,354

36,688

38,973

Unrestricted Cash and Investments

259,360

254,938

285,748

257,819

Total Direct Debt

190,991

198,063

213,325

218,738

Total Comprehensive Debt

263,545

284,499

276,334

294,491

Net Fixed Assets

265,177

284,876

286,132

305,443

Unrestricted Net Assets

345,907

329,308

372,543

331,911

Monthly Liquidity

228,935

228,353

247,217

254,917

Annual Liquidity

241,286

253,814

238,032

264,781

Emergency Room Visits Outpatient Visits Outpatient Surgeries Financial Performance ($000)

Interest Expense Depreciation and Amortization Expense Total Operating Expenses

Balance Sheet ($000)

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APRIL 23, 2014

MEDIAN REPORT: PROFITABILITY AND REVENUE GROWTH DROP IN US NOT-FOR-PROFIT HOSPITAL PRELIMINARY MEDIANS

U.S. PUBLIC FINANCE

Preliminary Medians 2011

Preliminary Medians 2012

Preliminary Medians 2013

Published Medians 2012

Operating Margin

2.7%

2.5%

2.2%

2.5%

Excess Margin

5.4%

5.5%

5.2%

5.2%

Operating Cash Flow Margin

9.5%

9.8%

9.3%

9.5%

Cash on Hand (Days)

179.9

195.9

204.3

185.3

Cash-to-Direct Debt

132.1%

134.8%

137.4%

126.2%

95.1%

91.8%

100.7%

89.5%

Key Ratios [4]

Cash-to-Comprehensive Debt Maximum Annual Debt Service Coverage (x)

4.5

4.4

4.4

4.3

Annual Debt Service Coverage (x)

4.8

4.8

4.6

4.6

Debt-to-Cash Flow (x)

3.3

3.3

3.4

3.4

34.9%

37.2%

36.5%

37.6%

Annual Operating Revenue Growth Rate

5.3%

4.6%

4.1%

5.2%

Annual Operating Expense Growth Rate

4.8%

5.4%

4.6%

5.5%

3 Year Operating Revenue CAGR

5.7%

5.0%

4.9%

5.1%

3 Year Operating Expense CAGR

5.2%

5.0%

5.0%

5.1%

37.9%

38.3%

35.2%

38.9%

2.0

1.9

1.9

1.9

Debt-to-Total Operating Revenue

Debt-to-Capitalization Current Ratio (x) Cushion Ratio (x)

16.5

17.5

18.4

16.2

Return on Assets

4.8%

4.4%

4.2%

4.3%

Accounts Receivable (Days)

44.3

50.2

50.0

49.9

Average Payment Period (Days)

57.1

64.2

61.3

64.3

1.1

1.3

1.1

1.2

Capital Spending Ratio (x) Average Age of Plant (Years)

10.1

10.4

10.7

10.6

Monthly Liquidity to Demand Debt

346.2%

360.8%

405.1%

346.2%

Annual Liquidity to Demand Debt

368.4%

393.5%

428.0%

396.8%

34.5%

32.2%

31.1%

34.5%

383.4%

408.5%

448.3%

415.6%

98.2%

99.3%

98.8%

97.6%

Medicare

43.7%

43.9%

44.3%

44.1%

Medicaid

13.0%

13.0%

12.9%

13.1%

Commercial

34.0%

33.0%

32.1%

33.4%

7.7%

8.0%

7.6%

7.6%

Demand Debt as a % of Total Direct Debt Cash to Demand Debt Monthly Liquidity to Total Cash and Investments Patient Revenue Sources by Gross Revenue (%) [5]

Self Pay & Other

[1] Financial data are based on audited financial statements for 203 free-standing hospitals and single-state healthcare systems. [2] Utilization statistics are based on a smaller sample size where three years of consistent data are available. [3] Combined Admissions and Observation Stays is a separately calculated median and does not equal the sum of median Admissions and median Observation Stays. [4] Monthly and Annual Liquidity statistics are based on a smaller sample size where three years of consistent data are available. [5] Payor Mix columns do not sum to 100% because each entry is a separately calculated median.

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APRIL 23, 2014

MEDIAN REPORT: PROFITABILITY AND REVENUE GROWTH DROP IN US NOT-FOR-PROFIT HOSPITAL PRELIMINARY MEDIANS

U.S. PUBLIC FINANCE

Appendix 2: Freestanding Hospitals, Single-State Medians by Broad Rating Category, FY 2013 [1]

Sample Size

Utilization

All Ratings

Aa

A

Baa

Below Baa

203

35

103

53

12

442

1,002

428

307

303

23,380

53,621

21,689

15,564

13,548

6,263

15,699

6,162

4,262

2,664

29,858

69,320

29,714

19,716

18,778

107,292

274,601

101,033

66,237

67,375

1.63

1.73

1.62

1.59

1.54

4.7

5.1

4.6

4.4

5.0

[2]

Maintained Beds Admissions Observation Stays Combined Admissions and Observation Stays Patient Days Medicare Case Mix Index Average Length of Stay (Days) Maintained Bed Occupancy (%)

[3]

64.7

71.9

64.5

61.4

66.5

85,812

158,824

85,623

54,765

64,622

345,870

741,774

284,421

286,179

177,422

10,389

25,472

10,528

7,232

6,165

Net Patient Revenues

495,718

1,436,949

495,776

348,200

310,533

Total Operating Revenue

542,128

1,546,874

536,879

363,702

328,609

7,932

20,092

7,474

6,380

5,007

Depreciation and Amortization Expense

30,689

85,725

30,689

20,329

14,395

Total Operating Expenses

531,149

1,479,641

525,956

358,078

340,999

Emergency Room Visits Outpatient Visits Outpatient Surgeries Financial Performance ($000)

Interest Expense

Income from Operations

10,775

84,725

12,032

2,612

(3,289)

Operating Cash Flow

48,312

183,868

49,321

27,729

10,256

Excess of Revenue Over Expenses

26,395

161,863

29,329

8,995

4

Net Revenue Available for Debt Service

65,567

251,795

69,508

38,293

15,302

Debt Service

15,617

31,398

14,441

13,612

9,654

36,688

122,341

36,302

17,106

16,989

Unrestricted Cash and Investments

285,748

1,065,893

313,902

147,303

67,871

Total Direct Debt

213,325

550,008

189,201

153,142

113,984

Total Comprehensive Debt

276,334

767,555

250,819

211,531

211,651

Additions to Property, Plant, & Equipment Balance Sheet ($000)

Net Fixed Assets

286,132

866,203

276,593

179,454

138,834

Unrestricted Net Assets

372,543

1,275,879

429,376

183,643

79,325

Monthly Liquidity

247,217

977,321

282,002

124,530

75,596

Annual Liquidity

238,032

1,020,680

285,748

130,363

67,871

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APRIL 23, 2014

MEDIAN REPORT: PROFITABILITY AND REVENUE GROWTH DROP IN US NOT-FOR-PROFIT HOSPITAL PRELIMINARY MEDIANS

U.S. PUBLIC FINANCE

All Ratings

Aa

A

Baa

Below Baa

203

35

103

53

12

Operating Margin

2.2%

3.5%

2.7%

1.0%

-1.6%

Excess Margin

5.2%

7.2%

5.8%

3.4%

0.0%

Operating Cash Flow Margin

9.3%

10.0%

10.1%

8.5%

4.8%

Sample Size

Key Ratios [4]

Cash on Hand (Days)

204.3

252.0

217.3

147.7

84.4

Cash-to-Direct Debt

137.4%

194.8%

153.1%

103.9%

60.0%

Cash-to-Total Comprehensive Debt

100.7%

146.3%

110.4%

72.9%

37.3%

Maximum Annual Debt Service Coverage (x)

4.4

6.5

4.8

3.2

1.4

Annual Debt Service Coverage (x)

4.6

7.5

5.1

3.4

1.5

Debt-to-Cash Flow (x)

3.4

2.5

3.1

4.5

7.7

36.5%

31.9%

37.5%

37.0%

38.1%

Annual Operating Revenue Growth Rate

4.1%

6.7%

5.4%

2.2%

2.8%

Annual Operating Expense Growth Rate

4.6%

6.7%

5.9%

4.2%

3.7%

3 Year Operating Revenue CAGR

4.9%

6.1%

5.1%

4.0%

2.4%

Debt-to-Total-Revenue

3 Year Operating Expense CAGR

5.0%

6.2%

5.0%

4.4%

2.7%

35.2%

32.0%

33.0%

44.1%

56.5%

Current Ratio (x)

1.9

1.9

2.0

2.0

1.5

Cushion Ratio (x)

18.4

29.4

20.3

12.7

6.0

Return on Assets

4.2%

6.1%

4.6%

3.0%

0.0%

Accounts Receivable (Days)

50.0

45.3

51.8

48.0

48.3

Average Payment Period (Days)

61.3

67.8

58.9

61.0

65.1

1.1

1.5

1.1

1.0

1.0

10.7

9.1

10.5

11.2

12.0

Monthly Liquidity to Demand Debt

405.1%

424.4%

371.3%

312.1%

697.8%

Annual Liquidity to Demand Debt

428.0%

459.3%

380.0%

448.3%

697.8%

Debt-to-Capitalization

Capital Spending Ratio (x) Average Age of Plant (Years)

Demand Debt as a % of Total Direct Debt

31.1%

37.9%

32.2%

21.7%

12.9%

448.3%

495.0%

401.8%

448.3%

697.8%

98.8%

86.5%

98.1%

100.0%

100.0%

Medicare

44.3%

40.0%

46.1%

43.6%

49.1%

Medicaid

12.9%

14.1%

12.3%

13.4%

15.9%

Commercial

32.1%

35.7%

32.0%

32.2%

29.1%

7.6%

8.0%

7.8%

7.2%

6.0%

Cash to Demand Debt Monthly Liquidity to Total Cash and Investments Patient Revenue Sources by Gross Revenue (%)

[5]

Self Pay & Other

[1] Financial data are based on audited financial statements for 203 free-standing hospitals and single-state healthcare systems. [2] Utilization statistics are based on a smaller sample size where three years of consistent data are available. [3] Combined Admissions and Observation Stays is a separately calculated median and does not equal the sum of median Admissions and median Observation Stays. [4] Monthly and Annual Liquidity statistics are based on a smaller sample size where three years of consistent data are available. [5] Payor Mix columns do not sum to 100% because each entry is a separately calculated median.

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APRIL 23, 2014

MEDIAN REPORT: PROFITABILITY AND REVENUE GROWTH DROP IN US NOT-FOR-PROFIT HOSPITAL PRELIMINARY MEDIANS

U.S. PUBLIC FINANCE

Moody’s Related Research Outlook:

»

2014 Outlook – US Not-for-profit Hospitals, November 2013 (160569)

Median Report:

»

US Not-for-Profit Hospital 2012 Medians Show Balance Sheet Stability Despite Weaker Performance, August 2013 (157417)

Special Comments:

»

US Healthcare Reform: Three Risks Reduce Credit Positives for Not-for-Profit Hospitals, March 2014 (166602)

»

Two-Midnight Rule Will Reduce Revenue For Most Hospitals, March 2014 (165866)

To access any of these reports, click on the entry above. Note that these references are current as of the date of publication of this report and that more recent reports may be available. All research may not be available to all clients.

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APRIL 23, 2014

MEDIAN REPORT: PROFITABILITY AND REVENUE GROWTH DROP IN US NOT-FOR-PROFIT HOSPITAL PRELIMINARY MEDIANS

U.S. PUBLIC FINANCE

Report Number: 167463

Author Jenn Ewing

Production Associate Prabhakaran Elumalai

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APRIL 23, 2014

MEDIAN REPORT: PROFITABILITY AND REVENUE GROWTH DROP IN US NOT-FOR-PROFIT HOSPITAL PRELIMINARY MEDIANS