Playing Defense Key to Overcoming Fiscal Challenges of COVID-19

March 26, 2020 - COVID-19 is wreaking havoc on the healthcare system and that is coming with a high price tag.

The COVID-19 pandemic is likely to cost the global economy $1 trillion in 2020, according to recent estimates from the United Nations’ trade agency. The US is already feeling the pressure from outbreaks of the novel coronavirus.

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Earlier this month, the US stock market experienced its worse day since the financial crisis 12 years ago, according to The Wall Street Journal. Stocks plummeted as the number of confirmed cases of COVID-19 increased. Healthcare providers were not immune to the trend.

In addition to decreasing stock prices, hospitals and health systems have called on Congress for an immediate influx of cash to ensure they can make payroll, purchase personal protective equipment and other needed supplies, and execute other functions necessary for keeping doors open to potential cases of COVID-19.

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In these uncertain times, playing defense is a key strategy for hospitals and health systems, says Eric Jordahl, a managing director at Kaufman Hall.

“The main message is play defense as much as you can and really focus on locking things down,” stated Jordahl who is the practice leader of treasure and capital markets at the consulting firm. “Once you do that then pay attention to where there might be opportunities.”

Taking a more defensive approach to financial operations will help hospitals and health systems navigate disruptions to operations as a result of the rapidly spreading novel coronavirus.

Hospitals and health systems are facing tremendous operating disruptions from COVID-19, Jordahl’s colleagues recently explained. Those disruptions include:

• Capacity shortages, including urgent care, emergency department, and intensive care unit capacity to address the influx of patients
• Service mix shifts, such as significant declines in elective procedures, which normally drive revenue
• Workforce disruption in which organizations need more staff to manage higher volumes in the face of normal challenges, such as employees missing work due to illness and labor contract limits
• Supply chain disruption, such as high demand for supplies in short demand
• Balance sheet stress as the value of invested assets decline

The operation disruptions have hospital CFOs wondering about how cash flow will look with the loss of elective surgeries, how COVID-19 will affect length of stay and case mix index, how the workforce and their pensions will be impacted, what inventory and supply costs will look like in the face of growing shortages, and more.

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These are all important questions to answer as hospitals and health systems navigate the COVID-19 pandemic. However, organizations are facing longer term questions that need solutions, Jordahl explained.

“Hospitals are fairly capital-intensive businesses, so they do rely fairly extensively on external capital to finance all sorts of things,” he said. “Right now, those markets are pretty dislocated. The past few weeks markets haven't really been open.”

Capital markets are dislocated when they are not functioning like the long-term average. During the COVID-19 pandemic, for example, capital markets have been significantly volatile, with credit and liquidity markets in disarray. The last time capital markets have seen significant disruption was the financial crisis in 2008, which led to the Great Recession.

When markets experience this type of dislocation, it becomes a question of what happens with credit spreads, which can impact a hospital’s ability to access capital, Jordahl explained.

“A lot of times when you get into this kind of market dislocation, the very large and very well rated organizations get the best access and access deteriorates as it moves down the credit curve,” he said. “A healthy market is one where all sorts of organizations can participate.”

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“Hopefully, we get back to a place where hospitals across the whole spectrum have decent access to outside capital and can fund their businesses without the kind of the dislocation and disruption that we've got going on now.”

However, when that will be is currently unclear. One thing to consider at this time is how long the dislocation continues once the market settles down, Jordahl stated.

“It's going to be dependent on how quickly all the participants in the market feel like they understand this new place we're headed into, well enough for them to make major financing commitments,” he said. “At some level markets need to be orderly in order for them to then produce consistent funding.”

The current dislocation could be a blip on the market’s radar, like Black Monday in 1987, or signs of an upcoming recession. The Great Recession led to meaningful declines in revenue and profitability for hospitals and health systems as employment rose significantly from 2007 to 2009 and many lost their healthcare coverage, Jordahl’s colleagues explained.

Taking lessons from that time will be crucial, they stressed. Hospitals and health systems should be considering how business strategy should shift in light of the current clinical crisis, as well as what realistic financial performance targets will look like for 2020 and what capital projects and near-term borrowing plans will are essential.

Assessing liquidity will be critical for hospitals and health systems surviving the now-blurry financial future following the pandemic, Jordahl emphasized. “Think about how much liquidity your organization has and how quickly you can access liquidity.”

Examining other parts of the balance sheet are also key, experts from Kaufman Hall agreed. Hospitals and health systems should take another look at investments as “funding short- to intermediate-term strategic, capital, and liquidity needs with credit alternatives may allow hospitals to participate in asset re-inflation of their investment portfolios in the future.”

“Balance sheet expansion via debt issuance, lines of credit, and other means of strengthening liquidity reserves would take pressure off investment portfolios,” they stated.

Thinking across the whole organization will be essential to successfully preparing for the financial impact of COVID-19, Jordahl stressed.

“If you've got a lot of risk in a capital structure, maybe it's time to think about trying to de-risk some of that because there's going to be all sorts of risks on another part of the business,” he concluded. “Pay attention to the totality of the business and then how different pieces of it work together or don't work together is something that I think will be important over the longer term.”