[September 27, 2016]

Fitch: US Nonprofit Hospital Performance May Decline in 2016-17

The nonprofit hospital and health care sector's median operating performance for fiscal 2015 improved across the board, Fitch Ratings says. However, we expect operating performance to be more volatile in fiscal 2016 and beyond as the Centers for Medicare & Medicaid Services (CMS) further implements value-based reimbursement models and overall reimbursement rates compress.

The median operating margin and operating EBITDA margin improved to 3.5% and 10.3%, respectively, in fiscal 2015 from 3.0% and 9.7% in fiscal 2014, making fiscal 2015 the second consecutive year of higher margins. Median operating profitability margins also improved across all rating categories.

The rise in margins is based on improved cost efficiencies, higher numbers of patients with insurance coverage, and greater focus on revenue cycle improvement and fee collections. The sector is also increasing both clinical and nonclinical efficiencies. Despite growth in the number of high-deductible health plans, management teams have become more adept at managing increased seasonality of patient volumes.

However, hospital median liquidity metrics were mixed as the impact of strong operating cash flow and reined-in capital spending were offset by low investment returns. Median days cash on hand was virtually unchanged.

We expect that deferred pressures from healthcare reform will emerge. Operating performance is more likely to be challenged in 2016 and beyond due to labor and wage pressures for clinical staff, as well as the increasing need to employ and/or align clinicians to meet the requirements of population health management.

Over the next 36 months we believe the movement to risk-based payer contracts from managed care contracting is likely to gain momentum, mainly because their most common proponents, larger and more integrated health systems, have emerged in several major metropolitan areas. This transition will likely heighten existing pressure on operating margins. The likelihood of margin compression will be greater for hospitals with less experience in managing risk and those with smaller revenues bases and mostly fixed expenses.

We also expect pressure to rise on providers with insufficient market penetration due to limited clinical or geographical breadth versus providers with larger systems boasting more comprehensive services and broader clinical footprints. This will likely continue to prompt further consolidation in the market via mergers and acquisitions going forward.

The above article originally appeared as a post on the Fitch Wire credit market commentary page. The original article can be accessed at www.fitchratings.com. All opinions expressed are those of Fitch Ratings.

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