Several nonprofit hospitals have found their operations and balance sheets settling into new ranges following a tough couple years, though that doesn’t necessarily mean that credit ratings will dive-bomb and investors should run for the hills, Fitch Ratings analysts said Monday.
The more substantial shift for the nonprofit hospital sector—and “The biggest question long term for rating agencies” like Fitch—is whether the nonprofit hospital sector sees operating margins “reset” from the ideal of 3% or higher to a range of 1% to 2%, analysts wrote in a new report.
Should those lower numbers become the new normal for more than a transitional year or two, “the sector as a whole will start to experience some slight rating deterioration over time,” though more on a “credit by credit analysis” basis than en masse, the analysts wrote.
As in December’s 2024 sector report, Fitch analysts highlighted ongoing labor shortages and wage pressures that they expect will compress the margins of “a sizable portion of the sector, even as other core credit drivers, specifically volumes and overall liquidity, begin to improve.” Fitch noted that it’s seen margin recovery improvement across “most providers, but the pace has been notably slower than we expected.”
The likely result is that some of the issuers will enjoy a full rebound in their margins “while others, perhaps many, will ultimately reset at permanently lower margins,” the analysts wrote.
“Fitch does not view this is a ‘sector-ending incident’ but, rather, a pain point by matter of degree for each provider that must be balanced against their respective liquidity cushions,” they wrote in the report. “This will not fully resolve in 2024, and a resolution may only be temporary as the population continues to age.”
Fitch noted that it’s particularly concerned about margins and capital deferment in 2030, when the back end of the baby boomer generation reaches 65 and reduces workforce supply while raising demand for care.
Despite the questions surrounding operations, Fitch’s analysts aren’t concerned about a similar reset in sectorwide liquidity levels, for which well-rated hospitals are expected to have more than 200 days of cash on hand.
On the one hand, the analysts anticipate that ratings downgrades within Fitch’s rated portfolio will outpace ratings upgrades 2:1 in 2024. Year-to-date 2023 has shown a 3:1 downgrade-to-upgrade ratio, with affirmations representing 88% of all 2023 ratings actions.
On the other, median days cash on hand was 216 in 2022 (the most recently medians released to the public), and that metric has remained above 200 days in nine out of the last 10 years, per the report. Further, Fitch is expecting a “slight uptick” in overall days cash on hand across its rated portfolio based on projected operations improvements and better investment returns. Though held somewhat in check by labor pressures, Fitch expects that trend of “modest” liquidity gains to again continue into 2024 “barring any significant market events.”
As for the 5% of rated hospitals that Fitch categorizes as below investment-grade, the “vast majority” will see their ratings stay put while “maybe one or two” climb back to investment grade and a similar amount will be acquired. Up to a pair may go into default or bankruptcy, though the analysts noted that this “is very rare and takes a long time” as “the sector averages less than one default/bankruptcy a year.”