As hospitals and medical practices face declining reimbursements, a new report suggests the investment portfolios of many health care organizations are not equipped to best capture returns that could help offset the rising costs associated with the Affordable Care Act (ACA).
Larger health care organizations and networks possess larger endowments and benefit from economies of scale, William F. Jarvis, managing director of the Commonfund Institute, wrote in a Feb. 12 white paper.
However, he said, investment returns among small and midsize health care providers — whose endowments are often weighted in favor of fixed income and cash — have not kept pace with rising costs.
As the health care industry’s business model changes with the full implementation of the ACA in 2014, Jarvis said hospitals and other providers should adopt a model that features a greater willingness to accept illiquid assets in exchange for higher long-term returns.
“Small and midsize health care providers that lack scale will have to obtain greater investment income by adopting the (model) … used by higher education and other nonprofits, building more diversified portfolios and reducing their reliance on fixed income investments,” Jarvis said.
With myriad changes to the reimbursement and cost structure for providers, “it is clear that the larger organizations, with their ability to spread cost reductions over a wider patient and constituent user base and to weather reimbursement reductions, are the first movers,” Jarvis wrote.
Those larger providers “will reap greater benefit than the smaller and midsize organizations with their proportionately higher fixed cost base,” which Jarvis said would result in “greater reliance by these organizations on the third revenue source, endowments, to enhance surpluses and make up for losses.”
Commonfund Institute is the education and research arm of Wilton-based Commonfund, an institutional investment firm that manages about $25 billion in funds for more than 1,500 clients, including nonprofit investors, pension funds and family offices and trusts.
With the constant demand for upgrades of equipment and systems, hospitals and other providers frequently issue bonds to fund capital investments, Jarvis wrote.
Because maintaining liquidity in endowments is viewed as a key to obtaining higher ratings for those bond offerings, Jarvis said that asset allocators of health care investment portfolios have weighted portfolios more heavily in favor of cash and fixed income investments.
However, he said that practice has resulted in returns that generally fall short of returns seen by other types of nonprofits.
“Given the other stresses that the health care sector is experiencing, this practice seems increasingly to resemble a luxury that will eventually become unsustainable as other sources of revenue for health care organizations continue to diminish,” Jarvis wrote.
While endowments can be — and often are — used by health care providers to offset rising costs and falling reimbursements, many hospitals and groups will also draw from endowment returns to pay off debt, Jarvis wrote.
With overall debt reported by health care organizations rising sharply since 2005, declining endowment returns can be particularly concerning.
Among hundreds of health care organizations that participated in the 2012 Commonfund Benchmark Study of Healthcare Organizations, total debt rose from an average of $395 million per institution in 2005 to more than $1 billion per institution in 2010, before dropping back down to $763 million on average in 2011.
“To that end, a renegotiation of the strictures on asset allocation and liquidity will be necessary,” Jarvis wrote.