How bad is the financial crisis facing US hospitals? According to Ascendient’s exclusive analysis, 88% of health systems have experienced a year-to-date net loss in 2022 – compared to just 2% last year.
Healthcare financial planning is never easy, but our new analysis of health system finances shows why it might be tougher than ever in an unprecedented economic environment.
In an early summer blog post, we identified a looming crisis for Critical Access Hospitals (CAHs) as pandemic-era financial subsidies began to dry up. Many people may have assumed that these challenges are magnified for CAHs but would have minimal impact on large systems. As healthcare strategic planning consultants, we wanted to test this assumption.
Ascendient performed a financial analysis of 135 health systems to determine if large health systems are experiencing the same challenges as CAHs. Our analysis focused on two different measures of profitability: Operating profit (or operating loss) represents only core business functions and excludes the impact of investments. Net income (or net loss) includes all revenues and all expenses.
The systems analyzed represent many of the largest systems in the US – a proverbial who’s who in healthcare. Our analysis was based on the year-to-date financials ending in the second quarter of 2022. This included systems with three, six, nine, and 12 months of year-to-date data.
The results were staggering.
Operating Results: Expenses Soar
Hospital expenses continue to be hit by a myriad of challenges including inflation, shortages, and supply chain issues. As a result, expenses are growing significantly faster than revenues. In fact, operating expenses grew 80% more than operating revenues at the large health systems.
Salaries and wages continue to pressure hospitals as provider and labor shortages persist, requiring the use of travelers and/or salary increases. So far this year, just over 50% of health systems have reported that wages and salaries are increasing faster than operating revenues. In fact, personnel expenses are rising more than twice as fast as operating revenues (13.4% vs. 6.0%), meaning these systems are going deeper into the red with every additional dollar they take in. As the largest expense at every hospital, these increased personnel costs will continue to squeeze operating profits.
In 2021, only about 13% of health systems reported that operating revenue fell short of operating expenses. So far this year, that share has grown by four times, and 53% of health systems are now losing money on their core business functions. Among the minority of systems that have managed to maintain a profit on operations, most have seen those profits decline significantly.
Net Results: Investment Income Plunges
Operational results are only a part of the story, however. Even if expenses are kept in check and patient services generate strong margins, plunging investment values have helped to push 88% of health systems to a net loss so far this year.
Many systems accumulated extra cash during the COVID-19 pandemic through the CARES Act, Medicare Advanced Payments, or through financing as interest rates were low. Many systems invested that extra cash in bonds and mutual funds. This was a great strategy during the pandemic but is problematic for financial performance in the current bear market.
Through June, all major stock market indices were down significantly in 2022. The Dow Jones was down 15%, the S&P 500 dropped 21%, and the Nasdaq fell 30%. In addition, rapidly rising interest rates negatively impacted bond values. As a result, most investments will show a loss for the first half of 2022 and will have a significant negative impact on net income.
In 2022, 96.3% of systems show an investment loss, with several presenting investment losses in excess of $1 billion. When combined with operating losses (or profit declines), systems that were previously profitable are now showing large net losses.
What to Expect in the Third Quarter
Healthcare financial planning isn’t getting any easier as losses are likely to persist. Hospital financials will continue to be negatively impacted by three major factors in the third quarter of 2022:
First, as previously discussed, hospital expenses continue to be hit by inflation, labor shortages, excess contract labor expenses, and supply chain challenges. With inflation remaining above 8% in the third quarter, it is likely that operating expenses will continue to rise faster than operating revenues.
Secondly, all three major stock market indices continued to decline. The Dow Jones was down 6.7%, the S&P 500 fell 5.3% and the Nasdaq dropped 4.1% in the third quarter. Over the last nine months, these indices have now dropped 21%, 25%, and 32%, respectively. These third quarter declines will extend the investment losses experienced thus far in 2022.
Finally, the Federal Reserve effectively doubled interest rates in the third quarter with 0.75% rate hikes on both July 27 and September 21. Since March, rates have risen from just above 0% to more than 3% – and further increases are widely expected. All of that means health systems will see much higher interest expenses on new financing as well as existing loans tied to benchmarks such as LIBOR.
Implications for Healthcare Financial Planning
An unprecedented number of hospital systems are showing net losses so far in 2022 as they face many of the same challenges as Critical Access Hospitals. The factors that led to first-half losses have remained through the third quarter, meaning weak financial performance is likely to continue. Unless expense increases subside and the stock market rebounds, it is unlikely that hospital systems will return to profitability without major cost restructuring.
Studies suggest that many providers need to cut costs by 20% to 30% in order to survive and thrive. We believe that kind of savings is impossible apart from systemic reforms such as new payment models and a shift away from inpatient care – all of which we address in our Healthytown model.
Still, with health systems bleeding money, leaders can't afford to wait. When every day leads to deeper losses, it's time to focus on all possible avenues for cost savings and revenue growth. Maybe the rising sea of red ink in 2022 will be the impetus for a fresh approach to healthcare financial planning. It's a one-time investment that can generate positive, long-term returns.
