Leverage, Where is Thy Sting

Leverage, Where is Thy Sting

Coronavirus is changing the world. Right now, Italy is in shut down, and Europe is heading that way. In the U.S., the states, organizations, and companies are leading and closing schools and universities, canceling or deferring events, and implementing work from home policies. What will the impact be?

Who knows. I believe that the current reported number of cases of 2,174 in the U.S. is far below the actual number as testing has failed. Until testing gets on track and we can see where the virus is, then only can we manage it. As those in business know, Measure What Matters, and if you can’t measure it, you can’t fix it.

Again, I expect that parts of the U.S. or all of it will end up with some form of Italian solution to the virus. If you are not sure what that looks like, I will refer you to Italy’s Nightmare Offers a Chilling Preview of What’s Coming. The effect of that will be devastating for many companies and individuals in the U.S. as revenues and income plummet.

However, once more, the financial industry’s offer of a helping noose will exacerbate the problem. Private Equity has acquired an enormous number of companies in the U.S. over the last two decades. To get the returns that their investors are looking for, they leverage the businesses, often with negative results. Today, however, I expect that the damage to these companies from a slowing economy will put many in breach of their loan covenants. Thus it could lead to a dramatic increase in bankruptcies across the country. These bankruptcies will be a negative feedback loop on an already suffering economy and one that the country will be hard-pressed to handle. Thus I would expect the bail-out requests already forming.

Last year, larger non-finance corporations had a record of $13.5 trillion of outstanding debt, according to an OECD report. A growing portion of that is in the form of riskier bonds, and experts worry an economic crisis spurred by coronavirus could send corporations on cost-cutting sprees or to default. Since the financial crisis, corporations loaded up on debt. According to a Morgan Stanley analyst, currently, estimated one-in-six U.S. companies don’t have the cash flow to cover interest payments. In the last decade, about one-fifth of new bonds issued were below investment-grade.

Investors are shedding riskier assets as they realize the impact of the coronavirus. Energy companies have about $88 billion in bonds due this year, and analysts expect defaults to surpass 2016 levels. Rating agencies are watching particularly vulnerable industries like auto, airlines, and hospitality. S&P put Nashville’s Ryman Hospitality Properties on a credit rating watch after massive cancellations threatened to whack revenue by $40 million.

The Administration’s 2017 tax cuts helped many U.S. companies improve their cash positions; however, companies wasted this largess on the typical “Sugar Highs” of companies – share buyback and increased distributions to private Equity. The result of this is that most of these companies are in no better shape to handle a server downturn than they were before.

As Hemingway said, “How did you go bankrupt?” “Two ways. Gradually, then suddenly.”

Leverage is lovely until it isn’t. The fall out from this will be bigger than expected.


Copyright (c) 2020, Marc A. Borrelli

Healthcare is too Important to be left to the Market!

Healthcare is too Important to be left to the Market!

The U.S. prides itself on being a “capitalistic/market based” country; however, as we see with the coronavirus, healthcare is too important for the market to determine its practices.

In the U.S., hospitals moved to market efficiencies with lean operations and effectively just in time processes after 1983, when Congress transformed how Medicare reimbursed hospitals. The United States had approximately nine hospital beds for every 1,000 people by the late 1950s., and between 1945 and 1983, about 75% of those beds were in use. As health costs became an increasing concern, the Congressional action was aimed at increasing efficiency at hospitals to reduce Medicare costs. The change in reimbursement forced hospitals to cut capacity and costs, lead to the rise of managed care, and the delivery of health care out of hospitals and into doctors’ offices. Before the Congressional action, many of these beds went unused in regular times but were available during periods of extreme stress. When the flu epidemic swept the country during the winter of 1957 and 1958, which was the worst outbreak since the famous pandemic of 1918, hospitals absorbed the surge without any problems. Even New York City, which was one of the hardest hit, its hospitals coped with the increased demand by adding a few extra beds.

Today, hospitals lean and just in time processes have made them very efficient, but unprepared to handle a sudden influx of seriously ill patients as we expect from Covid-19. As hospitals sought increased efficiency, they consolidated to drive down costs further. To protect themselves from the competition, they persuaded many state governments to introduce “certificate of need” laws or CON laws that artificially limit the supply of medical equipment. These laws create shortages of medical equipment that could prove disastrous during a pandemic. Today as hospitals seek to prepare for a potential onslaught of patients from Covid-19, the CON laws will limit their ability to do so.

We see with manufacturing, lean and just in time is excellent improving efficiencies and profits; but where there is a significant supply-side disruption as are experiencing with coronavirus, it is disastrous. We are seeing the same things happen with healthcare.

Another issue with the market in healthcare is the acquisition of existing drugs by companies that then increase the prices dramatically. A recent study noted. “In recent years, the prices of old, off-patent therapeutics with limited competition have become the target of a profit-boosting tactic among pharmaceutical companies: acquiring potentially underpriced drugs and subsequently increasing the prices. Strong candidates for this practice include therapeutics with few, or no, bioequivalent alternatives serving niche markets. Despite having long lost patent protection and exclusivity, many of these medications treat smaller populations and thus promise insufficient profits to potential generic competitors.” Since these drugs are already developed the standard refrain of drug companies that they need high prices to support drug development doesn’t hold water.

I know several people who have told me how private equity is the cure, but an industry looking for an annual return of 35% and doesn’t care about what it delivers is something we cannot afford.

In the U.S., 530,000 families turn to bankruptcy each year due to medical bills they can’t pay. For the wealthiest country in the world, this is a resounding failure. Sixty-six percent of personal bankruptcies between 2013 to 2016 resulted from medical issues. People could not pay their medical bills, either they were too expensive initially, or they had to take time off of work and were not getting paid. The research also noted that medical bills explicitly caused 58.5 percent of bankruptcies, while 44.3 percent were caused in part by income loss due to illness.

These numbers are getting the attention of Congress, and even in the partisan world, lawmakers on both sides are seeking to get rid of surprise medical bills. However, two of private equity’s biggest names have spent millions to make sure that any attempts to fix the U.S. healthcare system don’t interfere too much with their future profits, thus impeding such efforts.

Surprise medical bills occur when out-of-network providers at hospitals in their insurance networks treat patients. Surprise medical bills are getting more frequent, and 20% of patients who have elective surgery receive surprise medical bills. Other reasons are that while the average price of a visit to the emergency room increased 176% between 2008 and 2017, insurance companies have narrowed the number of doctors that are in-network, hoping to mostly find the doctors and hospitals that charge them the lowest amount.

However, using these doctors result in patients getting hit with surprise out-of-network costs from consulting physicians, especially in emergencies (such as being quarantined for coronavirus).

Private equity has played a significant role in driving up costs. The biggest P.E. firms have acquired private physician networks that have played a role in raising patient costs. In 2016, Blackstone paid $6.1 billion for TeamHealth, a hospital staffing company. In 2018, KKR acquired EmCare, a provider of emergency-care staffing services, as part of a $9.9 billion take-private buyout of Envision Healthcare. In 2017, Welsh, Carson Anderson & Stowe, TPG Capital, and Humana acquired Kindred Healthcare for around $4.1 billion.

Physician staffing companies are an attractive investment for private equity firms. With little regulation of billing practices, PE-backed clinics and their doctors can charge whatever they like, and patients often aren’t in a position to object. The system leaves insurance companies and patients arguing over bills. TeamHealth has drawn condemnation for aggressively pursuing unpaid medical bills while under Blackstone’s ownership. In the face of pressure from the media, the company ultimately pledged to stop suing those who couldn’t pay and reiterated it was against surprise billing.

One of the reasons for the increase in fees is that private equity has leveraged these companies when acquiring them. Now saddled with debt, increased pricing is their only salvation. According to Dr. Eileen Appelbaum, a co-director at the Center for Economic and Policy Research  TeamHealth owes $2.7 billion due by 2024, and Envision owes $5.4 billion due the next year.  “They each have a tremendous amount of debt,” Appelbaum said. “That’s their business model.”

“Unless you’re Bill Gates, you’re just one serious illness away from bankruptcy,” according to Dr. David U. Himmelstein of the Physicians for a National Health Program (PNHP) said in a press release. “For middle-class Americans, health insurance offers little protection. Most of us have policies with so many loopholes, co-payments, and deductibles that illness can put you in the poorhouse,”

The middle class’s downfall is more likely due to bankruptcy from medical bills than for the lower classes. Middle-class Americans are experiencing increasing co-payments and deductibles. The ACA helped the poor and, as they have few assets, generally do not go through bankruptcy proceedings.

With the coronavirus, there will be pressure on these companies to absorb more costs, which might lead them to breach their loan covenants. In other industries, this could lead to bankruptcy, which Private Equity is known for; however, as medical systems are so important, they will undoubtedly be bailed out by the taxpayer. Once more protecting the returns to private equity and leaving the rest of us with the bill. As I have said before, “The U.S. is capitalism for the poor, and socialism for the rich.”

The U.S. Healthcare industry is ill-equipped to deal with a public health crisis like coronavirus as a result of its efficiencies and debt loads. Depending on the human toll resulting from Covid-19 I expect the U.S. healthcare industry to look very different in ten years. The question is, will it be a third world model with the best resources only for the rich or a model reflective of the wealthiest country in the world?


Copyright (c) 2020, Marc A. Borrelli

Recent Posts

5 Strategic Leadership Skills Every Manager Needs

5 Strategic Leadership Skills Every Manager Needs

So often, people view leadership as a talent: you’re either born with this quality or you’re not. However, this is not always the case! In reality, good leadership is made up of skills, and anyone can learn how to improve. Some people may pick up leadership attributes...

5 Ways to Use Email Automation to Boost Traffic

5 Ways to Use Email Automation to Boost Traffic

Every single business in the world wants to evolve and grow. This will happen using a variety of techniques and strategies. In 2022, digital marketing is more than a household name, and most companies will adopt at least a few ideas when long-term planning and coming...

Profit and Revenue are Lousy Core Values

Profit and Revenue are Lousy Core Values

As I mentioned last week, I am down with COVID and tired, so spending more time reading rather than working. I read Bill Browder's Freezing Order this weekend, and I highly recommend it. However, at the end of the book, Browder says that oligarchs, autocrats, and...