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Oct. 26 — Investors in bonds issued by religiously affiliated hospitals might want to take notice of a trio of pension cases currently pending at the U.S. Supreme Court.
The high court has been asked by three hospitals—Advocate Health Care Network, Saint Peter’s Healthcare System and Dignity Health—to rule on whether they can legally operate their massive pension plans as “church plans.” As “church plans,” these three hospitals and hundreds of other religiously affiliated hospitals have operated as exempt from the Employee Retirement Income Security Act.
Such plans aren’t subject to ERISA’s rigorous funding requirements. Workers at these hospitals have alleged that by erroneously operating as church plans, these hospitals’ plans are underfunded by billions of dollars, risking the retirement security of hundreds of thousands of workers. So far, that argument has been persuasive for some federal courts.
Two of the three hospitals seeking Supreme Court review—Advocate Health and Dignity Health—have issued bonds. While it may be too early to speculate how the Supreme Court would rule if it takes up the cases, a ruling against these hospitals could affect their credit ratings and the bondholders.
Many hospitals sell bonds as a way of raising money for such things as new wings or campuses. By offering bonds, a hospital is able to allocate the “capital cost” of the new ventures to the future revenue that will be generated, Bruce Deskin, managing director at HFA Partners LLC in Tampa, told Bloomberg BNA. HFA Partners advises nonprofit health-care providers on debt structure, including bonds, bond ratings and debt capacity analysis.
Advocate Health and Dignity Health have outstanding bonds and have a good credit rating from Standard & Poor’s. The rating agency gave long-term credit ratings of AA to Advocate and A to Dignity. According to S&P’s ratings system, a AA rating means “investment grade” and comes with a “very strong capacity to meet financial commitments.” An A rating has the same description as the AA rating, but comes with the caution that such organizations may be more susceptible to adverse economic conditions and changes in circumstances.
S&P acknowledged the pending litigation against Dignity in its ratings report in April, saying that its pension’s unfunded status is large and limits the hospital’s financial flexibility, “but the lengthy funding period and recent improvements in funding mitigate this to a certain extent.”
While Dignity is involved in the litigation, “there is still no definitive information on the ultimate outcome of these lawsuits because the legal process, including appeals, will likely take additional time. We will continue to evaluate this as details become available,” the S&P report said.
So what exactly is at stake for the investors that hold bonds in these hospitals if huge liabilities are added to their books? There are a few ways that bond investors could be impacted, Pierre Bogacz, co-founder of HFA Partners, told Bloomberg BNA.
The first level would just involve selling the bonds if an investor thinks that circumstances warrant it. Of course, they have to find a buyer first, he said.
“The next level of impact is how the rating agencies rate the bond, because that is going to make them more or less attractive to investors,” Bogacz said. Investors are directly impacted by a change in ratings, even if their only recourse is to sell their bonds, he said.
There is another way bondholders could be impacted and possibly have some recourse beyond trying to offload their bonds on another buyer.
“If the additional liability is so large that it trips their bond covenants, which are the terms of the debt,” the investors could have some recourse, he said.
That’s because most bonds have minimum liquidity and maximum debt-to-capitalization requirements. A large enough liability could trigger a default, and in the event of a default, the bondholders can have some legal recourse, Bogacz said.
“They get to come in and take over and decide as to how things go from there. But it really is only to the extent the terms of the bond agreements of the debt have been broken,” he said.
The bottom dollar on liability for these hospital plans might also depend on what the Supreme Court says about their Pension Benefit Guaranty Corporation premiums. The plans, because they’ve claimed to be exempt from ERISA, haven’t been required to pay PBGC premiums. If the court rules that the plans should have been subject to ERISA all along, there’s a possibility the hospitals would need to adequately fund their plans and pay retroactive premiums to the PBGC.
There are a lot of questions about what these hospitals could owe the PBGC in premium payments and whether the plan funding requirements would change, Andrew L. Oringer, a partner with Dechert LLP in New York, told Bloomberg BNA.
In extreme situations, the PBGC premiums and funding requirements could be so high that they could even affect the creditworthiness of the hospitals, he said.
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