Monday, July 18, 2011

Financial Policies

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I would like do dwell on how rents and other financial steps could be helpful for crisis for finance management of particular healthcare organization. Southern regional Medical Center rebuilt its credit position and achieved financial stability by implementing a seven-step corporate finance plan.

It was a time of crisis for Southern Regional Medical Center (SRMC) in Riverdale, Georgia. About two years ago, the organizations service lines were operating at a loss, not enough capital was available to cover existing projects, and future access to affordable capital was dwindling. The situation was so critical that Moodys Investor Service downgraded the organizations debt and provided an addendum evaluation of a negative outlook.

Yet this fiscal year, SRMC expects to break even. Even more remarkable, the organization plans to be $4 million in the black in FY0.

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How has such turnaround been possible?

SRMC used a strategic and organizational model of potential benefit to many healthcare providers. By following a seven-step approach to financial management that uses best practices and adheres to the principles of corporate finance, the organization staved off immediate financial threats, attained stability and has leveraged itself for long-term success.

The Need

Between 17 and 000, SRMC faced myriad challenges. A dramatic shift toward managed care was occurring in the Atlanta healthcare market. Turnover had resulted in more than 0 percent of the senior staff and nearly 70 percent of the director-level staff being new to the leadership team. Also, a major bond issue was completed to fund two large, certificate-of-need initiatives--construction of a Womens Life Center with 40 postpartum and 1 intermediate care neonatal beds and a large infrastructure improvement project.

Other strategic initiatives pursued in the 0s had significantly increased the SRMCs capital requirements and expenditures as well. The organization required substantial cash infusions each month to support day-to-day operations of 15 primary care medical practices it had acquired and/or absorbed. Also, increases in the scope of a number of construction projects resulted in more capital being required than previously anticipated.

Perhaps most worrisome was that the organization lacked connection between strategic and financial planning. Allocation of capital was driven heavily by community-benefit initiatives and medical-staff priorities. Projects were not given rigorous analysis, nor were potential returns quantified to determine their long-term financial impact on the organization. Interest earnings often were expected to carry the organization when individual projects were not self-supporting.

By mid-000, SRMC realized it would not be able to finish its construction and improvement projects. Funds from the bond issue used to finance the capital projects quickly were evaporating. SRMC also was not able to meet the requirements of the letter of credit supporting its variable-rate debt. The organizations credit position was deteriorating rapidly. Although net patient revenue was increasing, operating income was declining sharply and SRMCs key financial ratios were showing the strain. The operating margin, already in the red for several years, had declined dramatically during the prior year. Debt-service coverage and days cash on hand also had declined. Debt-to-capitalization ratio had climbed to a relatively high-risk level. Clearly, access to affordable external capital would have been difficult, if not impossible.

Implementing a New Approach

In the fall of 000, SRMCs leadership confronted these organizational challenges and embraced a seven-step approach that uses best practices in corporate finance. The approachs steps include

Establishing appropriate financial goals and objectives for the organization to ensure its ability to pursue its mission;

Managing a calendar that drives and defines the relationship between strategic planning, financial planning, the operating budget, and capital allocation;

Designing a comprehensive capital-allocation process that includes sound financial planning, review of all projects on a level playing field, coordinated calendar and planning cycles, and the use of corporate finance-based analytical concepts;

Linking strategic planning and financial/capital planning (strategy focuses on external market needs and how the organization can best meet those needs; financial planning follows and supports critical strategies);

Managing cost on an ongoing basis by continually monitoring costs to maintain the lowest possible level consistent with quality standards and customer-service excellence;

Defining measurable short- and long-term financial targets for which senior management is accountable; and

Creating organizational processes that will be measured and systematically improved.

The rigorous financial-management cycle (see Exhibit 1) provided management with a basis for the tough decisions it needed to make. SRMC needed to determine the level of financial performance that would be necessary to support its strategic capital requirements. The organization also needed to develop ways to meet short-term challenges and still build sufficient future capital capacity to ensure long-term access to debt and equity capital.

To quantify the magnitude of the financial challenge, SRMCs leaders analyzed the organizations capital position. The analysis showed that capital uses planned for years 001 through 005 (estimated capital investment, funding of a minimum cash position, and principal payments on debt) exceeded capital sources available in 000 (existing cash, net available debt capacity, and bond-related construction funds) by nearly $150 million. Based on this shortfall, leaders estimated the annual operating cash flow need to be nearly $0 million. Given the cash flow achieved in the two previous years, attaining this amount would not be feasible.

Creating a Short-Term Operating Plan

Consideration then turned to whether changes could be made to operations and strategies to achieve the desired level of profitability. SRMC management used a 1-point operating plan to address the calculated capital shortfall. The team recognized that not every strategy could be pursued in the short term and that the organizations financial position needed immediate attention. Each point was quantified to an income-statement or balance-sheet outcome or to a supporting activity consistent with the financial plan. Capital partners, such as the rating agencies, bond insurers, and key lenders, were made aware of the plans objectives and received quarterly status updates. Because SRMC would have no available debt capacity for the near future, management recognized that all capital funds temporarily would need to be generated internally.

At the same time, the organizations ultimate viability needed to be considered. A long-term plan to enhance SRMCs liquidity was mandatory. Specific resources were dedicated to an evaluation of ongoing services, and the near-term organizational focus shifted to revenue-producing investments. To assist with planning, leaders laid out a glide path toward financial stability. The goal in FY00 was to resolve all debt covenant-related issues. In FY01, an operating-margin target of a $4. million loss was set. The operating margin was targeted to break even for FY0 and to be $4 million in the black in FY0.

To reach these goals, the leadership team outlined specific improvement strategies to be pursued simultaneously. In addition, a measurable and specific revenue-improvement or cost-reduction goal was assigned to each initiative. For example, service-line operational improvements, tracked quarterly for each of the organizations 1 service lines, were to result in operating-margin improvements of nearly $4.5 million. SRMCs strategies differed by service line, with some calling for cost reductions and others for volume or market-share improvement or internal revenue-cycle improvements. Goals included

Reducing length of stay and delays in care through managing patients within clinical targets (goal $1.75 million);

Subleasing or divesting real estate/joint-venture holdings (goal $1.1 million);

Improving the revenue cycle to aid conversion of gross revenue into net revenue (goal $1.5 million);

Achieving pharmacy/supply-cost savings (goal $0.6 million);

Reducing precertification/medical-necessity denials (goal $0.6 million);

Reducing use of agency staff and recruiting/retaining staff nurses (goal $1.5 million); and

Achieving key operational benchmarks for each medical center department for both patient care and support services (goal $1 million).

Financial-planning analysis drove each goal, and all analytical results were communicated to senior management, key board members, and capital-markets constituencies. Responsibility for each goal was assigned to a vice president.

During the glide paths first year, the focus was on operational issues. Throughout the organization, capital essentially was shut down in FY00 and FY01 as the leadership team closed unprofitable operations to get operating costs under control, addressed the revenue cycle, and managed the overall income statement.

Meeting the Long-Term Cultural Challenges

By the fall of 001, the leadership team had the acute income statement issues under control and was ready to implement additional elements of the best-practice corporate-finance approach. Understanding that lack of support can impede strategy, leaders focused on introducing the approach in a way that would be acceptable, understandable, and meaningful to the organizations culture.

The first and foremost challenge was to educate managers about basic corporate finance. All SRMC managers and their key staff needed to know how to read basic financial reports and understand key concepts, such as net present value and ratio analysis. Such education was necessary to ensure that sound financial management would become a cultural imperative, rather than just a concern of the finance department.

To meet this challenge, SRMC offered a five-part course on the basics of corporate finance to all vice presidents and director-level staff. Included were discussions of four measurements that would be reported to managers quarterly

Profitability (margins and compensation ratio);

Liquidity (days cash on hand and cash-to-debt ratio);

Debt service (debt-service coverage ratio), and

Capital structure (average age of plant and debt-to-capitalization ratio).

The wide distribution of these data emphasized to staff the importance of looking at the organizations financial picture as a whole, not just one component. For example, if capital spending gets out of control, the liquidity measures will show the effects. Similarly, if the organization is borrowing to improve liquidity, the leverage measure will show the effects.

Revising the organizations annual planning calendar was the second key challenge. Effective calendar management requires integration of management, planning, and implementation (see Exhibit ). Planning schedules must be understood and maintained throughout the organization. SRMC educated all of its managers about the organizations revised calendar for managing the financial and capital decision-making cycle by planning retreats in late 001. Five-year financial modeling commenced in January 00, and now updates to the capital plan occur annually.

SRMC also needed to transition its financial statements to be more progressive, rather than retrospective. A key step was to change the focus of the statements to cash flow rather than just income or expense line items. The updated statements use a rolling six-month time frame and are updated monthly.

The organization also had to reconfigure its capital decision-making process. To ensure organizational turnaround was accomplished, SRMCs leaders determined that it was necessary to

Link management decisions to specific, quantifiable goals;

Scrutinize big-ticket, multiple-year projects for their impact on financial ratios;

Use discounted-cash-flow tools and simulations to help minimize the risk associated with the unexpected;

Quantify available capital for all of the organizations processes;

Designate a one-time comparative evaluation for all proposed projects;

Require clear return-on-investment goals for each project; and

Limit non-revenue-producing projects to a specified total dollar volume of available capital.

Under the new capital decision-making process, proposals for new projects could not be approved independent of a review process that encompassed all of these points. To ensure a level playing field, the elected medical staff department heads composing SRMCs Medical Executive Committee were allowed input into the capital-allocation process. Also, projects requiring an investment of more than $50,000 needed to be analyzed using discounted-cash-flow tools and some level of simulation to manage risk and uncertainty

Next, SRMC had to reconfigure the operational decision-making process. Departmental budgeting needed to reflect the capital-allocation portfolio. Service lines provided by SRMC had to demonstrate a range of returns. To this end, the organization constructed 1 service lines from groupings of inpatient DRGs and outpatient ICD- codes that cover all patients seen in the medical center. Volumes of patients seen and the net revenue generated are the base line from which incremental volume increases or cost reductions can be measured. This tracking method helps determine how much additional volume an investment will generate.

SRMC then began to address its last challenge of including medical staff in the turnaround process. Managing relationships with physicians is important because clinical protocols directly influence operational variables, such as length of stay or the use of expensive diagnostic procedures, that can affect the hospitals bottom line. SRMG management recognized that fiduciary responsibility needed to extend to utilization review (including the financial impact of utilization patterns), medical records, protocol compliance, and risk management. Medical staff performance needed be tracked on predefined criteria, such as customer satisfaction, volume and growth goals, quality-of-care indexes, and continuing education or staff development standards.

SRMC currently is completing these efforts. Fortunately, many physicians have been eager to use valid statistics to improve the financial impact of their practice patterns.

Twenty-Four-Month Progress Report

A look at SRMC 4 months after implementing the corporate-finance plan finds the organization has improved its financial position significantly Leaders believe that SRMC is well on the way to achieving its operating-margin goals and rebuilding its balance sheet. A healthy income statement is expected in one or two years. However, rebuilding the balance sheet will take more than five years and require continuous focus. So far, SRMC has met most of the critical checkpoints on its established glide path. As a result, its capital structure has stabilized, all technical default issues have been resolved, letters of credit have been extended and renegotiated, and a strong credit rating has been attained.


To remain competitive, organizations should apply all of the corporate management tools available to them. Implementing a best-practice corporate-finance approach like SRMGs is one way to help ensure an organized and strategic approach to financial planning. Although the process may take several years to complete, positive results can be achieved even in the most difficult circumstances.

Georgias Southern Regional Medical Center used a proven corporate finance approach to dramatically improve its financial position and integrate its strategic and financial planning.

Managers throughout the organization were educated about principles of corporate finance.

Reliable cash-flow projections were used to create a multiyear glide path to financial stability.

Initiatives were tied to specific time frames and quantifiable financial goals and underwent a standardized review process.

Southern Regional Medical Center (SRMC)

Location Riverdale, Georgia, on the southern boundary of metropolitan Atlanta.

Description A 410-bed not-for-profit facility offering a full range of acute medical and surgical services, with a strong emphasis on womens services, and providing about 84,000 patient days of inpatient care per year.

Annual net revenue $185 million

Inpatient admissions 1,000 per year

Emergency department visits 70,000 per year

Outpatient visits 85,000 per year

Staff More than 00 physicians hold active staff privileges.

Competition Three smaller acute-care facilities operate within SRMCs geographic area.

Lessons Learned

Creditworthiness indicators are not just for the capital markets; they are vital signs for any organization and should be monitored at least quarterly.

Capital capacity is integrally tied to levels of cash flow.

Capital budgeting is a portfolio-management issue.

Service-line and medical-staff strategies directly influence short- and long-term financial outcomes and should therefore be broadly understood and communicated.

Capital partners, such as rating agencies and banks, know the industry well, so it is important to answer their questions directly.

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