Inflation and the Holding Company Threat

The market environment remains challenging given sharply higher benchmark rates and continued uncertainty around credit spreads. Transactions are moving through the process but each one feels like a new adventure. The past two weeks have been relatively quiet on the new issue front. Next week brings several significant transactions across the taxable and tax-exempt markets, which should offer guidance on where we stand.

SIFMA reset this week at 0.46%, which is approximately 65% of 1-Month LIBOR and represents a -1 basis point adjustment versus the April 6 reset.

The Complexity of 2022 Inflation

Inflation chatter abounds. One cohort of experts thinks it will start to dissipate in the relatively near future; another thinks it will be in place for the next several years; yet another thinks the Fed can engineer a soft landing by taming inflation without bringing on a recession; a fourth cohort thinks the Fed will need to raise rates so significantly that recession and unemployment are inevitable; and on it all goes. Like everyone, I have opinions but no certitude about what happens from here. What I am certain of is that this latest dislocation—inflation and the Fed’s response—is pushing the same crisis-response buttons that lead to fragmented management across the operating, financing, and investing activities of healthcare organizations.

• Investing Activity: Turbulence across the investing markets is transforming what has been the anchor of resiliency over the past two years into a risk factor. The focus has been shifting to strategies that offer the prospect of better performance against the Fed’s tightening regime, with the persistent question being whether and how to rebalance the relationship between liquidity, risk, and return.
• Financing Activity: The market is responding to inflation and the Fed’s response by pushing rates higher, increasing the cost of borrowing and leading many finance teams to consider the use of capital structure risk products like floating rate or put bonds. The question they are wrestling with is whether it is time to start deploying risk capacity in hopes of avoiding or deferring the increasing risk transfer premium associated with issuing long duration fixed.
• Operating Activity: The turbulence across healthcare operations has little to do with inflation and the Fed’s response and everything to do with the carryover of COVID-sourced dislocations. For most organizations volume has not returned to pre-COVID norms, which results in continuing revenue headwinds. Alongside this have been material disruptions across the labor markets, and especially within the nursing subset. These revenue and expense pressures are not the result of inflation and are not likely to be fundamentally impacted by the Fed’s initiatives; these are structural business model issues the Fed isn’t positioned to solve. Nevertheless, the Fed’s actions might impact these issues at the margins, with potentially different healthcare outcomes if the Fed achieves its intended goal of a managed growth deceleration versus what might happen if we head into a full-blown recession.

As is always the case, in each of these functional verticals there are amazingly smart people doing great work to isolate the domain impact of the inflation problem and to identify response options. But this itself frames the biggest underlying risk of inflation or COVID or the credit crisis or any systemic disruption. Healthcare organizations cannot adopt a holding company approach that presumes the best outcomes will come through isolated response management across investing, financing, and operating activities. Instead, the best result is going to come from integrated management that leans on two perspectives:

• Vertical Perspective: Channel experts lead the identification of the challenges (i.e., what will inflation and the Fed’s response mean for this function?) and the roster of potential responses (should we shift to hedge funds or introduce capital structure risk?).
• Horizontal Perspective: Healthcare leaders take in all the vertical information but then shift to building holistic enterprise responses based on the prioritization of the challenges (what issues need to be solved?) and the responses (is it better for us to take capital structure risk and drive down debt funding costs or pay the freight to sell that risk so that we can carry elevated risk in our investing or operating activities?).

The task at hand is not to optimize an investment portfolio or a debt portfolio or an operating portfolio. It is to optimize a not-for-profit healthcare enterprise portfolio, which includes those three main verticals and each corresponding sub-vertical. If you approach the task as a holding company and allow each vertical to operate as an independent silo, you increase the likelihood of making sub-optimal resource positioning decisions. The holding company threat compounds during periods of dislocation and extends deep into stabilization, so the healthcare sector is a long way from a business environment where fragmented resource management isn’t a threat. Integrated thinking requires a supportive decision-support framework; we continue to advance the premise that an operating company approach is the only way to navigate the full crisis-to-stabilization-to-normalization journey associated with major disruptions, including the economic lockdowns used to battle COVID and now the Fed­-directed liquidity lockdown that is intended to get us through the inflation pandemic.

Trending in Healthcare Treasury and Capital Markets is a biweekly blog providing updates on changes in the capital markets and insights on the implications of industry trends for Treasury operations, authored by Kaufman Hall Managing Director Eric Jordahl.