In recent weeks, I’ve heard questions from many hospital executives about the environmental, social, and governance (ESG) scores being rolled out by the rating agencies: What are the scores? What is the rationale for assigning scores if ESG is already factored into bond ratings? How will the scores affect their organization? Could an unfavorable ESG score impede a hospital’s ability to access capital, attract talent, or deliver on its ESG commitments?

These are the right questions for hospital executives to ask. Although some of these questions will require more time and experience to answer, three key points should be kept in mind

First, ESG scores from rating agencies reflect the risk that ESG issues will affect a hospital’s ability to earn cash flow and repay its debt. ESG scores are not “gold stars” for a sophisticated or well-considered ESG strategy.

Second, ESG is not new to not-for-profit healthcare. Every mission, vision, and values statement and strategy ever shared with rating agencies embrace the principles of ESG. More recently, hospitals are taking these long-held goals to the next level with commitments to reduce carbon emissions, build inclusive cultures with workforce diversity, and improve transparency around these efforts with stronger governance.

Third, ESG risk is not new to bond ratings. Ratings have long incorporated factors such as the effect of climate-related disasters, payer mix challenges, and governance structures that may lower the ability or willingness of a hospital to repay debt.

This last point begs this question: So why the need for a separate ESG score?

Investors in not-for-profit healthcare debt are looking more closely at ESG risks in their investment decisions. Their taxable counterparts have been doing so for years. Requests for more granularity and the ability to compare ESG risks among hospitals prompted the rating agencies to respond with systems to compare borrowers within the sector and across other industries. Hence, ESG scores were born. If this sounds at all familiar, it’s the same demand for comparability in an easily understood system that gave rise to the bond rating industry over a century ago.

It’s also a good reminder of an important fact that my colleague Eric Jordahl pointed out in his July 9th treasury and capital market update. Bond ratings, and now ESG scores, are for the investor.

The effect of ESG scores on bond pricings remains unknown at this nascent stage. Many asset management funds have set up impact funds that look for borrowers committed to the principles of ESG. For example, an impact fund may seek Green Bonds or Social Bonds or borrowers that are large public safety net systems. Whether an ESG score will be a prerequisite or even influence buying decisions has yet to be determined. We know that many of the large asset managers are doing their own assessments of ESG risks and may use the rating agency scores as verification of their findings.

Could there be other unintended consequences of ESG scores? Maybe. The next generation of hospital workers, which is already in great demand, may see an unfavorable ESG score as a sign that the hospital is not embracing solutions that address ESG concerns and choose to work elsewhere; this could hamper ESG-related efforts to build a more diverse workforce. We also know that the general public often does not understand what bond ratings are and sometimes interprets them as an indication of quality. Even a century later.

We will continue to monitor these issues in the coming months and will report back as answers to your questions become more clear. In the meantime, we advocate that you continue to define and share your ESG strategies with rating analysts and your investors. We are compiling resources to help you in a dedicated ESG section of the Kaufman Hall website.

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Lisa Goldstein

Senior Vice President
Lisa Goldstein is a nationally recognized analyst, speaker, writer, and expert on not-for-profit healthcare. At Kaufman Hall, she is a member of the Treasury and Capital Markets practice and Thought Leadership team.
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