Why Creditworthiness Matters
Is this angst different for an organization? Not really. An organization's long-term competitive position today is substantially dependent on its ability to raise affordable capital in the debt markets. An organization's board and management team must attain and maintain a minimum credit rating that permits the organization to effectively compete in its marketplace. Simply stated, credit ratings matter. Why?
First, creditworthy organizations have improved capital market opportunities. One such opportunity is access to credit enhancement such as bond insurance or a letter or line of credit. By purchasing bond insurance or a line of credit, an organization in the "A" rated or better category essentially can "buy up" to a higher credit rating. A higher rating means lower interest costs. A small decrease in the interest rate multiplied out over the life of the bond can mean significant savings.
Second, creditworthy organizations also have access to both taxable and tax-exempt debt. Taxable debt may be required for certain programs or services that don't qualify for tax-exempt debt. Organizations with a strong credit rating ("A" rating or better) may want to exercise the option of taxable debt for investments such as medical office buildings or joint-venture ambulatory facilities. Creditworthy organizations can also access derivative options such as interest rate swaps, caps, and other means or mechanisms to reduce overall interest rate costs and risk exposure.
Third, creditworthy organizations enjoy less restrictive bond document covenants, which give them the full benefit of financial flexibility. Lower-rated organizations are held to different standards that limit their flexibility to protect investors.
Fourth, creditworthy organizations also experience lower costs associated with issuing their bonds. Many of the large investor groups, funds, and insurance corporations that normally buy tax-exempt hospital bonds are precluded from buying debt beneath the "A"-rated category. Hence, the pool of potential investors for "BBB" bonds, for example, is much smaller than that for higher-rated bonds. Selling to a larger pool simply takes less time and energy and results in lower issuance costs. Because of the lower risk associated with issuing bonds for a creditworthy organization, insurance premiums are lower, as are letters and lines of credit from banks as well as underwriting and remarketing charges. In addition, organizations with impeccable credit can often issue their debt without setting aside a debt-service reserve fund.
Organizations with deteriorating credit will often be required to establish such a fund by setting aside at least a year's worth of principle and interest payments in an escrow account that cannot be accessed. This increases the amount of the borrowing, thereby increasing total principle and interest payments over the life of the bond.
Fifth and finally, creditworthy organizations are market consolidators. Organizations with the highest credit ratings are the most attractive partners to those with lower ratings. Such organizations offer excess capital capacity and lower capital costs. In the current business environment, strong organizations are consolidating markets by acquiring or merging with weaker competitors that are often no longer able to compete because of a lack of access to cost-effective capital. As one expert notes, "Winners in the competition for capital are systems that can invest in their future. Capital-poor provider organizations will be forced to sit on the sidelines in a growth era, unable to expand or upgrade facilities"
Is this angst different for an organization? Not really. An organization's long-term competitive position today is substantially dependent on its ability to raise affordable capital in the debt markets. An organization's board and management team must attain and maintain a minimum credit rating that permits the organization to effectively compete in its marketplace. Simply stated, credit ratings matter. Why?
First, creditworthy organizations have improved capital market opportunities. One such opportunity is access to credit enhancement such as bond insurance or a letter or line of credit. By purchasing bond insurance or a line of credit, an organization in the "A" rated or better category essentially can "buy up" to a higher credit rating. A higher rating means lower interest costs. A small decrease in the interest rate multiplied out over the life of the bond can mean significant savings.
Second, creditworthy organizations also have access to both taxable and tax-exempt debt. Taxable debt may be required for certain programs or services that don't qualify for tax-exempt debt. Organizations with a strong credit rating ("A" rating or better) may want to exercise the option of taxable debt for investments such as medical office buildings or joint-venture ambulatory facilities. Creditworthy organizations can also access derivative options such as interest rate swaps, caps, and other means or mechanisms to reduce overall interest rate costs and risk exposure.
Third, creditworthy organizations enjoy less restrictive bond document covenants, which give them the full benefit of financial flexibility. Lower-rated organizations are held to different standards that limit their flexibility to protect investors.
Fourth, creditworthy organizations also experience lower costs associated with issuing their bonds. Many of the large investor groups, funds, and insurance corporations that normally buy tax-exempt hospital bonds are precluded from buying debt beneath the "A"-rated category. Hence, the pool of potential investors for "BBB" bonds, for example, is much smaller than that for higher-rated bonds. Selling to a larger pool simply takes less time and energy and results in lower issuance costs. Because of the lower risk associated with issuing bonds for a creditworthy organization, insurance premiums are lower, as are letters and lines of credit from banks as well as underwriting and remarketing charges. In addition, organizations with impeccable credit can often issue their debt without setting aside a debt-service reserve fund.
Organizations with deteriorating credit will often be required to establish such a fund by setting aside at least a year's worth of principle and interest payments in an escrow account that cannot be accessed. This increases the amount of the borrowing, thereby increasing total principle and interest payments over the life of the bond.
Fifth and finally, creditworthy organizations are market consolidators. Organizations with the highest credit ratings are the most attractive partners to those with lower ratings. Such organizations offer excess capital capacity and lower capital costs. In the current business environment, strong organizations are consolidating markets by acquiring or merging with weaker competitors that are often no longer able to compete because of a lack of access to cost-effective capital. As one expert notes, "Winners in the competition for capital are systems that can invest in their future. Capital-poor provider organizations will be forced to sit on the sidelines in a growth era, unable to expand or upgrade facilities"
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