Joe Hermitt/The Patriot-News via AP
Pennsylvania Gov. Tom Wolf speaks about the coronavirus crisis, March 12, 2020. Wolf agreed to bail out private equity–owned Easton Hospital with federal funds.
On March 22, the Steward hospital chain sent a letter to Pennsylvania Governor Tom Wolf, saying it would close Easton Hospital, in the state’s Lehigh Valley, on March 27 unless it received a government bailout to keep it operating.
Steward’s letter read: “If the Commonwealth has no interest in assuming all operating expenses and liabilities of Easton Hospital, Steward Health Care will proceed immediately on planning to close the facility.” The threat paid off: On the 27th, the state guaranteed Easton $8 million for April and a likely $24 million through the month of June. The bulk of the funds, Wolf said, would be covered by the federal bailout package that President Trump had signed into law that very day.
How Easton had descended to such dire straits is a good question, inasmuch as its owner—the private equity firm Cerberus Capital Management—is hardly a candidate for taxpayer-funded assistance, and is responsible for loading down the hospital with an unpayable level of debt.
The Easton story is likely to be just the first of many. After compelling hospitals to take on huge piles of debt through leveraged buyouts, private equity firms—currently sitting on $1.5 trillion in uninvested cash from investors—are poised to line up for taxpayer bailouts.
Steward has claimed that Easton Hospital has been financially distressed for months, that competition from other larger hospitals is fierce, and that the postponement of all elective surgeries has further cut into revenues. It had worked out a deal to sell the hospital to St. Luke’s University Network, but the deal has slowed down due to the COVID-19 crisis.
But why is Easton Hospital struggling so much more than other hospitals?
After compelling hospitals to take on huge piles of debt through leveraged buyouts, private equity firms are poised to line up for taxpayer bailouts.
Size matters, but its private equity buyout history matters more. In March 2017, Cerberus acquired Easton, along with seven other hospitals, in a leveraged buyout for an undisclosed amount from Community Health Systems (CHS). While we don’t know how much debt Steward took on in order to buy out Easton, the typical private equity buyout includes debt financing in the range of 50 percent to 70 percent of the purchase price, which the acquisition, in this case Easton Hospital, is expected to repay. We do know that at the time of the sale, Steward sold the property of all eight hospitals to a real-estate investment trust, Medical Properties Trust (MPT), and pocketed $304 million in return.
Since then, Easton Hospital has had to pay rent on property it had owned for the 127 years of its existence. How much of Easton’s revenues have been used to pay down debt Steward incurred to acquire it and to pay rent on its facilities—revenues that could have been used to financially stabilize the hospital?
Easton’s financial struggles began under the ownership of CHS, itself originally owned by private equity firm Forstmann Little & Co. Forstmann used the classic private equity leveraged buyout model to buy out hospitals and load them with debt. Forstmann cashed out in the mid-2000s, but CHS continued the LBO strategy with financing from Forstmann even after it went public. Its largest buyout came in 2014, when CHS bought Health Management Associates (HMA) to form the largest for-profit chain in the country by number of hospitals—with more than 200 hospitals and 30,000 beds. But this led CHS to crash.
By June 2015, the hospital system’s total long-term liabilities had increased dramatically and its debt-to-equity ratio had nearly tripled since 2000. CHS was unable to meet its debt obligations and began selling off hospitals to pay down debt and avoid default. Its share price, at a high of $65 a share in July 2015, fell to a low of $1.81 per share in August 2019.
In its divestment spree from 2017 to 2019, CHS sold off 53 hospitals—including Easton to Steward. Most of those hospitals were in financial trouble. As of February 2020, only 11 had positive operating margins; four were closed soon after they were sold; 38 had operating losses, and of these, six have since declared bankruptcy. While it is true that smaller hospitals don’t have the revenue or the payer mix of larger systems, size alone doesn’t explain this level of hospital disasters. CHS’s debt burden prevented it from investing in Easton and its other hospitals to help them develop a sustainable footing.
Enter Steward to buy out Easton with the same private equity playbook. From 2010, when Cerberus bought out a handful of Massachusetts Catholic hospitals and created the Steward platform, to 2020, its aggressive buyout activity made Steward the largest private hospital system in the U.S. It owns 37 hospitals (with over 7,900 beds), more than 25 urgent-care centers, 42 skilled-nursing facilities, and a network of physician groups—with some 42,000 workers serving 800 communities.
Steward knew that Easton was financially weak when it bought the company, but claimed it could turn it around. But was the buyout just a real-estate deal from the beginning? Throughout its empire, Steward’s buyout strategy has included sale-leaseback deals in which it sells off valuable hospital real estate to pay itself back. In September 2016, Steward sold all of its acute-care hospital properties to Medical Properties Trust for $1.2 billion—allowing Cerberus to recoup its initial investment in Steward and more. It repeated this a year later, buying out IASIS Healthcare, owned by PE firm TPG, and selling the real estate of 11 of the hospitals to MPT in a sale-leaseback deal that returned 75 percent of the purchase price to Steward’s private equity owners.
While Cerberus and its investors have prospered, the Steward system is in financial ruins. In 2018, Steward’s Massachusetts hospital system was the worst-performing in the state on every metric. It lost $592 million in 2017 and 2018. In 2018, its overall margin, including operating and non-operating activities, was negative 4.1 percent. Its current ratio (a measure of its liquidity) for its Massachusetts hospitals, was under 1—indicating that its current liabilities cannot be met with current assets. Steward’s long-term debt exceeded the value of its assets by $1.21 billion.
Like the health care workers at Easton Hospital and the patients in the rural Lehigh Valley, Steward’s 42,000 workers and the 800 communities it serves face the danger of a sudden shutdown by the financially frail system if it cannot cope with the coronavirus crisis that is sweeping across the country.
Federal bailouts to the rescue. Easton Hospital is the first private equity bailout, but surely not the last.
Some of the analysis in this piece is based on the authors’ just released study, “Private Equity Buyouts in Healthcare: Who Wins, Who Loses?” (Working Paper 118, Institute for New Economic Thinking).
