Hospital financials projected to continue trending upward despite various X-factors

Hospitals are coming off a year of improved stability that should continue even with looming questions and challenges for 2025, according to recent data and insights.

As reported in December, Fitch Ratings upgraded the sector outlook (login required) for not-for-profit (NFP) hospitals to neutral/stable after more than two years in which the outlook was categorized as negative/deteriorating.

A key factor in the improvement has been a moderation of labor trends, with better retention rates and less reliance on contract workers than in 2023, Fitch experts said during a webinar.

“There’s an inverse relationship between your personnel costs and what your operating margin [is],” said Kevin Holloran, sector leader for the NFP healthcare group with Fitch (Holloran also is a member of HFMA’s Board of Directors).

Margins showed steady improvement in 2024, reaching 0.8% among rated credits with Dec. 31 fiscal year-ends, compared with 0.4% for all credits. However, margins continue to trail pre-pandemic levels.

For 2025, Fitch projects a median margin of between 1% and 2%. That would be noteworthy progress from the past several years but still would fall short of the 3% mark that hospitals generally say is needed to avoid constraints on capital expenditures, Holloran noted.

Volumes are likely to remain at or above pre-pandemic levels, but so are labor costs, even though those have come way down.

Fitch does not expect credit impacts for Southern California NFP hospitals amid the wildfires that have ravaged portions of the area. As those facilities strain to support their communities during the emergency, they have generally avoided substantial damage. However, some conceivably will face disruption due to staff displacement and the need for widespread community clean-up and repair efforts, Fitch wrote in a bulletin about the ramifications for the overall U.S. public finance sector.

Upcoming policy implications

At some point, although not necessarily in 2025, policymakers might cast a more critical eye on spending in state-directed Medicaid payment programs, which generally bring up the Medicaid payment rate to more closely mirror a hospital’s commercial rate.

Hospitals already are starting to plan for how to maintain their margins if that revenue source gets curtailed, said Mark Pascaris, analytic lead for the NFP healthcare group at Fitch.

Medicare Advantage is another policy area of note after a year in which, anecdotally, hospitals terminated their contracts in larger numbers. From a credit-rating standpoint, the positive aspect of that trend is the willingness of management teams to make difficult strategic decisions, Pascaris said.

However, he added, “Long-term, there has to be a plan, there has to be an avenue to make sure that those potential patients, those volumes, do not permanently walk out the door.”

Elsewhere, in a hypothetical scenario in which NFP hospitals lose their tax exemption amid ramped-up IRS scrutiny, Holloran does not foresee a likelihood of mass credit downgrades. Hospitals already are taking on more taxable debt than they once did.

“It hurts, but it isn’t the death blow,” Holloran said of such a scenario. “It’s just something else we’re going to have to deal with.”

Risks for some hospitals also loom in the 2026 potential end to enhanced subsidies for buying insurance in the Affordable Care Act marketplaces and in President-elect Donald Trump’s focus on streamlining government, Holloran said. The latter dynamic could eliminate some funding sources that help hospitals, such as grants from the National Institutes of Health.

Fits and starts

Recent data illustrate that the sector’s collective journey back to higher margins is not a straight line.

Strata Decision Technology’s monthly data showed that the median hospital operating margin in November was flat year-over-year (YOY) after falling by 1.9 percentage points from October. Median EBITDA margin ticked up by 0.2 percentage points YOY and dropped by 1.6 points month-to-month.

Expenses continue to pose constraints, including in purchased services, a category that increased by 8.2% YOY. Nonlabor expenses in general increased by 5%, while labor expenses rose by 5.4% and overall expenses by 4.7%. Per adjusted discharge, YOY increases were 2.3% for labor, 2% for nonlabor and 1.5% for total expenses.

The monthly expense trend was more favorable, especially as seen in decreases relative to October of 14% for drugs and 10.9% for supplies.

Volumes dipped noticeably from October to November (e.g., 13.5% for outpatient visits, 12.1% for emergency visits), and while those changes might be a blip, the YOY trend also suggests a softening of demand. Declines from November 2023 included 7.6% for emergency visits, 3.5% for observation visits, 0.6% for outpatient visits and 0.3% for inpatient admissions.

That said, most service lines saw YOY volume jumps, led by vascular (11.1%) and hepatology (10.9%). The only measured service lines with decreases were neonatology (1.9%) and ear, nose and throat (1.5%).

Revenue cycle metrics provided monthly by Kodiak Solutions continue to show a mixed bag, including a 36.1% YOY surge in point-of-service cash collections.

On the downside, the company highlighted a 6.3% rise in Medicare accounts receivable (A/R) older than 90 days. Ways to address the situation include examining preregistration and authorization workflows and better prioritizing older claims in follow-up efforts. The demonstrated improvement in POS cash collection processes also could help if applied to Medicare A/R.