July 2013 Cactus Clarion 1/2013-14
Arizona Chapter Recognized
at HFMA’s ANI (pg 5)
New members since
April 2013 (pg 6)
Alan Newberg, FHFMA
The Membership Committee is off
to a great start for the new HFMA
fiscal year. We have 12 chapter
members who have volunteered to
participate. Our goal is to increase overall chapter membership by 20 members, or 4%. This
will be accomplished by focusing
on both retaining you, our existing
members, and reaching out to
others in the healthcare financial
Last year, AZ HFMA sponsored two
social events – a holiday outing at
Lucky Strike Lanes, and a networking event co-hosted with
AHE. Both events were held in
(Continued on page 2)
From the Editor
Hospitals Manage Risk
I should start by saying that is seems
very odd for me to be writing a President’s Message as I have been a reader
of dozens of newsletters over the years
which had greetings from those who
have, in previous years, worked so diligently to build the chapter into the organization that is today. That being said,
I can only hope that I live up to the
standards that have been set. The
‘theme’ for this year which has been set by the HFMA National
Chairman, Steven Rose is Whatever It Takes. I hope to follow
(Continued on page 2)
Thinking About Merging? Considerations for Your
Spurred on by growing economic challenges, many remaining
independent community hospitals are currently considering some
degree of affiliation with a larger health care system. This is not
surprising as hospital mergers and acquisitions have steadily
been increasing since the recession of 2007-2009.
(Continued on page 3)
(President’s Message continued from page 1)
this theme throughout the year by applying the ‘whatever it takes’ mantra to ways I can facilitate outstanding member satisfaction.
As most members know, the Board has been focused on an objective we call ‘the Quest’ which is a term
we are using for a quest for the Shelton Award which is presented to chapters who have excelled in various categories for five consecutive years. The award, however, is not the true goal. The goal is to build
our chapter into the best it can possibly be by using benchmarks and standards produced by previous
award winners. The award is only a target to facilitate this goal. Member satisfaction scores are an integral part of the evaluation system we use to determine if we are on the right track. As a member your
input is very important to us as we plan and make decisions about our conferences and events. Over the
course of the year, please let us know how we are doing. Please feel free to offer suggestions or give
constructive feedback. You have my promise that I will do my best to do ‘whatever it takes’ to make the
chapter the best it can be for each and every member.
The next 12 months promise to be among the most interesting and potentially fluid times in healthcare
finance history. There are already changes or delays possible in some mandates of the Affordable Care
Act while other initiatives are set to begin in earnest shortly. I hope you will continue to look to the chapter as your primary source of education and information to navigate these changes and evaluate the impact to your organization.
And now, a few updates….
By the time this newsletter hits the HTML press and lands in your Inbox, the Program Committee
will be well on its way to planning our Fall conference which will be held again in Tucson at the JW Marriott Starr Pass on September 11th-13th. Event details are on the chapter website along with information
on current webinars and other education opportunities.
You may have received a recent announcement regarding the next practicum being offered to
members to assist with passing the certification exam. This is a free (but limited) resource to our members. In addition, there are a limited number of reimbursements available for the exam fee for those who
successfully pass and become certified.
As the newsletter only comes out one time per quarter, I will do my best to keep the Arizona
Chapter LinkedIn page updated with all relevant activities and announcements. I you haven’t signed up
yet, we would love to have you join us.
Thank you for allowing me to serve as this year’s chapter President. I am looking forward to an outstanding year. We soon shall see if I have “whatever it takes!’ I welcome any comments you may have
at [email protected] or 602-576-2352.
AZ Chapter President, 2013-14
(Membership Forum continued from page 1)
Phoenix, and received positive comments from those who attended. This year, we plan to add additional
events in both Phoenix and Tucson.
This year we want to revamp our “new member orientation” program to help new members become
more involved, as well as navigate how to get the most out of their membership.
Also this year, we want to reach out to potential members and learn what they want from HFMA and our
chapter. We know some organizations embrace and encourage their financial professionals to join
HFMA; others, not as much. We plan to learn what these healthcare organizations want and need from
our chapter for their financial staff. We will do this by meeting with financial executives and chapter
members at various healthcare organizations across the state, not to sell them on the value of HFMA
(although it really is an easy sell); but, to ask questions, listen, and learn what they want for their staff.
If you would like to meet with a member of our committee to share our ideas and thoughts, please reach
out and contact me. We would love to hear from you.
Finally, if you have not renewed your membership for the 2014 fiscal year, please go on-line and renew
today. The greater our financial community participation, the stronger our chapter, and the more we can
do for our members and the healthcare industry. 2014 is going to be a great year for AZ HFMA!
(Mergers continued from page 1)
According to Irving Levin Associates, there were 51 merger or acquisition deals in 2009, 75 in 2010 and
86 in 2011─the highest number in the past decade. Moody’s Investors Service reported in March 2012
that this consolidation trend is expected to continue.
Drivers of Hospital Consolidation
There are several factors driving the pace of mergers and acquisitions for independents: volume growth
constraints; struggling local job economy; continuing cuts to Medicaid and Medicare reimbursements—
two major payer sources; rapidly changing technologies; other hospital consolidations in the regional
market; limited geographical growth opportunities; poor payer mix; and difficulty in accessing capital to
make needed improvements. Any one of these market forces would put enough pressure on a hospital’s
revenue base to push it toward affiliating with a bigger, more financially stable hospital or hospital system.
Furthermore, the Patient Protection and Affordable Care Act─ACA for short─is expected to push independents to strongly consider an affiliation with other hospitals as health care reform is phased in. Its
implementation for hospitals is projected to raise the costs of doing business (increased compliance)
and to reduce revenues (reimbursement cuts), making it more difficult for smaller hospitals to remain
autonomous. Additionally, by mandating new delivery models to reduce health care costs and improve
quality, the ACA will encourage hospital consolidation by rewarding integrated health care systems that
can achieve these goals.1
The Need To Affiliate
While the economic pressures cited above are external drivers, there are several internal indications
that may signal when an independent hospital should consider aligning itself with another hospital or
hospital system. When conducting an assessment of a stand-alone hospital’s ability to remain independent, leadership should focus on some of these key indicators:
Ongoing financial problems, including a strained balance sheet and an unfavorable cost position hindering the ability to reduce expenses to stay competitive
Limited debt capacity to meet current or long-term capital needs
Inability to attract and retain physicians, in both primary care and key specialties
Reduction in total market share and a lack of profitable service lines
Poor clinical performance
Deteriorating utilization and financial performance trends
Weakened position in negotiating rates with insurers
Ability and willingness to pursue new opportunities.
Once the assessment has been made and leadership believes the hospital can no longer remain independent, it is not always a “merge or perish” situation. There is a range of affiliations that a hospital’s
leadership can consider from a fairly simple cooperation agreement between hospitals for some mutual
benefit, such as group purchasing, to an acquisition of one facility by the other in which all control is
surrendered to the acquiring facility. In between are management agreements, clinical affiliations and
lease transactions─each one a formal partnership with legal and financial commitments by each party.
It is important that board members and senior management understand what is involved with each type
of affiliation─the resulting legal, governance and financial aspects of the transaction structure under
consideration. While the idea of partnering may seem to be the obvious decision, the benefits of any
type of affiliation must be weighed against the loss of independence, local control and flexibility.
Do Your Due Diligence
Once a decision is made to move forward with some level of affiliation, the community hospital needs to
find a suitable partner. The first step is to determine the goals of the partnership and the desired characteristics of the larger hospital or health system. A chief consideration for any independent looking to
partner with a larger hospital or health system is to achieve financial stability. Ideally, the potential
(Continued on page 4)
(Mergers continued from page 3)
partner should have a strong credit rating, a stable credit profile and a willingness to support and invest
in the smaller facility.
The next step for the independent is to try to rectify any problems that would deter potential suitors regarding any financial (bond issuances, pension liabilities, capital leases, interest rate swaps and other
debt) or regulatory liabilities. It also needs to provide a complete compliance plan, detailed histories of
accreditation reviews, Medicare audits, environmental surveys and financial and billing audits.2
While due diligence is being undertaken, a comprehensive balance sheet analysis along with an evaluation of the debt instruments of both entities needs to be completed. Special attention should be given to
the documents of any existing financings that may be in place with either party. Some of the provisions
that might need to be addressed include the following:
Redemption or defeasance─Will the documents require that a current financing be either redeemed or
advance refunded through a defeasance? If yes, how will this impact or hinder the transaction? Redemption is less costly; however, if there is a lock-out period on the bonds, then defeasance will be
Membership substitution or asset transfer─Will a trust indenture allow a substitution in membership
or transfer of assets? Leadership should know the requirements that need to be met in order to allow
Transfer of assets out of the obligated group─How will the new parent be supported financially?
Change in control: Although most debt structures have broad provisions for mergers and acquisitions,
they often require prior approval from bondholders or lenders prior to the transaction. How does a
change of control affect the hospital being acquired?
Approvals and consents─What parties are required to approve changes to these provisions? Typically
the trustee, who serves on behalf of the bondholders and issuing authority, may be required to approve any changes.
Restrictions on admission into the obligated group─Bond documents address how an asset or entity
may become a member of an obligated group. An obligated group allows organizations to combine
assets or entities to create a single entity that becomes jointly and severally liable for debt.
Interest-rate mitigation contracts─Swaps, caps or collars may impact the decision or timing of the
Additionally, hospitals must also evaluate the impacts of a merger on their individual investment portfolios. The best way to protect investments is to have a highly liquid, well-diversified portfolio. The acquiring
system also may choose to liquidate the investment portfolio to pay down existing debt, or if existing
debt is not paid down, liquidated investments are re-invested by the acquiring institution. In the case
where a merger is between two smaller hospitals, the investment strategy should be reviewed before,
during and after the merger. To stabilize, ensure liquidity and in anticipation of a very different debt
structure of the resulting entity, they should introduce a new strategy for the risk profile as determined
by the new entity’s financial strength and risk propensity of its board members.
Here’s the Thing
Hospital affiliations, particularly mergers, can be challenging. During the process it’s important to have a
certain degree of alignment in terms of mission, strategies, services and culture plus a shared understanding of what facility will assume the predominant role after the merger.
Deals often take time and are slow to coalesce. At the same time, market conditions can change rapidly,
so hospitals looking to partner must be nimble and react quickly to new realities. Transparency, flexibility, attention to details and open communications with stakeholders will make the transition from being
an independent to being a health system…not exactly easy, but easier.
“Current Trends in Hospital Mergers.” Thomas C. Brown, Jr., Krist A. Werling, Barton C. Walker, Rex J.
Burgdorfer and J. Jordan Shields. www.hfma.org. March 1, 2012.
(Continued on page 5)
(Mergers continued from page 4)
Types of Affiliation
• Affiliation or cooperation agreement: Smaller hospital can benefit from purchasing power of a larger
health care provider for vendor contracts.
• Management agreement: Larger hospital or health care system will agree to manage operations of a
community hospital. Board governance is still maintained at the local level.
• Clinical affiliation: Partnership with larger hospital where defined referral relationship is agreed to formally.
• Lease transaction: An acquiring partner may agree to lease facilities and/or operations from a community hospital.
• Acquisition: Outright purchase of a hospital by a larger provider. Local control and governance is lost
in this type of transaction.
Arizona Chapter Recognized at HFMA’s Annual National Institute
HFMA recently held its Annual National Institute
(ANI) in Orlando, Florida in June. Several chapter
members were in attendance to see immediate Past
President , Greg Wojtal, receive 3 awards at the
President’s Dinner. The chapter received awards for
Membership Growth and Retention, Certification
and a Yerger Award for its participation in a multistate webinar series designed to coach those taking
the certification exam . These awards which complemented an outstanding year in which we received a perfect score of 100 on the chapter scorecard. Congratulations to Greg and the Board of DiGreg with Presidents from chapters who
Greg Wojtal with Ralph Lawson (L), National
participated in multi-state Certification webi- rectors on a fantastic year and THANK YOU to all of Chair 2012-13 and Steven Rose, National
the members who provided support and feedback
nar series and National Chairs.
From the Editor
As summer is well on its way and folks are either returning from vacation or heading
off for a much needed break, the Arizona Chapter of HFMA is busy planning the fall
conference, day seminars and publishing your July newsletter. Your board will be
holding a Strategic Planning meeting on August 15th to continue to plan and implement goals for the Quest for Shelton award.
One of my strategic goals is to ensure that the AZHFMA newsletter contains
educational articles that may be beneficial in your work environment. I am very interested in your feedback on the usefulness of the Cactus Clarion. Your suggestions for improving content would be greatly appreciated. You can reach me via telephone at 520-661-4406 or email at
Welcome New and Transferred Members
Since April 2013
Chief Executive Officer
Health Adventures, LLC
Manager of Business Solutions
Scott Andersen (transfer from WA-AK chapter)
Sr. Associate Healthcare Advisory
George A. Mingle
Aditya R. Bhagwat
Director, M&A and Strategic Growth
Meredith P. Nelson
Chief Finance Officer
Lynette F. Bonar
Associate Executive Officer
Tuba City regional Health Care Coproration
Supply Chain Director
Insurance Broker-Vice President
Lovitt & Touche’ Inc.
Healthcare Collections, Inc.
Chief Financial Officer
Sante’ Operations, LLC
Client Development Manager
Collections Service Bureau Inc.
Southwest Kidney Institute PLC
Joan M Goda
Vice President of Managed Care-Network Services
Carondelet Health Network
Helen Bandeira De Melo Souza
Director of Patient Registration
Tuba City Regional Health Care Corporation
Dillan Knudson (transfer from TX Gulf Coast chapter)
VP, Corporate Relationship Manager
Healthcare Collections, LLC
Tonja L. Laney
Chief Financial Officer
Phoenix VA Health Care System
Christopher J. Trilk
Truven Health Analytics
Business Finance and Fleet Consultant
Enterprise Fleet Management
Christopher W. Tyhurst (transfer from NM chapter)
AHCCCS Strategic Plan for 2014-2018
On July 20, AHCCCS released its Strategic Plan for 2014-2018. The AHCCCS Strategic Plan identifies four goals
critical to sustain and build on the success of the AHCCCS program in light of the restoration of coverage— the
most important healthcare policy issue the State has faced since the inception of the AHCCCS program 30
years ago. http://www.azahcccs.gov/shared/Downloads/StrategicPlan_14-18.pdf
The Plan identifies Six Areas of Focus for AHCCCS. These include:
Delivery System Alignment and Integration
Tribal Care Coordination Initiative
Health Information Technology
AHCCCS Quality Assessment and Performance Improvement Strategy.
The following is an excerpt from the plan, from the section on Payment Modernization.
One of the biggest challenges facing health care today is that incentives are not aligned for the providers. Even
with significant managed care penetration, many providers still are reimbursed through fee-for-service mechanisms. In addition, hospital systems have large facility fixed costs and have business models built around having consumers hospitalized.
Payment modernization is a critical policy strategy for moving to a financially sustainable and value-based
healthcare delivery system, which rewards high quality care provided at an affordable cost. There are many
payment modernization approaches with varying degrees of breath and depth within both the Medicaid and
Medicare program. Reforms include outcome based care models, aligned provider incentives, and increased
patient engagement that can lead to improved health and overall program savings. Many AHCCCS stakeholders
have initiatives that embrace various features of these sorts of health system reforms.
AHCCCS has had success in the past when care delivery and payment incentives are properly aligned. For example, when the ALTCS program first began, the vast majority of members resided in nursing facilities. Overtime AHCCCS incentivized contractors to establish more home and community placement opportunities for
members. The end result has been a tremendous shift to home and community settings that not only increases
savings for the program but also more appropriately meets the needs and desires of the members.
AHCCCS remains committed to maximizing the efficiencies within our program as demonstrated by the payment modernization questions included in the last Acute Care procurement process. Health plans were required
to identify how they could create greater efficiencies, alignment and integration of care at a lower cost within
their own organizations.
Additionally, several payment modernization strategies have been explored and implemented at AHCCCS so
our members can achieve greater health outcomes while saving taxpayer dollars as discussed below. Finally,
AHCCCS will convene various groups of community stakeholders with expertise in payment modernization.
These groups will include representation from providers, health plans and healthcare leaders who will engage in
focused dialogue regarding payment reform opportunities to help guide and inform our efforts.
Shared Savings Requirements – Beginning October 1, 2013, health plans are required to enter into shared savings arrangements equal to 5% or more of their contracted medical spend to compete for capitation withhold
incentives. Additionally, ALTCS plans were required to move forward with pilot shared savings arrangements.
Inpatient Hospital Reimbursement – AHCCCS currently pays on an antiquated per-diem system. AHCCCS will
be transitioning to an All Patient Refined Diagnostic Related Grouper (APR-DRG) methodology designed to reimburse per diagnosis rather than per day. Although DRGs have been used by the Centers for Medicare and
Medicaid Services to reimburse hospitals for Medicare beneficiaries, the APR-DRG model is an updated reimbursement model more appropriate for the Medicaid program. Implementation will begin on October 1, 2014.
Ultimately, AHCCCS will be publishing a Payment Modernization Plan by October 1, 2013 that will lay out proposed strategies to be pursued over the next three years.
Smart Moves: How Hospitals Manage Risk When Borrowing
Nick Gesue and Kass Matt
In an uncertain world, managing financial risk is essential for any business.
This is especially true today for health care organizations. Hospital leaders have to deal with managing a
multitude of risks, such as clinical outcomes, reimbursement cuts, regulatory requirements, competing
hospitals and more.
While the importance of managing clinical risks is well understood, the 2008 financial collapse and recession demonstrated to many health care executives the significance of how the structure of capital debt
can contribute to a hospital’s overall risk as well. (For example, the credit crunch made it extremely difficult and expensive to obtain or renew letters of credit, leaving hospitals with fewer options to enhance
variable rate debt.) To address this, hospital leadership must identify and mitigate risks associated with
their hospital’s debt, investments and balance sheet. While these are interconnected with total financial
risk, and should be considered as part of an organization’s total debt management policy, let us focus on
how a hospital can manage its risk exposure by choosing the appropriate debt structure to finance capital projects or refinance existing debt.
Mitigating Debt Risks
When considering the options, a hospital’s top priority is to balance both the upfront and ongoing capital
costs with the nonfinancial terms and covenants of a debt structure. This balance is key to managing its
current exposure to risks associated with short and/or long term debt. The debt structure used to
achieve this balance will depend on a variety of factors for a hospital, including credit worthiness, geographic location, current capital structure, financial capacity to take on risk and the capital market’s
“appetite” for health care transactions.
A hospital’s financing team must assess all of the above as well as take into consideration the project
(renovation, replacement, acquisition) and objectives when evaluating structured debt products. The
best option will be the one that fits the hospital’s needs while achieving the lowest possible cost of capital within acceptable risk parameters.
Let’s take a look at how three hospitals, using different debt structures, obtained the capital they needed
and managed their debt risks.
Kennedy Health System─Voorhees, N.J.
Public Offering of Tax-Exempt, Fixed-Rate Revenue Bonds
Kennedy Health System operates three campuses in New Jersey: Cherry Hill, Stratford and Washington
Township. In recent years, Kennedy had funded its strategic capital projects through operating cash instead of debt. Although this approach allowed the health system to minimize debt, it compromised its
overall financial profile by reducing its liquidity position. As a result, Moody’s lowered the health system’s
A2 rating to A3 in November of 2011.
In the meantime, Kennedy Health System had plans to make significant capital improvements at all
three campuses and decided to refinance its existing debt and finance future capital projects to leverage
its balance sheet. Kennedy’s leadership chose to proceed with a public offering of tax-exempt, fixed-rate
bonds to fund about $20 million in new projects and refinance about $46 million in existing indebtedness. The health system was able to take advantage of the strong, resurging health care market for rated credits to issue tax-exempt, fixed-rate bonds in order to refund Series 1997 A and Series 2001 bonds
and finance its new capital projects. As a result, the health system was able to generate more than 15%
in debt service savings, which equates to $8.8 million in net present-value savings. In addition to the
low cost of capital, the bonds were sold without a mortgage or debt-service-reserve fund required, thus
ensuring maximum flexibility for the organization going forward.
(Managing Risk when Borrowing continued page on page 9)
(Managing Risk when Borrowing continued from page 8)
By choosing tax-exempt, fixed-rate bonds, Kennedy eliminated interest rate and remarketing risks. Additionally, the structure avoided renewal risk or bank risk. Amenable covenants and the lack of a mortgage
or debt service reserve fund requirement also increased organizational flexibility for future strategic considerations.
Cameron Memorial Community Hospital─Angola, Ind.
USDA Community Facilities Program Direct and Guaranteed Loans, Bond Anticipation Notes,
Bank Construction Loan and Equity
The leadership team of Cameron Memorial Community Hospital, a 25-bed critical access hospital in Angola, Ind., decided to modernize its aging facility in order to provide the efficient delivery of medical care
necessary to remain competitive. After thoroughly reviewing an array of financing options, Cameron was
able to obtain a commitment from the USDA Community Facilities Program for a $37 million direct loan
at a fixed-interest rate as well as a commitment for $10 million of guaranteed loan funds.
While the USDA commitments squared away the permanent financing, the hospital still needed to secure
the construction financing. The relatively large project cost and associated construction risk proved problematic for several banks, despite the promise of the USDA takeout. Therefore, Cameron’s leadership
committed to an innovative funding solution: the sale of $37 million of tax-exempt bond anticipation
notes (BANs) for a three-year term. The BANs were secured by the anticipated proceeds of the permanent USDA direct loan and received a “MIG 2” rating by Moody’s Investor Services (the second highest
short-term debt rating available), resulting in a cost of capital near 2%. The rest of the $53 million project financing came from $6 million in hospital equity and a $10 million construction loan from the community bank that was serving as the USDA Community Facilities guaranteed lender. The bank’s construction loan will be paid off by the USDA Community Facilities guaranteed loan after construction is completed. The guaranteed loan will have a market-based interest rate and a 25-year term and amortization. In
total, Cameron obtained funding at a low cost of capital, with a blended interest rate below 3% for the
construction period and below 4% for the 40-year life of the post-construction, permanent debt.
In reviewing the hospital’s overall capital structure risk, let’s examine the debt offering’s component
parts. For the $37-million USDA direct loan, there was no interest rate risk since it was fixed rate, no refinance or renewal risk as the term equals the amortization and no bank risk. For the guaranteed $10million loan, $9 million was guaranteed and $1 million was not guaranteed, so there are different risks to
take into consideration. For the $9-million piece, the hospital has the option to fix the interest rate at any
time─essentially nullifying interest rate risk. The $1-million piece is variable rate, so there is interest rate
risk involved. There was no refinance risk as the term equals the amortization and no bank risk because
the loan is provided directly by the bank (no bank credit enhancement). All in all, while Cameron’s debt
structure is relatively complex, the only capital structure risk to the hospital is minimal interest rate risk
(on only $1 million of a $47 million offering), which hospital leadership deemed acceptable.
Fulton County Health Center─Wauseon, Ohio
Privately Placed, Tax-Exempt, Variable-Rate Bonds
Fulton County Health Center (FCHC) is not your typical critical access hospital. Founded in 1973 in Northwest Ohio, FCHC has grown to include the main 25-bed hospital, which includes several specialty units,
such as a cancer center, cardiac catheterization lab and sleep center, several medical clinics and a 71bed senior living facility.
FCHC, in good financial standing, faced an expiring bank letter of credit (LOC) that enhanced a 2005
bond issue. The hospital had an outstanding swap with a significant negative mark to market value,
which was not tied to the LOC-backed bonds.
After reviewing all available options, FCHC selected a multimodal, privately placed sale of $28.75 million
in bonds with a regional bank. This option addressed the upcoming LOC expiration and allowed the swap
to stay in place to maintain an effective interest rate hedge.
Additionally, the variable-rate, tax-exempt direct purchase structure removed the bank credit risk and
the renewal risk with a five-year term instead of the typical one- to three-year LOC extension period.
(Managing Risk when Borrowing continued on page 10)
(Managing Risk when Borrowing continued from page 9)
While the variable rate bonds and the separate swap exposes the hospital to some interest rate risk, it
was deemed acceptable in light of the short term and the current low interest rate environment. However, FHCA has the flexibility to refinance the bonds should interest rates rise.
Maintaining Good Financial Health
As you can see, managing risks associated with a hospital’s capital structure is essential to the organization’s overall financial health. A hospital’s choice of debt structure, which should balance the cost of capital with the available terms and covenants, is an important risk management tool. In the process of
choosing the best structure, it’s important for hospital leaders to know their balance sheet’s strengths
and weaknesses, understand how rating agencies and investors measure various risk components and
determine their organization’s tolerance for risk.
The capital strategies highlighted above show the importance of being able to access debt with optimum
efficiency with the lowest possible risk exposure. Therefore, it is imperative to assemble a knowledgeable
and experienced financial team, consisting of internal and external experts, to navigate the everchanging capital markets and to determine the best possible debt structure to ensure this priority.
Nick Gesue is a senior vice president and chief credit officer with Lancaster Pollard in Columbus. He can
be reached at [email protected]
Kass Matt is a senior vice president at Lancaster Pollard. He is regional manager for the Eastern Great
Lakes Region and is based out of the firm’s Columbus ofTypes of Risk
fice. He can be reached at [email protected]
Hospital Credit Risk
Interest Rate Risk
When a decline in a
hospital’s credit rating may result in an
increase in the bank
fees and variable-rate
When interest rates
will increase, making
the cost of variable
rate debt higher in
When a decline in the
bank's credit rating.
might lead to an increase in the variable
interest rate on the
When a letter of credit might not be renewed at its sched-
When term is shorter
When investors "put"
or sell their positions
back to the borrower
Mark to Market Risk
When fair market
value or mark to
market value declines
(e.g., if interest rates
Board Performance as an Indicator of Mission Success
William M. Courson
A nonprofit's board has ultimate responsibility and accountability to its constituents for the organization's
actions. Each board member has a fiduciary duty to ensure that the board acts in the organization’s best
interests and works to fulfill the nonprofit's tax-exempt mission.
Indeed, in its review of the tax-exempt status of organizations, the Internal Revenue Service describes
the duties of board members and even provides a checklist to its agents for a review of 501(c)(3) public
charities. Further, most states have similar laws addressing fiduciary standards for a nonprofit organization’s board.
Duties of Board Members
As board members pursue their passion, it should begin with a basic rule of governance: board members
must clearly understand the mission and work in unison to achieve well defined goals. More importantly,
for the betterment of the organization, the board must take advantage of its collective wisdom to prevent a single passionate individual from turning the mission into a bully pulpit. A personal crusade, while
exciting, tends to narrow the focus of the mission, limiting the leverage of the resources available, including board members and available assets.
Staying true to the duties of board membership serves to maintain the focus of the board. Arguably, the
most important is the duty of board members to be informed. Just as the board must work together to
ensure that the mission remains the organizational priority, being informed is a collective duty as well.
For example, there may be a few board members who lack the understanding of certain aspects of the
organization, such as the effect of a recent decline in funding sources or the prospect of an unfortunate
legal entanglement. To counter the collective lack of understanding, nonprofit boards should conscientiously and purposefully add board members whose professional expertise can be a resource for management.
Informed Board Members
These informed individual board members should not automatically be considered subject matter experts. Quite the contrary, they should know when to engage an outside advisor as a subject matter expert, whose qualifications are described by the knowledgeable board member, vetted by the appropriate
committee and approved by the board.
However, it is sometimes difficult to separate the zeal from the knowledge of informed board members.
This is especially true for board members who are also passionate about their profession or whose profession is closely aligned with the needs of the organization.
Because of the reliance of the nonprofit organization on its invested assets, it is not uncommon for at
least one board member to have professional experience in the investment markets, such as a trust officer or broker. The existence of an investment professional on a nonprofit board fits well with the mandate of knowledge and experience in good governance.
Investment Professionals as Board Members
Although there is an expectation that all board members are knowledgeable and can contribute to the
strategy and oversight of the nonprofit organization, it is not without risk. One of the greatest risks is
the introduction of a personal bias and opinion which may not reflect the policy defined risk profile of the
organization. This is especially common as it relates to the investment portfolio.
Board members can share a common, albeit personal, experience with the professional trust officer or
broker. This peripheral understanding provides the investment professional a platform and an audience
to share the insight gained from experience. During investment discussions, however, the investment
(Continued on page 13)
(Investment Oversight continued from page 12)
professional may interpret the interest in the topic to be one of building consensus, when in fact it is curiosity and deference to the professional. In this instance, the investment discussion becomes personal as
board members look to enhance their knowledge of investment markets, possibly for their own personal
use. The investment professional, then, must recognize the risk of “groupthink” in a board setting while
providing expertise as well as introduce a subject matter expert when necessary.
Influences and Risks
While the experienced investment board member is cautioned to temper his/her own personal opinions in
order to avoid the advent of groupthink, they are not alone in this caution. Unlike many other outside experiences brought to the board by its members, nearly all board members have at least some direct experience in the investment markets, even if limited to a personal retirement account, such as an IRA or a
401(k), or a college fund, such as a 529 plan. Just as a board member’s personal portfolio should reflect
the unique obligations and risk profile of the individual, the nonprofit portfolio should reflect the commitments and risk profile of the organization.
The direct personal involvement may inadvertently define the risk profile of the organization. There are
generally two primary inputs to defining organizational risk profile: the ability and willingness to take risk.
A more objective input, the ability to take risk is directly associated with the financial strength of the organization. The financial strength includes not only the current financial condition but financial prospects,
such as a pending capital campaign.
On the other hand, the willingness to take risk arises from the personal attitudes of the board members.
The personal attitudes are an important input, but must be held in context. Board members must be
careful to separate their own personal bias and risk preferences from those of the nonprofit organization.
In other words, the recommendations expressed by experienced investors should focus on what the organization should do, not what the board member would do (or has done) with his/her own IRA.
Comfort with board member experience in the investment markets may even lead a board to actions that
seemingly eschew fiduciary duties, including the decision to internally manage the investment portfolio
without the use of an outside advisor, sometimes referred to as “in-sourcing.” While it is clear there is a
cost to hiring an outside adviser, it is not clear that saving the advisory fee would result in a better outcome, even if the portfolio was invested only in index funds. A better decision is to ensure that the advisory fee is in line with services and expertise associated with the needs of the portfolio and organization.
Even though active boards and experienced board members periodically consider the risks and benefits of
internally managing the invested assets, the vast majority of them choose to outsource rather than “insource” that obligation. An honest assessment of available internal resources, including the cost of inhouse management should be weighed against the risk of an undesirable result.
According to Principles and Policies for In-House Asset Management, “The independence of the organization, its resources and systems and the ability to identify areas of opportunity as well as challenges are all
crucial elements of governance that can dramatically impact the success of any in-sourcing policy. So,
before moving assets in house, institutional investors should first assess their governance capabilities to
determine whether a given investment strategy is commensurate with its organizational capabilities.”
Board governance is an obligation that should not be taken lightly. Board members are passionate not
only about the objective of the mission, but also of the manner in which the organization advances its
mission. As such, board members should not be seen as subject matter experts, but as resources for the
benefit of the organization, spending time and funds wisely. Fiduciaries should not seek to be high performing board members, but rather, encourage the development of a high performing board.
William M. Courson is the president of Lancaster Pollard Investment Advisory Group in Columbus. He may
be reached at [email protected]
(Continued on page 14)
(Investment Oversight continued from page 13)
There are five key factors pushing institutional investors to move assets in-house:
Access: There are instances where the third party vehicles are not attractive, and access to a given asset or market can be more effectively achieved on a direct basis.
Alignment: Principal-agent problems are pervasive in the asset management industry, and some
institutional investors view in-sourcing as a useful mechanism to minimize agency costs.
Capabilities: By developing an investor’s internal resources, all aspects of the organization’s capabilities are improved, as internal teams can identify ‘unknown unknowns’ about the business.
Performance: Perhaps the most cited reason for in-sourcing by institutional investors was the desire to maximize net-of-fee investment returns.
Sustainability: Managing assets in-house offers an investor the ability to think critically about how
to tailor a portfolio to meet its needs (as opposed to trying to cobble together a series of external mandates).1
“Principles and Policies for In-House Asset Management.” Gordon L. Clark and Ashby H.B. Monk. Global Projects Center, Stanford
University; December 2012.
Groupthink, a term coined by social psychologist Irving Janis in 1972, occurs when a group makes faulty
decisions because the desire for harmony or conformity results in an incorrect decision.
Board membership of a nonprofit organization is an honor and a privilege, but also an obligation.
Principles and Policies for In-House Asset Management http://papers.ssrn.com/sol3/papers.cfm?
IRS “duties” http://www.irs.gov/pub/irs-tege/governance_practices.pdf