Not-for-profit hospitals and health systems continue to feel financial pressure. The return of state Medicaid eligibility rules is expected to impact the number of insured patients while the elimination of federal COVID supplemental payments will affect revenue. Operating costs remain at elevated levels and investment income—from reduced investment portfolios—is undependable. Rainy day funds depleted during the pandemic will provide little cash cushion from issues that continue to emerge.
To find relief from ongoing stressors and to adjust to higher interest rates, health systems are rethinking their short-term investment strategies with a renewed emphasis on forecasting and cash flow management.
Tighten working capital and model cash positions.
Tactical cash management grows in importance in a higher rate environment where every invested dollar counts. Health systems can make the most of their financial resources by actively investing excess cash and by taking advantage of targeted short-term investments.
Start with an analysis of working capital to identify areas where liquidity can be improved. Potential strategies include:
- Rethink revenue cycle operations and systems to accelerate collections.
- Control supplier payments to extend payables.
- Implement electronic payables and utilize revenue cycle technology for efficient operations.
- Recalibrate medical supplies to address post-pandemic supply chain challenges and to reduce stock levels.
Utilize cash flow forecasting to better predict future needs. Update your rolling cash flow forecasts at a frequency that suits your organization—a discipline that lapsed for many hospitals after years of lower interest rates. Anticipate liquidity constraints so you’re prepared for them before they occur.
Drivers of cash flow in not-for-profit health systems
Devote time to building your organization’s cash flow analysis skills and systems. Avoid a missed earning opportunity by estimating surplus cash properly in a higher rate environment. Conversely, overestimating a cash surplus might result in a liquidity crunch, resulting in unnecessary losses from security sales or penalties on unplanned withdrawals.
Revisit your investment policy under today’s economic conditions.
Your study of cash flows and operational needs may reveal excess cash that you can invest. With expert guidance and the clarity provided by a current investment policy, you can invest excess funds more effectively.
A strategic investment policy plays a foundational role in your health system’s financial stability. An investment policy gives you an accessible framework for managing seasonal and risk parameters that helps work through unforeseen events. Equally important, the policy provides a disciplined way to target improved yields on strategic balance sheet cash and risk-adjusted returns on reserves intended for specific liabilities—it’s essential for proper risk management.
Investment policies are prescriptive by design. In addition to stating investment objectives and goals, these policies typically:
- Define specific investment strategies and asset allocations.
- Outline permitted exposures and constraints.
- Provide clear guidance to investment managers that fit within your risk budget.
- Specify standards to monitor and reassess your investment policy parameters.
As you develop or refine your policy, research best practices of health systems of all sizes. Remember to consider:
Objectives – Objectives are the critical component of your policy. By setting your objectives, you frame the basic expectations for your policy’s impact on your investment portfolio.
Asset allocation – Asset allocation sets the groundwork for your investment strategy—it’s the most important set of investment criteria in meeting your financial goals. Review your asset allocation regularly to make sure it has the best odds of meeting your objectives, particularly during prolonged periods of market volatility. Your policy should require periodic rebalance actions that return the portfolio to target allocations.
Sector and credit quality limitations – For the short-term and the liquidity-focused portion of any investment policy, hospital systems should allow for sector diversity for sound risk management. Further, investment policies should allow for investment grade securities with limited high-yield exposure. Both these tactics will create the opportunity for the highest possible risk-adjusted return. Experienced investment managers can help you achieve risk-adjusted returns while staying within allowable parameters.
Investment policies for health systems versus foundations – The current market environment and recent economic actions are driving change as leaders revisit investment policies for health systems and their endowments. Some systems prefer to maintain the same policy for the health system and the foundation, but most prefer they remain separate to respect the separate legal entities and distinct objectives for each organization. As you fine-tune your policy, you should keep this in mind and make sure your goals can be achieved with your policy.
Having an investment policy is a best practice and a key to sound governance. If your organization doesn’t have an investment policy, create one now. If your current policy is outdated, make refreshing it a priority and review it annually.
Put policy into practice with reserves and liquidity.
Once your investment strategy is set, apply financial modeling to evaluate various scenarios and gauge their potential impact. This analysis provides your investment advisors with what they need to put your strategy in motion.
Start by developing a cash segmentation strategy—or refining an existing strategy—to ensure every dollar is working to your advantage. Separate your cash into operating, reserve, and strategic pools. These delineations should govern your investment strategy. Include goals, time horizon, acceptable risk levels, duration, and minimum credit rating for investments.
Unbundle cash and manage liquidity.
|Operating cash||Reserve cash||Strategic cash|
|Cash required for operations. Principal protection and liquidity are priorities.||Longer-term investment horizon. Principal protection is a priority, but same-day liquidity may not be necessary.||Principal and liquidity are prioritized with the corresponding liability. Investment horizons can exceed a year with yield and total returns a priority|
|Maturity range: 0-15 months
Avg. credit quality: A-AAA
|Maturity range: 0-3 years
Avg. credit quality: BBB-AAA
|Maturity range: 0-5 years
Avg. credit quality: BBB-AAA
|Objective: Cash management||Objective: Enhanced cash management||Objective: Short term fixed income|
A cash segmentation strategy needs to address both liquidity needs as well as risk tolerance. What percentage of cash flow should be immediately available and how much should be protected? How much surplus cash do you need without missing investment opportunities? Know the specifics of the various elements of liquidity. Do you have unrestricted liquidity (your operating cash, reserve cash, strategic cash), board-designated liquidity (like capital expenditure reserves), restricted liquidity, or a combination of these? By thinking about each individual component, you can achieve a more nuanced approach to investing and, in turn, enhance financial performance.
Consider time horizons as you map your cash needs. The technical work of analyzing your cash flow, yield curve, duration, and credit, informs your policy’s implementation.
Both planned events—such as seasonal demand spikes and budgeted expenses—and unexpected events—pandemics, potential government shutdowns—impact your cash forecasting and investment strategy. With proper planning, you can take advantage of investment opportunities to yield greater returns.
Reevaluate debt and lines of credit to ensure access to additional funds.
It is important to consider that you do not need to account for every eventuality. As organizations face unmet demands for cash, it may make sense to utilize borrowing alternatives such as lines of credit or bridge loans. These credit facilities keep major initiatives moving forward until conditions that are more conducive to issuing longer term debt materialize.