Section III

Pain & Agony (Reality Check) in Accessing Capital Financing

A. General Recommendations to Consider Prior to Seeking Formal Financing

1. Complete a feasibility study: identify needs through operational and financial projections (market and business plan analysis) and then formalize the project.

2. Identify the impacts on operations (financial, staffing and mission) during and after construction/systems upgrade or purchase/lease.

3. Gain the support of “stakeholders” - community, hospital and medical staff.

4. Identify payback and reporting requirements and their impact on the organization for funds acquired through common, less common, grant or government resources.

(Specific requirements for accessing capital from each listed resource are found in the completed funding resource templates found in Section II.)

B. “Lessons Learned” or Project Construction and Funding Hints

NOTE: Some “Hints” are Applicable to any Project

I. Organize the project and the related funding process. Typical points to consider are listed below. Not every point is required for every project, it depends on the nature of the project and the requirements of the funding organization and the underwriter.

A. After determining the project is needed and fits with strategic priorities but before spending time developing the project in any substantial level of detail, determine how much money is available to fund the project.

1. Develop a hospital policy for the minimum number of days of cash on hand. In no event should a project cause the days cash on hand to fall below this minimum. Cash in excess of the minimum days is available for the project.

2. Assess the hospital’s capacity for new debt.

3. Make a realistic estimate of the amount of grant funds and charitable contributions the hospital may obtain for the project.

4. The available cash, debt capacity, grant funds and contributions will determine the maximum project budget.

B. Based on the amount of financial resources available, determine all major projects necessary to maintain hospital operations over a long-term planning horizon, say the next 10 years. Prioritize this project listing so the most important projects are funded first.

C. Identify any capital needs outside the project. For example, the hospital will need to purchase non-project equipment and furnishings. Remember to allow cash resources or debt capacity for those needs. The hospital may also have other debt that will remain after a financing takes place. This will reduce project debt capacity.

D. Prepare a very preliminary estimate of the project costs. Don’t forget the Washington State sales tax and financing “soft costs” associated with the project (typically 20% of total construction costs and contingencies), including financing costs. At this stage of project development, include a project construction contingency of approximately 15% in the construction costs.

E. Select a team of advisors to assist the hospital. This team would usually include an architect/master planning consultant, hospital legal counsel, an underwriter, an accountant, a financial advisor, hospital staff who will be involved in the project and possibly a contractor.

F. Engage an architect to prepare conceptual drawings for the project. Have the architect estimate the project costs based on block departmental areas and costs per square foot.

G. Prepare an initial five-year (minimum) financial forecast of hospital operations with the new project in place to assess if the cash flow from future operations (including the project) will support the project.

H. Determine if any outstanding bonds or other debt needs to be refunded to give the
l ender clear title to hospital assets for collateral purposes. In some circumstances, there will be a non-cash loss recorded in the hospital’s financial statements. Assess if there will be a loss incurred on the defeasance of existing debt. Talk to the Board about this loss to avoid a surprise later.

I. Determine funding sources for new debt associated with the project.

J. For public hospital districts, determine the best time to ask voters to approve general obligation bonds. Often, the underwriter has information to help make this decision.

K. Have the architect develop schematic drawings and have the architect and/or a cost estimating firm develop a new project construction cost. Develop a “final” total project budget, including soft costs. Use a 10% construction contingency.

L. Ask the underwriter to prepare a calendar of financing events.

M. Select the funding source and begin the application process, if required.

N. Consider if the hospital wants to have “competing” funding sources.

O. Develop and finalize the working drawings.

P. Obtain any variances and permits necessary for demolition, vacation of streets, construction, etc.

Q. Select a contractor using a negotiated bid or bidding the project costs to determine the actual project cost. Involve hospital legal counsel in this process.

R. Hospital counsel should prepare a contract for construction. This contract should
not be signed until all project funding is in place.

S. Determine if a financial feasibility study is required and if so, engage an accountant
to conduct the feasibility study.

T. Alert the hospital’s independent accountant that the financing is taking place, and that stub period financial information, the historical accountant’s report and consent may be required for the preliminary and final official statements.

U. Prepare legal documents for the financing. There will be multiple document reviews by all parties associated with the transaction.

V. Conduct the legal due diligence process.

W. Prepare the preliminary official statement.

X. Obtain bond insurance, credit enhancement, etc., as necessary.

Y. Obtain any required bond ratings.

Z. Price the bonds.

AA. Agree to the bond purchase contract.

BB. Close the transaction.

CC. Monitor and control the construction process as project owner.

II. During the legal due diligence process, the attorneys will need a large amount of hospital information. Ask the lawyers to give you a common list of information they want to review, and schedule a document review session by all legal counsel during the same day at the hospital, rather than on multiple dates for individual attorneys. If one attorney identifies a matter of concern, all attorneys should agree on a proposed course of action to resolve that issue on the day due diligence is being conducted at the hospital.

III. Select experienced advisors who have been involved in similar projects and financings before. There is a close-knit “fraternity” of advisors who work well together. While these advisors may appear to be more expensive, they have working relationships that help facilitate the transaction in an orderly and a timely way. Delaying a project for several months may increase the cost of construction and increase financing costs, not to mention your frustration. The least-costly advisor may be the most expensive advisor in the end.

V. On occasion, property not used in hospital operations does not need to serve as collateral for a loan. For example, rental houses around the hospital being held for possible future development might be excluded from the financing collateral, as they are not necessary for hospital operations. Excluding this real estate would permit the hospital to sell these properties more easily in the future should they not be needed.

VI. Tax-exempt bonds may not be used to fund significant improvements to space used by taxable entities under federal tax laws. This should be taken into account when constructing a project that utilizes tax-exempt funding and contains space used by physicians, proprietary labs, etc.

VII. If you don’t understand something about the financing, ask to have it explained by one of the hospital’s advisors. You will be operating under these financing documents for many years. You need to understand what you’re agreeing to before you sign the bond documents.

VIII. Don’t agree to any computation under the financing documents if you don’t know how t to make the computation. Do test calculations using both historical financial information and forecast information to ensure the hospital has enough capacity under the calculations.

IX. Prepare a summary of all the covenants the hospital has agreed to under the loan documents. Periodically (at least quarterly) monitor actual performance against these covenants. You may need to adjust hospital operations mid-year to meet bond covenants.

X. If you incur new debt after the financing transaction, or sell property, make sure you are doing so under the terms of these financing documents. Remember, capital leases impact your debt service coverage ratio.

XI. If you think you have a bond covenant violation, talk with your legal counsel or accountant. Deal with these issues proactively. No organization associated with the hospital wants a financing failure. They will work with you to solve a problem.

XIII. Should cost overruns occur, there might be an opportunity for issuing additional bonds. Seek information from bond counsel or your financial advisor to understand this possibility. Additional bonds are not an additional source of funding. They are an emergency funding source.

XIV. Ensure the project planning includes conservative contingency costs during early feasibility analysis (initially 15%). This contingency can be reduced when final project plans are available. A rule of thumb is that when the construction drawings are completed and bid, the hospital has a 5% contingency on new construction and 7% to 10% contingency on remodeled areas to pay for unanticipated variations from working drawings.

XV. Evaluate whether a project manager is needed, or if hospital staff can handle the job. Good project management is a must. Hospital staffs already have full-time jobs, so consider the impact of project management on that individual and the department.

XVI. Don’t forget soft costs such as sales tax, bond issuance fees and, with revenue bonds, reserve accounts. These can be 20% of the project costs.

XVII. Don’t forget the hospital may need equipment and technical support after the project is completed.

XVIII. During remodels, ensure that equipment being acquired fits through doors and into designed spaces.

XIX. The building design and “financial footprint” should match.

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