Debt busters
Public hospitals offer ripe pickings for debt traders
Although times are tough, there is at least one type of business that thrives in a recession - debt trading.
Business was going well for Magellan even before the economic turmoil hit Poland earlier this year. The Łódź-based legal and financial company, which specializes in purchasing overdue receivables and recovering them, has worked with more than 400 indebted medical institutions around the country - 200 of which are in its current portfolio.
Unlike small brokerages that buy debt for quick sales to banks, or other financial predators - which go through lengthy court procedures to recover debt - Magellan tends to reach settlements with hospitals that are permanently indebted to their suppliers.
"It was more difficult before the (the 1999 healthcare reform) as no hospital director cared about mounting, unsettled payables," said Marek Błaszkowski, president of Magellan's managing board. "That has changed, though. Directors used to think we would hurt them, but now they come to us." Błaszkowski said the reason for many hospitals' change of heart is the financial independence stemming from the reform. "They have to think on their own and try to find financing," he said.
But Magellan is no charity. First it buys overdue receivables from suppliers, such as drug distributors, which can no longer wait to be paid by a hospital. To finance these purchases, Magellan receives a bank credit at 14-15% interest. Then it agrees to extend the hospital's payment into 30-month installments at 21-22% interest. The company pockets the difference.
Błaszkowski said Magellan could make more money if it recovered payments through the court system. When indebted hospitals pay back through legal channels they pay interest and court fees that can cost as much as 45-50%. "But we rarely decide to vindicate a debt in court; it's time-consuming and the courts are jammed," he said. "That only happens when somebody really doesn't want to talk to us." He said hospitals have little choice but to accept Magellan's plans. "They can't take a bank credit, which is less expensive than our services. But banks prefer to grant credits to us on a mortgage security. Hospitals have no credit worthiness."
Błaszkowski said even now there is more room on the market for companies trading in debt as existing companies buy and recover only a small portion of financial obligations produced by hospitals. "A lot of these kinds of obligations are held by banks, which treat them as long-term deposits," Błaszkowski said. "Large service providers and drug distributors can also hold a certain part of the obligations because they can afford to wait for payments."
Taming the debt
According to estimates made by the Central Statistical Office (GUS) and the Health Ministry, public healthcare institutions, including half of Poland's 715 hospitals, will close 2001 with debts of zł. 2.3 billion ($575 million).
While this is less than three years ago, when a financial crisis in the centrally run public healthcare system saw debts of zł. 7 billion ($1.75 billion) cleared by the state in 1998-1999, industry watchers said current debt levels illustrate that the new system has yet to prove cost-effective.
Under the old system, healthcare depended on the state budget and funds were often wasted by being transferred to hospitals without a prior assessment of their needs. Misallocation of funds often caused irrational decisions. "Even now, some directors, used to the old rules, cannot resist the temptation to waste money and build huge facilities that their hospital doesn't need," said Tomasz Poleszak, deputy CEO of Lublin-based Medi-Sept, which specializes in providing cleaning services for hospitals. "Take the hospital in Przemyśl, where a cleaning facility with a capacity for 200 (metric) tons of laundry was built while the hospital washes only 15 (metric) tons per month." Until 1999, funds assigned to a particular hospital's renovation would be spent somewhere else within the public healthcare network and directors of hospitals did not need to look at costs because all employee wages were determined by the state.
The reform brought massive changes. Under the system, hospital directors decide how to allocate funding. Financing for contracted services flows from 17 regional Patients' Funds - not from the state budget - and is based on individual 7.75% contributions paid under the national healthcare insurance system. As a result, hospital directors are learning to control costs, though not all of them are capable of running financially independent institutions.
"(Directors) became managers one day to the next, but nobody taught them business administration," said Tomasz Tokarski, CEO of Sopot-based Greenhouse Capital Management (GCM), a fixture on the financial scene since October 1999. "They were used to the centrally run system and most of them have no idea how to run a company. So they are independent but they don't know the financial market. We decided to offer them training."
GCM specializes in the debt instruments market, assisting hospitals recover their financial liquidity. GCM has 215 hospitals in its portfolio - worth up to zł. 250 million ($61 million). "First we buy a hospital's obligations from, let's say, a pharmaceutical distributor and then we try to agree with the hospital on conditions of payment, obviously extended into installments," Tokarski said. "We sign payment agreements with hospitals, often for five years, at 25% interest." He said this gives institutions' time to restructure. "We want to give (hospitals) a break to catch their breath and start real restructuring, as opposed to debt brokers who give them one month to settle their obligations," Tokarski said. Long term, he added, it's better to reign in hospitals than frighten them.
"If you give them a chance to start restructuring their finances they can become timely and reliable payers," Toskarki said.
"He added that hospitals are ultimately a stable source of funds. GUS estimated that public healthcare last year collected zł.18.7 billion ($4.7 billion) in revenue from the Patients' Funds.
"What we are struggling against is the inefficiency of the system, payment slowdowns between Patients' Funds and hospitals," Toskarki said. "But it's often up to hospitals to further rationalize their costs - we might not even need a higher health security contribution."
Offering security
GCM also goes further than Magellan. It not only purchases hospitals' overdue payables and recovers them, but it also offers securitization - the chance to convert debt into commercial bonds. "Small companies would purchase obligations and instantly sell them to banks," Tokarski said. "We prefer a more complicated operation."
GCM's first bond issue last April was worth zł. 12 million ($3 million) at 21.45% interest. It planned a a second issue for the end of 2001 and another for the beginning of 2002. "We look for investors (for bonds) among banks, pension funds or investment funds," Tokarski said. "In short, institutions that have surplus capital to spend."
GCM has an agreement with Nordea Bank Polska, a financial guarantor. "Times of easy earnings on this market are gone," Tokarski said. "Today, you can't - having your office in your suitcase - simply buy obligations at a discount, make money on exchanging them for your tax obligations, and run. You need long, stable financing and planning."
GCM is not the only company on the market that prefers amicable settlements with hospitals to drawn-out court cases. Even some banks, which hold the better part of hospitals' debt, have decided to take greater care of their obligations. Bank Ochrony Środowiska (BOŚ), for example, holds 100% of Towarzystwo Finansowe, whose sole aim is to trade in financial obligations of state-owned or state-controlled companies, including public healthcare.
"We started in February (2001)," said Janusz Piłat, CEO of Towarzystwo Finansowe (TF). "Like Greenhouse, we are not financial predators and court vindication of obligations is an extreme measure, which we rarely choose. Out of 500 agreements we have signed, only one ended up in court. We try to give hospitals a chance to recover."
TF's portfolio is now worth zł. 100 million ($25 million). It has 2% of the market.
"We get financing from our bank," Piłat said. "Its interest rate is obviously lower than the interest we propose in agreements with hospitals (24-26%), but it's not exceptional money we're making. We could make more (in court) but that would meet with hostility in the medical community and companies like ours prefer a long-term approach and assistance in debt restructuring." TF also plans a bond issue in exchange for obligations, similar to what Greenhouse did, for the beginning of 2002.
Vicious Circle
With last week's government decision to lower legal interest rates from 30% to 20%, GCM and TF, by choosing more complicated debt instruments and by deciding to patiently wait for their profits unlike small financial predators, might have bet on the right horse.
"We didn't expect such a significant drop," Piłat said. "This decision (to lower the legal interest rate) may nominally diminish debts of local governments, state owned companies, etc., but it may also negatively impact the financial-obligations market and hospitals might find themselves in worse trouble." Piłat said that regardless of the government's decision, he still plans to trade in hospitals. "Many smaller companies, though, will have to decide whether it is worth continuing with much lower revenues," he said.
Despite the new legislation, GCM's Tokarski said he is optimistic about his company's future. "Considering the 10% decrease in legal interest, the nominal value of obligations will grow because the cost of debt service will go down," he said. "At the same time small companies, relying on high legal interest (fees), will go out of business."
According to industry insiders, the Health Ministry also has plans that could impede the operations of larger debt traders and limit the independence of hospital directors.
While details of the ministry's plan have yet to be presented, fears abound that public healthcare could return to some kind of central planning.
Renata Furman, spokeswoman for Mariusz Łapiński, health minister in the Democratic Left Alliance (SLD) cabinet, said the ministry wants to regain its grip on public healthcare. "In the long run, the minister plans to close down Patients' Funds and create a national health fund that will control 16 regional funds and depend on the ministry," Furman said. "(Łapiński) must regain control over healthcare to put an end to the existing chaos, otherwise it will be impossible to implement national, coherent health policy." The minister also plans to centrally control financing for particular hospitals and clinics. Such plans appear to run counter to the 1999 reform, under which Patients' Funds are independent from the ministry and directors of hospitals are free to plan budgets according to their needs.
At the same time, Łapiński told Rzeczpospolita daily last week that he does not approve of Greenhouse and other debt traders. "One cannot accept a situation where a private company is making money on the problems of public healthcare," he said. But according to Furman, the minister was unable to reveal the measures the government would take to reduce the number of hospitals that are in debt. "The minister is still collecting necessary financial data," she said. "He's in touch with the finance minister (Marek Belka). Yes, the amount of public healthcare debt is frightening, but it will need more than the health minister to deal with that," she said.
Meanwhile, recovering financial liquidity requires flexibility. If directors' independence is limited, negotiating payment agreements with debt traders like Magellan or GCM could be far more difficult, if not impossible. "We can always change the sector of the market; it doesn't need to be hospitals, but public healthcare doesn't have an alternative," said Magellan's Błaszkowski. "Privatization, competition and financial independence is a must. While society might fear privatization, the government must marry water with fire."
Anna Kocinska
