Over the next year and half, a huge number of letters of credit are due to expire.  Hospitals and Health Systems that rely on letters of credit should prepare now to either seek renewal or find an alternative.

From 2004 - 2009, the volume of expiring letters of credit for health care variable rate demand bonds was less than $2 billion each year.  In 2010, the volume more than doubled to $4.3 billion.  In 2011, the volume of expiring letters of credit in health care will skyrocket to $14.4 billion - more than 700% above average.  In 2012, the volume will be half of what it was in 2011 but will still be far above the recent norm: $7.1 billion.  In 2013, the volume will decrease again but will remain above normal: $5.7 billion¹.

The demand for letter of credit renewals will almost certainly exceed the supply.  Many borrowers that have letters of credit will not be able to renew them.  Those that do renew them will discover that the terms of the letters of credit will be much stricter and the letters of credit themselves will be far more expensive.  Due to the uncertainty of renewal, some auditors may require debt supported by letters of credit with a remaining term of less than one year to be characterized as a current liability.  Borrowers should act now to secure renewals - or to find alternative financing.

Bank Qualified Bonds

One option is for borrowers to refinance outstanding variable rate bonds (thereby eliminating the need for a letter of credit) and place new bonds with a bank.  Special provisions of the American Recovery and Reinvestment Act of 2009 ("ARRA") make the purchase of tax-exempt bonds attractive to banks, but these provisions are set to expire at the end of 2010.  Typically, banks may deduct the interest on tax-exempt bonds they hold if the issuer issues up to $10 million in bonds in a single year.  Under ARRA, that limit is expanded to $30 million. While bills have been introduced in Congress to extend the ARRA provisions, none have yet passed both houses of Congress.  Therefore, borrowers should immediately examine this alternative if they face expiring letters of credit in the near term.

Fixed-Rate Financing

Hospitals use letters of credit in connection with the issuance variable rate demand bonds.  If hospitals are unable to renew their letters of credit or obtain a replacement letter of credit, they should consider re-structuring their bonds from variable rate to fixed.  Fixed-rate issues provide borrowers with committed, long term capital.

Many options exist for issuing fixed-rate bonds, including rated and unrated transactions, various Federal programs and in some instances local governmental-supported transactions.  The appropriate financing vehicle for any particular borrower depends upon the borrower's credit profile and other factors.

Action Steps for Borrowers 

• Immediately review letters of credit to determine their expiration dates.
• If the letters of credit are due to expire in the next two years, borrowers may wish to approach the bank that provided the letter of credit and discuss an early renewal.
• If it seems unlikely that the bank will renew the letters of credit, and if the borrower is unlikely to secure an acceptable replacement, borrowers should consider re-structuring the debt and begin considering various options to do so.

How Hall Render Can Assist

Hall Render is prepared to help in the following ways:

• We will examine the terms of your current letters of credit to determine when they expire and the alternatives available to you under your current letter of credit and bond documents.
• We will assist you in negotiating your renewal directly with the bank and, particularly, determine whether the letter of credit is likely to be renewed and on what terms.
• If the letter of credit is unlikely to be renewed or replaced, we will help you explore options for re-structuring your financing before your current letter of credit expires.

Conclusion

These issues are complex and involve financial and legal considerations.  Please address them sooner rather than later.  Unless extended, the expanded parameters for bank-qualified bonds and other provisions of ARRA will expire at the end of 2010.  To the extent that these are attractive options, borrowers should act quickly.