And Look At Non-Traditional Benchmarks To Tell Your Whole Story
April 1, 2008
Setting benchmarks — and adhering to them — allows an organization’s board and management to know where the business stands both financially and operationally and then take appropriate action to meet strategic goals and objectives. Strong organizations don’t operate in a vacuum; they set benchmarks.
For-profit organizations are driven by quantifiable financial benchmarks — stock price, revenue, and net income — that allow them to track success. Not-for-profit organizations, which focus on mission and are often highly dependent on donations, have different motivations and expectations. So while setting financial benchmarks is an important undertaking for both types of entities, “traditional financial benchmarks usually don’t tell the whole story for a not-for-profit organization,” says Tanya Hahn, senior vice president at Lancaster Pollard.
Unlike for-profits, the resource mix for not-for-profits includes gifts and donations, people skills, volunteers on the board and working in the facilities, and employees who are often paid less than those in the for-profit world. When assessing long-term success, then, not-for-profits are often driven by benchmarks that address more subjective, qualitative things — the mission, the board and management, and the strategic plan.
Some financial benchmarks
Financial benchmarks help you compare your organization to your peers and to industry standards, thereby evaluating your success outside the vacuum of your own unique operation. Benchmarks provide a way to convey financial results, with clarity, to board members, management, employees, residents, and community stakeholders.
You can benchmark a lot of things: cash in the bank, revenues generated, campus population, occupancy statistics, payer mixes, etc. The primary financial benchmark that a not-for-profit senior living organization should assess, though, is days cash on hand.
“If you didn’t bring in another dime of revenue, how long could you operate with the cash you have on your balance sheet,” explains Hahn. “For lower investment-grade organizations with an entrance-fee model, that number is in the 300-day range. Fewer days — a minimum of 100-120 days — are required for rental-only models, because many of those organizations rely on Medicare and Medicaid reimbursements. In either case, the more cash on the balance sheet, the more financially flexible the organization can be.”
In addition, the organization should review its financial structure to determine how much leverage it has. Does it generate enough earnings to run its core operations? Is it managing the expense base? What resources have been put on the balance sheet? “Managing expenses is the weakest area for most not-for-profits,” says Hahn. “In fact, many not-for-profit CCRC campuses have negative operating margins and only get to a positive net income by adding in their earnings from investments. But you don’t want to be too reliant on investment earnings.”
Then, how much debt is the organization taking on? Considering amortization and entrance-fee refunds, the typical CCRC tends to have a fairly high debt service ratio — in the 70% to 80% level, according to Hahn. So if you’re taking on a new project, the question becomes: How much leverage does that create?
And what about the external factors? Is the market increasing or decreasing? How are you dealing with competitors coming into the area? What is the reimbursement environment in your state? “You can’t change much about external factors,” says Hahn, “but you must manage around them.” If the state lowers the Medicaid reimbursement, for example, you must have the resources to deal with that for a period of time.
“Setting good financial benchmarks and achieving them year in and year out helps organizations become financially flexible,” she adds. “And that allows them to take advantage of opportunities and weather downturns in the market such as we’re experiencing now.”
Some non-traditional benchmarks
At the end of the day, the goal of a not-for-profit senior living organization is to continue its mission in perpetuity. Non-traditional benchmarks — which revolve around the mission and the people who passionately believe in it — measure non-financial strengths and weaknesses.
“Through mission-centered benchmarks (as opposed to number-centered benchmarks), you’re confirming your story to the community, to residents, and to prospective residents,” says Hahn. Is the administrator proactive? Do board members understand the market you’re serving? Do they realize they must be stewards of the organization’s assets from a long-term sustainability standpoint? Is the staff motivated? Do you have the right people in the right positions? What are you offering that allows them to confirm their commitment to the organization (flexible hours, scholarship opportunities, etc.)? Is the facility perceived by residents, family members, and the community as well-run and well-maintained?
A for-profit operation competing in the same community may have newer buildings and fancier grounds than a neighboring not-for-profit facility, but is its care that much better? Maybe not. Keeping buildings and the grounds well maintained and making the environment pleasant simply requires attention to detail and caring. Is the building clean? Is the signage easy to read? Is the lawn cut? Do the CEO, administrator, and head nurse seem to care? Is there a genuine connection between staff and residents? Between staff and family members?
“All those things are noticed and add up to how a family evaluates the care in that community,” says Hahn. “Family members don’t walk into a facility and wonder how many days cash on hand it has. They want to know if Mom or Dad is receiving good care.”
Benchmarking these kinds of intangible benefits is important for assessing your viability both for long-term success and from a financial perspective. You can use surveys and industry indicators to measure your strengths and weaknesses. But rest assured, you’ll also need to consider the varying perspectives of residents and family members. They’re likely to judge, for example, items such as how long it takes for assistance to come after being called. Like the Cleveland Symphony, which reportedly measures its success by the number of standing ovations it receives, you’ll have to come up with appropriate benchmarks. And when looking at organizational deficiencies, can you really accept any number greater
“Your management and leadership team’s depth of talent is a critical component of long-term success,” says Hahn. “Bankers and benefactors want to know how well the organization has dealt with success, has worked through difficult issues, and is planning for continued success going forward. How do you gauge how you’re doing? Have you put together a strategic plan and are you refreshing it periodically in a thoughtful, disciplined way. Do you need to tweak it based on the changing market? Does your pace need to change due to the turmoil in the real estate market?”
“A lot of not-for-profit board members don’t realize that they have a fiduciary obligation to the entity and are responsible for its financial wellbeing,” Hahn continues. “They have an obligation to make sure that the organization has the financial resources to maintain the tangible assets over their lifetime and that the business continues forever. Board members need to understand what’s going on and ask questions. That’s their job.”
Not-for-profit senior living organizations should do a self-assessment at least quarterly, according to Hahn. “Every competing for-profit organization does it,” she says. “Some of the large ones do it monthly. You have to set milestones and monitor them on an ongoing basis to know where your organization is heading.”
Continuing Care Accreditation Commission (CCAC), Standard & Poor’s, and Fitch all evaluate and rate senior living organizations, but very few of the 2,000-plus not-for-profit senior living communities in the country are rated. Some state organizations evaluate health-care organizations, too, although mostly on the hospital side. Standard & Poor’s rates roughly 90 different not-for-profit senior living organizations and differentiates its medians by single-site vs. multi-site and contract type. Fitch rates about 70 organizations and analyzes its medians by contract type. But organizations are all different, Hahn warns, so when picking a median, know the limitations of the one to which you’re comparing your organization.
“The Standard & Poor’s and Fitch medians can serve as a goal,” she says. “But if your organization doesn’t quite meet those benchmarks, it doesn’t mean that you’re in less of a position to do a project or access the capital markets. It may simply mean that you’re a small organization.”
CCAC medians include 310 organizations differentiated by single-site vs. multi-site and contract type. About 40% of those organizations are rated, so there will be some duplication with the rating agency data.
Hahn also cautions providers about depending too much on the medians supplied by the rating agencies when evaluating financial benchmarks. “The organizations included in the Standard & Poor’s and Fitch medians are highly concentrated in the Midwest,” she says. “That’s a limitation if your facility is located in New England or California; 18 states have no representation. And there are some slight differences in calculating the ratios.” Nevertheless, the medians are a helpful tool for setting benchmarks and a useful gauge when evaluating them.
Leveraging the balance sheet
A not-for-profit benefits from being able to earn at taxable rates and borrow at tax-exempt rates, so there’s a prudent balance between borrowing money to do a project and spending cash. Hahn gives an example:
If you have $5 million in cash and are planning a $5 million project, should you spend the cash or borrow? Investing your money at a 6% return and then borrowing at a 5% rate provides a 1% positive spread. By using the invested cash to pay off the loan over 25 years, the organization would end up with $2 million in the bank. By contrast, spending the $5 million eliminates the opportunity to earn any money on it.
“We advise our not-for-profit clients to request unrestricted contributions when they have a capital campaign to maximize the use of those dollars,” says Hahn. “They can set it aside, invest it, and use it to pay down debt or for operations going forward.”
Certainly the first step to building liquidity is hiring independent money managers who understand the not-for-profit world, as well as how changes in market value could affect covenants on the organization’s debt.
Not-for-profits tend to defer to a local board member who may not charge a fee but also may not disclose that, on the backend, he or she gets trailing commissions off the funds in which the organization’s money is invested,” says Hahn. “That’s called private enurement and may negatively impact the organization’s tax-exempt status.”
If you’re putting cash on the balance sheet, and the board has designated it for long-term capital needs or a rainy day fund, she suggests that you put together a long-term investment policy and prudently invest the money.
Also, many organizations with debt on the balance sheet – particularly variable-rate debt – may worry about rising interest rates and having to reinvest. Interest rates on their investments may also be going up; the spread may remain the same. Debt should not be too highly leveraged relative to accumulated net assets, though, because that reduces your wiggle room.
“You need a cushion in case of catastrophe,” Hahn says, “and access to the capital markets when you need it. Cash is king. It allows access to capital at a lower cost.”
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And Look At Non-Traditional Benchmarks To Tell Your Whole Story