A Useful Bond Financing Vehicle for Nonprofit Hospitals
David H. Barnes, Esq.
This article provides an overview of “Obligated Groups,” which often can be an important tool for hospitals hoping to access the capital markets. After describing the principal attributes and structure of Obligated Groups, this article will discuss some of the principal advantages and drawbacks of this financing device.
Overview of Attributes and Structure of Obligated Groups
An Obligated Group (a “Group”) is a financing structure that enables a group of nonprofit hospitals to join together to issue tax exempt bonds on a “joint and several” basis. Under this structure, the organization on whose behalf tax exempt debt is issued is primarily liable to the purchaser of its bonds, in the event that this debt is not paid as agreed. Importantly, the bond purchaser also has the right to pursue payment from the other members of the Group, each of which is liable for the debt on a joint and several basis.
A Group is established by the entrance of a number of organizations into a “Master Trust Indenture” (the “MTI”), a document that identifies the members of the Group and which identifies a “Group Agent” (the “Agent”), an organization which is given the power to act on behalf of the Group and its members with respect to financing transactions. (The scope of the Agent’s powers is discussed in more detail below). The MTI will establish a uniform set of representations and covenants (both corporate and financial) that will apply to all debt issued on behalf of the Group. The MTI will also describe the collateral – typically including at least a pledge by each member of a security interest in its gross revenues – that will be granted by all group members as security for all debt issued by the Group. Importantly, in the event of a default, such security will be shared among all creditors on a pro rata parity basis.
Any time debt is issued by the Group, the Group will enter into a Master Trust Indenture Supplement (a “Supplement”) which will set forth the relevant details of such financing (principal amount, interest rate, bond term, etc.). In addition, to the extent that the financing in question requires covenants, security provisions, or other terms that differ from those appearing in the MTI, these terms will be memorialized in a Supplement.
The scope and nature of an Agent’s powers and duties with respect to Group affairs (e.g. authority to admit new members, approve bond terms, sign bond documents, etc.) vary from Group to Group. While these powers and duties are frequently described in the MTI itself, in situations where all Group members are affiliated with each other as part of an integrated healthcare system, the powers and duties of the Agent frequently derive from the reserved approval powers that are imbedded in such system’s corporate structure. In situations where Group members are not part of an integrated system, the respective powers and duties of the Agent and the Group members may be described in an “intramural” agreement to which they are all parties.
Advantages and Disadvantages of Group Membership
There are a number of reasons why a nonprofit hospital with capital needs might consider joining a Group – most evident when the Group and its members, taken as a whole, have a stronger financial profile (as evidenced by, among other things, a rating from one of the leading credit rating agencies) than the organization would have acting on its own. Potential benefits include: (i) the ability to access the capital markets at such times when access would not otherwise be available; (ii) lower interest rates; (iii) more favorable security provisions; and, (iv) more favorable financial covenants. Group membership may also allow a member to take advantage of an Agent’s financial experience, expertise, and existing relationships. Membership also often presents an opportunity to lower bond issuance costs.
As noted above, Group membership will render a member jointly and severally liable for all debt issued by the Group on behalf of all Group members. As such, in deciding whether to become a Group member, an organization must make its own assessment of the financial strength of the other members to determine the extent of the risk that it may have to make payment on account of another organization’s default. Depending upon the scope and nature of the Agent’s powers and taking into account the relative size of the members of the Group, entrance into a Group may also lead to a reduction in an organization’s autonomy in making certain types of decisions regarding the manner it will address its capital needs through borrowing.
Joining or establishing an Obligated Group can offer substantial benefits to certain nonprofit hospitals wishing to address their capital needs through borrowing. Due to the importance and complexity of the involved issues and the wide variety of available options, such decisions need to be made carefully.
For more information about our Healthcare Service Area or to learn more about the Devine Health Team, please visit www.devinemillimet.com/healthcare.