UMMS defends use of interest rate swaps

The University of Maryland Medical System has set aside tens of millions of dollars because of complex financial transactions related to interest rates that have not paid off — yet.

The medical system cannot use those funds — $93 million at the end of March — even as it wrestles with financial pressures that have led to layoffs.

Several years ago, UMMS entered into what are known as interest rate swaps when the financing tool was popular and widely used by hospitals, municipalities and businesses looking to protect themselves against the risk of rising interest rates.

In an interest rate swap, an entity such as a hospital executes a contract with a bank to transfer that risk. In this case, the hospital system agreed to pay a bank a fixed interest rate and, in return, the bank agreed to pay a floating rate on bonds the hospital sold. In such an arrangement, if the floating rate rises, the system is protected because the bank foots the bill.

A UMMS spokeswoman called the interest rates swaps a "prudent financing option" and said they have had no impact on layoffs and other cost-cutting measures. Due to the nature of some of its swaps, UMMS must recognize their market value on its balance sheet, which is why it had $93 million set aside as collateral in March. It must add or subtract to that collateral monthly, which can pinch its cash flow.

A local labor union, pushing for better labor protections for the medical system's 5,000 workers, called the swaps a risky financial scheme and said UMMS is gambling with jobs and money that should be spent on patient care.

The union — 1199SEIU United Healthcare Workers East — is targeting the medical system even though other area hospital systems also use swaps. The Johns Hopkins Health System and MedStar Health joined as many as 500 hospitals around the country that used the financing mechanisms in the past decade.

SEIU representatives said it is targeting the University of Maryland because it gets more public financing and is in weaker financial health than other systems in the region. UMMS owns and operates 11 hospitals across the state, including the University of Maryland Medical Center, home to the Maryland Shock Trauma Center.

"They have been crying poverty to the state over the years, while executives have been giving themselves raises, and there is all this money tied up that doesn't have to be," said Vanessa Johnson, vice president at large for the union.

UMMS spokeswoman Mary Lynn Carter countered that the institution is fiscally responsible and accused the union of spreading inaccurate information.

"All financing arrangements carry some risk, but it is not accurate to characterize interest rate swaps as risky," Carver said. "Issuing variable-rate debt and interest rates swaps are designed to reduce the risk of interest rate fluctuations, not increase the risk."

The medical system believes their use was the best financing option at the time, she said.

"The cost was certainly less using variable interest rates with swaps than if we had followed traditional fixed-rate financing available at the time," Carver said.

Analysts at bond ratings agencies offer mixed views about the risks of UMMS' use of swaps.

A February report by Fitch Ratings suggested that the swaps need to be watched even as it gave UMMS an "A" rating and said its outlook was stable.

"Given market conditions, swap collateral posting requirements have been sizable and volatile," the report said. "Due to UMMS' already weak balance sheet, further demands on liquidity are of concern."

Bond rating company Moody's Investors also noted the swaps in a report released in February but didn't name them as the reason for dropping UMMS' outlook from stable to negative. Instead, Moody's report said it was more worried about how recent acquisitions, including that of St. Joseph Medical Center in Towson, would affect finances.

Sarah Vennekotter, an assistant vice president at Moody's, said that interest rate swaps can become problematic if they cause a cash crunch for a company.

"It can start to deplete cash flow if large amounts of collateral are being posted," Vennekotter said. "We do look at it as a credit factor if we see a borrower that we rate has lot of swaps or collateral posted and it comes to a point that it is so much that the cash ratio declines."

The amount of collateral that UMMS has had to set aside has diminished as interest rates have begun ticking upward.