As it turns out, an anticipated spike in letter of credit expirations for health care debt hasn't created the crisis that was predicted for 2011. But chief executive and financial officers are urged to stay on top of the issue because it isn't going away.

The situation dates to 2008, when the credit crisis led to a collapse in the auction-rate bond market, and bond insurance — one of the more popular means of enhancing interest rates — became scarce, explains Matthew J. Lindsay, vice president of Lancaster Pollard, which provides capital funding and financial advisory services. In response, health care borrowers who needed to refinance their variable-rate bonds scrambled to secure letters of credit to avoid doubling (or worse) their cost to credit.

An instrument that essentially allows a borrower to rent a bank's credit rating to secure an enhanced interest rate, letters of credit generally are issued for a three- to five-year term (while the underlying bond extends for up to 30 years). Nationwide, at least $27 billion of hospital and senior living debt is secured by LOCs that were set to expire between 2010 and 2012, Lindsay says.

Many analysts feared that a sudden spike in LOC demand, combined with a multitude of financial issues affecting hospital revenues, would lead to massive problems if banks decided they could no longer issue the LOCs or if demand drove up the price.

Randall Dauby, CEO of Hamilton Memorial Hospital in rural McLeansboro, Ill., has had this troubling scenario in the back of his mind since 2008, when the hospital financed a major redevelopment and expansion with $18.5 million in variable-rate bonds backed by a bank-authorized LOC, which expires in November 2012.

"Instead of waiting to see whether they're going to renew, we decided to get out front and start working on something right away," he says. Working with Lancaster Pollard, Hamilton is exploring the possibility of a loan package that includes guaranteed financing through the Agriculture Department's Business & Industry guaranted loan program.

For the most part, though, the predicted tsunami of LOC expirations has turned out to be a more manageable high tide, as the market seems to have been able to absorb the need, says Glenn Wagner, a financial adviser and vice president of Kaufman Hall, a Chicago-based health care consulting firm. But the credit crisis of 2008 did lead to a financing sea change that likely will be long-lasting: the growing tendency toward direct purchase arrangements in which the banks simply purchase the tax-free hospital bonds.

Hospital executives have become far more wary of the routine risks associated with the weekly or even daily exposure of their variable-rate debt because of the right of investors to demand immediate repayment of their tendered bonds, Wagner says.

"The credit crisis changed everyone's perception of risk and how best to manage it," he adds.