On the one hand, demand is low and supply is high, putting pressure on vendors to wheel and deal. On the other hand, DRA, dwindling reimbursements, and the credit crisis are hurting cash flow. So, should you buy now or wait?

A near-perfect storm of market factors has resulted in the supply of both new and refurbished big-ticket imaging equipment at a high point, while demand is low. While that may mean that vendors are ready to do what it takes to get buyers into a new MR suite, many CFOs are still unconvinced that they should use their limited cash flow dollars now. Consequently, instead of buyers getting everything they want, they are just getting what they need.

“The Double Whammy Effect”

There is little doubt that vendors in the imaging sector have seen a significant drop in sales. At first glance, one might only point a finger at the Deficit Reduction Act of 2005 (DRA), which inspired many outpatient centers to keep their current equipment instead of their usual 5-year replacement cycle.

But DRA is really only part of the reason for the current buyer’s market.

In addition to DRA, equipment vendors—and their customers—were hit with several other factors:

  • Private payors followed DRA with similar reimbursement cuts, putting more pressure on capital budgets.
  • “Consolidation in the outpatient-imaging sector led to a glut of high-quality, upgradeable refurbished equipment being repossessed or sold.
  • “Hospitals had to bear a sharp rise in auction rate security bond interest rates—an offshoot of the overall US credit crisis.
  • “Hospitals received lower returns on stock market investments—another offshoot of the US credit crisis and recent stock market tumble.

“I would term what’s going on in the market as a double whammy effect,” said Todd Skulte, general manager of GE Healthcare Financial Services’ North American Equipment Finance team, based in Chicago.

The “double whammy” consists of the outpatient imaging market seeing lower revenues combined with the hospital market having cash flow problems due to volatility in the bond market.

In the recent past, nonprofit hospitals have financed their large debts through tax-exempt auction rate security bonds, which typically carry low interest rates—but are variable. So, when investors started pulling their money out of the bond market due to the subprime mortgage crisis, bond dealers began to raise existing bond interest rates in order to attract investors. As a result, hospitals had to use their cash flow to cover the higher interest rates—which could be reset monthly, and sometimes weekly. The net effect of the cash flow problem was that the money that was to be used for that new MR system was allocated to covering debt payments.

“If you’re planning to have your interest burn at around 2% or 3%, for example, and now that number is quadrupled, that’s not in your budgetary plans,” Skulte said. “The money’s going to come from somewhere, and it’s coming from hospitals just shutting down their capital expenditure.”

Though hospitals are refinancing their debt with more traditional loans, it will take some time before they are in a position to replace equipment that is currently operating well for their current imaging requirements.

As for the outpatient market, further reimbursement cuts by private payors have forced those centers to restrict expenditures. Some imaging operations that owned multiple centers are shutting down centers and merging the best of the equipment into the most profitable centers.

Eager to Bargain

While imaging institutions may be holding back their purchases, facilities that are ready to buy in such a market are certain to find equipment vendors and financing institutions eager to bargain.

Shea Soll, CEO of Doctors Imaging Services, Metairie, La, a suburb of New Orleans, is one of those buyers who needed imaging equipment. Being in a part of the country that is still recovering from Hurricane Katrina, Doctors Imaging made plans to open a second outpatient center in an underserved section of New Orleans.

“It’s certainly a buyer’s market, and an experienced purchaser should be able to maximize their purchase. If you can’t do it now, then you probably never will,” said Soll.

Skulte, whose GE division finances all equipment manufacturers, said, “We’re certainly seeing among the imaging OEMs pretty intense price competition. Obviously, the market is smaller, there are fewer customers out there, and everybody’s fighting harder for them. So, the old economics of supply and demand is coming into play, and in the deals that we see—and we see a fair number of them—the manufacturers are all sharpening their pens to try to get the buyers to buy in this kind of market. They’re dropping their prices or they’re offering better service deals, or we’re working with manufacturers and offering better financing rates. Everybody is pulling out all stops for the potential buyers out there.”

The same oversupply-low demand pressure is also affecting the refurbished equipment market.

Bruce L. Block, president of Block Imaging International Inc, Lansing, Mich, buys and sells refurbished equipment from a number of manufacturers. “No question it’s a buyer’s market,” he said. “The combination of DRA, which has certainly caused shrinkage in the freestanding marketplace, consolidations, and bankruptcies has freed up a lot of equipment, especially high end and late model equipment, and it isn’t just a US phenomenon. We’re buying today, for example, some very new pieces out of a failed hospital in Japan.”

Block added that he is receiving late model, high-quality equipment from expired leases and some equipment garnered from repossessions. “The flood of equipment from all sorts of places and for all sorts of reasons is—I don’t want to say unprecedented, but it’s certainly at an extremely high level.”

Buyer’s Strategies

While it is clear that those institutions that are in a position to buy right now can find some great deals, that may not mean they are using their buying power to purchase more features or equipment for their money.

Richard L. Gundling, vice president of thought leadership and education for the Healthcare Financial Management Association (HFMA), Chicago, said that he has heard a lot of HFMA’s members are reconfiguring their expansion plans to account for a more tenuous financial environment.

“Instead of getting the MRI with all of the bells and whistles, [hospitals] are saying, ‘Let’s get an upgradeable one and phase it in and take the risk out.’ That is all part of the decision process. That would be a very typical decision for finance and working with radiologists and radiology department heads.”

On the other hand, Gundling suggested that some hospitals might still want to go for the more sophisticated equipment. “Hospitals are looking to measure their quality, so they may be looking to see if that piece of equipment does make a difference in their outcomes.”

For outpatient centers, buyers also seem to be cautious with buying everything they want.

For example, when Doctors Imaging planned its new New Orleans imaging center, Soll said that administrators were careful in their equipment choices.

While the first center is a full service center, with a 3T MRI, a low field open, and 64-slice CT, ultrasound, and digital radiography, the second center will not be a carbon copy.

The new center will have a high field MRI system and ultrasound, but opted for a 16-slice CT scanner rather than a 64. “With the economics of cardiac CTA, in terms of physician acceptance and insurance reimbursement and cost of equipment, it just doesn’t make sense to put another 64 slice in our network of centers,” said Soll. Furthermore, if there was a need for a 64-slice study, patients could still receive that service at the original center.

Doctors Imaging also chose to forgo the most full-featured systems, instead choosing the most relevant options for their immediate needs, while making sure the products had an upgrade path.

“While we’re not buying every option available, the equipment will still be well equipped with software and hardware to perform 95% to 99% of whatever studies the physicians in this community are going to order,” Soll said.

The Refurbished Path

Another option that Doctors Imaging considered for their new center was buying a refurbished system. But Soll said that the upgrade path was a significant factor, and decided to go with a lower cost new system that could be upgraded.

However, with the number of recent outpatient imaging failures, there are, in fact, more recent and upgradeable choices on the market and, depending on the modality, that equipment could last 3 to 5 years or even much longer.

Block pointed to MRs and nuclear scanners that can have a much longer life, especially with later imaging equipment becoming less proprietary.

“A 10-year-old magnet is exactly the same as a brand-new magnet,” he said. “The gradient, the power inside, and the software, in most cases. OEMs have been building equipment that is upgradeable for years. The proprietary nature of the software kept you coming back to them, but that is slipping away, and as you continue to monitor and watch what’s going on, there are going to be some dramatic shifts—and already are.”

When Block’s refurbished customers do buy, he said that they are typically going for the modern upgraded systems that are a fraction of the original cost.

Financing that Purchase

If it is time to take advantage of the imaging bargains, financing options have not really changed all that much from the past methods.

Hospitals are certainly shying away from the bond market, and instead are favoring more predictable financing, such as capital loans, dollar buy-out leases, or even cash, when philanthropists are generous.

When borrowing is necessary, Skulte said that the credit crisis has largely left most hospitals a safe bet for borrowing or leasing.

“We haven’t really tightened up our credit in the hospital arena, so we’re still offering the usual products there. I would only say that we’re probably seeing more appetite for leasing, because leasing will give the end user some cash flow benefits.”

Gundling added, however, “In the short term, the borrowing costs shot up in the last couple of months. But now it seems to have stabilized a little bit—not down to the levels of a couple of years ago, but still, it’s not the 12% that we saw a couple of months ago.”

As to the refurbished equipment market, Block said that financing has actually become easier for buyers since the market downturn. “In the past, it was only the precious few [lending companies] that would prefund us. They wanted only a small deposit to pay and then they didn’t want to pay the balance until the system was up and functional. All that is changing dramatically. We now have many funders coming to us who are willing to prefund. Some of them will even prefund for equipment that we’re buying offshore, which would almost never happen in the past.”

As for the outpatient imaging companies, those with great track records and great business plans, such as Doctors Imaging, have not had any problem finding financing. Soll said the equipment manufacturer’s lenders were flexible, eager to make the deal affordable and to support the company with low payment terms for their first year of operation.

Of course, for those with questionable track records since DRA and increased reimbursement pressures, financing is more challenging.

Skulte said: “The DRA has had a profound effect on the outpatient imaging market, and as a consequence, I think the majority of lenders have tightened up their standards there considerably. People who come into this market now have a very good business plan and are well capitalized, well collateralized, with good structure, whereas perhaps 4 or 5 years ago, they didn’t have to be so stringent.”

Better Times in 2009

The good news is that everyone interviewed for this article predicted better times for the equipment market for 2009.

In the meantime, no matter what part of the imaging sector you’re in, Skulte’s advice is to focus on cash flow and getting back to the basics.

“Where we see people really running into problems is that they’re not focused on their cash flow. People will say, ‘Well, I’m doing this for depreciation benefits,’ and things like that, and the next thing you know, they’re out of cash and they’re trying to manage the profit and loss statement as opposed to managing their cash flow statements. In this market, you’ve got to manage your cash flow statements, because if you’re still generating cash and you’re paying everybody and everything’s going fine, you’ll ride through this fine.

Tor Valenza is a staff writer for Axis Imaging News. For more information, contact .