Capital Rationing Under a Bond Covenant: MRI, EHR, and a Surgeon-Led ASC Joint Venture

Covenant math first.

• Annual payment on $15M at 5.0% over 10 years: $15M × 0.12950 = $1.94M
• New debt service: $14.6M + $1.94M = $16.54M
• Resulting coverage: $38.0M / $16.54M = 2.30x versus a 2.20x covenant
• Covenant EBITDA floor: 2.20 × $16.54M = $36.4M

So borrowing the full $15M leaves only $1.6M of EBITDA headroom (4.2%) at a time when MA penetration is rising and site-neutral cuts are pending. That is not a cushion; it is a coin flip.

Ranking.

1. MRI - fund, $3.6M from operating cash. Highest certainty, smallest check, protects an existing revenue stream, and the demand is already visible in the rescan and backlog data. No debt required.
2. EHR upgrade - fund, $6.0M, phased across two fiscal years if needed. Deferral risk is security, regulatory, and revenue-cycle disruption, which are harder to recover from than a delayed project. Phase to protect liquidity.
3. ASC - do not fund as proposed. $19.4M exceeds the remaining $11.4M of discretionary capital and, under a $15M loan, consumes the entire covenant cushion.

How to keep the ASC alive. Restructure rather than decline. Reduce the system's equity to 51% or lower; bring in a developer or an ASC operating partner for the real estate and fit-out; contribute land or an existing building instead of cash; or stage the commitment so the second tranche is triggered by volume milestones. The surgeons' 40% outmigration is a real threat, but a covenant breach is a larger one - and a breach raises the cost of every future dollar the system borrows.

Standalone pro forma (illustrative). Assume the JV captures 6,300 of the surgeons' 9,000 outpatient cases at $2,400 net revenue per case, with 62% operating expense:

• Revenue: 6,300 × $2,400 = $15.1M
• EBITDA: 38% = $5.7M
• System's 60% share: $3.4M per year; payback on $14.4M ≈ 4.2 years

Standalone, that looks acceptable. The system-level view is not.

Cannibalization. About 3,800 of those 6,300 cases are currently performed in Riverton's hospital outpatient departments, where contribution per case is roughly $1,650. Shifting them to the ASC forgoes 3,800 × $1,650 = $6.3M of hospital contribution. Netting the system's $3.4M ASC share against that gives −$2.9M in year one. Converting hospital outpatient cases to a lower-paying ASC is margin-dilutive in the near term; the justification has to come from elsewhere.

The "do nothing" case is also not zero. If the surgeons move their remaining 5,400 cases to the competitor, Riverton loses 5,400 × $1,650 = $8.9M of annual contribution, plus the associated imaging, pathology, and anesthesia volume. So the decision is not "$14.4M for $3.4M" - it is choosing between a $2.9M dilution and an $8.9M loss.

Implication. The ASC is defensible as market defense, but only at a lower capital commitment and with a site-neutral sensitivity built into the model. If Medicare converts those cases to the lower site-neutral rate, the ASC EBITDA line falls further and the dilution widens. Underwrite it as retention, and negotiate a 51% or below equity position and a staged funding schedule that ties the second tranche to verified case migration.

Adopt a written capital allocation and debt policy with explicit triggers, so the ranking is a rule applied prospectively rather than an argument relitigated each year.

Financial thresholds.

• Coverage floor of 2.35x for any transaction that adds debt, roughly 0.15x above the covenant, which preserves about $2.5M of EBITDA headroom. If a request cannot clear 2.35x, it requires a board supermajority and a written mitigation plan.
• Days cash on hand floor of 90; no project may take the pro forma below it.
• Discretionary capital envelope defined annually as cash from operations minus routine replacement, with the definition agreed in advance so the envelope is not renegotiated mid-year.

Ranking criteria, weighted. Strategic necessity and revenue protection (40%), return and payback (25%), risk including payer and site-neutral exposure (20%), and mission/access (15%). Score every request against the same rubric and publish the scores to the board.

Structural rules.

• Projects above $10M require a standalone net system-impact model that includes cannibalization, not just project-level return.
• Any joint venture must carry a staged funding schedule with volume triggers and a defined exit mechanism.
• A payer-concentration trigger: if MA exceeds 50% of Medicare volume or any single payer's rate cut exceeds 2%, the capital plan is re-run before the next commitment.

Reporting. A quarterly capital dashboard showing coverage, days cash, active project spend versus authorization, and realized versus projected returns. The most common failure is not a bad ranking; it is approving a project on a pro forma that is never revisited. Require a post-completion audit at 12 and 24 months, with the results reported to the finance committee.