The financial sector and Wall Street, as we know it, are gone. The carnage is breathtaking in its breadth, swiftness and finality. As a passive retirement investor, with an even more passive understanding of the world of finance, I was shocked when Bear Stearns collapsed. Then Lehman Brothers, a 158-year old investment firm failed, and Merrill Lynch narrowly avoided bankruptcy, albeit through a Bank of America buyout.
Questions swirled in my mind: How could a company like Lehman, which makes money by trading money, go bankrupt? How could they have survived the economic crises of 1873, 1929 and 1987 only to succumb in 2008? How could a company with billions of dollars in assets fail? How could an established company go from leader to loser so fast—sweeping the streets that they used to own?
If this calamity could befall presumably intelligent, highly educated, seasoned managers of Fortune 500 companies, could it happen to my company, the hospitalist group I direct? I have neither an MBA nor an undergraduate business degree; never set foot in the business school at my college. Truth be told, I don’t even balance my checkbook.
With the disclaimer that I know about as much about Wall Street’s operations as they know about mine, here are a few cautionary lessons I learned from watching this financial meltdown.
—Coldplay “Viva la Vida”
Liquidity and Reserves
It appears many of Wall Street’s problems can be traced to liquidity—that is having dollars held in reserve. Although sub-prime mortgages are at the center of this crisis, the reality is the vast majority of these loans are not in default. Instead, as big a contributor to this meltdown was the practice of lending money without liquid reserves to back those loans. Investment firms had plenty of assets, just not enough in reserves to cover a spat of delinquencies or a rush of withdrawals.
Hospitalist groups operate in similar ways, with the major difference being almost all of us lose money. In the most recent SHM Bi-Annual Survey on the State of the Hospital Medicine Movement, 85% of hospitalist groups reported an operating deficit. This means we require capital from an outside source to stay afloat. That someone, our creditor, is most often the hospital. Ninety-one percent of HM groups receive financial support from hospitals through offset agreements or an annual stipend.
Just like our Wall Street counterparts, HMGs have a ton of assets in the form of human capital, but often hold very little financial capital in reserve. So, if our investors suddenly pulled their support, the result might not be too dissimilar to what is happening on Wall Street. I’d venture a guess that very few hospitalist groups have enough money in reserve to weather a storm. Look at your balance sheet. Could your group handle a 20% cut in hospital support next year without having to lower salaries or cut hospitalists? If the answer is “no,” you probably could benefit from more reserves.
Understand Your Business
It seems so obvious, but to be successful you need a firm grasp of what you do. I have no doubt someone at Lehman understood credit derivatives, credit default swaps, and mortgage-backed securities. However, it is painfully clear they didn’t recognize all the implications of these products. For example, what would happen if a company that increasingly invested in sub-prime mortgages suddenly saw a rash of these investments go sour—namely, a rush of creditors wanting their money back—immediately? Bankruptcy, that’s what would—and did—happen.