Anticipating health care reform and seeking a marketing edge over competitors, hospitals are forming alliances with other providers - Special Issue: The State of Health Care In America

Overcapacity and increased competition have put hospitals under intense financial pressure. To help ease that pressure and to make it easier to attract new patients, hospitals are joining with other hospitals and with physician groups as well. The one word that best describes what's happening throughout the hospital industry this year is: consolidation.

Actions taken by the federal government in the 1980s were largely responsible for decreasing the number of occupied hospital beds. The rise in outpatient surgery also contributed to today's overcapacity. By forming alliances, hospitals hope to improve their profitability and become the accountable health plans of the post-reform era, capable of providing comprehensive care to local or regional populations.

HOSPITAL COSTS

Hospital costs represent the largest part of the nation's health care bill-- about 39% of the total. In 1994, such costs will rise 12.5% to $409 billion, according to projections by the U.S. Department Of Commerce.

Hospitals also measurably affect the nation's employment statistics. Jobs in hospitals account for more than half of all positions in health care. Of the 10.2 million men and women employed in health care facilities, 5.2 million work in hospitals.

While impending health care reform will present new challenges for the nation's hospitals, hospital administrators continue to struggle with the familiar problems of diminishing inpatient revenue and empty beds.

Since 1989, inpatient procedures have declined steadily, while outpatient procedures have increased, according to the American Hospital Association (AHA), Chicago. In 1992, for example, the number of ambulatory surgical procedures performed in U.S. community hospitals grew by 5.1%. During the same period, inpatient surgeries declined by 1.3%.

The steady shift from inpatient to outpatient treatment has occurred, in part, because of government actions taken nearly a decade ago. In ]985, the Health Care Financing Administration (HCFA), Washington, the agency that oversees Medicare and Medicaid, changed the way Medicare reimburses hospitals for the care of the nation's elderly.

After analyzing length-of-stay information, Medicare determined the number of days patients with certain illnesses, called diagnosisrelated groups (DRGs), should be hospitalized. Medicare said it would pay only for those days. If patients remained hospitalized for longer periods, the additional costs were to be borne by the hospitals. As Medicare payments to hospitals declined, so did the number of days most Medicare patients remained hospitalized.

Revised reimbursement formulas aren't the only reason the rate of outpatient care has risen dramatically in the past decade. New, less invasive techniques, such as laparoscopic surgery and laser surgery, have reduced patient recovery times. They also have permitted operations such as gall bladder removal and cataract surgery to be performed on an outpatient basis.

TAKING ACTION

Moreover, drags are now successfully treating patients who would have been candidates for surgery in the past. For example, before drugs known as H2 agonists were introduced in 1977, roughly 155,000 people suffering from ulcers routinely underwent surgery each year. Since then, the number of ulcer operations performed each year has dropped to about 16,000, according

to an analysis by the Boston

Consulting Group.

The result of these changes is that almost everywhere, hospitals have more beds than needed. The AHA says 310,000 of the nation's 925,000 community hospital beds are empty each night. The cost of each empty bed: $30,000 to $40,000 a year. Similar situations exist at other hospitals, such as tertiary, or teaching, institutions.

To fill vacant beds and strengthen balance sheets, some hospitals have begun pitching their services directly to the public. It's not unusual, for example, to hear a radio advertisement describing a hospital's family-friendly birthing center, or to read an ad suggesting that men and women who have high cholesterol or other risk factors for heart disease come to a hospital's coronary diagnostic facility for a complete cardiac work-up.

Hospital executives today know that improving profitability, reducing costs, providing better care, and in many cases, joining with other hospitals, with physician groups, or with ancillary providers--such as home health care or other outpatient providers--will be the key to survival. Some 40% of all U.S. hospitals could be closed, merged, or converted to other uses by the year 2000, according to InterStudy, the health policy organization based in Excelsior, Minn.

To help ensure their future, many hospitals are merging with other institutions. During fiscal 1993, the U.S. Department of Justice received 56 approval requests from hospitals planning to merge. It got 21 such filings in the previous year.

The largest example of hospital consolidation in 1993 was the merger of Columbia Healthcare Corp., Louisville, Ky., and HCA-Hospital Corporation of America in Nashville, Tenn. The union created the largest investor-owned hospital chain in the world.

The new corporate entity, Columbia/HCA Healthcare Corp., owns and operates 190 acute-care and specialty hospitals and expects to generate more than $10 billion in annum revenue. Columbia/HCA's hospitals account for more than 42,000 beds in 26 states and two foreign countries. "You can count beds, hospitals, annual revenues, or number of employees. We're the largest," says Richard L. Scott, Columbia/HCA's president and CEO.

Lower costs for supplies and streamlined operations are expected to generate savings estimated at $130 million annually, says Scott.

The potential for cost containment wasn't the only reason for the merger. Another primary objective was to make the company's hospitals attractive to large purchasers, such as managed care organizations (MCOs) and employers. "We see ourselves working with them to drive down the cost of health care through increased volume," Scott maintains.

"To a certain extent, it's very similar to manufacturing," he explains. "It's like having a manufacturing plant that's used 24 hours a day instead of eight hours a day, and being able to allocate costs over the 24-hour period. If we can have more surgery volume, the cost of our surgery suite per procedure goes down dramatically."

The savings from the merger should help improve patient care, Scott adds. For example, he notes, by spreading data collection costs among more hospitals, it becomes less expensive to develop and use the sophisticated computer systems needed to acquire outcomes information. That information, he says, ultimately will be translated into good medical protocols.

Cost savings and improved care also will result from the December merger of Brigham and Women's Hospital and Massachusetts General Hospital, both in Boston. This merger involves two of the nation's most prestigious non-profit acute-care hospitals, both affiliated with Harvard University School of Medicine. The new institution will have a combined faculty of 2,200 doctors and 2,900 residents.

Like most mergers, the Brigham and Women's and Massachusetts General consolidation will yield savings. Unlike many other mergers, however, this one is designed primarily to achieve some of the basic goals of health reform.

At the announcement, J. Robert Buchanan, M.D., general director of Massachusetts General Hospital, emphasized that the merger is an example of academic medical centers taking a leadership role in "reforming and modernizing the health care delivery system." The new institution will strive to reduce the cost of care, eliminate enormous duplication of services, and tailor care to the community.

The new hospital entity will form additional alliances with community hospitals and with managed care programs to improve primary care throughout metropolitan Boston, executives said.

The merger of three hospitals within five miles of each other in Moline, Ill., demonstrates how smaller institutions are strengthening themselves and preparing for the future at the same time.

SMALLER PLAYERS

The newly formed Trinity Medical Center consists of Franciscan Medical Center, Moline Public Hospital, and Lutheran Hospital. Together, they have about 700 beds. Trinity is the result of a two-stage merger. The first took place in 1989, when Lutheran and Moline became United Health Systems. The second stage was completed in 1992, when United merged with Franciscan.

Since the merger, cost containment initiatives have centered around reducing capital expenditures and operating expenses. "The argument we made to the community and to the Justice Department was that if we were together, instead of competing and building duplicate facilities, we could achieve $40 million to $50 million in capital savings," says Eric Crowell, president of Trinity. "We're in the strategic planning process right now and we're actually going to save those dollars."

Trinity has already generated savings of about $2 million to $3 million, Crowell maintains. The savings have come from downsizing, eliminating duplicate services, and restructuring. "Our goal is to develop newer, smaller, more efficient facilities and to close some older locations," Crowell says. Trinity's three-year plan calls for closing more than 500,000 square feet of old building space, developing new ambulatory care facilities, and building a 72-hour recovery care center.

Crowell is committed to using the resulting savings to slow future price increases. To that end, Trinity staff was told to develop a 1994 budget that contains no increases in expenditures. "That means any increases in salary and other expenses have to be paid out of efficiencies gained in the system," he says.

While many hospitals are interested in forming alliances with other hospitals, they fear that in trying to do so, they may violate federal antitrust statutes. Both the Justice Department and the Federal Trade Commission (FTC) closely scrutinize proposed hospital collaborations.

The government focuses mainly on the competitive impact of hospital mergers. Federal regulators presume that "any reduction in the number of independent competitors-the necessary result of mergers or joint ventures involving existing hospital services-is likely to be associated with higher prices and lower quality," according to a 1992 AHA report on antitrust regulations.

This presumption is not correct, the AHA argues. In fact, the organization contends, the current system actually hurts consumers. Many consumers are "insulated from market prices by third-party insurance." Since patients don't pay for the full cost of their care, they have little incentive to select a hospital on the basis of price.

Consequently, hospitals have attracted patients by offering the most advanced services, equipment, and facilities, the AHA maintains. This trend has resulted in extensive duplication that "does not produce a substantial improvement in medical outcomes, but contributes to the upward spiral in hospital costs," the AHA report says.

Given the current level of national concern about rising health care costs, the AHA contends, regulators should recognize that hospital alliances will reduce, not increase, the cost of care.

Columbia/HCA's Scott agrees. He refers to a decision by the FTC in 1993 that forced Columbia/HCA to divest itself of a hospital in one market area and not to acquire a hospital in another area. "In both cases, I believe that the wrong position was taken because we could have driven costs down," he says.

HOPEFUL SIGNS

Some of these problems may be resolved soon. In September, the Justice Department and the FTC issued six policy statements addressing how they enforce antitrust law. Fred Entin, AHA general counsel, calls the statements "pretty narrow," but concedes that the announcement was "a good first step."

Some 18 states have passed legislation to make it easier for hospitals to avoid legal difficulties when they seek to merge. Another 10 states are considering it, according to Entin. Under these laws, if states say a new alliance will not represent an unfair monopoly, the alliance can obtain a certificate indicating so. Theoretically, having such certificates should enable hospitals to minimize federal objections, says Entin.

In addition to mergers or acquisitions, another trend among hospitals is the move to form alliances with physician groups or physician-hospital organizations (PHOs).

One of every five U.S. acute-care hospitals has at least one type of integrated hospital-physician structure, according to a 1993 survey of 507 hospital CEOs. The three groups that co-sponsored the survey were Ernst & Young, New York, an international consulting firm; "Report on Physician Trends," a newsletter published by Capitol Publications Inc., Alexandria, Va.; and the Academy for Health Services Marketing, Chicago, an association of marketing professionals.

Some PHOs date back more than 15 years, survey results show. As of June 1993, however, the typical physician-hospital entity was 3 1/2 years old; half were in existence for less than 18 months.

About 11% of survey respondents said they had established PHOs. Some 34% said they planned to begin a PHO within the next two years.

Most hospitals and doctors enter into such alliances to negotiate with MCOs and employers, or to become MCOs themselves.

The power that comes from entering into PHO partnerships explains some of its appeal, says Ellen Goldman, a partner in Ernst & Young's health care strategy and marketing group in Washington. In some parts of the country, she says, insurers seek PHOs. "Insurers want to know that for all of the cardiac services provided to their enrollees, there is going to be a fixed price," she says.

Conversely, some insurers prefer not to deal with such groups, she says. "They feel there is too much clout on the other side of the table. They would rather negotiate individually," she explains.

As a rule, PHOs enable providers to improve their positions in the marketplace, says Bill Hussey, presi- dent of Columbia/HCA's Southwest Florida division in Fort Myers. "In order for the managed care companies to be successful, they must have a provider network that consists of inpatient facilities, outpatient facilities, and physicians. If a managed care company has to spend energy first negotiating a hospital contract and then negotiating physician contracts, it may take six months or more to put together a provider network."

Instead, he says, "If the managed care companies come to the PHO and we present ourselves as offering one-stop shopping, we think we will be more competitive in winning contracts," Hussey says.

PHOs and other integrated hospital-physician structures offer other advantages, as well. Some hospital executives responding to the survey said that integration has already helped to improve patient care. One example they cited was their ability to generate better protocols to standardize treatment.

To help them manage quality assurance, utilization review, and other functions essential to the success of their alliances, many physician-hospital groups are turning to management service organizations (MSOs). Among the services MSOs typically offer are conducting feasibility studies, dealing with state and regulatory agencies, establishing or coordinating budgets, purchasing, and marketing.

MSOs also may provide a variety of administrative and practice management services, such as transcription or perhaps staffing.

KEYS TO SUCCESS

With or without help from MSOs, hospitals seeking to form alliances of any type face a number of challenges in 1994.

"The industry will continue to be volatile," says Allan Fine, vice president and director of the Center for Managed Care of Quorum Health Resources Inc., Chicago, a health care consulting firm. To survive, hospitals must adapt to the changing demands of the marketplace.

"They must examine the concerns and opportunities that exist within their own markets and not simply emulate the approaches of others. Hospitals and integrated organizations must learn what employers and other health care buyers want now and will need in the future," Fine says.

They also must develop the ability to assume risk and to accept capitation fixed fees that cover total medical care for each employee or dependent. "It is clearly evident that the industry is moving toward capitation," he contends.

Perhaps most important, successful hospitals and physician-hospital alliances will have to prove their value by providing outcomes and other data that are comprehensive, accurate, and timely. "They must present evidence that they're as good as they say they are," says Fine.

Hospitals able to meet the challenges ahead will be the ones that succeed, Fine maintains. "Astute purchasers will seek and find those that are capable of delivering what they promise," he says.

COPYRIGHT 1994 A Thomson Healthcare Company
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