By GEORGE PILLARI
While the effects of persistently high unemployment have surfaced in the shape of reduced consumer spending, shrunken tax rolls and a host of social problems, there is yet another harsh reality lurking in the shadows. Hospitals, already in precarious financial positions, are seeing their most profitable source of revenue fade away. Should the situation continue, even darker days for hospitals will surely be in store.
More than 150 million people in the U.S. rely on employer-sponsored health insurance to pay for the bulk of their medical costs. One of the more credible criticisms of health reform is the potential backlash against the employer pay-or-play provisions in the legislation, which could throw millions of today’s insured off their employer plans and into the streets with the chronically uninsured. Even if this did not occur, or at least not to a market-moving degree, it would be small recompense, literally, for hospitals relative to the boogeyman that no political party can legislate or filibuster in or out of existence at will: unemployment. Hospitals in our country rely on the privately insured and better-paying patients for approximately 35 percent of net revenue. Given the already compressed profit margins in the hospital industry, any deterioration in the supply of its best customers could seriously threaten the financial solvency and operational viability of many hospitals across the country. Health reform will not prevent this from happening. Reform targets the un- and under-insured and provides only a base level of coverage (Medicaid), coverage that traditionally add nothing to hospital margins and in many cases erode them.
While many factors can contribute to the demise of a business, one factor is usually the most difficult from which to recover: a shrinking market for its products or services. Hospitals are happy, or in most cases, lucky, to break even on Medicare and Medicaid patient loads, which generally represent about half of a hospital’s cash collections. The battle ground for hospitals is the patient who carries commercial insurance that is subsidized by the patient’s employer. Such patients pay higher rates than governmental payors, are younger and healthier than most other patients, and often are interested in receiving the most advanced and sophisticated care available, as long as such care is covered by their employer-based health insurance.
According to the American Hospital Association, over the last 20 years U.S. hospitals have generated an average total profit margin of 4.8 percent annually. Many in the industry believe that the hospital payor mix derived from commercial payors accounts for at least 100 percent of the profit figure. So, while any shrinkage in patient supply is detrimental to a hospital’s solvency profile, a decline in private-pay patients is much more serious than the loss of other types of patients. The ultimate conversion of these patients to Medicaid levels of coverage, through the mechanisms of health reform, may provide some backstop; these money-losing patients do help cover a hospital’s fixed costs, which is why – contrary to regulators’ arguments for more EMTALA-like mandates – hospitals take Medicaid and Medicare patients in the first place. But sooner or later, margins under five percent will prove disastrously inadequate, and the typical hospital will be financially unable to weather the conversion of private pay patients to publicly funded patients.
During the same 20 years that hospitals were steadily producing profits, the U.S. economy moved along with the unemployment rate averaging a mere 5.4 percent. This figure grew so familiar for so long, it helped anchor the roughly four percent figure that economists for years referred as “the natural rate of unemployment.” Then something strange happened, the country entered the New Economy, again. While the first New Economy was characterized by the Internet boom of the late 1990s, and an unemployment rate in some regions actually dropping below the “natural rate,” this version of the New Economy is marked by a boom of its own: an unemployment rate jumping to 10 percent.
The sharp increase in unemployment is only the start of the bad news for hospitals. Almost all of the job losses are from the private sector, which supplies the critical flow of willing and financially able patients hospitals desperately need to make cost-shifting and cross-subsidizing strategies work. Additionally, nobody is forecasting a return to “normal” unemployment rates for at least three-to-five years. As a result, we could be entering one of the most challenging periods ever faced by modern hospitals.
While federal government intervention in the form of COBRA subsidies to individuals has softened the blow so far, these subsidies are expiring. For the millions of people relying on COBRA subsidies as means of affording health insurance, a difficult decision will have to be made once the subsidy ends. As long as unemployment remains high, few of these subsidy-dependent families will be able to find new employment and thus, new commercial health insurance. As unemployment rates persist at current levels, the lack of private-pay patients will exert significant financial pressure on U.S. hospitals. Such declining volumes will be a motivating factor driving horizontal mergers of hospitals, as well as vertical integration of hospitals with physician practices and other providers. If these strategic reactions sound like déjà vu, they are: the last time many hospitals even countenanced vertical and horizontal consolidations was the mid-1990s, and the threat then was the targeting by managed care, on behalf of employers, of high prices and lengthy stays for commercially insured patients.
Aggressive consolidation around core competencies, openness to in-market alliances with competitors and the selective use of capital markets (when available) to leverage and strengthen balance sheets are only a few of the measures necessary for survival after the recent worldwide economic meltdown. For hospitals that fail to plan for the nuclear winter ahead, closures and bankruptcies will follow swiftly. Hospitals and their boards cannot put their heads in the sand and pretend the future will be all right. It will be a different future and one that needs to be planned for today.
George Pillari is a Managing Director with Alvarez Marsal Healthcare Industry Group in San Francisco. Prior to joining AMH, Mr. Pillari was the CEO of CBCA Inc., a health benefits outsourcing company that managed more than $1 billion of medical costs annually on behalf of corporate customers. Prior to CBCA, Mr. Pillari was co-founder and CEO of Solucient, a leading provider of healthcare information and comparative metrics.
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The notion of uncoupling employment from health insurance has been studied and floated a time or two but it is not politically feasible because unions fight it and businesses still love to kidnap employees from competitors by deluxe “benefits.”Hospitals are happy, or in most cases, lucky, to break even on Medicare and Medicaid patient loads, which generally represent about half of a hospital’s cash collections.Almost all of the job losses are from the private sector, which supplies the critical flow of willing and financially able patients hospitals desperately need to make cost-shifting and cross-subsidizing strategies work.
Thanks.
And that reference to “healing arts” should have concluded “(/snark)”. Sorry for any confusion.
I second Mr. Ballard’s comments above… well said.
Boy, a lot here to comment on.
“Hospitals, already in precarious financial positions, are seeing their most profitable source of revenue fade away.”
I can only hope the gravy train of unending billing potential from private insurance is fading for hospitals. Insured people were already delaying or doing without elective surgery due to co-pays and deductibles because of economic insecurity. If hospitals had done a better job of controlling costs instead of trolling for billable dollars, which contribute to unsustainable health costs, they might be in a better position to weather this downturn, for everyone’s benefit.
“Even if this did not occur, or at least not to a market-moving degree, it would be small recompense,”
You state the problem then say if it doesn’t happen it will still be a crisis?
“Hospitals are happy, or in most cases, lucky, to break even on Medicare and Medicaid patient loads, which generally represent about half of a hospital’s cash collections.”
Only because they do a terrible job of cost control. Brad is correct, HOSPITALS ARE NOT EFFICIENT, but use lavish billing of employer paid health coverage to cover for inefficiencies. The bar should be Medicare/Medicaid, not private insurance.
“According to the American Hospital Association, over the last 20 years U.S. hospitals have generated an average total profit margin of 4.8 percent annually.”
There is gross profit and net profit. Hospitals do a good job of burning gross profit to limit net profit. Bonuses, pay raises, equipment purchases, and building expansion or acquisitions are all used to keep the net profit within the “acceptable” norm. Notice they don’t use gross profit to reduce patient costs.
“these money-losing patients”
How dare you. They’re only money loosing because you can’t give them Cadillac care, even if they don’t need it.
“One of the more credible criticisms of health reform is the potential backlash against the employer pay-or-play provisions in the legislation, which could throw millions of today’s insured off their employer plans and into the streets with the chronically uninsured.”
Credible, by whom? Having patients show up at the ER with insurance is not going to help hospitals? Which employers are going to fire workers because they have to provide health insurance – the ones who don’t provide any coverage now? Do you think there’s a glut of over employment where an employer will cut staff to get below the magic 50 employees, in spite of needing them to produce income. And how about the Small Business Health Care Tax Credit:
“This new credit helps small businesses and small tax-exempt organizations afford the cost of covering their employees and is specifically targeted for those with low- and moderate-income workers. The credit is designed to encourage small employers to offer health insurance coverage for the first time or maintain coverage they already have. In general, the credit is available to small employers that pay at least half the cost of single coverage for their employees. Learn more by browsing our page on the Small Business Health Care Tax Credit for Small Employers.”
“Aggressive consolidation around core competencies, openness to in-market alliances with competitors”
Read as, reducing an already uncompetitive market to cartel like proportions.
“Hospitals and their boards cannot put their heads in the sand and pretend the future will be all right.”
I can only hope. Did they think that 6% – 10% cost increases per year was infinitely sustainable? Would those boards consider a pay cut to help the hospital get by?
By the way John Ballard, using “credible” and “conservative” in the same sentence is an oxymoron, and the last thing Rick Scott has done is dedicate his life to the healing arts.
You make one spurious assumption: Hospitals are operating at their maximal level of efficiency. They are not.
Additionally, in HA this year, paper from RAND or Dartmouth looked at hospital profitability based on predominant payer, market environment, etc. No surprise. A significant minority of hospitals do and can make a profit on Mcare patients.
Your points are well taken, but you overreach on hospital need to evolve and change. They can and will.
Brad F
I’m sure everything said here is correct. But as I read, here are a few ideas that came to mind…
►Until the Sixties all hospitals were non-profit, thanks to a deeply held fear on the part of doctors that if hospitals were profit-driven they would unfairly compete for patients with doctors. It’s a long and tawdry story but worth looking up sometime. I think it was Rick Scott and HCA that had a vision of doing with health care what McDonalds did with food and Walmart for retail. (That would be the same Rick Scott now Governor of Florida. Clearly someone dedicating his life to the healing arts.)
►The notion of uncoupling employment from health insurance has been studied and floated a time or two but it is not politically feasible because unions fight it and businesses still love to kidnap employees from competitors by deluxe “benefits.” And they don’t really mind the tax advantages of being able to treat insurance as an expense. Check out this fascinating but obscure paper from AEI with sterling Conservative credentials.
http://www.aei.org/outlook/21921
►The mission of health care is providing health care, not jobs. It seems obvious but no one wants to say that out loud. I read somewhere that hospitals in one of the Scandinavian countries regard empty beds as a good sign, that they are keeping the population healthy. I can imagine readers reacting with “How very queer…”
►And finally, I can think of nothing as nutty as imagining that health care should be related to employment. The one time I had to face COBRA coverage my wife and I nearly crashed economically. Losing one’s income is bad enough without having the price of health insurance nearly double at the same time. Whoever imagined this was a good arrangement clearly never had to face the harsh reality it enshrines.