Funny Money and the Adverse Impact of Mergers in Health Care

20 for 2020 is a newsletter sent to 20 people in preparation for the U.S. Presidential election of 2020. The recipients include Business, Government and Society members including three Presidential candidates. The newsletter goes beyond the headlines and provides factual information on key issues including healthcare, the economy, society and how we can come together as a nation and as a people.

July 2019 is the second issue and it is on How Hospitals Generate Revenue and the Impact of Consolidation.

In the tech industry, there is a saying “where there is mystery there is money” and I think the same can be said of healthcare. Healthcare procurement has some distinctive properties: 

· it is derived demand- an accident or illness has to occur to generate most demand, although efforts have been made to routinize revenue through the concept of preventative medicine, 

· there is little price transparency and the costs are typically born directly by someone other than the recipient,

·  the price paid for the same service can vary from consumer to consumer and place to place,

· the purchase can be made by someone vulnerable or even in crisis and highly dependent on the advice of the expert they are purchasing the product or service from, 

·  the reimbursement revenue for services can vary and this can impact industry structure

· And the costs of service can have a high fixed cost structure due to the equipment involved in some cases.

Hospitals bill for services and the revenue can be segmented by whether it is Medicaid, Medicare, or private insurance, out of pocket, or other. It is not unusual for hospitals to perceive that they lose money off of the Medicaid and Medicare reimbursement patient rates and make their profits off of private insurance reimbursement patients. Cultivating a desirable ratio is often key and the fact that reimbursements in some cases may be below cost is problematic. Realistic and sustainable standards are needed for all patient revenue streams are needed. This may require highly coordinated efforts of providers and payees. Please see American Hospital Association's Fact Sheet Hospital Billing Explained.

According to a Sept. 2018 article in Very Well Health, 

“Medicare and certain private health insurance companies pay for hospitalizations of their beneficiaries using a DRG (Diagnosis-Related Group) payment system. When you've been admitted as an inpatient to a hospital, that hospital assigns a DRG when you're discharged, based on the care you needed during your hospital stay. The hospital gets paid a fixed amount for that DRG, regardless of how much money it actually spends treating you. If a hospital can effectively treat you for less money than Medicare pays it for your DRG, then the hospital makes money on that hospitalization. If the hospital spends more money caring for you than Medicare gives it for your DRG, then the hospital loses money on that hospitalization.

The idea behind DRGs is to ensure that Medicare reimbursements adequately reflect "the fundamental role which a hospital’s case mix [ie, the type of patients the hospitals treats, and the severity of their medical issues] plays in determining its costs" and the amount of resources that the hospital needs to treat its patients. Each DRG is assigned a relative weight based on the average amount of resources it takes to care for a patient assigned to that DRG. 

The base payment rate is broken down into a labor portion and a non-labor portion. The labor portion is adjusted in each area based on the wage index. 

Since health care resource costs and labor vary across the country and even from hospital to hospital, Medicare assigns a different base payment rate to each and every hospital that accepts Medicare. For example, a hospital in Manhattan, New York City probably has higher labor costs, higher costs to maintain its facility, and higher resource costs than a hospital in Knoxville, Tennessee. The Manhattan hospital probably has a higher base payment rate than the Knoxville hospital.

Other things that Medicare factors into your hospital’s blended rate determination include whether or not it’s a teaching hospital with residents and interns, whether or not it’s in a rural area, and whether or not it cares for a disproportionate share of the poor and uninsured population. Each of these things tends to increase a hospital’s base payment rate.

Each October, Medicare assigns every hospital a new base payment rate. In this way, Medicare can tweak how much it pays any given hospital, based not just on nationwide trends like inflation, but also on regional trends. For example, as a geographic area becomes more developed, a hospital within that area may lose its rural designation.”

There have been trends toward vertical integration with hospitals both in the sense of hiring more physicians and in purchasing medical practices. These trends can increase revenue and also fixed costs. There has also been an increase in mergers and acquisitions of hospitals. Studies have shown that the mergers of hospitals frequently do not result in lower prices for services and in fact pricing has frequently gone up to patients after mergers.

According to a 2018 blog by Jaime Rosenberg titled  “ Hospital Acquisition of Independent Physician Practices Continues to Increase”,

“According to a report from Avalere Health and Physicians Advocacy Institute, for cardiac imaging, colonoscopy, and evaluation and management services, Medicare pays more across an episode of care when patients receive services in a HOPD setting. For cardiac imaging, it costs $5148 for an episode of care in an outpatient department, compared to $2862 in a physician office; for colonoscopy, it costs $1784 for an episode of care in an outpatient department, compared to $1322 in a physician office; and for evaluation and management services, it costs (Pays) $525 for an episode of care in the outpatient department, compared to $406 in a physician office.”

“Between July 2015 and July 2016, hospitals acquired 5000 independent physician practices, and the number of physicians employed by hospitals grew by 14,000, according to a report from Avalere Health and the Physicians Advocacy Institute. 

The number of hospital-acquired physician practices grew from 35,700 in 2012 to more than 80,000 in January 2018, according to the report by Avalere Health and Physicians Advocacy Institute and a hospital or health system employed about 25% of U.S. physicians in 2012. That percentage nearly doubled to 44% in 2018 as cited in Healthcaredive  in Feb. of 2019.

It is not unusual for hospitals to benefit from the patient referrals of their owned practices and it is not unusual for these physicians to be paid very high salaries and for the practice to run at a loss and the hospital to make up for it in-patient  procedure revenues, out-patient procedure revenues,  labs or procedure fees. It is illegal to pay incentives for referrals.

Many cost experts believe that there is an overabundance and underutilization of expensive medical equipment. New business models might help address this issue whereby hospitals are encouraged to share equipment. This would require highly skilled coordination and planning.

The payment structure for reimbursements by paying different rates depending upon where a given service is done can impact (adversely) the industry structure and inefficiency can arise and even be financially rewarded. This is particularly noteworthy when demand is derived.