Some merging hospitals that swapped price controls for antitrust clearance are chuckling all the way to the bank, their financial records show. But others didn't fare as well, becoming victims of unforeseen market changes.
The findings suggest such antitrust settlements, designed to benefit consumers, can prove punitive for unprepared hospitals but lucrative for the prescient who gamble their future on an acute-care monopoly.
That could explain why a number of hospitals whose mergers pose anti-competitive risks are seeking price-control settlements with state and federal law enforcement officials.
In an earlier article, MODERN HEALTHCARE detailed this hospital antitrust strategy du jour (Feb. 19, p. 26). At least seven sets of merging hospitals have tried, with a high degree of success, to exchange price promises for antitrust clearance. This article examines the financial impact on hospitals in two states that traded price limits for a legal pass.
The first hospitals to make a price promise were the only two facilities in Bellingham, Wash.: 253-bed St. Joseph Hospital and 104-bed St. Luke's General Hospital. In April 1989, the hospitals and the Washington attorney general's office signed a five-year antitrust settlement that allowed St. Joseph to buy St. Luke's for $21 million.
The legal clearance gave them an acute-care monopoly in Bellingham. In exchange, the hospitals agreed to limit increases in their case-mix-adjusted inpatient net revenues per admission to increases in a hospital marketbasket inflation index published by HCFA. The index measures changes in hospital expenditures on a common set of goods and services.
The hospitals, which have consolidated into one acute-care facility with 195 staffed beds, were required to submit annual compliance reports to the state starting in fall 1990. The antitrust agreement expired in April 1994, and the hospitals submitted their last compliance report later that year.
A review of the five reports revealed the hospitals' annual price increases generally conformed to the limits set in the agreement (See chart, this page). In 1994, for example, the hospitals' case-mix-adjusted net inpatient revenues per admission were $4,079, but under the settlement the hospitals could have charged as much as $4,097.
But a powerful loophole in the contract allowed the hospitals to exclude more than $14 million in revenues from the calculations, which made it much easier to stay within the price confines of the agreement.
The loophole allowed the hospitals to exclude revenues derived from new services and select other ancillary activities from the price calculations. The amount excluded grew from about $800,000 in 1990 to more than $4.7 million by the fifth year. Over the five years of the agreement, the hospitals were able to exclude a total of more than $14.3 million in revenues from the price-limit calculations.
Steve Omta, St. Joseph's chief financial officer, said the hospitals could have pushed prices to the maximum but didn't because they weren't greedy.
"We're not-for-profit, and we don't need to make more than we need. Our board is made up of community representatives to make sure we don't do that. It just wasn't necessary," he said.
It wasn't necessary because St. Joseph appears to have greatly benefited financially from being the only acute-care game in town.
In 1988, the year before the consolidation, St. Joseph had a total profit margin of 1.4% while St. Luke's enjoyed a 4.8% return, according to HCIA, a Baltimore-based healthcare information company. By 1994, the fifth year of their consolidation, the combined hospitals posted a 6.7% total profit margin on net revenues of $86.6 million.
From 1990 through 1994, the hospitals amassed nearly $25 million in net profits, HCIA figures reveal.
In 1995-the first year the hospitals were out from under the thumb of the antitrust agreement-St. Joseph raised its prices 4.3%, Omta said. That compares with 5% to 6% annually over the previous five years, he said.
In a similar agreement, also involving a set of Washington hospitals, the financial results were less impressive.
About 54 miles south of Bellingham, the only two acute-care hospitals in Everett, Wash., entered an antitrust settlement with the state in December 1993. In exchange for legal clearance for their merger, the hospitals agreed to limit increases in their case-mix-adjusted net inpatient revenues per admission to increases in the inpatient treatment component of the Producer Price Index for acute-care hospitals. The PPI, calculated by the U.S. Labor Department, measures changes in net revenues, or wholesale prices.
The seven-year agreement also requires the hospitals-188-bed Providence Hospital and 179-bed General Hospital Medical Center-to file annual compliance reports with the state. The first report, filed last May with the Washington attorney general's office, shows the hospitals kept their price promise with the state in 1994.
The report said the hospitals' case-mix-adjusted net inpatient revenues per admission rose just 1.1% to $4,688 in 1994 from $4,638 in 1993. The hospitals could have raised that a maximum of 3.4% to $4,796.
The hospitals, now called Providence General Medical Center, with 327 beds, are scheduled to submit their second annual compliance report by June 1.
What the first compliance report doesn't reveal is how the bottom dropped out of the Everett market in terms of utilization and the effect that had on the hospitals' financial situation. And, because of the agreement, the hospitals aren't free to raise prices to compensate for the volume loss.
Between 1993, the last year the two hospitals operated as separate institutions, and 1995, the first full year they operated as a single institution, total annual admissions at the two facilities dropped nearly 7% to 16,657 from 17,897. Over the same period, total patient days plummeted more than 18% to 61,190 from 74,868, and the average length of stay dipped to about 3.7 days from about 4.2 days.
Not surprisingly, the hospitals' financial results followed the same pattern. In 1993 they each turned a healthy profit. Combined, they earned about $5.3 million on total operating revenues of $152.8 million that year. By 1995 they lost about $6.2 million on total operating revenues of $164.8 million, according to audited hospital financial statements.
Scott Eyler, the hospitals' chief financial officer, attributed the drop in utilization to the hospitals' physicians responding to demands by managed-care plans to keep inpatient utilization to a minimum.
Things would have been worse financially if the hospitals hadn't merged, Eyler said. The hospitals' operating expenses and deficit would have been higher had they not merged and eliminated all duplicative management functions, he said. That saved them about $1 million.
The hospitals want to eliminate duplicative clinical functions to better deal with declining inpatient utilization, but they can't afford it, ironically, because of declining inpatient utilization, Eyler said. He said it would take about $23 million to first renovate and then consolidate acute-care services at one hospital campus.
Meanwhile, the three hospitals in and around Williamsport, Pa., that entered a price-promise deal with the Pennsylvania attorney general's office are living up to their agreement by enjoying the ethereal savings requirements of their agreement.
In June 1994, the hospitals inked a 10-year state antitrust settlement that requires them to generate at least $40 million in savings over the first five years of their merger and pass along the bulk of those savings, some $31.5 million, to consumers. They also agreed to limit increases in net revenues per adjusted admission to increases in the hospital marketbasket inflation index published by the American Hospital Association.
The hospitals are 252-bed Williamsport (Pa.) Hospital and Medical Center, 194-bed Divine Providence Hospital in Williamsport and 120-bed Muncy (Pa.) Valley Hospital. Combined, the hospitals, now Susquehanna Regional Healthcare Alliance, control 100% of the acute-care market in Williamsport and three of the four hospitals in Lycoming County, Pa.
In March, the state attorney general's office released the results of an audit of the hospitals' first compliance report, which covered the fiscal year ended June 30, 1995. The state said the hospitals more than met their first year's objectives by generating about $10.5 million in savings and passing about $9 million of that along to the community.
But the hospitals achieved those envious results mostly on paper.
For example, about $8.5 million of the amount passed back to consumers represented the difference between what the hospitals could have charged patients for care and what they did.
In the fiscal year represented in the report, the hospitals' net revenues per adjusted admission were $4,424, or $26 less than the hospitals' net revenues per adjusted admission in the year before the merger. Under the settlement, the hospitals could have raised that amount to $4,686, or 5.3% above the pre-merger base-year figure of $4,450.
The hospitals and state counted the difference between $4,686 (what they could have charged) and $4,424 (what they did charge) as savings passed to consumers. The phantom dollars totaled about $8.5 million, or $262 for each of 32,441 admissions that year.
The balance of the $9 million in savings passed along to consumers was $525,000 actually spent on free or low-cost community health and education programs, according to the state's audited report.
Combining the theoretical savings to consumers with the actual reduction in operating costs of more than $10 million gave the hospitals a robust bottom line, according to the hospitals' audited financial statement (See chart, this page).
Profits generated by the three hospitals rose 4% to $5.7 million in the fiscal year ended June 30, 1995, from $5.5 million in the previous fiscal year. Over the same period, net operating revenues rose 1.3% to $147.8 million, and net operating expenses rose 1.2% to $142.1 million, the hospitals said.
Recognizing their good fortune, the hospitals froze prices for the fiscal year started July 1, 1995. They anticipate the resulting prices will be about $300 per admission less than would be allowed under the antitrust agreement.