Welcome to Providers' Paradise.
Hospitals are making so much money they've bought mattress-makers so they'll have places to stuff it. Doctors are living high on the hog, Lexusing from one convenient, fully staffed hospital to the next.
Employers have joined purchasing coalitions, but they don't rock the boat or call a bluff on pricing.
New investors come to town and plunk down $300 million for a tertiary medical center, almost twice what the locals think it's worth. While they're at it, they hand over another $73 million to build a proton beam accelerator.
Rival medical school faculties don't have to cooperate unless it's at the point of a regulator's sword.
Meanwhile, hospitals are operating half-empty. Patient days are declining twice as fast as bed capacity. And charity care given by hospitals declined by 15% in 1996 from 1995. It's now down to 1.6% of charges.
"This, I believe, is a market that's driven by the provider side," says Fred Brown, chief executive officer of BJC Health System and the American Hospital Association's chairman-elect.
Yes, you can say that again.
A prime example. The market in question is St. Louis, 17th-largest metropolitan area in the country and home to 2.6 million people. Several Fortune 500 companies have their headquarters here.
What's really notable is St. Louis isn't so different from other major markets in the upper Midwest. In cities such as Chicago, Detroit and Indianapolis, large hospital consortiums have managed to increase profits while holding managed care at bay. Big local employers that once aggressively pushed for healthcare reform have backed off because of the tight labor market and the slowdown in health insurance premium increases. Meanwhile, influential corporate executives continue to serve on the boards of local healthcare providers.
Thus, St. Louis and these other cities have achieved a kind of equilibrium, where healthcare services are convenient and plentiful, and hardly anybody objects to the fact that there is a lot more capacity and overhead than necessary.
Consolidation. Starting in 1993, hospitals in St. Louis coalesced into three strong systems: BJC, the biggest; SSM Health Care; and Unity Health. All three are not-for-profits. BJC is secular, SSM is sponsored by the Franciscan Sisters of Mary, and Unity by the Sisters of Mercy.
In 1997 several of the city's remaining independent hospitals were bought by Tenet Healthcare Corp. to form a fourth consortium.
Each system has strengths and weaknesses. BJC is closely affiliated with the Washington University School of Medicine. (That qualifies as both a strength and a weakness because of the academic doctors' reputation for being hard to deal with and expensive.) Tenet's flagship, as of early this year, is Saint Louis University Hospital, affiliated with the Saint Louis University Medical School.
Each system has a good array of hospitals, a panoply of affiliated physicians and a phalanx of ancillary facilities to complete the continuum of care. SSM, for instance, says it can deliver 1,200 physicians to a managed-care company with a single signature. Each system owns a tertiary center. But each has geographic holes, forcing employers and managed-care operators to deal with almost all the systems.
All four systems are highly profitable and well-positioned to continue to operate at full force. Collectively, the 39 St. Louis hospitals had net patient revenues of $3.5 billion and profits of $274 million in 1996, the most recent full-year figures available from the St. Louis Area Business Health Coalition, a group of 37 large corporations. The hospitals' collective operating margin was 4%, the highest in 10 years. Their total profit margin was 7.1%. (Average total margins for all U.S. hospitals were 6.7% in 1996, according to a MODERN HEALTHCARE analysis of AHA data.)
Hospitals in St. Louis earned an estimated 11.3% on inpatient Medicare business in 1996 and 12.7% in 1997.
Compare this lush landscape with the desolation visited on the biggest managed-care players. United HealthCare of the Midwest, the biggest HMO in the area, eked out a paltry $8 million in profits on $780 million in revenues in 1997-a 1.1% margin. That came after taking a $30 million loss in 1996.
The St. Louis market also is characterized by huge hospitals. There are 13 hospitals with more than 300 beds. Of those, four have more than 500 beds. Barnes-Jewish Hospital, the flagship of giant BJC, has 1,234.
There are 9,904 beds available in the 39 hospitals in the metropolitan area, including Illinois suburbs. The business health coalition estimates that 3,708 of those beds are excess capacity if a hospital is considered "full" at 80% occupancy.
The number of excess beds in 1995 was 3,579, and hospitals took 436 beds out of the market in 1996. According to the business coalition, the hospitals should have subtracted 1,035 beds to parallel decreased demand. Eliminating all the excess capacity would be equivalent to shuttering 10 hospitals of 370 beds each.
Some utilization statistics collected by SMG Marketing, a Chicago-based healthcare information and marketing consulting company, show how this overcapacity plays out in patient care. Hospitals in St. Louis have 1,363 patient days per 1,000 residents, compared with 1,038 nationally. They have 241 admissions per 1,000, compared with 169 nationally. And they have 120 surgeries per 1,000, compared with 88 nationally. Anyone who still doubts that the supply of doctors and hospitals creates its own demand should cast a cold eye on St. Louis.
Not part of the plan. It wasn't supposed to turn out this way. The business health coalition lectured the community in its latest annual report, released in January, on the expense and wastefulness of maintaining such excess capacity. "Centrally managed, integrated delivery systems have the potential to bring more discipline and to rationalize resources across all hospitals in their systems," the coalition wrote. "However, hospital systems . . . have failed to enact programs to significantly downsize their oversupply. Net increases in the duplication of clinical services also continue to occur."
An even more critical appraisal was delivered from the Economic and Social Research Institute in Washington, a healthcare and social-services think tank. In a 96-page study issued in January, the institute concluded that the horizontal mergers in St. Louis have impeded natural market forces, which should have helped equalize declining demand and oversupply. These were among the institute's findings:
Hospital systems are being rewarded for maintaining multiple facilities and services, rather than consolidating them.
Mergers have propped up weaker facilities, which might not have survived if left on their own.
Mergers are allowing hospitals to resist market forces that would otherwise lead to closure or clinical consolidation.
Circling the wagons. In St. Louis there are few penalties for inefficiency and excess capacity. Year after year the business health coalition documents the increase in excess capacity. Until very recently, little had changed. The coalition thinks the cost per discharge, averaged over a whole hospital network, should be in the bottom quartile of urban hospitals nationally because the cost of living in St. Louis is low and the market clearly has excess medical supply. Yet, it's now about 3% above the national average. Obviously, this overhead is reflected in premiums (See chart, p. 152).
The hospital systems were able to pull this off by circling their wagons before the Indians got there. They expected to have to defend against healthcare reform, managed care, cutbacks in federal reimbursements and declines in utilization. So they cut costs internally to such an extent that several hospitals are dealing with unionizing campaigns from professional workers. One such hospital is 804-bed St. John's Mercy Medical Center.
But healthcare reform never happened, and managed-care penetration stalled at about 25% of the market. After cutting costs, the hospitals found they could make good money on Medicare business. In addition, Missouri's Medi-caid managed care has picked up some of the uncompensated-care burden. Now it seems the business community has lost its appetite for confrontation with providers, further reducing the pressure for change.
"The hospitals have done very well because they have formed networks and have been able to negotiate with the managed-care programs in a bloc situation," says John O'Rourke, CEO of Blue Cross and Blue Shield of Missouri, which lost $21.5 million in 1997. "It would have been easier for the managed-care companies to negotiate if the hospitals had not formed the blocs."
SMG says that 56% of the St. Louis hospitals are in integrated health networks, compared with 41% nationwide. Similarly, 25% of St. Louis medical groups are in integrated health networks vs. 11% nationwide. The result: As of 1996, systems controlled 75% of staffed beds and 84% of admissions. The likely result of Tenet's subsequent growth is a larger share among systems now.
While the systems might have been formed in the name of efficiency, they have developed into negotiating powerhouses.
Close ties. One reason the hospitals were able to concentrate so much economic power and hoard it so effectively might be their close alliance with the business, religious and social structure in St. Louis. The fact is there aren't too many outsiders or bit players stirring up trouble or asking rude questions.
Take a look at BJC's 29-member board. It's a galaxy of prominent business and institutional leaders. It includes the president of the May department stores, the chief operating officer of Enterprise Rent-A-Car, the vice chairman of Commerce Bancshares, the chancellor of the University of Missouri-St. Louis, a vice president of Ralston Purina Co., and the chairman of the board of Washington University, who also happens to be an heir to the Ralston Purina fortune and the brother of a retired U.S. senator from Missouri. The just-retired chairman of the board, Charles Knight, is also chairman of Emerson Electric Co. (In June, Knight gave up the system chairmanship but remains on the Barnes-Jewish Hospital board.)
The question has been raised whether people who represent both payers and providers can make the tough decisions on consumers' behalf. Whose ox will they gore?
SSM's board is smaller and drawn partly from its sponsoring religious congregation. Unity, bizarrely, claims the membership of its board cannot be disclosed to the public.
One hospital, the St. Louis Regional Medical Center, did close last year. This private hospital contracted with the city of St. Louis and St. Louis County to treat indigent patients. But when those governments lost their appetites for the considerable subsidies the low-occupancy hospital needed, it closed, taking 220 beds off the market. Now through a public-private partnership, those patients are being covered through a new insurance plan, ConnectCare, and treated at other private hospitals.
Note that the one facility in town that closed was an independent hospital without a system to back it up.
Merger uncertainty. Two uncertainties worry students of market concentration. Can Tenet, the smallest of the four major players in the area, continue by itself? Similarly, are the two Roman Catholic systems, SSM and Unity, eventually going to merge to face BJC head-on? Representatives of all three groups say no such combinations are in the offing.
Tenet long held a toehold in St. Louis through its Lutheran Medical Center. But its rapid expansion is owed to the inability or unwillingness of the locals to pony up to acquire the few remaining independents.
"We never targeted St. Louis as a place we wanted to have a major presence," says Bill Bradley, Tenet's senior vice president in Little Rock, Ark. "St. Louis actually selected Tenet."
Tenet acquired the Deaconess and Incarnate Word hospitals when their talks with Unity fell through because of medical staff and control issues. Then Deaconess-Incarnate Word approached Tenet. Likewise, when Saint Louis University, a Catholic institution, put its hospital up for sale in 1996, Tenet's bid of just over $300 million far exceeded Unity and SSM's joint bid of $167 million. The financials apparently overcame the heated protest of the Catholic archbishop of St. Louis, and after a close review by state officials, Tenet's purchase closed in January. Tenet's emergence is a "major event" in St. Louis, O'Rourke says.
"It does create more competition in the market, more options for the managed-care companies," he says.
Stephanie McCutcheon, CEO of SSM, and James Hardman, CEO of Unity, as well as BJC's Brown, all think the current market conditions are competitive and the prices they get are poor. "The payers have squeezed the reimbursement to the providers to a level that probably is too low," Hardman says. "There's going to have to be some reality to premium changes."
Hardman also thinks the whole emphasis on bed capacity is misplaced. "Unless you're going to close the facility, there are lots of fixed costs," he says.
Hardman can afford to complain all the way to the bank. His Unity system operates the most profitable hospitals in town. The system's overall profit margin was 11.7% in 1996. In 1997 those margins improved greatly. Unity's three largest-St. Anthony's Medical Center, St. John's Mercy Medical Center and St. Luke's Hospital-earned $126 million in profits in 1997, the business coalition says. Much of that is attributed to investment gains, which were included in profits under new accounting rules.
Given facts like those, the business coalition comments that "the much publicized need for healthcare premium increases has no basis."
Changes coming. There are hopeful signs that the cost-containment logjam might loosen soon. All four systems have initiatives under way to cut costs and rationalize services.
BJC is rebuilding its Barnes-Jewish campus to cluster outpatient services together under one roof and make it easier for patients to get to what they need. And last week BJC announced that Christian Hospital Northwest will be closed so that a new facility can be built that better meets local needs. About 100 beds will be deleted from the hospital's state license, and the new facility will have just 30 or so beds, mainly for labor and delivery. It will have no medical-surgical beds.
Meanwhile, SSM has scaled down the number of intensive-care beds at its DePaul Health Center and has moved a retirement community for nuns and priests to the site. Unity has consolidated back-office functions, such as finance, planning, marketing, legal and information systems, and will move them to a new office building now under construction. Next it will pull clinical services together in a more cohesive form.
But for all that, the medical arms race has hardly been suppressed. Last year two systems, Tenet and BJC, proposed installing Gamma Knives, each costing about $4 million, within two months of each other. A Gamma Knife treats cancers and blood-vessel malformations in the brain. More than one such device in a region the size of eastern Missouri would be duplicative and wasteful, critics charged. Tenet also proposed building a proton beam accelerator to treat certain cancers for $73 million.
Missouri's strict certificate-of-need program brought these projects to light and subjected them to public discussion.
After some heavy-duty backroom arm-twisting, BJC and Washington University agreed last December to allow doctors from Tenet and Saint Louis University to use the BJC Gamma Knife-virtually an unprecedented arrangement between these two archenemies. Tenet's proton beam accelerator was quietly shelved.
Left to their own devices, the doctors and their hospitals might have bought all three, at a total fixed cost of $83 million.