Swamped with bills they can't pay, more hospitals are heading to bankruptcy court, where outcomes are often costly and unpredictable.
Evidence shows the number of not-for-profit hospital bankruptcies has increased since 1998, the year the Pittsburgh-based Allegheny Health, Education and Research Foundation filed its $1.3 billion Chapter 11 proceeding.
Equally troubling for creditors is that many of the recent bankruptcies involve large hospitals and systems with massive debt loads. Small providers historically have been the ones to seek protection under the bankruptcy laws, experts say. Several of the recent filings involve total debt of $60 million or more.
Bankruptcy lawyers and consultants agree that such cases are on the rise, driven by a confluence of fiscal pressures, including Medicare cutbacks, managed care, losses from physician practices and billing software snafus. All of these forces have depleted cash reserves. Meanwhile, a slowdown in merger activity means fewer distressed hospitals are able to meld with stronger partners.
Sometimes bankruptcy is the only route for a hospital that is a victim of poor geography or an overbedded market. A bankruptcy can be used to reduce debt and pave the way for a sale that might ultimately benefit creditors, say some lawyers.
But critics say not-for-profit hospitals aren't doing enough to head off bankruptcy, to the harm of both their communities and their creditors.
"There is no particular reason we should be seeing more hospital bankruptcies," says William Smith, a law partner with McDermott, Will & Emery in Chicago, who represents hospital creditors. "If hospitals are playing heads-up ball and talking with creditors, they can avoid a bankruptcy."
He estimates that for every hospital that declares bankruptcy, another eight to 10 facilities successfully negotiate with creditors to restructure their debt.
Neither the American Hospital Association nor the American Bankruptcy Institute, which represents bankruptcy lawyers and consultants, tracks hospital bankruptcies. Yet anecdotal evidence suggests that bankruptcies are becoming more common.
Modern Healthcare reported that six not-for-profit hospitals filed for bankruptcy in 2000, four in 1999 and six in 1998. So far this year, at least two not-for-profits, PMH Health Resources and 455-bed Crouse Hospital, Syracuse, N.Y., have sought court protection from creditors. By comparison, the magazine reported just one bankruptcy during 1997.
Bankruptcy no longer a black mark
Increased filings take place against a backdrop of increased acceptance of bankruptcy in the corporate world.
Gary Marsh, chairman of the ABI's insolvency committee and a partner at the Atlanta law firm of Long, Aldridge & Norman, says the stigma of Chapter 11 has diminished in the past two decades. Healthcare has seen a wave of recent corporate filings by five of the nation's 10 major nursing home chains and three investor-owned hospital chains, New American Healthcare Corp., Primary Health Systems and Paracelsus Healthcare Corp.
"For (not-for-profit) hospitals, I don't think it's a preferred avenue. But to the extent it becomes necessary, they get the sense that bankruptcy is not such a black eye," says Marsh, editor-in-chief of a healthcare insolvency manual that ABI publishes and plans to update this year.
Richard Clarke, president and chief executive officer of the Healthcare Financial Management Association, cautions that the number of not-for-profit bankruptcies remains very small. He believes not-for-profit hospitals are generally more reluctant to file for bankruptcy than investor-owned companies, whose boards are obligated to protect shareholders. "I think for most, it would be an avenue of last resort," Clarke says.
Industry sources say in some cases, suppliers may be watching their clients' financial situations more closely and even tightening up on credit. But in general, major suppliers do not appear to be alarmed.
"We are not seeing (bankruptcy) as a trend," says Bob Hanvik, a spokesman for Minneapolis-based Medtronic, which sells pacemakers, stents and other devices to treat chronic diseases. Medtronic is a major creditor of Crouse Hospital, which owes the company more than $1.1 million, according to court records.
Unlike investor-owned corporations, not-for-profits have a duty to maintain the organization's mission, which can be lost in the quagmire of bankruptcy.
Hospitals often don't react quickly enough to fiscal pressures, says lawyer Ann-Ellen Hornridge, a partner at Mintz, Levin, Cohn, Ferris, Glovsky and Popeo in Boston, who represents creditors in large hospital bankruptcies. "By the time they face facts, they are in deep distress. Then bankruptcy becomes the only option," she says.
Hornridge, who represented bondholders of Greater Southeast Community Hospital in Washington, says the hospital did not make an effort to negotiate with creditors when it began having financial problems. It ended up filing for bankruptcy in May 1999, prompting layoffs and a sale of its assets to Doctors Community Healthcare Corp., an investor-owned company.
"Prior to the bankruptcy, I think the creditors would have been willing to talk about solutions that would not necessarily have involved a sale," Hornridge says.
The best-laid plans
Often a bankruptcy filing doesn't turn out according to plan. Already, the two major cases filed this year face possible snags.
An announced sale of PMH to Nashville-based Vanguard Health Systems is under threat because bondholders are considering filing a motion to block the deal, says Paul Ricotta, lawyer for holders of PMH's bonds. PMH owes bondholders about $26 million. Creditors have until March 29 to file objections, and an auction is scheduled for April 4.
Ricotta, a partner at Mintz, Levin, says the $39 million sales agreement with Vanguard lets the hospital use proceeds to pay unsecured creditors such as suppliers, physicians and ambulance companies, without which it could not operate. But he says bondholders may argue that they should be paid with those proceeds because they hold a mortgage on the hospital's assets. A judge can negate the sale agreement, which would force the hospital to renegotiate the deal, he says.
Meanwhile, Crouse Hospital is facing pressure as a result of an overture this month by a neighboring hospital in Syracuse, SUNY Upstate Medical University Hospital, which has offered to buy some or all of its assets.
SUNY Hospital has not said what it would pay for the assets. The facility also is Crouse's largest unsecured creditor, according to court records that show Crouse owes SUNY Hospital $2 million for the salaries of residents who work in a primary-care clinic that Crouse operates.
Creditors could pressure the court to approve a sale if they thought it would result in higher payments. "It puts (Crouse) management under the gun to come up with a better proposal for creditors," says Smith, who represents two banks that hold letters of credit backing Crouse's variable-rate bonds.
Bankruptcy is a huge administrative burden that can distract hospital management from the essential task of turning around operations. Hospitals under court supervision must file detailed monthly reports and obtain a judge's permission to take any action that is outside the ordinary course of business, such as borrowing money or selling an asset.
Physicians, employees and patients defect, diminishing the chance of a recovery.
Moreover, hospital management is brought under intense scrutiny and often legal action. In at least four cases since 1997, hospital managers and directors have faced civil suits or criminal charges after bankruptcy filings.
Creditors' investigations of hospital management are routine in bankruptcy cases. After the bankruptcy filing last year by 369-bed South Fulton Medical Center, East Point, Ga., unsecured creditors are investigating whether management wrongdoing contributed to the hospital's troubles, says Todd Meyers, legal counsel for the creditors' committee. The hospital's CEO and chief operating officer left in September at the request of the hospital's board and the creditors, Meyers says.
South Fulton's management blamed Medicare reductions and a problem with billing software for the hospital's woes, but Meyers says it appears that the hospital's cost structure could have been a bankruptcy factor.
"All indications show that they were operating this hospital as if they had 300 patients a day, when they only had half that," he says.
Alienating former allies
Bankruptcies embitter creditors that once gladly did business with hospitals, as millions of dollars in assets that could have gone to them are depleted to pay professional and court costs.
In the AHERF case, more than $35 million was paid from the debtors' assets to the debtors' lawyers and other professionals, AHERF and its affiliates, and the creditors' committee. That sum did not include lawyers' and other professional fees for many other parties, such as the bond trustee, bond insurer MBIA, major creditors, the facility's buyers, third-party insurance companies and physician groups.
In typical cases involving hospitals of more than 300 beds, professional fees as high as $10 million, says Bernard Katz, a consultant with the Roseland, N.J.-based firm J.H. Cohn.
Katz has served as a financial consultant to Crouse Hospital, which is attempting to put a positive spin on its Chapter 11 filing. Katz says that Crouse's bankruptcy is "a positive rather than a negative" because the hospital will emerge stronger. The hospital is nearly $91 million in debt.
Pamela Johnson, Crouse's chief financial officer, says the hospital has taken steps to cut costs but had no choice but to seek protection from creditors. "Bankruptcy was not the direction the hospital wanted to go, and we worked very, very hard not to do this," she says.
But creditors aren't so forgiving.
Smith says the hospital made "unrealistic demands" on creditors before the filing, asking for a 60-day moratorium on payments without giving the banks any assurance that the hospital's cash position would improve.
"I always ask, `What's your plan?' " Smith says. "If the answer is, `I'm trying to cut the debt and stick it to you guys,' that's not strategic. You've just declared war on your creditors."