Hospital executives see slower growth in compensation

Executive salaries at not-for-profit hospitals and health systems have come under scrutiny, with critical attention focused on multimillion-dollar compensation packages. But those supersize pay packages are not the norm, according to Modern Healthcare's 34th annual Executive Compensation Survey.

Average total cash compensation, including bonuses and incentives, for all hospital executive titles surveyed for 2014 was $319,400, a 2.3% increase from $312,300 for those same titles last year. At the system level, compensation packages were higher, though the percentage increase over the previous year was lower than at the hospital level. Across 54 system titles included in the survey this year, the average total cash compensation rose 1.8%, from $425,000 in 2013 to $432,500 this year.

Those percentage increases for both hospitals and systems are down from last year, when average total cash compensation at the hospital level was up 4.2%, and at the system level, it was up 4.8%.

The reason for the smaller increases this year may be that it's getting tougher for executives to meet pay-for-performance criteria. “I think the performance goal-setting process is becoming more rigorous,” said Kathy Hastings, a managing director at Sullivan, Cotter and Associates, a Chicago-based compensation consultant that provided data for the survey. “Payouts are a little lower because it's getting harder to meet targets.”

The Modern Healthcare survey tracks base salaries, bonuses and incentives for hospital executive and administrative titles. The methodology employed by Sullivan, Cotter for the 2014 survey is unchanged from 2013, though some of the titles did change. That is part of a trend that the consulting firm expects to continue, as more physician-executive positions are added, and as clinical integration, population health management, mergers and consolidations affect job responsibilities, spans of control and ultimately salaries, Hastings said.

CEOs at stand-alone or affiliated hospitals earned an average base salary of $662,800 and total cash compensation of $770,900. But CEOs serving multiple-hospital systems bested that, with an average base salary of $955,800 and total cash compensation of $1.25 million.

Those pay levels placed these CEOs well within the top 1% of wage earners in the U.S. That has prompted criticism, given the sharp political debates over the merits of giving not-for-profit hospitals tax exemptions and over growing income inequality in the U.S. But simply cutting pay could have unintended negative consequences, experts say.

“If you're running a $10 billion to $15 billion healthcare system, that is an unbelievably complex, high-risk, demanding job,” said Tom Flannery, a partner with consulting firm Mercer. “The people able to do that are few and far between. If they are able to demonstrate they are providing the highest level of quality at an appropriate cost, they're worth their weight in gold.” But when they can't demonstrate their value, he added, there will be controversy.

In the past several years, experts have suggested that the hefty increases in total cash compensation might be reflective of healthcare's shift toward value-based payments rewarding hospital leaders for achieving selected quality outcomes.

In the not-for-profit hospital sector, the use of quality-based incentives for executive pay has proliferated in recent years. In addition, some for-profit hospital systems, particularly Tenet Healthcare Corp. and HCA, increasingly have moved to tie executive pay to quality-of-care measures.

Of the nearly 1,000 not-for-profits participating in this year's survey, between 80% and 90% reported the use of annual incentive plans for their executives, the same rate as in 2013. This year's slowdown in compensation growth is not indicative of a shift away from linking pay to performance or paring back performance-incentive plans, said Tom Pavlik, managing principal at Sullivan, Cotter. “The prevalence of having incentive opportunities is still very high,” he said.

What might be different, Pavlik and his colleagues suggest, is the degree to which hospital leaders are meeting the performance targets required to earn the same level of payout they previously did.

Part of that arises from the difficulties and uncertainties inherent in this period of healthcare reform, as reimbursements decline and operating margins narrow. The other factor is that boards can't simply look to prior years as guides when setting targets for their executives, because strategies may need to shift to keep up with regulatory and market pressures under healthcare reform.

“You can't really rely as much on past performance, and predictive analyses are harder to do,” says Lisa Perlmutter, senior executive compensation consultant at Towers Watson. As a result, governing boards are spending more time establishing compensation structures based on how hospitals and systems perform versus their peers.

That means making comparisons across clinical, operational and financial metrics. “Morbidity, mortality, patient satisfaction, readmissions, revenue growth, market share—those are the types of measures that we see are becoming much more prominent,” said Mercer's Flannery.

Still, there is evidence that the methodology of linking executive pay to quality of care is not necessarily robust. A study by researchers at the Harvard School of Public Health and published in JAMA Internal Medicine in January found no correlation between CEO compensation and quality or financial performance at not-for-profit hospitals. “We found no association between CEO pay and hospitals' margins, liquidity, capitalization, occupancy rates, process-quality performance, mortality rates, readmission rates, or measures of community benefit,” the authors wrote, after analyzing the compensation and performance of nearly 2,000 CEOs at private, not-for-profit hospitals.

On the other hand, the methods of tying pay to performance may be improving. In the past, performance-based measurement was centered around absolute or internal measures without reference to other comparable hospitals or systems, experts say. But the trend now is on comparing hospitals and systems to their peers.

“We can measure how they're paying relative to a peer group, but also how they're performing relative to their peer group,” Flannery said. “It's going to give a tremendous boost to the credibility of total compensation programs.”

In helping healthcare organizations recruit for executives, Mark Madden, senior vice president of executive search at B.E. Smith, has also witnessed changes in the way boards discuss and design compensation. “It's becoming more of an important topic where boards have to always be evaluating it,” Madden said.

Following trends in other industries, not-for-profit hospital boards are turning more to variable-based pay. And as compensation in healthcare becomes more dependent on performance, the climb in salaries has slowed, Madden said.

The flattening effect on salaries is evident in this year's survey results. Last year, the average base salary for executives at hospitals rose 3.3%, and for executives working at systems, it rose 3.4%. This year, the weighted average base salary at the hospital level rose 2.3% overall for the 26 titles examined and 2.9% overall for the 54 system titles analyzed.

While hospitals and systems strive to pay competitive base salaries, “they don't typically look to optimize pay through base salary,” Perlmutter said. For one thing, every additional dollar of base salary creates a ripple effect, since insurance and other benefits are tied to that figure.

Follow Rachel Landen on Twitter: @MHrlanden