Hospitals, systems see operating margins shrink as expenses climb

U.S. hospital systems last year saw their profitability erode for the first time since 2008 as rapidly rising expenses outpaced revenue growth at providers across the country, according to a report from Standard & Poor's.

Operating margins weakened in 2013 despite a 5% increase in revenue, as expenses rose an average of 7%, the credit rating agency found.

And the bad news about that revenue growth is that it didn't typically come from core operations, namely higher patient volume. Rather, it was related to consolidation, more referrals from increased physician employment and higher payments from state provider fee programs and the federal government's meaningful-use incentive program.

But those factors also contributed to higher costs, including technology upgrades, higher salary and benefit expenses, higher supply and drug costs, and provider taxes to fund the Medicaid fee programs.

The average operating margin for the 138 systems in S&P's analysis was 2.2% in 2013, down from 2.9% in both 2012 and 2011.

The findings echo a Modern Healthcare analysis of operating margins at 179 health systems and standalone hospitals, which tightened to 3.1% in 2013, down from 3.6% in 2012. A total of 61.3% of the organizations in the analysis, which included acute-care, post-acute care and rehabilitation hospitals, saw their margins shrink year over year.

Although S&P did not see the cost pressures easing any time soon, it did note that providers could benefit this year from a spike in Medicaid and exchange-related volume as well as a strong equity market that has boosted nonoperating income.

Systems also had higher credit ratings than standalone hospitals—with the majority of the former group rated at A+ or higher, and the majority of the latter rated at A or lower. Larger provider organizations are better able to take advantage of economies of scale, diversify their revenue and geographies and recruit top talent, the report said.

At the 501 standalone hospitals in S&P's group, the average operating margin in 2013 was 2.1%, a decrease from 2.6% the prior year and 2.7% in 2011.

Follow Beth Kutscher on Twitter: @MHbkutscher