U.S. hospital operators see opportunity, risks in China

Dr. Thomas Frist Jr. sees parallels between the shifting healthcare landscape in China today and the changes that were taking place in the U.S. when he co-founded the Hospital Corporation of America in Nashville in 1968. “It's like déjà vu for me,” Frist said. “It's almost like turning a clock back 45 years in the United States.”

In the U.S., there was a development and population boom in the Sunbelt, and the establishment of Medicare and Medicaid greatly expanded the demand for healthcare. “Today, the same phenomenon for different reasons is occurring in China,” Frist said.

So Frist finds himself once again in the middle of a changing healthcare environment that presents both opportunity and risk. In 2008, Frist and his son-in-law Charles Elcan founded Nashville-based Chinaco Healthcare Corp., a privately held company focused on improving healthcare delivery in China.

In July, Chinaco's new 500-bed CHC International Hospital in Cixi, a growing city of 2 million 90 miles from Shanghai, admitted its first patients. The hospital is a first-ever joint venture between the company, which owns 70%, and the municipal government of Cixi, which holds a 30% stake. The project involved converting the Second People's Hospital, a 150-bed public facility. It's Chinaco's first hospital in the country.

Other U.S. companies also are eyeing the Chinese hospital market, including conversions of public hospitals like Chinaco's. Last month, healthcare investment firm Columbia Pacific Management announced plans to invest $200 million in the construction of two 250-bed hospitals in China that would be wholly owned by the Seattle-based company under the Chinese government's pilot project to expand foreign investment in private hospital development. Columbia Pacific, which operates three senior-living facilities in Beijing and Shanghai, aims to create a care continuum to serve the growing number of elderly patients.

In October, Boston-based Partners HealthCare, which operates Massachusetts General Hospital, announced it was in preliminary talks with two Chinese partners to build a 500- to 1,000-bed facility.

China's healthcare market is expected to boom over the next decade, driven by the country's giant economic expansion and its burgeoning senior population. The country is projected to reach $1 trillion in total healthcare spending by 2020. Spending more than doubled from 2006 to 2011, from $156 billion to $357 billion, according to a 2012 report by McKinsey & Co.

Potentially speeding the growth, in 2009 the Chinese government launched a major healthcare reform initiative to expand healthcare access and improve quality of care for its population of 1.3 billion people. The initiative included the establishment of two new public insurance programs for low-income people.

In addition, the Chinese announced a new policy in August allowing wholly foreign-owned hospitals to operate as a part of a pilot project, relaxing previous rules that capped foreign ownership of hospitals at 70%. The cities of Beijing, Tianjin and Shanghai, as well as the provinces of Jiangsu, Fujian, Guangdong and Hainan are participating in an effort to promote private investment in healthcare. The government has set a goal to increase the share of total patient volume at private hospitals from 8% to 20% by 2015. China has more than 13,000 hospitals that are government-owned, providing more than 90% of all health services.

“The hospital market in China is expanding rapidly,” said Lawton Burns, a healthcare management professor at the University of Pennsylvania. “There are opportunities for foreign companies, whether its investors or hospital systems here, to try to develop hospital sites and systems over there.”

Experts say the target demographic for many foreign-owned hospital operators is the growing population of more affluent Chinese, who have the means to pay out-of-pocket for health services not covered by China's low-paying public insurance program. The growing middle class is expected to make up 54% of urban households by 2022, according to a 2013 McKinsey & Co. report. “Most of these private, foreign-invested hospitals are targeting people who are either wealthy or definitely the upper middle class,” said Benjamin Shobert, managing director for the consulting firm Rubicon Strategy Group.

Part of what prompted the government's privatization moves is widespread public dissatisfaction with quality of care and service in China's public hospitals. That dissatisfaction has led to hundreds of violent incidents, including fatal attacks on doctors and other healthcare staff. The number of attacks has increased, from an annual average of 20.6 per hospital in 2008 to 27.3 per hospital in 2012, according to a 2013 survey by the China Hospital Management Association.

China's public hospitals are badly overcrowded, skimpy public insurance often leaves patients unable to afford treatment, low-paid staff physicians are often unavailable because they are seeing private-pay patients elsewhere, and patients and families often have to give doctors cash in “red envelopes” to receive prompt care, according to an article in the New Yorker magazine in August. “Malpractice mobs” sometimes gather in front of hospitals demanding compensation for patients allegedly injured or killed by poor care.

“It's pretty widely recognized that the public hospital system in China has a lot of room for improvement from a quality, cost and access standpoint,” said Philip Leung, a partner with Bain & Co. who heads its Greater China Healthcare practice based in Shanghai. “The need to change is there.”

“The relaxation (of regulations) is really motivated by the need to improve the system,” said Weishi Li, a partner in the Shanghai office of the law firm Covington & Burling. “There is a lot of dissatisfaction in China regarding the quality of the healthcare institutions,” she said. “Relaxing the foreign investment restrictions is a step toward introducing higher American quality expertise.”

But Sheldon Dorenfest, founder of the Shanghai-based investing and consulting firm Dorenfest China Healthcare Group, said the fact that the Chinese government “decided to set a goal of increasing the volume in private hospitals indicates that they don't have confidence in their own reform.”

While the Chinese healthcare market has piqued the interest of U.S. investors, some observers say it may be too soon for foreign companies to commit money, expertise and resources to a private hospital system that still makes up less than 10% of total patient volume. The pace at which the Chinese government is implementing healthcare reform is slow, leaving foreign operators on their own to solve issues such as the shortage of doctors and low rates paid by the public insurance system. Shobert said the public insurance system covers only about 40% of healthcare costs, making it expensive for Chinese patients to receive care at private hospitals.

Another challenge is that Chinese consumers currently view the quality of care at private hospitals, most of which are owned and operated by Chinese, unfavorably compared with their view of care at public hospitals, which provide the bulk of care. There were more than 10,000 private hospitals in China in 2013, double the number operating in the country in 2008. Most are small compared with the public hospitals.

It's not clear that U.S. hospital operators can change the Chinese consumer's preference for public hospitals. Most of the top physicians in China work in public hospitals, which are overseen mostly by municipal and provincial governments. Rules that discourage doctors from working at multiple sites have made it difficult for private hospitals to recruit them.

For example, doctors who move from a public to a private hospital risk losing years of pension funds—an issue some municipalities and the central government have only just begun to address.

“Public hospitals are where the best doctors go, and people will flock to public hospitals,” Shobert said. “So there's a bias on the part of the Chinese consumer to trust the public brand over the private brand.”

For years, a number of hospitals and healthcare facilities that are partly owned by foreign companies have operated in China, with most in larger cities and focused on niche markets, including foreign residents and patients in need of specialty services such as oncology and orthopedics.

Chindex International started the first foreign-owned hospital in China with the launch of Beijing United Family Hospital in 1997 as a joint venture with the Chinese Academy of Medical Sciences. Frist said Chinaco has gone a different route in targeting the broader Chinese population.

Shobert said that the relaxation of foreign ownership rules was an important signal by the Chinese government, but that it did little to address significant challenges facing foreign providers looking to enter the market. “To actually execute in China, you still find that a lot of foreign companies require some sort of local partner either for real estate or licensing reasons or for access to particular referral services,” he said.

Burns said the lengthy process involved in opening a private hospital, low insurance payment rates, challenges in recruiting physicians and nurses, and the lingering consumer preference for public hospitals raise questions about foreign hospital investment in China. “A lot of companies might be tempted just by (China's healthcare) growth to go in there and try to set something up, without having an understanding of what the Chinese healthcare systems is,” he said.

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