A Medicare tourniquet: How hospitals try to heal cuts that bleed away profits

Up until 2012, before the Affordable Care Act began cutting revenue, a majority of tax-exempt hospitals in Southeast Michigan made profits on their Medicare business, according to a Crain's analysis of selected IRS Form 990s from 2011 to 2013.

Since then, those profits — or surplus over expenses, as measured by the Internal Revenue Service — have been slowly evaporating for some of the 15 hospitals and multihospital systems in metro Detroit. The primary reasons: reimbursement cuts, readmission penalties and overpayment recoveries.

In 2011, nine hospitals or systems earned money on Medicare. But by 2013, only seven posted profits, and four of those suffered declines on their Medicare business.

Medicare accounts for about half of a hospital's patient revenue.

Hospitals also track Medicare profitability using standard cost accounting and community-benefit measurements — which include expenses disallowed by the IRS, such as information technology investments above a capped amount and hospital-owned physician practices.

Community-benefit Medicare surplus numbers show even lower profits — or losses — than the IRS data over the past few years, hospital executives said.

In federal reports, only one-third of the nation's 4,500 hospitals made money treating Medicare patients, with hospitals averaging a 5.4% loss in 2013, said the Medicare Payment Advisory Commission, an independent federal commission that advises Congress on Medicare.

MedPAC predicts that average hospital Medicare margins will continue to decline this year and into 2016, even for the 13% of hospitals deemed "efficient" by MedPAC.

Dave Mazurkiewicz, CFO of Flint-based McLaren Health Care Corp., said the goal of the 11-hospital system is to earn a 2.5% operating margin on all patients.

"We have to make money on Medicare. It's the largest payer in the country and will get larger," Mazurkiewicz said. "If you have a service that doesn't make money, you are in trouble."

Two of McLaren's three hospitals in Southeast Michigan — McLaren Macomb in Mt. Clemens and McLaren Oakland in Pontiac — earned money on Medicare, although profitability declined from $16.7 million in 2012 to $12.2 million in 2014.

The Detroit-based Barbara Ann Karmanos Cancer Institute, which joined McLaren in late 2013, lost $10.9 million in 2014, $16.9 million in 2013 and $9 million in 2012, officials said.

Rob Casalou, CEO of six-hospital St. Joseph Mercy Health System in Ann Arbor, said hospitals that make money on Medicare are typically ones that are efficient and make good margins on all patients.

Casalou said St. Joseph Mercy "climbed out of a hole" in 2010 and 2011 after the economic downturn and additional expenses from restructuring left the system short on cash. Total margins, including Medicare and private payer, have improved since then, he said.

St. Joseph Mercy earned net income of $112 million on revenue of $1.8 billion for a net margin of 6.2% in 2014, the health system said. In 2013, St. Joe's posted net income of $103 million on revenue of $1.8 billion for a 5.7% margin.

Livonia-based Trinity Health Michigan, which includes St. Joseph Mercy Health System and three other hospitals, posted Medicare income of $44.1 million in 2011, $30.1 million in 2012 and $33 million in 2013.

Regional CFO Mike Gusho said Trinity's community-benefit report is a more complete accounting of Medicare revenue and expenses. Its report says Trinity earned $18 million in 2011 on Medicare for a 2% margin, $10 million in 2012 for a 1.4% margin, broke even in 2013 and lost $5 million in 2014, he said.

"Medicare is a good payer, but we expect Medicare to ratchet down payments" over the next several years, Casalou said. "We have time to change the demand curve to get patients out of hospital sooner. Employing doctors helps. We want a covered life strategy" for managing patients effectively.

But Casalou said medical decisions at St. Joseph Mercy — and, he thinks, at most hospitals — have nothing to do with hitting profitability targets for Medicare or any payer.

"I am an economist," he said. "Healthcare is 18% of the GNP. I know it is a matter of time before (the Medicare program) looks at expenses. It doesn't matter if they cut $500 billion (Medicare cuts from 2012 to 2022) or $1 trillion. There will be more cuts coming, and we need to be ready."

This year, President Barack Obama proposed additional Medicare cuts in his 2016 budget proposal to Congress. He suggested $415 billion could be squeezed out of the Medicare, Medicaid and other government-funded programs, including an additional $16 billion from graduate medical education, over the next 10 years.

"It is difficult to make money on Medicare but not impossible," said Tony Colarossi, a healthcare consultant with Plante Moran LLP in East Lansing.

"The theory that hospitals should be shooting to make a margin on Medicare is well-acknowledged in the industry. (Hospital executives) realize Medicare will never be a profit center for them, but using Medicare as a proxy for overall efficiency is reasonable."

Since the Affordable Care Act was approved in 2010, Colarossi said, some hospitals have flourished under Medicare and some have struggled.

Those hospitals that make money have several things in common, Colarossi said.

First, profitable hospitals are usually part of a larger health system that can eliminate duplicative services among operating units, concentrate resources, remove unnecessary expenses for treating diseases and command lower supply and technology costs.

"Obamacare has created an increased focus on quality measurements, readmission rates and other adverse events," Colarossi said. "(Medicare is) not going to pay for that anymore. It took quite a bit of money out of the revenue stream with reductions on annual (reimbursement) increases. Hospitals have had to adjust to that."

For example, Dearborn-based Oakwood Healthcare, now part of Southfield-based Beaumont Health, lost $22.8 million on Medicare in 2011, $57 million in 2012 and $41.8 million in 2013.

Beaumont Health, which operated three hospitals from 2011 to 2013 until it added Oakwood and Botsford Hospital in Farmington Hills in a merger, earned $28.1 million on Medicare in 2011 but lost $7.2 million in 2012 and $17.4 million in 2013.

Detroit-based Henry Ford Health System, which operates five hospitals in Southeast Michigan, has suffered big losses on Medicare over the past three years, primarily because the IRS disallows revenue from Henry Ford's 1,200 employed physicians. The system lost $84.6 million on Medicare in 2012, $89.6 million in 2013 and $92.2 million in 2014, officials there said.

The University of Michigan Health System, a three-hospital system based in Ann Arbor, lost $184 million in 2014 on its Medicare business, officials said.

Since 2011, UM Health's Medicare margins have decreased steadily to minus 32% in 2014 from minus 29% three years earlier.

However, UM projects a 5% operating margin for all payers by 2017.

Patrick McGuire, CFO of Warren-based St. John Providence Health System, said a hospital's Medicare profitability depends on a multitude of factors both within and beyond a hospital's control.

Profitability depends on the mix of Medicare inpatients and outpatients, how sick they are, whether the hospital received disproportionate-share payments for operating in low-income markets and how many physician practices are owned, CFOs told Crain's.

For teaching hospitals, another major Medicare revenue stream comes from a residency program, through indirect medical education payments to care for sicker Medicare patients and larger numbers of Medicaid patients.

Besides Obamacare's 2012 mandate of cuts in payment updates, Medicare also has imposed quality penalties including those for readmitting certain Medicare patients within 30 days. Recovery audit contractors have identified inappropriate billing or overbilling of Medicare patients that hospitals have paid back.

"Our strategy is to control for utilization for all patients because hospitals are paid a fixed amount per stay," McGuire said. "You want to treat patients in the most cost-effective way with the highest quality."

To reduce patient costs, McGuire said, hospitals try to minimize the time to conduct and analyze diagnostic tests and to discharge patients as soon as possible.

"The quicker we get a patient to a home setting is better for costs and better for the patient," he said.

St. John Hospital and Medical Center in Detroit, which is part of St. John Providence, maintained fairly steady Medicare profits at $12.3 million, $17.2 million and $15.6 million from 2011 to 2013, 990s show.

"It is hard to look at those numbers as a trend because there is variation from year to year," McGuire said.

Despite Medicare cuts, St. John Hospital increased its Medicare surplus in 2014 to $23.7 million, while Macomb-Oakland's was $30.3 million and Providence Hospital in Southfield reported $2.1 million.

"The 2014 numbers improved because we did better on the cost side," McGuire said. "Revenue is not going up."

Like all hospitals, St. John has programs to reduce costs for all patients, McGuire said. For example, the health system has concentrated on reducing the length of stay, eliminating unnecessary testing and increasing the turnaround time of lab tests to avoid duplications.

"We do that and we can discharge the patient sooner because doctors have the lab results and don't have to order the test twice," McGuire said.

But McGuire said a hospital can do only so much to lower costs. "There are diminishing returns on utilization management," he said. "We still have great potential, not just per unit of services but on total expense."

At McLaren, Mazurkiewicz said the system's goal is to be the lowest-cost provider in all its Michigan markets, an effort that helps with payers such as Medicaid that reimburse far below costs.

"We haven't changed what we are doing" on costs because of Medicare cuts, he said. "We are doubling down on what we are doing."

For example, McLaren has increased its focus on reducing supply costs that directly affect clinical care.

Several years ago, McLaren began participating with a group of similar-minded health systems to reduce the costs of physician-preference items, which include defibrillators, pacemakers and joint replacements.

The company, SharedClarity, is a Phoenix-based subsidiary of United Healthcare Group. Other systems involved include Advocate Health Care, Dignity Health and BaylorScott & White Health.

"We took cost information, married it up with information from physician surveys and then analyze the products to determine the differences to drive more effective prices," Mazurkiewicz said. "The savings ($3 million this year) were significant."

Kevin Tompkins, McLaren's vice president of marketing, said the health system also has embarked on a successful cost reduction program to manage blood supplies. Tompkins said research shows that giving patients too much blood in transfusions, transplants and other services sometimes can place them at risk for infections and other ailments.

The result has been lower costs because of less purchasing and better quality, he said.

"We spend millions of dollars to buy blood for our patients," Mazurkiewicz said, adding that $3.6 million was saved through the blood management program.

"A Medicare tourniquet: How hospitals try to heal cuts that bleed away profits" originally appeared in Modern Healthcare's sister publication Crain's Detroit Business.