Health system size may impede profitability, new data reveal.
Smaller health systems had healthier net operating income than larger organizations did, according to Navigant's analysis of 94 not-for-profit systems from 2015 to 2018. There was a significant negative correlation between size and profitability as health systems grew over that span, Navigant found, building on its report from last year finding no significant correlation.
The studies challenge the assertion that scale and its purported efficiencies lower costs and streamline care. Although, Navigant noted, the four-year span may reflect the initial costs and lag time in expense management. Claimed synergies often take much longer than executives expect, and they require a disciplined approach in controlling corporate overhead and clinical integration, researchers said.
There is often a lot of thorough planning and due diligence, but integration is difficult, said Michele Mayes, managing director at Navigant and co-author of the report.
"Figuring out what services belong in what market and how to best deliver those services across a health system requires a lot of hard work," she said.
Integration poses complex cultural and political issues, said Jeff Goldsmith, national advisor for Navigant and co-author of the report. Executives are generally sidestepping the question of whether a poorly performing hospital needs to exist and if the service-line work has been done to operate effectively.
"If the business model of a hospital is failing and it merges into a larger entity, that entity isn't going to wave a magic wand and make it better," he said. "There really are not that many scale economies they can put their hands on."
While hospital transactions rose rapidly from 2003 to 2017, they trailed off in 2018. Ninety hospital and health system mergers and acquisitions were announced in 2018, down from 115 in 2017 and the lowest mark since 2011, according to Kaufman Hall data.
"A little bit of the air has come out on the super aggressive 'if you are not partnering you are dying' model," Neil Olderman, a partner in Drinker Biddle & Reath's healthcare practice, told Modern Healthcare in April.
Deterred by some buyers who bit off more than they could chew, executives are asking if an arms race is the solution and are more frequently turning to less-formal affiliations, he said.
There are certain service line and one-off deals that may happen with greater frequency, but the unproven strategy of large asset sales, mergers or member substitutions that typically require ceding some control is losing steam, Olderman said.
While scale didn't guarantee profitability, operating margins improved in 2018, rebounding 13% from 2017 to 2018, according to the Navigant report. Almost two-thirds of 103 for-profit and not-for-profit health systems analyzed improved their margins in 2018, although that didn't make up for the 38% average decline from 2015 to 2017. That was a broader sample than the operating revenue-operating income analysis.
Health system executives have clamped down on labor and supply chain expenses, revenue growth, aligned clinical operations and employed-physician management, reduced redundant service lines, and expanded ambulatory networks to remain competitive, researchers said.
What held health systems down from 2015 to 2017 was predominantly minimal, if any, return on complex risk-based contracts, a lack of preparedness for the rise in Medicare and Medicaid beneficiaries, lower reimbursement rates, and increasing claim denials and deteriorating collection rates, Navigant said.
That steep decline amid an expanding economy was unexpected because many of these trends related to falling reimbursement rates, dwindling inpatient admissions and patient mix influx were not new, Goldsmith said. In part, there was an inadequate appreciation of the inherent risks in value-based contracts as well as an overestimated return, he said.
"The fact that people didn't budget as sharp of a downturn of revenue growth means they continued spending," Goldsmith said. "If they had better tools, they would've pulled back harder on expense controls."
Revenue growth exceeded expense growth in 2018 for the first time in three years, with revenues growing at more than double the rate of expenses from 2017 to 2018.
Although inpatient admissions continued to stagnate and ambulatory volumes only gradually grew, merger activity increased revenue. Health systems also saw a one-half point improvement in their commercial revenue yield from insurers, which suggests better negotiating leverage.
Revenue cycle and electronic health record optimization also buoyed revenues as claim denials fell, collection time shortened and automation streamlined work flows.
But looking at fiscal 2019 and beyond, there are still signs of distress, Goldsmith said. Mergers and acquisitions have slowed down and the boost in revenue growth experienced in 2018 likely won't occur in 2019, he said.
"The question is how good of a handle do you have on your expenses," Goldsmith said.