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For-Profit Enterprise in Health Care. 1986. National Academy Press, Washington, D.C. Investor-Owned Multihospi~ Systems: A Synthesis of Research Findings Dan E2Tnann and Jon Gabe! The new medical-industrial complex is the most important recent development in American health care and it is in urgent need of study. Arnold S. Relman INTRODUCTION In 1983, one of every seven U.S. hospitals with nearly 10 percent of the nation's hospital beds belonged to an investor-owned multi- hospital system, defined as three or more hos- pitals that are owned, managed, or leased by a single investor-owned organization.2 Such systems account for approximately 42 percent of U. S. hospitals that belong to a multihospital system. Religious systems account for 35 per- cent with the remainder being voluntary and city hospital systems.3 In September 1984, there were 53 investor- owned systems operating. These range from the very small, such as Western Hospital Cor- poration, Inc., an Alameda, California chain that owns two hospitals and manages one over, to the very large. The four largest Hospital Corporation ofAmerica(HCA), Humana, Inc., National Medical Enterprises, Inc. (NME), and American Medical Intemational, Inc. (AMI) own or manage 53 percent of investor-owned system hospitals and 75 percent ofthe hospital beds.4 Some experts predict that within a few years, the four to five largest investor-owned systems will control over half the nation's hos- pitals.5 This paper examines investor-owned sys- tems' growth patterns, the reasons why they Mr. Ermann is affiliated with the National Center for Health Services Research, U.S. Department of Health and Human Services, Rock~ille, Maryland. Mr. Gabel is with He Health Insurance Association of America. 474 have grown rapidly, and their effects on cost, access, and quality of care. To address these issues, this paper synthesizes more than 300 articles from the trade and academic literature through 1984, including 22 empirical studies. The next section describes the growth of inves- tor-owned systems. The third section reviews the reasons for their growth. The fourth sec- tion presents findings about the effects of sys- tems on the cost, quality, and access to care. We conclude with a summary of empirical findings and outline an agenda for future re- search. GROVVTH OF INVESTOR-OWNED SYSTEMS At the time of the enactment of Medicare and Medicaid legislation in 1965, there were no investor-owned hospital systems in the United States.6 By 1970, 29 investor-owned systems had been formed which owned 207 hospitals.7 The Federation of American Hos- pitals (FAH), the trade association represent- ing independent and system investormwned hospitals, reports that 1,234 hospitals were owned or managed by 53 investor-owned sys- tems in 1984.8 Based on data from the FAH, Table 1 dis- plays the annual growth of investor-owned sys- tem hospitals between 1977 and 1984. These figures include psychiatric and specialty hos- pitals, as well as community hospitals which grew at a considerably slower rate than psy- chiatric hospitals. For-profit independent hos- pitals managed by investor-owned systems are excluded. From 1977 to 1983 the number of hospitals owned by investor-owned systems increased at an average annual rate of 10.3 percent while the number of hospitals man- aged by such systems grew at a rate of 7.9 percent. By comparison, between 1977 and

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INVESTOR-OWNED MULTIHOSPITAL SYSTEMS TABI`E 1 Growth of Investor-Owned System Hospitals, 1977-1984 Number of Hospitals Category 1977 1980 1983 1984 475 Annual Growth Rate, % 1977-1983 1983-1984 1977-1984 Investormwned system hospitals 414 531 755 878 10.3 14.2 11.3 Nonprofit hospitals managed by ~nvestor owned systems 179 264 282 325 7.9 13.2 8.9 Total hospitals 598 795 1,037 1,205 9.6 14.0 10.5 NOTE: These figures include community, psychiatric, and specialty hospitals. SOURCES: Federation of American Hospitals, Statistical Profile of the Investor-Owned Hospital Industry, 1982; Federation of American Hospitals, 1983 Annual Report; Federation of American Hospitals, 1985 Directory: Investor-Owned Hospitals and Hospital Management Companies. 1983, the number of independent investor- owned hospitals declined at an average annual rate of 7.0 percent per year,9 while the total number of nonfederal hospitals declined at an average rate of 0.5 percent per yearns Table 2 shows that the average annual grown in hospital beds for investor-owned system hospitals between 1977 and 1983 was 7.6 per- cent. Newly built or acquired hospitals tended to be smaller hospitals, whereas managed hos- pitals tended to be larger, often public hos- pitals. In contrast, independent investor-owned hospital beds declined at an annual rate of 7.3 percent,22 while the total number of nonfed- eral hospital beds declined by 0.5 percent per annum during these years.22 These tables indicate that in 1984, the first year under Medicare's diagnosis-related group (DRG) payment for hospitals, the rate of growth for investor-owned systems was substantially greater than during the preceding years. In 1984 the number of investor-owned system hospitals increased by 14.0 percent, and the number ofLospital beds increased by 12.5 per- cent. American Hospice Association (AMA) data for 1984 are not available presently. There- fore, it is not possible to compare iIlvestor- owned growth with other segments of the hos- pital industry. Investor-owned systems have grown largely through the acquisition of financially troubled hospitals. Urban hospitals which have closed TABLE 2 Growth of Investor-Owned Hospital Industry by Beds, 1977-1984 (in thousands) Number of Hospital Beds 1977 1980 1983 Category Average Annual Growth Rate, % 1984 1977-1983 1983-1984 1977-1984 Investor-owned system hospital beds 58.2 74.0 90.3 100.1 7.6 11.5 10.0 Not-for-profit hospital beds managed by investor-owned 19.9 27.4 33.0 35.5 8.8 15.1 11.2 Total beds 78.1 101.4 123.3 135.6 7.9 12.5 10.3 NOTE: These figures include community, psychiatric, and specialty hospitals. SOURCES: Federation of American Hospitals, Stahst*al Profile of the Investor-Oumed Hospital industry 1982; Federation of American Hospitals, 1983 Annual Report; Federation of American Hospitals, 1985 Directory. Investor-Owned Hospital Management Companies.

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476 due to financial difficulties tend to be small nonprofit, inner city, voluntary hospitals serv- ing many minority, uninsured, and Medicaid patients.73 These, for the most part, are not the hospitals that investor-owned systems wish to acquire. Investor-owned systems generally seek to acquire poorly managed hospitals in communities with young, growing, well-in- sured populations. From 1980 to 1982, 43 per- cent of the growth in hospital beds of the six largest investor-owned systems resulted from the acquisition of other investor-owned hos- pitals. Newly constructed hospitals accounted for a third of the gro - , with the remaining 24 percent emanating from the acquisition of government and nonprofit voluntary hospi- tals.~4 Investor-owned systems have located in high-income and high-population-growth, suburban Sunbelt areas with favorable regu- latory environments and generous charge-pay- ing Blue Cross plans.25 Fifty-eight percent of the investor-owned system hospitals are found in five Sunbelt States-California, Texas, Florida, Tennessee, and Georgia. There are, in total, only nine investor-owned system hos- pitals in the four mandatory rate-setting states- Maryland, Massachusetts, New Jersey, and New York.26 Some analysts have interpreted the grown of investor-owned systems as evidence of a movement toward a vertically integrated health delivery system. Unfortunately, there are lit- tle historical data documenting the growth of nonhospital portfolios of investor-owned sys- tems. The single exception is the annual sur- vey of freestanding nursing homes and psychiatric hospitals by Modern Healthcare, a trade journal. Modern Healthcare figures in- dicate that from 1978 to 1983 investor-owned systems acquired and built nursing homes and psychiatric hospitals at a far more rapid rate than they acquired community hospitals. The growth rate for nursing homes exceeded 50 percent per year, while investor-owned sys- tems increased their ownership of psychiatric hospitals at greater than 30 percent per year.~7 In addition to psychiatric hospitals and nurs- ing homes, investor-owned systems have en- tered such diverse health fields as alcohol and chemical dependency treatment, home health services, health maintenance organizations, preferred provider organizations, as well as FOR-PROFIT ENTERPRISE IN HEALTH CARE ownership and management of hospitals in more than 20 foreign nations. In 1983, 6 percent of hospitals managed or owned by investor-owned systems were located in foreign nations.28 These systems also operate nonhealth-related lines of business such as office building manage- ment, insurance company management, and real estate development. Most investor-owned systems appear com- mitted to diversification. For example, HCA, which doesn't consider itself highly diversi- fied, runs more psychiatric facilities than any other U. S. hospital system. PICA owns 18 per- cent of Beverly Enterprises, the nation's larg- est nursing home chain, and operates the world's largest health maintenance organiza- tion (HMO) in Brazil.29 In 1983, NME, a sys- tem known for its diversified business, operated 27 physician office buildings, 25 psychiatric hospitals, 249 long-term care facilities, 13 home health care agencies, and a biomedical engi- neering and repair business. Forty-nine per- cent of NME's total revenues in 1983 were not from acute care hospital operations.20 Even more remarkable than the grown of investor-owned systems has been their finan- cial performance. For 8 of the 10 years be- tween 1971 and 1980, system net profits as a percentage of common equity increased. In 1980, net profits as a percentage of equity were 20.4 percent for the investor-owned systems, in contrast to an average of 14.9 percent for all industries.22 Between 1975 and 1981, net revenues of the four major hospital companies grew at a compound rate of 36 percent, while earnings grew at a 46 percent growth rate.22 America experienced its deepest recession since the Great Depression in 1982; yet, earnings grew 20 percent in the investor-owned hos- pital industry. In 1983, the industry's average return on equity of 18 percent far exceeded the average of 12.6 percent for other indus- tries.23 The average compensation for the chief executive officers in 1983 of the four leading systems was $854,000. When stock options are included, this figure triples.24 WHY IN17ESTOR-OWNED MULTIHOSP1TAL SYSTEMS GROW There are three potential advantages of investor-owned systems over independent

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INVESTOR-OWNED MULTIHOSPITAL SYSTEMS - hospitals: (1) economic benefits, inclucling im- proved access to capital, increased efficiency and economies of scale, and ability to diversify; (2) personnel and management benefits, such as improved recruiting and ability to develop and retain high-caliber staff; and (3) planning, program, and organizational benefits, which may lead to greater power to control environ- mental factors.25 Much of the literature does not distinguish between investor-owned and nonprofit sys- tems in terms of their technical advantages. This section attempts to focus on advantages of investor-owned systems, although the lit- erature does not always allow for this. There- fore, some of the discussion pertains to both nonprofit and investor-owned systems. Economic Benefits Increasing financial pressure upon hospitals to remain solvent has stimulated the growth of multihospital systems.26 In addition, some experts believe that an oversupply and mal- distribution of hospital services has fostered the growth of systems.27 Access to Capital Hospitals require large sums of capital to replace, renovate, modernize, and expand. Estimates of their capital needs for the decade of the 1980s range from $49 billion to $231 billion.28 With the reduction in private philan- thropy and government grants-in-aid, such as the Hill-Burton Program, hospitals have turned increasingly to commercial borrowing to fi- nance capital projects. In 1968, hospitals re- ceived, on average, 45 percent of their capital from philanthropy and government grants, and only 40 percent from debt. By 1981, hospitals received 8 percent from philanthropy and grants and 76 percent from debt capital.29 This growing dependency on debt capital between 1968 and 1981 is attributable to a number of factors. First, by covering patients that were previously uninsured, Medicare and Medicaid reduced the hospital's dependency on philanthropy. Second, Medicare and Med- icaid provided stability in funding. This made the hospital a sounder credit risk and made hospital debt financing more accessible and 477 attractive. Third, increased use of cost-based reimbursement by Medicare, Medicaid, and Blue Cross reduced the hospital's incentive to control expenditures or finance capital in the least expensive manner, thereby further fos- tering debt financing. Fourth, the cost of debt capital was additionally reduced when revenue bonds were accorded tax-exempt status. This form of financing was used primarily by non- profit hospitals. 30 Investor-owned hospitals can now only hold up to $40 million in tax-exempt bonds per corporation, virtually precluding their use by major investor-owned systems.32 The financial community provides more fa- vorable borrowing conditions to systems than to independent hospitals. Systems (both tax- exempt and investor-owned) are perceived as sounder risks because of their larger revenue, asset and equity bases, ancl debt capacity.32 This is further enhanced by increased recog- nition of systems in the capital markets. Sys- tems are better able to time debt acquisitions to swings in the market, and to spread the risk of borrowing. They also face fewer constraints on growth than independent hospitals. Sys- tems can more easily absorb new operating units without violating the terms of existing lending agreements, and without precipi- tously increasing the amount of financial leverage.33 Investor-owned systems may, in addition, raise capital through the issuance of stock. In the bond market, $1 of hospital eq- uity may raise $2, while in the equity (stock) market, $1 may raise $15 or $20. Investor- owned hospitals can choose between debt and equity approaches, depending on such factors as interest rates and stock prices,34 giving them the option of using the leverage of their stocks to help finance capital projects.35 The types of debt financing generally used by investor-owned systems include takable bonds, bank lines of credit, commercial paper, and convertible subordinated debentures drawing on both the domestic and foreign cap- ital markets. The larger pool of outside inves- tors available to investor-owned systems has been instrumental in their growth. Sharehold ers' equity in the largest four investor-owned multihospital systems nearly quadrupled from 1977 to 1981, from an aggregate of $461 million to $1.832 billion.36 There are a limited number of data-based

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478 TABLE 3 Hospital Borrowers by Rating, 1978-1981 (percentage) Rating Category - Single Facility Provider Muld- hospital Systems Nonrated BBB A- A A+ AA 16 23 35 16 8 5 23 38 23 SOURCE: Kidder, Peabody and Company, Inc., Heals Finance Group, Hospital Data Base. studies that compare borrowing conditions for system and independent hospitals. These studies are based on national data sets, and in general, strongly support the proposition that systems operate at an advantage in the finan- cial markets. Kidder, Peabody and Company reported that 61 percent of systems (investor- owned and nonprofit) debt borrowings be- tween 1978 and 1981 were rated A+ or AA, whereas only 18 percent of independent hos- pitals were so rated (Table 3~.37 Bonds with full corporate pledges are rated considerably bet- ter than system issues with limited corporate pledges.38 Hemandez and Howie reported that investor-owned systems have gained access to public capital markets that were previously de- nied to investor-owned independent hospi- tals.39 Investor-owned hospitals (both system and independent) have been able to raise more capital fiends through operating margin, or profits, than nonprofit hospitals. This is due, in large part, to the return-on-equity payment that Medicare and some other third-party pay- ers have provided to for-profit hospitals only. This feature is being reviewed in light of the Medicare prospective payment system with indications that return-on-equity payments may be eliminated in the near future.40 While there appears to be a consensus that systems enjoy an advantage in access to cap- ital, no research has documented the extent that improved access translates into reduced cost of capital. Investor-owned systems' higher bond ratings may merely offset the tax advan FOR-PROFIT ENTERPRISE IN HEALTH CARE sages of the nonprofit hospitals. Investor-owned systems may have lower unit costs of capital, but purchase greater quantities of capital, and thereby drive up operating costs. Increased Efficiency and Economies of Scale The literature suggests that multihospital systems should realize certain economies of scale. These potential economies have been attributed to several factors. First, by securing discounts and obtaining superior price infor- mation, systems may realize savings through mass purchasing. Second, systems are be- lieved to use capital facilities and equipment more efficiently than independent hospitals through sharing and specialization, in addition to central warehousing of inventories.4~ Third, systems are thought to use highly skilled per- sonnel more efficiently than independent hos- pitals.42 For example, five system hospitals may share the service of one reimbursement spe- cialist at lower unit costs than if that specialist were employed by a single independent hos- pital.43 Lastly, investor-owned systems are better able to control construction costs. Sys- tems, because of their high use of construction firms, for example, may establish (less costly) ongoing relationships with design and con- struction concerns. They also use the same or modified designs and blueprints numerous times-further contributing to lower costs.44 There is no research to support or refute these hypothesized efficiencies. Empirical studies have focused on hospital- wide measures of efficiency, rawer than econ- omies associated with the aforementioned fac- tors. Measures of efficiency include length of stay, admissions per bed, occupancy rate, and time equivalent staff per patient day. Be- tween 1971 and 1984, nine studies examined efficiency in investor-owned system hospi- tals.45 The only consensus appears to be that ~nvestor-owned system hospitals use fewer staff per bed than other system and nonsystem hos- pitals. System Diversification In an earlier section it was noted that sys- tems were committed to the ownership and

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INVESTOR-OWNED MULTIHOSPITAL SYSTEMS management of nonhospital enterprises. Di- versification is believed to provide systems with a number of technical advantages over inde- pendent hospitals.46 First, profits from health and nonhealth lines of business provide a source of internal funds for financing new capital ac- quisitions. Second, diversification into non- hospital markets provides additional financial stability. Separate lines of business offer the potential of offsetting cash Bow supply during the trough of the hospital's business cycle.47 A recent General Accounting Office study sug- gests another possible advantage of diversifi- cation. System hospitals may purchase goods or services from affiliated entities or subsidi- aries at inflated charges, thus increasing their revenues from cost-based insurers.48 This may be contrary to reimbursement rules. Fourth, diversification is a strategy for growth. Systems are increasingly entering nonhospital lines of business such as HMOs, preferred provider organizations, home health services, nursing homes, emergency centers, and surgery centers in order to increase rev- enues, control patient movement into and out of hospitals, and facilitate local market growth.49 Management contracting, where one organi- zation assumes responsibility for the manage- ment of another hospital or department, illustrates this point. In the short run, man- agement contracting offers increased revenues and the opportunity to spread fixed costs over more units.s In the long run, management contracting may pave the way for fixture ac- quisition of the managed hospitals In 1983, investor-owned systems managed 56 percent of the nation's contract-managed hospitals.S2 The literature is rich with case studies and anecdotes describing diversification efforts of individual systems.53 Absent from the litera- ture are empirical studies of"economies of scope," i.e., whether the production of other products lowers unit costs for hospital ser- vices. Personnel Management There is general agreement in the hospital trade and management literature that inves- tor-owned and nonprofit systems attract and retain better trained management personnel than independent hospitals.S~ Attracting well 479 trained professionals is a serious problem for many rural hospitals. Empirical studies indi- cate that systems are better able to attract quality medical and administrative personnel in rural areas than independent hospitals.55 There is insufficient empirical evidence to sup- port or refute whether systems have an ad- vantage in personnel management in urban areas.s6 Systems may, however, bring about a number of problems: medical staff objections to perceived corporate indifference, imper- sonal corporate attitudes toward employees and/ or patients, replacement of older loyal em- ployees with corporate personnel, and loss of local autonomy.s7 Planning and Organizational Benefits Hospitals in underserved areas may benefit from improved linkages with other hospitals.S~ It is argued that investor-owned systems have the needed resources to maintain hospitals where none would have survived otherwise. It is also argued that systems have the re- sources to offer ambulatory services and pri- mary care health centers, and, therefore, increase patient access to cared They may, in addition, be able to experiment with new pro- grams and services by trying them out selec- tively at different hospitals within the system before diffi~sing them to other hospitals as ap- propriate. In turn, system economic power can be converted into political power and used to influence local planning and state regulatory agencies, thereby enhancing the ability of sys- tems to meet their goals.60 Critics contend that there is a loss of local autonomy under systems, and that systems may not use their economic and political power in the public interest.67 There are no data-based studies to support or refute these contentions. Why Investor-Owned Systems Grow: A Summary The literature suggests a number of advan- tages that investor-owned systems might have over independent hospitals including econ- omies of scale, improved access to capital, greater diversification, personnel, manage- ment advantages, and organizational benefits. Although there are few empirical studies to

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480 support or refute these claims, it appears that the principal advantage of systems is their fa- vored status in the capital markets. Empirical studies indicate few differences in efficiency between system and independent hospitals, except that investor-owned systems appear to operate with fewer personnel per bed. INVESTOR-OWNED SYSTEMS AND THE COST OF HOSPITAL CARE Twelve empirical studies (see Table 4) have examined the effect of investor-owned systems on the cost of care.74 Each of these studies compares investor-owned system hospitals with a comparison group, usually nonprofit inde- pendent hospitals. Because our objective was to examine the impact of investor-owned sys- tems, we have excluded studies that pool in- dependent and system investor-owned hospitals, and studies that pool nonprofit sys- tems with investor-owned systems. These ex- clusions reduced the number of relevant studies by almost one-half. Seven ofthese 12 studies indicate that inves- tor-owned systems increase the cost of care. Three studies show that costs are lower for system hospitals, and two studies intlicate no difference. System hospitals appear to be more costly whether costs are measured as hospital expenses, revenues or charges, or on a per admission or per diem basis. If investor-owned systems have some tech- nical advantages over independent hospitals, particularly superior access to capital, how do they raise the cost of care? First, investor- owned systems provide more ancillary ser- vices.75 Second, markups, the difference be- tween hospital charges or revenues and hospital expenses, are greater, particularly for ancillary services.76 Third, investor-owned system hos- pitals tend to be newer, thereby increasing capital costs.77 The conclusion that systems raise the cost of hospital care should be tempered by three considerations. First, existing research is based on the experience of the late 1960s through the early 1980s, a period when cost-reim- bursement was the predominant reimburse- ment mechanism. Study findings may indicate how systems and independent hospitals re- sponded to the existing incentive structure. FOR-PROFIT ENTERPRISE IN HEALTH CARE With the federal government's adoption of di- agnosis-related group (DRG) payment for Medicare patients, hospitals are entering an era of prospective payment. Systems and in- dependent nonprofit hospitals may behave in a radically different manner when they are re- warded rather than penalized for providing services at lower costs. Second, when researchers fail to control for self-selection bias, study findings may be sus- pect. Systems expand by purchasing finan- cially troubled independent hospitals. Cost differences between recently acquired system hospitals and independent hospitals may result from acquisition strategies of systems rather than from differences in the efficiency of sys- tem or independent hospitals. However, costs in system hospitals appear to rise quite rapidly in the first few years following a merger, a phenomenon inconsistent with the theory that higher system costs can be attributed to their former owners. I hird, previous studies have focused on costs for an individual hospital. With the exception of a few case stuclies,78 the more global ques- tion, "What happens to area per capita medical care costs, as well as hospital costs, when an investor-owned system enters the market?" has not been addressed. One school of thought holds that investor-owned systems compete by limiting their clientele to the most profitable cases, so-called"cream-skimming." Nonprofit hospitals, which previously used the revenue from these cases to subsidize less profitable cases as well as certain community services (care of the indigent, teaching, and research) may respond to the entry of the investor-owned hospital by increasing prices for unprofitable cases, such as the severely ill, and reducing community services.79 An opposing scenario views investor-owned hospitals as forcing ef- ficiencies on other area hospitals. Community services that are no longer financed through patient cross-subsidies must be identified and supported directly, and this increases public awareness and improves social welfare.80 A case study by Lewin and Associates, Inc. suggests a third scenario market charac- terized by intense nonprice competition.81 Investor-owned system hospitals were con- structed in two market areas previously served by one nonprofit hospital each. Both nonprofit

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INVESTOR-OV7NED MULTIHOSPITAL SYSTEMS TABLE 4 Empincal Studies on the Effect of Investor-Owned Systems on the Cost of Care 481 Author Ferber (1971)62 Sample Findings American Hospital Association (AMA) for 1969; 5,094 nonprofit hospitals and 157 for-profit chain hospitals Hill and Stewart California nonprofit independent (1971163 hospitals, for-profit independents, and for-profit chains Ruchlin et al. (1973~64 Lewin and Associates (1976~65 56 for-profit chain hospitals matched with 11 independent local government hospitals and 45 independent voluntaries in 1970 345 hospitals from five Blue Cross Plan areas: 114 for-profit system hospitals, 90 independent for- profit hospitals, 141 independent nonprofit hospitals Coyne (1918~66 Eight nonprofit systems; six investor-owned systems Bays (1979~67 46 California hospitals including 12 for-profit chain hospitals For bed sizes less than 200 beds, for-profit chain hospitals had greater per diem expenses For hospitals greater than 200 beds, chain hospitals' per diem expenses were 29 percent less Per admission expenses average 11 percent less for for-profit hospitals For-profit chain hospitals had higher expenses than independent for-profits or independent nonprofit hospitals Revenue per adjusted day was 4 percent greater for the for-profit chain hospitals Expense per adjusted day was equivalent Revenues per day were 29 percent greater for for-profit system hospitals than nonprofit hospitals Charges for same diagnoses were 18 percent greater for the for-profit system hospitals System expenses per day were 20 percent greater per adjusted day System hospitals were newer; capital costs were nearly double those of nonprofits Markups for for-profits were 20 percent more for lab and x-ray services than nonprofits For most measures, acquired system hospitals were less expensive than system "indigenous hospitals" Ownership had no erect on expenses per day Centrally organized systems were found to be more efficient; geographically concentrated systems had higher occupancy rates For-profit chain status reduced expense per case by 12 percent relative to nonprofit hospitals For-profit chains' case my was similar to nonprofits' case mix; this was not so for independent proprietaries

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482 TABLE ~ Continued FOR-PROFIT ENTERPRISE IN HEALTH CARE Author Sample Findings Vraciu (1981168 Florida, Texas, and Utah hospitals Lewin and Associates (l98l)69 Pattison and Katz (1982)7 Sloan and Vraciu (1983~71 Coyne (1982972 Becker and Sloan (1984)73 53 matched pairs of for-prof~ts and nonprofits; Florida, Texas, and California hospitals; 1978 data 58 investor-owned chain and 217 nonchain investor-owned California hospitals in 1980; data are from the California Health Facilities Commission Florida, nonteaching, short-term hospitals under 400 beds in 1980 91 system hospitals and 49 independent hospitals; data are from 1975 AHA survey 2,231 U.S. community hospitals in 1979 Investor-owned hospitals in Florida had 7 to 21 percent lower revenue per patient day than other hospitals Charges per admission were 4 to 9 percent lower in Utah, 5 percent lower in Texas Investor-owned hospitals' charges per inpatient day were 8 percent higher for routine charges and 36 percent higher for ancillary services per admission charges, 4 percent higher for routine and 26 percent higher for ancillary services Expenses per day were 13 percent higher and 8 percent higher admission for investor-owned hospitals Gross revenues per day were 18 percent higher per day and 12 percent higher per admission for investor-owned hospitals For nearly all measures of cost, investor- owned chains were the most expensive group Revenues per admission and per day were 10 percent higher for for-profit chains than voluntaries Expenses per admission and day were 2 percent and 6 percent higher for for-profit chains than voluntaries Ancillary revenues per admission and day were 29 percent and 38 percent greater for the chains than for the voluntaries Daily service revenues were 7 percent and 11 percent higher per admission and day for the chain than for the voluntaries Net operating Finds (operating revenues - taxes) per admission were identical Net operating expenses per admission were 4.5 percent less for investor-owned chain hospitals Investor-owned chain hospitals had 3.4 percent greater net operating fiends per day and 2.7 percent less per per-diem net operating expenses Religious, other nonprofit, and investor- owned system hospitals significantly raised the expense per case and per day, with investor-owned hospitals being the most expensive Investor~wned chain hospitals that have joined chains in the last 4 years have per diem expenses 10 percent higher than independent nonprofits and per admission expenses 12 percent higher

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INVESTOR-OWNED MULTIHOSPITAL SYSTEMS TABLE 4 Continued 453 Author Sample Findings Becker and Sloan (continued) Government chains formed in Me past 6 years had per admission expenses 11 percent higher than independent voluntaries Multihospital voluntaries were 2 percent more expensive Man independent voluntaries NOTE: "Charges" refers to what the hospital bills the patient. "Revenues" refers to what the hospital collects from the patient, third-party payer, or other sources (e.g., government, philanthropy). "Expenses" refers to the total operating costs including payroll and nonpayroll costs. hospitals responded to the entry of a system hospital by expanding services, renovating the hospital plant, constructing adjacent physician offices, and improving patient and physician relationships. The result was increased unit charges and expenses, markups, admissions, and hospital per capita expenditures. QUALITY AND ACCESS Seven empirical studies have evaluated the effects of investor-owned systems on access, service availability, or quality.82 Table 5 dis- plays study findings. Each of these studies potentially suffers from self-selection bias. Systems do not randomly choose where to locate, but self-select into fa- vorable market areas. For example, investor- owned systems tend to locate in fast-growing, less regulated Sunbelt states and areas with lower Medicaid and indigent patient loads. Systems also purchase or build hospitals with certain services and size, generally avoiding large tertiary care hospitals with heavy re- search and teaching commitments. Studies which compare an experimental group (system hospitals) with a matched control group (in- dependent hospitals) may find no differences simply because the matching process elimi- nated comparison of hospitals providing dif- ferent services or teaching programs. Measures of Access Seven studies compared investor-owned system hospitals with independent nonprofit \ hospitals. Measures of access included per- centage of revenues from Medicare and Med- icaid, availability of specific services, diagnostic case mix, and volume of charity care. Investor- owned system and independent hospitals treated equal percentages of Medicare as well as Medicaid patients.86 Less research is re- ported on indigent or charity care. Two studies report no difference and one study reports that investor-owned systems provide less uncom- pensated care (charity care plus bad debt) than nonprofit control hospitals.87 There is anecdotal evidence of investor- owned hospitals providing less charity care than neighboring nonprofit facilities.88 One diFi- culty in supporting these anecdotes is that on- going data systems record who is admitted to a hospital, but not who is turned away or de- terred from a hospital. Service mix was studied using a number of proxy measures, including service profitability and scope of services offered. No significant differences were found between system and independent hospitals.89 The last measure of access to care tested was hospital case mix. Based on limited analysis of diagnostic case mix, no significant differences were found between investor-owned system and other hospitals.90 Measures of Quality Four studies compared the quality of care in investor-owned system hospitals with matched independent nonprofit hospitals. Re- searchers have focused on structural and pro

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484 FOR-PROFIT ENTERPRISE IN HEALTH CARE TABLE 5 Empirical Studies on the EBect of Multihospital Systems on Quality of Care and Access Author Sample Findings Ruchlin et al. (1973~64 Sloan et al. (1985~83 Lewin and Associates (1976~65 Biggs et al. (1980184 56 matched pairs of investor- owned chain hospitals and nonprofit voluntary or state and local government hospitals; data collected from interviews with hospital administrators All hospitals responding to American Hospital Association (AMA) annual surveys of hospitals for 1978 through 1982 345 system and independent for- profit and nonprofit hospitals located in five Blue Cross areas: Los Angeles, California; Florida; Texas; Kentucky; and Richmond, Virginia 32 matched pairs of contract- managed and traditionally managed hospitals; hospitals under contract were nonprofit Access For-profit chain facilities received about 35 percent of revenues from public third parties; nonprofits received about 60 percent from these payers Quality Gross death rates averaged 2.48 for nonprofits and 1.99 for for-profit chain hospitals; authors note these differences could be due to different patient case mixes No discernible differences in educational residency and training programs, although for-profits had a lower percentage of residency positions filled (5 percent versus 13 percent) Access Investor-owned system hospitals provided 15 percent less uncompensated care (defined as bad debt or charity care) than other hospitals, other factors held constant Access No significant differences in proportion of Medicare and Medicaid patient load Scope and complexity of services offered (using a general service index) are similar between investor-owned system and nonprofits; independent investor-owned have somewhat lower index of services; investor-owned favor profitable services such as electrocardiograms, abortions, and [till-time pharmacists Little difference in case mix Quality Investor-owned system and nonprofits had comparable JCAH accreditation rates; independent investor-owned had considerably lower rates No differences in malpractice convictions (limited data) System investor-owned had a higher ratio of RNs to LPNs, but lower ratio of full-time to part-time nurses System hospitals had few approved intern and residency programs and almost no medical school Foliations; system hospitals were more likely to offer nurse training programs than nonprofits Access Both hospital groups had similar distributions of payers Contract-managed hospitals tend to "over a

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INVESTOR-OWNED MULTIHOSPITAL SYSTEMS TABLE 5 Continued 485 Authors Sample Findings Biggs et al. (continued) Pattison and Katz (198318s Bays (1979~67 Sloan and Vraciu (1983~ and managed by 9 multifacility for-profit corporations in 18 states; hospitals paired on basis of number of beds, geographic location, population base, average per capita income, type of ownership and control, and presence of medical education programs Peer group of California urban/ suburban hospitals (excluding teaching, tertiary care, rural specialty, and HMO hospitals); 1980 data for 280 hospitals: 114 voluntary, 35 public, 79 independent investor-owned, and 53 chain-owned proprietaries 46 short-term general California hospitals (18 for-profit and 28 nonprofit) for 1971 and 1972 112 Florida nonfederal, short- term, nonteaching hospitals under 400 beds (52 nonprofit, 45 investor-owned system, and 15 investor-owned independent) somewhat broader range of services" although not a statistically significant difference Quality No statistically significant difference between matched samples in terms of: percent board-certified staff physicians, extent to which hospitals provide full-time coverage in their emergency rooms, hospital accreditations, and hospital participation in a quality assurance program Access No significant difference between hospitals on treatment of Medicare patients Location, size, and type of hospital may be more significant than ownership in admission of Medicaid patients; however, public hospitals had highest Medicaid revenues, investor-owned chain lowest No significant difference in amount of charity care delivered Quality Investor-owned chain and nonchain performed no research activities; the rest of the peer group spent 0.4 percent on research Investor-owned chain spent 0.07 percent and nonchain spent 0.2 percent on teaching compared with 0.14 percent for the whole peer group and 0.81 percent for all California hospitals Access No significant differences in case mix between nonprofits and multihospital system for-profits Access No significant difference in Medicare and M edicaid utilization Except for cardiac care, no differences in services offered Investor-owned are more likely to over emergency room services, but less likely to provide outpatient psychiatric care, although more offer clinical psychological services Nonprofits offer more "unprofitable" services as well as "profitable" services No differences in charity care or bad debt adjustments to revenue NOTE: "Charges" refers to what the hospital bills the patient. "Revenues" refers to what the hospital collects from the patient, third-party payer, or other sources (e.g., government, philanthropy). "Expenses" refers to the total operating costs, including payroll and nonpayroll costs.

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486 cess measures of quality including staffphysician qualifications, hospital accreditation, and ed- ucational and residency programs. No signif- icant differences were found in staff qualifications (such as board certification), hos- pital accreditation, or gross mortality rates.92 System hospitals performed no research activ- ities and participated in fewer teaching and residency programs. However, the matched independent hospitals' commitment to re- search or teaching programs was also very lim- ited.92 CONCLUSION This paper has addressed three questions: (1) What has been the extent and nature of the growth of investor-owned multihospital sys- tems? (2) Why do they grow? (3) What are the effects of these systems on cost, quality, and access to care? Investor-owned systems are growing in terms of hospitals and hospital beds at the rate of 10 percent a year. This growth has been achieved largely through the acquisition of independent investor-owned hospitals. Investor-owned sys- tems are constructing and acquiring freestand- ing nursing homes and psychiatric hospitals at a rate more than three times that for com- munity hospitals. The financial performance of investor-owned systems has been impressive. A dollar invested in an investor-owned system has returned nearly 40 percent more in earn- ings than the average for other industries in recent years. The literature offers a number of reasons why investor-owned systems grow. The pri- mary reasons are: economic benefits; person- nel and management advantages; and planning, program, and organizational benefits. Claimed economic benefits were foremost in the lit- erature and included increased efficiency, economies of scale, improved access to capital, and the ability to diversify. Empirical studies showed little difference between independent and investor-owned system hospitals in effi- ciency, with the exception that the investor- owned system hospitals use fewer personnel per bed. The major advantage of systems is their ability to finance capital purchases. Em- pirical evidence indicates strong preference for systems by the capital markets. Diversification FOR-PROFIT ENTERPRISE IN HEALTH CARE into nonhospital markets provides additional financial stability to systems; separate lines of business offer the potential of offsetting cash flow demands during the trough of the hos- pital's business cycle. Twelve studies have investigated the effect of investor-owned systems on hospital costs. These studies do not address the question, "lIow does the entrance of a system hospital into a market area affect area per capita hos- pital and total medical care costs?" With this caveat in mind, the evidence indicates that the growth of systems results in higher hospital costs. If systems hold certain technical advantages over independent hospitals, why don't they provide care more cheaply? First, investor- owned systems use their superior access into the capital markets to increase services, and provide more ancillary services per case. Sec- ond, markups, the difference between hospital unit expenses ancl charges, are greater for sys- tem hospitals. Third, available evidence in- ~licates that system hospitals are newer, thereby increasing capital costs. Some have alleged that investor-owned sys- tems reduce access to care to the disadvan- taged. Research on this issue is limited to seven studies. Findings may be artifacts of the matching process, where hospitals are matched on dependent variables, and consequently, no differences are found between experimental and control hospitals. Until recently, investor- owned systems have shunned large tertiary care teaching facilities and chosen to locate in growing middle-class markets. With this ca- veat in mind, study findings indicate little dif- ference between system and control hospitals in access to care. System hospitals treat equiv- alent numbers of Medicare and Medicaid in- patients. No significant differences were found in the diagnostic case mix of system versus matched independent nonprofit hospitals. Two studies report that investor-owned system hos- pitals treat similar percentages of uncompen- sated care (defined as bad debt plus charity care) as do control hospitals, although neither system nor control hospital treated many.93 One study found that investor-owned system hos- pitals provided a lower percentage of uncom- pensated care.94 Four studies examined differences in quality

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INVESTOR-OV7NED MULTIHOSPITAL SYSTEMS of care between system and independent hos- pitals. Quality measures included physicians, qualifications, hospital accreditation, educa- tional and residency programs, nursing staff composition, malpractice convictions, and gross mortality rates. In most cases, no differences were found between system and independent hospitals. Our review of the literature identified a number of issues that empirical studies failed to answer. In concluding this paper with an agenda for fixture research, we urge research- ers to focus on three methodological issues. First, future research should document mar- ket area spillover effects. To what extent are profits and savings from investor-owned sys- tems the result of shifting undesirable services and patients to other hospitals? Conversely, do systems force efficiencies on other area hos- pitals? Small area case studies may be one method for addressing these issues. Second, researchers should more fully consider pat- terns of entry and exit in investor-owned sys- tem performance. System hospitals should be compared to contrasting, as well as similar, independent hospitals. Third, researchers should contrast the behavior of investormwned system and independent hospitals under dif- ferent incentive and reimbursement struc- tures. The adoption by Medicare of DRG prospective hospital payment provides the op- portunity to study a natural experiment. ACKNOWLEDGMENTS The views expressed in this paper are those of the authors. No official endorsement by the National Center for Health Services Research or the Department of Health and Human Ser- vices is intended or should be inferred. The authors wish to thank Fred Hellinger, Ira Raskin, Larry Rose, and Jackie Wallen for their helpful comments. We additionally thank Christine Mitchell and Eloise Van Riper for their secretarial support. Many of the observations of this paper were presented in "Multihospital Systems: Issues and Empirical Findings," which appeared in the Spring 1984 edition of Health Affairs. 487 NOTES zRelman, A. (1980) The new medical-industrial com- plex, The New England Journd1 of Medicine 303~1~:~3. 2Cobbs, D. American Hospital Association, Center for Multi-Institutional Arrangements, personal com- munication; American Hospital Association, Hospital Statistics 1984 Edition. Chicago, Illinois. 3Cobbs, D. American Hospital Association, Center for Multi-Institutional Arrangements, personal com- munication. 4 Federation of American Hospitals (1985) 1985 Di- rectory: Investor-Owned Hospitals and Hospital Man- agement Companies. 5Koenig, P. (1979) Skimming the profits off health care, Nation 229:619. 6Health Central System (1983) Environmental As- sessment: Health Care, New Dynamics, New Markets. 7Steinwald, B., and D. Neuhauser (1970) The role of the proprietary hospital, Law and Contemporary Problems 35:817-838. Federation of American Hospitals, 1985 Directory: Investor-Owned Hospitals and Hospital Management Companies. This figure includes 31 investor-owned in- dependent hospitals managed by investor-owned sys- tems. 9 Ibid. 2American Hospital Association, Hospital Statistics, 1964 Edition. Data from the AMA's Center for Multi- Institutional Arrangements indicate that from 1979 to 1983, nonprofit system hospitals Dew at an annual rate of 1.2 percent while investor-owned systems grew at 3.6 percent. 22Op. cit. American Hospital Association, 1984 An- nual Report. Data from the AMA's Center for Multi- Institutional Arrangements indicate that between 1979 and 1983 the number of hospital beds controlled by non-profit multihospital systems grew at an average annual rate of 0.4 percent while investor-owned sys- tems grew at 5.2 percent. 22American Hospital Association, Hospital Statistics, 1984 Edition. 23Sager, A. (1983) Why urban voluntary hospitals close, Health Services Research 18~3~:451~74. 24Federation of Amencan Hospitals (1982) Statistical Profile of the Investor-Owned Hospital Industry, Washington, D.C. ~5Mullner, R., and J. Hadley (1984) Interstate var- ia~ons in the growth of chain-owned proprietary hos- pitals, 1973-1982, Inquiry 21:14~151; Mullner, R., C. Byrne, and J. Kubal (1981) Muldhospital systems in the United States: A geographic overview, Social Sci- ence and Mediane 15:35~359. 26 Federation of Americ" Hospitals, 1985 Director: Investor-Owned Hospitals and Investor-Owned Man- agement Companies. Franz, J. (1984) Hospitals turn from acquiring to

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488 building new psychiatric units, Modern Healthcare, May 15; Ermann, D., and J. Gabel (1984) Multihospital systems: Issues and empirical findings Health A flairs 3~1~:54. 7R=_ ~.. r ~. BY .. ~-~A_ _. O ~~ ~ ~~~ ~ ~ J .V t-ecterat~on ot American Hospitals, 1985 Directory: Investor-O~vned Hospitals and Hospital Management Companies. ~9 Hospital Corporation of America (1983) Form 10- K, Securities and Exchange Commission. 20National Medical Enterprises (1983) Form 10-K, Securities and Exchange Commission. 2] Buchanan, R. (1982) The financial status of the new medical-industrial complex, Inquiry 19:308-316. 22Cohodes, D., and B. Kinkead (1984) Hospital Cap- ital Formation in the 1980s, Johns Hopkins University Press, Baltimore, Md., p. 81. 23Greenberg, J. (1984) Investment Trends in the Hospital Industry, unpublished manuscript, Health Care Financing Administration, Washington, D.C. 24 Washington Health Cost Latter (1984) special sup- plement, Washington Business Information, Inc., Au- gust 3. Estimates of the value of stock option benefits are based on Form 10-K for the four major investor- owned hospital management companies. 25Lewin and Associates, Inc. (1981) Studies in the Comparative Performance of investor-Owned and Not- for-Profit Hospitals, Vol. I, Industry Analysis, Wash- ington, D.C., pp. 8-9. 26Brown, M. (1979) An overview in Multihospital Arrangements: Public Policy Implications, S. Mason, ea., American Hospital Association; Barrett, D. (1980) Multihospital Systems: The Process of Development, Cambridge, Mass.: Oelgeschlager, Gunn and Hain, Publishers, Inc., p. 27; Zuckerman, H. (1979) Multi- lnstitutional Hospital Systems, L. Weeks, ea., Chi- cago, Ill.: Hospital Research and Educational Trust and Hernandez, M., and C. G. Howie, Capital fi- nancing by Multihospital systems in Multihospital Ar- rangements: Public Policy Implications, S. Mason, ed. 27Brown, M. (1979) Systems development trends, issues and implications, Health Care Management Re- v~v 4:23-32. 28Anderson, I., and P. Ginsberg (1984) Medicare payment and hospital capital, Health Affairs, 3~3~:35- 48. 29Mistarz, J. (1984) Capital: A crisis? Hospitals, Jan- uary 1, pp. 70-74. 30Wilson, G., C. Sheps, and T. Oliver (1982) Effects of hospital revenue bonds on hospital planning and operations, Neu, England Journal of Medicine 307~231:142~1430; Kinkead, B. (1984) Medicare pay- ment and hospital capital: The evolution of policy, Health Affairs 3~3~:49-74. 32 Telephone conversation with Jim Smith, Hospital Corporation of America, February 8, 1985. 32Toomey, R. E., and R. C. Toomey (1976) Political realities of capital formation and capital allocation, Hos FOR-PROFIT ENTERPRISE IN HEALTH CARE pital and Health Serv*es Administration 20:11-23; Regulation discouraging chains, shared services (1978) Modern Healthcare 8:9-10; Sloan, F., and R. Vraciu (1983) Investor-owned and not-for-profit hospitals: Ad- dressing some issues, Health Affairs 2:25-37; Neuman, B. (1974) A financial analysis of a hospital merger: Sa- maritan Health Services, Medical Care 12:983-998; DiPaolo, V. (1980) Multi-units increasing municipal bond issues, Modern Healthcare 10:56-58; and Op. cit., Her- nandez and Howie, Capital financing, pp. 3747. 33Yanish, D. Leigh (1981) Pooled assets expand debt capacity, Modern Healthcare 11:86-88. 34Access to capital: Equity markets (1984) Washing- ton Report on Medicine and HealthlPerspectives, McGraw-Hill, Feb. 20. 35Capital Deve~prnent in the Hospital Industry (1984) Health Policy Alternatives, Inc., Washington, D.C., June. 36Cohodes, D., and B. Kinkead (1984) Capital for- mation in hospital management companies in Hospital Capital Formation in the 1980s, Johns Hopkins Uni- versity Press, Baltimore, Md., pp. 7~87. 370p. Cit., Hernandez and Howie, Capital financing, pp. 37~7. 38Ibid. 39Ibid. 400p. cit., Health Policy Alternatives, Inc., 1984. 42 Dorenfest, S. (1981) Hospital chains become im- portant providers, Modern Healthcare 2:77-85; and Bennet and Ahrendt (1981) Achieving economies of scale through shared ancillary services, Topics in Health Care Financing 7~3~:25 34. 42 Steward, D. (1973) The history and status of pro- pnetary hospitals, Blue Cross Reports 9:2-9; HiD, D., and D. Stewart (1973) Proprietary hospitals versus non- profit hospitals: A matched sample analysis in Califor- nia, Blue Cross Reports 9:10-16; and Steinwald, B., and D. Neuhauser (1970) The role of the proprietary hospital, Law and Contemporary Problems in Health Care, Vol. 37, Autumn. Duke University School of Law. 43Bennett, J., and K. Ahrendt (1981) Achieving econ- omies of scale through shared ancillary and support services, Topics in Health Care Financing: Margining in the Era of Linuts 7~3~:2~34. 44Stevenson, G. (1978) Laws of motion in the for- profit health industry: A theory and three examples, International Journal of Health Serv*es 8~2~:23~256. 4sAnalyst gives AMI hospitals mixed reviews (1984) Hospitals, Jan. 1, p. 22; HCA hospitals' costs, efficiency studied (1984) Hospitals, Feb. 1, p. 21; Humana hos- pitals found more efficient, less costly than average U.S. hospital (1984) Hospitals, March 16, p. 22; NME hospitals expensive but efficient (1984) Hospitals, May 16, p. 21; Knowles, E. (1981) Distinguishing charac- teristics of institutions by ownership type within multi- hospital systems, graduate thesis, University of Min

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INVESTOR-OWNED MULTIHOSPITAL SYSTEMS if ornia data, New England Journal of Mediane 309:347- 353. 660p. cit., Lewin and Associates, Study of Investor- Owned Hospitals; Op. cit., Sloan and Vraciu, Investor- owned and not-for-profit hospitals; Op. cit., Biggs, Kra- lewsld, and Brown, Contract-managed and tradition- ally managed non-profit hospitals. 870p. cit., Pattison and Katz, Companson based on California data; Op. cit., Sloan and Vraciu, Investor- owned and not-for-profit hospitals; Op. cit., Sloan, Blumstein, and Pernn, Uncompensated Hospital Care: Rights and Respor~szLilities. Simper, S. (1984) Austin questions HCAs loyalty to town, Modern Healthcare 4:38; Dallek, G. (1983) For- profit hospitals and the poor, National Health Law Pro- grams, Washington, D.C., October. 890p. cit., Lewin and Associates, Study of Investor- Owned Hospitals; Op. cit., Sloan and Vraciu, Investor- ownedand not-for-profit hospitals; Op. cit., Biggs, Kra 497 lewski, and Brown, Contract-managed and tradition- ally managed non-profit hospitals. 90Op. cit., Lewin and Associates, Study of Investor- 02vned Hospitals; Op. cit., Bays, Cost compansons. 920p. cit., Lewin and Associates, Study of Investor- Oumed Hospitals; Op. cit., Biggs, K=lewski, and Brown, Contract-managed and traditionally managed non-profit hospitals; Op. cit., Cooney and Alexander, Multihos- pital systems. 920p. cit., Ruchlin, Pointer, and Cannedy, Com- parison; Op. cit., Lewin and Associates, Study of Inves- tor-Owned Hospitals; Op. cit., Pattison and Katz, Comparison based on California data. 930p. cit., Pattison and Katz, Comparison based on California data; Op. cit., Sloan and Vraciu, Investor- owned and not-for-profit hospitals. 940p. cit., Sloan, Blumstein, and Perrin, Uncom- pensated Hospital Care: Rights and Responsibilities.