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OCR for page 474
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
OCR for page 475
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.
OCR for page 476
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
OCR for page 477
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
OCR for page 478
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
OCR for page 479
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
OCR for page 480
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
OCR for page 481
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
OCR for page 482
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
OCR for page 483
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
OCR for page 484
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
OCR for page 485
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.
OCR for page 486
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
OCR for page 487
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
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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-
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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,
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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.
Representative terms from entire chapter:
modern healthcare
