How will Hospitals Weather Health Reform?

The health insurance companies have been the low hanging fruit of early phase of health reform. However, the days of kicking insurance companies around are rapidly disappearing. While most see pharmaceutical companies as the next logical target, I see a bigger target on the hospital industry. Hospitals represent 1/3 of health care costs and the best news they can offer is that their costs have "only" increased 4.5% in 2008.

Despite my misgivings, the Economist was bullish (pronounced with a British accent) on the hospital industry. Hospital systems around the world are being bought and merged and even the private equity world is battling for elite foreign hospitals. This activity does make sense as hospitals needs the size to be able to invest in the new required IT systems or other technologies. Size also helps attract providers who are looking for shelter from this technology storm, more leverage with the negotiations with insurance companies, and good ole economies of scale. There will always be demand for services from hospitals with the best reputations. Finally, the aging of the population means that bed pans will stay full and need to be constantly emptied.

I am more bearish. If I have learned one thing from Steve Eisman and Meredith Whitney, it's to be a bear when you don't think that optimism is justified. If I could short the hospital industry, I would.

No new business model: Hospitals top metric for decades has been to keep their beds full to cover their mountains of fixed cost. I don't see anything that has indicated this metric has changed. The only change that I have seen is that hospitals are counting on the boomers to ride their Segways into the nearest hospital bed in their zip code as opposed to their SUV.

Hospital aren't positioned for the new business models: The new reimbursement that is available are for models are around medical homes, Accountable Care Organizations, or even home-based community care. All these focused on tight coordination of care around providers to keep people out of hospitals or discharged quickly. Hospitals serve as important backstops for primary care physicians rather than being referral sources for the latest surgeries.

Revenue is shrinking: The number of people covered by their employers and the better paying commercial insurance is forecasted to decrease by 2016. Medicaid, which pays an estimated 70% of every dollar, is projected to grow by 25%. A 3% cut in Medicare payments is on the horizon and Medicare payments are not expected to grow. New provisions in health reform take money away for readmissions and more could be on the horizon that penalize hospitals for not coordinating care with community partners. In order not to lose revenue completely, hospitals will have to share it with new community partners.

There are no new frontiers: The Economist noted that more efficient for profit hospitals are likely to buy their weakly managed non profit counterparts. From my experience, for profit hospitals are more efficient because they generally bought the dominant hospital in an isolated towns with few competitors and attractive payer mixes (ie few uninsured patients). These are not hard hospitals to run since they basically have a monopoly. The less efficient hospitals are often in low income rural communities or inner cities.

In Philadelphia, I watched numerous for profit hospital chains buy the #4 and #5 rank academic medical centers out of the 5 in that city without success. The efficiencies are not there for some hospitals but the need for that hospital is still very strong in these lower income communities. The management skills the larger for profit systems is more snake oil than secret sauce.