Merger mania: physicians beware - Health Care Mergers - integrated health services

Physician Executive, March-April, 1998 by Thomas P. Weil, Glenn M. Pearl

AMONG THE MANY ORGANIZATIONAL CHANGES THAT have characterized the nation's health field during the past decade, none is more striking than the trend toward forming integrated networks of hospitals, physician practices, and managed care plans. In 1983, the number of acute care facilities that were owned, leased, controlled, or managed by multi-hospital systems constituted 34 percent of all community hospitals in the United States. (1) Thirteen years later, in 1996, the share of facilities in various networks (excluding loose affiliations and joint ventures) climbed to 44 percent. (2) This trend of corporate consolidation is projected to accelerate during the next decade.

Competition among health providers attempting to increase their market share has encouraged physicians and hospitals to consummate mergers that center on improving access, reducing operating costs, and enhancing quality of care. These corporate mergers are a unique form of organizational consolidation, in the sense that they bring together all policy formation and management aspects, including expediting common governance, under the complete control of a newly formed entity. An additional incentive to achieve this level of consolidation comes from the bond rating agencies that look favorably upon physician and hospital mergers, inasmuch as these arrangements can yield greater leverage in negotiations with managed care plans and other private insurers. (3) In contrast, only a portion of an existing organization is subject to external management in joint ventures or affiliation agreements. Conventional wisdom suggests that by fully integrating two or more free-standing providers, superior economies of scale tha t are measured in terms of additional efficiencies and effectiveness should soon be realized to the benefit of consumers.

Despite the conceptual appeal of consummating a merger as a strategy for effecting enhanced market share, lower cost, and improved quality of care, and even with the increasing frequency of integrating health resources over the past decade, only a few studies have been published in the United States and Canada examining how a merger actually affects hospital performance (4-12) The primary purpose of this article is to summarize the available studies that explore empirically the impact of hospital mergers. Another objective is to advise health executives and public policy makers of the most likely effects of these mergers on physicians, hospitals, and consumers in the context of such market-driven initiatives-now underway in almost every metropolitan area-as the formation of fiscally and politically powerful health networks with annual revenues of more than $1 billion.

Findings concerning hospital mergers

The most successful mergers (9, 11, 13) involve medium-sized, not-for-profit hospitals in the same community where: (1) the market power of two or more organizations is greater than severally; (2) there is significant opportunity for the possible consolidation of high-fixed cost services, such as obstetrics and open-heart surgery; and, (3) if specific service volumes are combined, it becomes feasible to offer to the community additional clinical programs that could not be supported effectively by either institution as a free-standing facility. (8) Unfortunately, only a limited number of communities remain in the United States where such a merger strategy is feasible, where all parties concerned can agree, and where clearance can be easily obtained from the Department of Justice and the Federal Trade Commission.

Health executives have been warned to avoid entering into a merger agreement where the potential partner in operational and fiscal terms has experienced historically much weaker performance. Columbia/HCA, prior to its recent legal problems, used the following more precise guidelines in its pre-merger evaluations: fewer Medicaid patients, lower proportion of outpatient revenues, higher operating cash flow per bed, lower occupancy rates, lower salary expense per discharge, fewer beds, and a higher case-mix index relative to the facility's local competitors. (14) This listing may explain why the investor-owned groups usually prefer management contracts, rather than acquiring governmental (mostly county) hospitals, as these organizations usually portray: (1) significant outstanding capital needs and underfunding of operational expenditures; (2) a high percentage of their patients representing uncompensated care; and, (3) serious governance and political difficulties are usually faced when attempting to change own ership to either a voluntary not-for-profit or a for-profit status.

When examining the short-term effects of hospital mergers occurring in the 1982-1989 period, the most noticeable change reported was related to improved operating efficiency as measured by a higher percent of occupancy and a decrease in the rise of total expenses per adjusted admission. These merged facilities were less successful in generating more admissions or reducing their total personnel or nursing staffing patterns. (7) After consolidating their operations, these 92 mergers that were studied evidenced an overall slowing down of the rates of pre-existing trends, rather than demonstrating dramatic improvements in operating patterns.