High Hospital Profitability Ripe for Payment Reform, Study Finds

June 27, 2019 - Hospitals had total margins of 7.8 percent in 2016, the highest level of hospital profitability in about a decade and more than payers, pharmacies, and pharmacy benefit managers, a new analysis from the left-leaning think tank Center for American Progress (CAP) revealed.

As a result, total hospital revenues exceeded expenses by more than $64 billion in 2016 for the 3,062 non-federal, acute care hospitals analyzed by CAP, suggesting a growing need for hospital payment reform to reduce the unsustainable rate of national healthcare spending.

“Reigning in the cost of health care in America will require rethinking how hospitals are paid and the rates at which they are reimbursed,” Emily Gee, health economist at CAP and author of the report, stated in a press release. “This report makes a compelling case for enlarging the role of public payers and taking action to reduce costs for Americans covered by commercial insurance.”

Higher hospital profitability was driven by private payer profits in 2016, the analysis found. CAP estimated that hospitals received about 134 percent of Medicare rates across their main payers, including private payers and Medicaid.

“Payment reforms could achieve even greater savings if hospitals that currently lack competition were pressured to operate more efficiently and lower their costs. Current Medicare rates are designed to cover the costs that ‘reasonably efficient providers would incur in furnishing high-quality care.’ This suggests that on average, hospitals are receiving payments that are well above what is needed to cover costs under efficient operation,” Ghee wrote in the report.

READ MORE: Hospital Profitability Up Despite Volume, Expense Challenges

Given that hospital margins are close to eight percent, she suggested that the average reimbursement across major payers could be reduced to 124 percent of Medicare rates to effectively lower healthcare spending while allowing hospitals to cover their current costs.

The reduction in private payer rates for hospital care would save “tens of billions of dollars on hospital expenditures, even if rates were tailored to keep afloat loss-making hospitals that are crucial to patient access,” the report stated.

Medicare versus private payer rates was also the subject of another recent analysis from RAND Corporation. In May, the organization found that hospital prices for private payers were 241 percent of what Medicare pays for the same services from 2015 to 2017, meaning employers and private payers could have saved $7 billion by paying prices similar to Medicare rates.

Chapin White, the study's lead author and an adjunct senior policy researcher at RAND, said the “widely varying prices among hospitals suggests that employers have opportunities to redesign their health plans to better align hospital prices with the value of care provided.”

However, hospitals disagreed with White’s suggestion. Specifically, the American Hospital Association (AHA) spoke out after the study’s release, arguing that paying hospitals based on Medicare rates would have serious, negative consequences considering Medicare reimbursed hospitals just 87 cents for every dollar spent caring for Medicare patients in 2017.

READ MORE: Tracking Key Hospital Revenue Cycle Metrics to Up Profitability

“Medicare payment rates, which reimburse below the cost of care, should not be held as a standard benchmark for hospital prices,” said Melinda Hatton, AHA general counsel. “Simply shifting to prices based on artificially low Medicare payment rates would strip vital resources from already strapped communities, seriously impeding access to care. Hospitals would not have the resources needed to keep our doors open, innovate to adapt to a rapidly changing field and maintain the services communities need and expect.”

Furthermore, recent research examining a Medicare public option, which would set hospital reimbursement rates similar to Medicare prices, would decrease payments to hospitals by $774 billion over a ten year period.

CAP said setting reimbursement rates or capping them would be “the most direct way for state and federal regulators to lower hospital prices.” However, the think tank acknowledged the challenges of rate regulation.

“However, while hospitals and physicians could respond to rate cuts by reducing costs—for example, by improving efficiency—they may also attempt to make up for lost revenue. Faced with changes to prices alone, hospitals might increase the volume of services or shift their business toward higher-margin, lower-value services,” the report stated.

The think tank advised policymakers to consider the financial sustainability of some providers when proposed rate-setting solutions to protect patient access to care.

READ MORE: Healthcare Spending Slated to Increase 5.5% Annually Until 2027

The analysis found that hospital profitability significantly varied by individual hospital. For example, about one-quarter of for-profit and non-profit hospitals lost money in 2016. Additionally, total margins varied by ownership type, with for-profit hospitals having the highest total margin at 11 percent, followed by non-profit hospitals with 7 percent and public hospitals with 5 percent.

In addition to rate regulation, CAP also suggested the following strategies for lowering hospital expenditures:

• Eliminating surprise billing
• Implementing reference pricing
• Increasing hospital price transparency
• Enforcing additional antitrust measures
• Enacting site-neutral payments

Federal agencies and policymakers are already considering or implementing a number of CAP’s recommendation. CMS recently expanded its use of site-neutral payments, and surprise billing and hospital price transparency are top priorities for state and federal officials, with several bills and initiatives currently being debated by Congress and HHS.

But hospitals are pushing back. AHA and several other hospital groups sued HHS over the recent site-neutral payment policy. The same groups also expressed concerns about recent legislative actions, including rate-setting proposals to end surprise billing and public disclosure of negotiated rates in the Trump Administration’s recent executive order.