Financial Pressures Continue to Plague Hospitals

Originally published by the Center for Studying Health System Change (HSC), a nonpartisan policy research organization that operated with principal funding from the Robert Wood Johnson Foundation.

Community Report No. 12 -- Summer 2001

Authors: Debra A. Draper, Linda R. Brewster, Lawrence D. Brown, Lance Heineccius, Carolyn A. Watts, Elizabeth Eagan, Leslie A. Jackson, Marie C. Reed

A research team traveled to northern New Jersey in March 2001 to examine the local health system, how it was changing, and what those shifts meant for consumers. Through the Community Tracking Study, HSC interviewed more than 60 health care market leaders. Northern New Jersey was one of 12 communities HSC followed on a biennial basis through site visits and surveys. Earlier visits in 1997 and 1999 provided baseline data and initial trend information. The northern New Jersey market encompassed Essex, Morris, Sussex, Union, and Warren counties.

Hospitals' Financial Troubles Deepen

Since 1999, when hospitals and health plans in northern New Jersey were both struggling with poor financial performance, the financial condition of many hospitals had gotten worse. The state hospital association reported that 60 percent of New Jersey's hospitals were operating in the red. Small and urban safety net hospitals bore the brunt of the damage, raising concerns about whether low-income and uninsured residents would continue to have access to care. Health plans, in contrast, had regained financial stability and were reporting profits. Employers, meanwhile, were absorbing double-digit premium increases, and some enrollees found their options shrinking as plans grew more selective about which employer accounts they would take on.

Urban Hospitals Face a Growing Crisis

Northern New Jersey had long been characterized by excess hospital bed capacity and high service utilization, both of which contributed to above-average health care costs. The market's inpatient capacity exceeded the average metropolitan market by 36 percent, and its Medicare patients had hospital stays that ran 50 percent longer than the national average. In the early 1990s, state policymakers tried to address these inefficiencies by deregulating the hospital sector, replacing the old rate-setting system with a competitive model intended to push costs down. The hoped-for efficiencies largely failed to materialize, and hospitals had struggled financially ever since.

Over the two years leading up to the site visit, hospitals faced continued low payment rates from insurers alongside rising operating costs driven partly by a nursing shortage. Revenue losses mounted as health plans stepped up their inpatient utilization management efforts -- significantly increasing the number of denied days (hospital days for which plans refused to pay) and downgraded days (days reimbursed at lower-than-usual rates). Urban hospitals, which formed the core of the safety net for low-income and uninsured populations, were in far worse shape than their suburban counterparts. The widening financial gap between urban and suburban institutions intensified concerns about the long-term viability of urban hospitals and what their decline would mean for patient access.

These concerns led the state to direct $9.5 million in 2001 and $5 million in 2002 to Cathedral Healthcare System, a Catholic hospital system with two key safety net facilities in downtown Newark that were threatening to cut services. The state also boosted its $320 million charity care pool by $36 million that year, with an additional $25 million expected in 2002 to help hospitals serving uninsured patients. Even so, hospital leaders pointed out that current charity care funding remained well below the $700 million available before deregulation.

Suburban Hospital Systems Gain Strength

While urban hospitals foundered, the two largest suburban-based systems -- St. Barnabas Health Care System and Atlantic Health System -- were on the upswing. Both had formed in the mid-1990s and by 2000 were posting profits after years of losses. Their suburban locations gave them a more favorable payer mix, with a higher proportion of privately insured patients generating steady revenue. Although suburban systems did not escape the pressures of rising labor costs and utilization management disputes, they benefited from cost-cutting initiatives and their ability to leverage size and reputation in contract negotiations with health plans.

Both the nine-hospital St. Barnabas system and the four-hospital Atlantic system had established themselves as must-have providers that purchasers demanded be included in plan networks. They gained further negotiating power by moving to system-wide contracts rather than negotiating separately for each affiliate. A high-profile contract dispute between Atlantic and Aetna U.S. Healthcare in 2001 ended with Aetna reportedly paying substantially higher rates to Atlantic, which in turn signed a multiyear contract that stabilized Aetna's network.

Health Plans Shed Unprofitable Business Lines

Since 1999, health plans in northern New Jersey had taken several steps to shore up profitability, including raising premiums, exiting unprofitable lines of business, and deploying more aggressive utilization management strategies. Employers in the region's still-tight labor market generally absorbed the premium hikes, making only modest increases to employee deductibles and copayments. Many plans and employers adopted three-tier pharmacy benefit structures to combat surging pharmaceutical costs.

Rather than chasing market share, plans were scrutinizing their portfolios and dropping unprofitable accounts. Several plans abandoned the Medicare and Medicaid markets. Three plans stopped participating in Medicare+Choice, and others narrowed their service areas, blaming low payment rates and burdensome program requirements. By the time of the site visit, 90 percent of northern New Jersey's 25,000 Medicare+Choice members were enrolled in either Aetna or Horizon Blue Cross Blue Shield, and observers speculated that both might be considering an exit. Aetna also announced it was selling its Medicaid business to AmeriChoice, which would absorb Aetna's 118,000 New Jersey Medicaid enrollees.

State Regulation Expands

The New Jersey Legislature was debating new managed care regulations and adding to the already extensive body of law governing health plans in the state. Policymakers were responding to public frustration with managed care practices, including the utilization management disputes between hospitals and plans that had become increasingly contentious. The regulatory environment in New Jersey was already among the most prescriptive in the nation, and the new proposals signaled that the state was likely to impose additional requirements on health plans.

Public Coverage Expands, but Safety Net Remains Fragile

Public insurance coverage had expanded in New Jersey, but key safety net providers remained on shaky financial ground. The combination of health plan exits from public programs, ongoing hospital financial distress, and growing numbers of uninsured residents created a precarious situation for the safety net. Federally qualified health centers and community clinics were stretched thin, and the state's charity care pool, while recently augmented, fell well short of the level needed to fully offset the costs hospitals incurred serving uninsured patients.

Sources and Further Reading

AHRQ -- Federal health care quality research agency.

Commonwealth Fund -- Research on health care coverage and quality.

Health Affairs -- Peer-reviewed health policy research.

Robert Wood Johnson Foundation -- Health policy research and funding.