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Specialty Hospital Building Boom Threatens General Hospitals

Competition Heats Up For Profitable Cardiac and Orthopedic Services

News Release
April 15, 2003

Alwyn Cassil: (202) 264-3484

ASHINGTON, D.C.—General hospitals fear a rise in physician-owned specialty hospitals will siphon off the most profitable patients, leaving them with the sickest, costliest patients, according to a study released today by the HSC.

Advocates contend specialty hospitals can improve quality and reduce costs by increasing productivity through a "focused-factory" approach where physicians perform a high volume of a narrow range of procedures. But skeptics worry specialty hospitals and their physician investors will "cream skim" the most profitable patients away from general hospitals, cutting into bottom lines and threatening the cross-subsidization of unprofitable services such as emergency care and other essential services.

"The specialty hospital building boom and intense competition for profitable cardiac and orthopedic services are signs that we’re paying too much for these procedures and perhaps not paying enough for other services," said Paul B. Ginsburg, Ph.D., a co-author of the study and president of HSC, a nonpartisan policy research organization funded exclusively by The Robert Wood Johnson Foundation.

"Government and private payers may inadvertently be sending the wrong signals to the marketplace and encouraging excess capacity for these high-profit services at the expense of less profitable services such as emergency care," Ginsburg said.

In theory, using a focused-factory approach in health care can potentially improve quality, increase productivity and lower costs, but if the payment system is distorted, specialty hospitals can prosper financially without achieving the goals of higher quality and increased productivity.

While the United States has a long history of certain types of specialty hospitals, including children’s and rehabilitation hospitals, stand-alone heart and orthopedic hospitals are relatively new and growing rapidly. While no comprehensive national data exists about the number of heart and orthopedic specialty hospitals, 11 specialty hospitals have emerged since 1997 in the 12 local markets tracked intensively by HSC researchers. Other sources estimate that 50 to 100 specialty hospitals are operating across the country, with more on the way.

"The concern is when more hospitals compete for the same or lower volume of services, quality may decline and costs may increase because each hospital has less volume and excess capacity is rarely eliminated," said HSC Researcher Kelly Devers, Ph.D., the study’s lead author. "When there’s excess capacity, more procedures may be performed, whether they need to be or not."

According to the study, three factors appear to be driving the specialty hospital boom:

  • Private and government insurers may be paying too much for certain cardiac and orthopedic services, while underpaying for other services, prompting investment in specialty hospitals focusing only on profitable services.
  • Physicians’ desire for more control over their working conditions, including staffing levels, scheduling and equipment purchases.
  • Physicians’ desire to increase their income by generating more professional fees through increased productivity and capturing a portion of facility profits if they are owners.

The study’s findings are detailed in an HSC Issue Brief—Specialty Hospitals: Focused Factories or Cream Skimmers?—is available here. The study was released at an HSC conference today featuring public and private sector experts on the issue, and a conference transcript will be available soon on the HSC Web site.

General hospitals have responded to the competitive threat posed by specialty hospitals in a variety of ways, including:

  • Building their own specialty facilities to maintain revenue from profitable services and retain physicians who otherwise might leave to develop a competing specialty hospital. By offering physicians some of the advantages of a freestanding facility, such as improved scheduling and staffing, these hospitals hope to deter physicians from creating competing facilities.
  • Forming joint ventures with local physicians to build a specialty hospital, which lets the general hospital retain a portion of the revenue that otherwise might be lost, while allowing the physicians to invest in the venture.
  • Denying admitting privileges to physicians who have a financial interest in a competing facility. Called "economic credentialing," this practice has sparked lawsuits, with some courts upholding hospital actions to restrict physician privileges.

The rapid rise of specialty hospitals has put the issue on state and federal policy makers’ radar screens. Existing federal law limits physicians’ ability to refer Medicare and Medicaid patients to health care facilities, such as clinical laboratories, in which they have a financial interest, but the law exempts physician investment in whole hospitals. Recently introduced federal legislation would continue to allow physicians to refer patients to a hospital in which they have an ownership interest, but only if the interest was purchased on terms also available to the general public.

Along with limiting the exemption in federal physician self-referral law and revising Medicare payment formulas, proposals include: requiring specialty hospitals to accept Medicaid and indigent patients; requiring the same quality and patient-safety standards for specialty and general hospitals; requiring specialty hospitals to have full-service emergency departments; and enacting certificate-of-need laws aimed at curbing excess capacity.

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The Center for Studying Health System Change is a nonpartisan policy research organization committed to providing objective and timely insights on the nation’s changing health system to help inform policy makers and contribute to better health care policy. HSC, based in Washington, D.C., is funded exclusively by The Robert Wood Johnson Foundation and is affiliated with Mathematica Policy Research, Inc.


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