North Carolina’s urban hospitals pile up the cash

They are nonprofits in name, but not in practice. How your hospital helps drive up the cost of health care.

jneff@newsobserver.comApril 22, 2012 

  • Cash reserves at local hospitals:

     Duke University Health System: $1.55 billion

     UNC Hospitals: $739 million

     Rex Hospital: $309 million

     WakeMed: $473 million

     Johnston Memorial: $13 million

  • Twenty-five nonprofit hospital executives in North Carolina received total compensation exceeding $1 million in 2010 or 2011. Most of these work outside the Triangle. But Duke paid CEO Victor Dzau $2.2 million in 2010. William Atkinson, CEO of WakeMed, was paid $940,000 the same year, a drop from nearly $1.3 million the year before.

    One huge payout came in 2009. Pitt County Memorial Hospital, now known as Vidant Medical Center, reported total compensation of $8.7 million to former CEO David McRae. McRae, who ran Pitt and seven smaller hospitals, received base pay of $820,000 plus an incentive bonus of $180,000. He also got a $7.7 million payout to a special retirement trust.

    Consultants who advise hospital boards on executive compensation say the figures fall in line with pay at hospital systems of similar size.

    “That is what the market is paying for the talent that we have,” said Paul Wiles, the former Novant CEO.

  • Reporters from The News & Observer and The Charlotte Observer conducted scores of interviews with patients, hospital administrators, health care experts and others.

    They also examined thousands of pages of documents, including lawsuits, financial audits and hospital bills, as well as Medicare cost reports, IRS returns and community benefit reports filed by hospitals.

    Profit figures for Triangle hospital systems come from their audited statements. These statements combine the finances of the hospitals within a system, the doctors’ practice groups and other entities. The systems’ results differ from the results of the individual hospitals.

    Figures used with the map at newsobserver.com for the profit margins of individual hospitals are different. They come from the American Hospital Directory, a service that compiles financial data for thousands of hospitals nationwide. AHD’s profit figures are derived from data in Medicare cost reports, which hospitals are required to file each year with federal health officials.

    Our stories use total profit margins, which include investment income. Some hospital officials objected to the use of total profit margins; a better measure, they argue, is operating margin, which excludes investment income and reflects the profits from patient-care activities.

    Other experts, however, contend the total margin provides more insight into a hospital’s full financial picture. Investment income is meaningful, they say, because the money that hospitals invest comes largely from past profits.

    Both total and operating margins are listed in an online tool that allows readers to look up key information for every North Carolina hospital.

First of five parts

North Carolina’s hospitals are respected community institutions. They save lives, heal the sick, contribute to local charities and provide good jobs.

Most of them are nonprofits. But many of them, especially the big ones, are making a fortune.

During the Great Recession, their profits have stayed strong, and they’ve raised their prices. Top executives enjoy million-dollar compensation packages as they expand, buy expensive technology and build lavish facilities. Their customers buy the services before they know the cost, and they often don’t understand the bills.

And the hospitals enjoy a perk worth millions each year: They pay no income, property or sales taxes.

These institutions were created with charitable missions. But many don’t look or act like nonprofits anymore. In their quest for growth and financial strength, they have driven up the cost of health care and saddled thousands of patients with bills they can’t pay.

In North Carolina’s cities, these hospitals are piling up profits, along with billions of dollars in reserves. An investigation by The News & Observer and The Charlotte Observer found that:

• UNC Hospitals and Duke University Health System recently booked record profits. Duke’s total profit, which includes investment income, rose to a half-billion dollars in 2011, a margin of 20.1 percent.

• They’ve made their money largely from employer-sponsored health insurance, often inflating prices on drugs and procedures – sometimes to three, four or 10 times over costs. North Carolina hospital costs are more than 10 percent higher than the national average for Aetna, said Jarvis Leigh, a network vice president.

• They’ve hiked their fees each year, leaving many patients with crippling debt. Some hospitals have sued thousands of patients, while others have turned to collection agencies to pursue debtors.

• They’ve plowed their profits into expensive buildings and machines and have rewarded executives with generous salaries. Twenty-five executives of public and nonprofit hospitals in North Carolina had total compensation of more than $1 million in 2010 or 2011, the most recent data available.

• They’ve solidified their market power by stashing billions of dollars for future purchases. Duke, for example, has reserves of $1.5 billion. In Charlotte, Carolinas HealthCare System has banked more than $2 billion.

All of this is legal. No laws limit hospital profits, charges or executive pay.

Unlike insurance companies, which are easy to dislike, hospitals are easy to love. They save lives every day, while providing care for people who can’t afford it.

In the national debate over health reform, soaring costs and insurance premiums have drawn attention. But one trend driving costs – the growing market power of hospitals – has gone largely unnoticed.

While growth at Wal-Mart and Target has led to lower prices, the opposite is true for hospitals. They compete by offering ever more sophisticated, high-tech and costly services.

Across the country, hospital systems have become so large and dominant that insurance companies can’t afford to exclude them from the plans they offer to employers. These consolidated systems use their clout to negotiate higher reimbursement for privately insured patients.

“What you’re seeing is increasing market power on the part of the hospitals and increasing leverage in negotiation with the payers,” said Dr. Kevin Schulman, who teaches medicine and business at Duke. “What are they going to do with all the money...? They can’t give it to shareholders.”

Consolidation has contributed to growing hospital bills and insurance premiums. To ease their burden, employers have shifted more of their health care costs to employees, in the form of higher deductibles and co-pays, to the point where a single medical catastrophe can financially devastate even an insured patient.

Hospital officials say they are not overcharging. They must mark up prices for those with private insurance, they say, or lose money from treating patients with Medicare, Medicaid or no insurance.

Junius Davis, a retired UNC Greensboro dean, tussled with UNC Health Care about hospital bills he found inflated and complicated.

“I am beginning to believe that the hospital’s ‘creative accounting’ is too complex for intelligent scrutiny and confirmation,” Davis said. “There are wondrous ways of modifying charges for those who pay or who are insured to guarantee a life in fat city for the administrators and doctors.”


Soaring prices, profits

It has been a good decade for Triangle hospital systems.

Duke University Health System and UNC Health Care, which owns Rex Hospital in Raleigh, have seen profits march higher for the past five years, even during a recession.

Duke, which includes three hospitals, reported an operating profit of $190 million, or 8 percent, in 2011. And that does not include the income generated by its health system’s $1.5 billion investment portfolio. Counting investment income, Duke’s profit soars to $542 million.

A recent audit of UNC Hospitals, the flagship of UNC Health Care, showed a total profit of $133 million, or 12.3 percent.

WakeMed’s system is the exception among major Triangle hospitals, with a 4.3 percent total margin in 2011; its operating margin was 3.4 percent. WakeMed officials point to their large amount of charity care.

The riches are not universal. About a third of North Carolina hospitals – most of them small and rural – reported losing money in 2010. Betsy Johnson Hospital in Lillington had an operating loss of $2.5 million in 2010; Person Memorial Hospital in Roxboro posted a $2 million operating loss.

But North Carolina hospitals are more profitable than most, according to the American Hospital Association. In 2010, the overall total profit margin for state hospitals was 9.3 percent. That was about 2 percentage points more than the national average – and higher than it was a decade earlier, when the economy was stronger.


Revenue exceeds costs

One reason North Carolina’s major hospitals have grown so profitable: Revenue has risen faster than the cost of treating patients – and much faster than inflation.

Duke Hospital, for instance, saw its total patient revenue rise 100 percent from 2000 to 2010. Its costs rose 83 percent. The average revenue from each inpatient there more than doubled over that time, rising at more than three times the rate of inflation.

Blue Cross and Blue Shield of North Carolina, the state’s largest health insurer, says its cost per hospital admission went up nearly 40 percent from 2007 through 2010 – during the continuing economic downturn.

Hospital executives stress that profits are central to their mission of caring for patients.

UNC Health Care aims for a 4- to 4.5-percent operating margin, according to Chris Ellington, the chief financial officer. The hospital needs reserves to weather a recession, capital to buy equipment and funds to attract the best doctors, he said.

“The whole deal is to keep this going concern going to the extent that it is as beautiful as it is right now,” Ellington said.


Roots of the problem

With the 2010 passage of the Affordable Care Act, the Obama administration aims to control health care costs.

Some experts, however, fear the law – under review at the U.S. Supreme Court – could wind up doing the opposite. The law calls for the creation of networks of hospitals, doctors and other medical providers. But that sort of consolidation, studies have shown, almost always leads to higher prices.

With mergers and acquisitions, some hospital systems have become so large and dominant that they can easily raise their prices.

Increasingly, the Triangle is dominated by three expanding hospital systems: Duke, UNC and WakeMed.

Rex Hospital, part of UNC Health Care, saw its revenues go from $470 million in 2008 to $571 million in 2010. This increase, according to its audit, “is primarily the result of increased reimbursement resulting from renegotiated payer contracts.”

William Roper, CEO of UNC Health Care, told the General Assembly that getting larger allows UNC to buy supplies cheaper and sell services higher:

“The value to us of Rex is, it allows us a larger scale and more sophisticated abilities to purchase in bulk, for example, all of the things that hospitals and organizations like us need,” Roper said. “We are able to get a much better master contract with Blue Cross and the other private insurers than we would if we were a smaller, Chapel Hill-only entity.”

Those higher reimbursements push up the cost of health care.

UNC’s expansion has been at the root of tensions with WakeMed, its biggest competitor in Wake County. UNC Health Care bought Rex in 2000, and since then, it has been expanding services.

It now is taking on WakeMed in heart treatment, planning a new $120 million center and luring a major cardiology practice from WakeMed.

The doctors were interested in joining with UNC-Rex, in part, because UNC can guarantee higher reimbursements from insurers than the doctors could get themselves.

Schulman, director of the Fuqua Health Sector Management Program at Duke, said eight hospital systems make up the majority of the market in North Carolina. With that concentration of big systems, insurance companies are pretty much “over a barrel,” he said.

Carolinas HealthCare officials disagree with Schulman.

“I can’t imagine anybody who knows anything about the health care industry saying that any health care provider has BlueCross BlueShield over the barrel,” said Russ Guerin, executive vice president for business development and strategic planning.

Blue Cross dominates North Carolina, with 75 percent of the health insurance market.

But Schulman said increasing negotiating power is a primary reason for hospital mergers.

Other experts agree. Asked why some hospitals charge so much, Gerard Anderson, director of the Johns Hopkins Center for Hospital Finance and Management, said, “Because they can. It’s not any more sophisticated than that.”


Inflated prices

Hospital officials say their systems are profitable because they operate efficiently. But they’ve also pumped up revenues with big markups on drugs and procedures.

Carl King, head of national contracting for Aetna, said insurance companies typically pay 40 percent over cost as hospitals look for a way to make up for losses on Medicare and Medicaid, the government insurance programs for people who are elderly, poor or have disabilities.

Duke and UNC Hospitals raise charges every year: Duke by 6 percent, UNC by 5 percent. WakeMed does not.

Junius Davis questioned the bills he and his wife received last year from UNC Health Care. In June, Davis wrote a column for The Chapel Hill News questioning the $19,215 bill for an outpatient biopsy. (That bill did not include $7,108 in doctor and anesthesia charges.) Medicare paid the bill.

The next day, UNC Health Care spokeswoman Karen McCall called Davis to say the hospital had erred and overcharged by $5,154. McCall said the hospital had classified the procedure as more complicated than it was, leading to higher Medicare reimbursement.

Junius Davis died in January of this year. He was 86.

Other charges are published in advance, if you know where to look. In its 2007 application for a new cancer center, Duke laid out the figures for a typical CT scan. Average charge: $6,208. Average cost: $498. Duke is paid an average of 19.6 percent of its CT charges, or $1,217. That’s a profit of 144 percent.

In 2010, Presbyterian Hospital in Charlotte billed the state nearly $16,000 for use of its cardiac catheterization lab after treating a prison inmate who had been suffering from chest pains. The average cost to the hospital for using its cath lab: about $1,064. The full bill was covered by taxpayers.

Jim Tobalski, a Novant spokesman, said the hospital does not typically collect such large amounts for services. Insurers and government agencies usually pay hospitals much less than full charges.

Such markups trouble – but no longer surprise – Jason Beans, the CEO of Rising Medical Solutions, a Chicago company that examines hospital bills for payers. At the request of the newspapers, Beans’ firm examined bills from various hospitals – and found markups as high as 500 percent.

“Everyone blames the (insurance) carriers,” he said, “but what the hospitals are doing in these situations is egregious.”


Who pays the price?

The soaring hospital prices come at the expense of taxpayers and business owners, patients who have insurance and those who don’t.

Those price hikes have been a primary driver in premium increases, insurers in North Carolina say. That’s a burden on businesses, which are facing record premiums for insuring their employees.

But employers are also passing the cost on to workers, who are paying more for insurance – and often more for deductibles and co-pays.

“John Q. Citizen is who winds up paying for this. Not big bad insurance companies,” said Martin Gaynor, professor of economics and health policy at Carnegie Mellon University. “It’s actually taking money out of everybody’s paycheck.”

Several Triangle hospitals hit upon a way to increase revenue by relabeling a doctor’s office as an outpatient clinic, which gets reimbursed more from Medicare or insurance. Hospitals can charge a facility fee for outpatient services; a doctor’s office cannot.

In April 2010, Tony Auwn, a Cary businessman, paid $50 when he visited his endocrinologist at Duke Health, as he had whenever he saw a doctor at Duke. The endocrinologist recommended that Auwn see a back specialist. Two weeks later, Auwn did, making a $50 co-pay.

Auwn said he was shocked when he received a letter from his insurance company explaining that he owed Duke another $100 for the endocrinologist and $389 for the back specialist, all for facility fees.

“For years, I see the same doctor in the same office for the same 15-minute visit, but all of a sudden I’m charged eight times more,” Auwn said.

According to Auwn, Duke acknowledged many complaints about the shift to higher outpatient fees. Duke denied that the shift was about more revenue and called it a practice common to academic hospitals. Because he complained, Duke reduced the charge to $50 as a one-time goodwill gesture.

“Converting these clinics from private practice to hospital-based gives these providers access to broader health system resources which ultimately improves quality for our patients,” Duke wrote him.

It has also improved the bottom line: According to Duke University’s two most recent audits, the converted doctors’ offices and new primary care clinics increased the number of outpatients by 7 percent in 2009 and 10 percent in 2010.

The dry language common to fiscal audits shrouded the increased revenue from the new fees: “Overall, price and patient care intensity impacted net patient service revenue by $117 million.”

Duke CFO Kenneth Morris acknowledged that the shift to outpatient billing resulted in higher out-of-pocket costs to patients. But the hospital’s expenses rose too, as it started running the clinics.

“It was revenue-neutral for the hospital,” Morris said.

These higher reimbursements are increasing the cost of health care, according to MedPAC, the independent commission that advises Congress on Medicare.

Fees paid for visits to hospital-based practices are often more than 50 percent higher than those paid to free-standing practices, MedPAC noted.

“Physician practices and ambulatory surgical centers are being reorganized as hospital outpatient entities in part to receive higher reimbursements,” according to the March 2011 report.


What hospitals say

Hospital officials point to other factors behind the price increases.

Increasingly, they say, they’re stuck with the expenses from treating patients who don’t pay their bills. North Carolina hospitals reported $631 million in bad debt in 2010, according to the N.C. Hospital Association. That year, the state’s hospitals generated $1.9 billion in total profits, the American Hospital Association reported.

Added to that, hospital officials say, are the burdens of treating Medicare and Medicaid patients. Those programs don’t cover their costs, so they must increase charges to private-pay patients – a practice known as cost shifting.

No one disputes that hospitals are losing money on Medicaid patients and the uninsured. Federal studies, however, have found that efficient hospitals should be able to break even or make a small profit on Medicare patients.

Officials for Duke and UNC say their profits come from operating efficiently, not overcharging. Duke CFO Morris pointed with pride to a cost-containment program that this year will squeeze $140 million in operating costs from Duke’s $2 billion annual budget

Hospital officials say they invest in needed facilities, staff and equipment, often without regard for profit. Unlike for-profit businesses, nonprofit hospitals don’t pay dividends to stockholders. Instead, they reinvest profits in their organizations.

What’s more, they say, it may help them weather the financial storm they see brewing.

Under health care reform, the federal government plans to cut Medicare reimbursement to hospitals and transfer more responsibility for Medicaid to the states. The states, in turn, will likely push costs to counties and hospitals.

Hospital leaders say they “need the margin to meet the mission.”

But at some systems, Duke’s Schulman said, the high profits lead to excessive spending.

“They have more margin than meets the mission,” he said. “It leads the managers of the hospitals to build an ever more expensive delivery system.

“They want to be more and more attractive to the private payers. That’s why they want marble lobbies. I joke with my students that when you go to Europe, you visit cathedrals. When you come to the United States, you visit hospitals.”

Duke recently opened its new $235 million cancer center, which features a soaring atrium, artwork to conceal oxygen hookups and waiting rooms that rival lobbies at four-star hotels. It also features a “quiet room” with mood lighting and sounds that visitors can program themselves.


Where the money goes

Hospital officials say some factors involved in rising prices – such as the high cost of pharmaceuticals and technology and the aging population – are beyond their control.

North Carolina’s hospitals are investing billions in life-saving staff and technology. But they’re also buying things that may not improve outcomes for patients, experts say.

Recent studies say that nearly 30 percent of U.S. medical spending is wasted on unnecessary tests and procedures.

That’s partly why nine medical specialty groups this month listed 45 tests and procedures that patients often don’t need, even though doctors routinely order them. They include repeat colonoscopies within 10 years of a first one, CT scans for low back pain, heart imaging stress tests for patients without coronary symptoms, and chest X-rays before surgery.

Another example: About 15 percent of cardiac stenting or angioplasty was found to be unnecessary or of dubious medical benefit in a 2011 study of 500,000 patients who had the procedures.

“We basically don’t see any improvement in patient outcomes from the last 5 to 10 percent of spending by hospitals,” said Anderson, the hospital finance expert from Johns Hopkins. “There’s a lot of unnecessary spending.”

“It’s a competition based on the newest, fanciest, best. The American public doesn’t know if it’s better or not. But it sounds better.”

Database editor David Raynor contributed to this report.

To read other stories in our "Prognosis: Profits" series, click here.

Neff: 919-829-4516

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