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Category Archives: Operating Margin
Downgrades Topple Upgrades: 5 Key Takeaways from Rating Activity in 2023
As expected, 2023 saw a material increase in downgrades over 2022 while the number of upgrades declined from the prior year. Volume showed favorable growth for many hospitals during 2023 although some indicators remained below pre-pandemic levels. Other hospitals reported a payer mix shift toward more Medicare as the population continued to age and Medicare Advantage plans gained momentum at the expense of commercial revenues. Continued labor challenges drove expense growth, even with many organizations reporting a reduction in temporary labor, as permanent hires pressured salary and benefit expenses. Some of the downgrades reflected pronounced operating challenges that led to covenant violations while others were due to a material increase in leverage viewed to be too high for the rating category.
Figure1: Downgrades at Moody’s, S&P, and Fitch
Here are five key takeaways:
- The ratio of downgrades to upgrades reached a high level for all three rating agencies: Moody’s, 3.2-to-1; S&P: 3.8-to-1; and Fitch: 3.5-to-1. In 2022, the ratio crested just above 2.0-to-1 at the highest among the three firms.
- Downgrades covered a wide swath of hospitals, ranging from single-site general acute care facilities to academic medical centers as well as large regional and multistate systems. Many of the hospital downgrades were concentrated in New York, Pennsylvania, Ohio, and Washington. All rating categories saw downgrades, although the majority were clustered in the Baa/BBB and lower categories.
- Multi-notch downgrades were mainly relegated to ratings that were already deep into speculative grade. Multi-notch upgrades were due to mergers or acquisitions where the debt was guaranteed by or added to the legal borrowing group of the higher rated system.
- Upgrades reflected fundamental improvement in financial performance and debt service coverage along with strengthening balance sheet indicators. Like the downgraded organizations, upgraded hospitals and health systems ranged from single-site hospitals to expansive, super-regional systems. Some of the upgrades reflected mergers into higher-rated systems.
- The wide span between downgrades to upgrades in 2023 would suggest that the credit gap between highly rated hospitals (say, the “A” or “Aa/AA” category) compared to “Baa/BBB” and speculative grade is widening. That said, given that rating affirmations remain the predominant rating activity annually, the rating agencies reported only a subtle shift in the overall distribution of ratings since the beginning of the pandemic in their panel discussion at Kaufman Hall’s October 2023 Healthcare Leadership Conference.
One person’s prediction for 2024?
It’s a safe bet that downgrades will outpace upgrades given the persistent challenges, although the ratio may narrow if the improvement in current performance holds. That said, the rating agencies are maintaining mixed views for 2024. S&P and Fitch are sticking with negative and deteriorating outlooks, respectively, while Moody’s has revised its outlook to stable, anticipating that the rough times of 2022 are behind us.
All three rating agencies predict that we are not out of the woods yet when it comes to covenant challenges, especially in the lower rating categories or for those organizations that report a second year of covenant violations.
JPM 2024 just wrapped. Here are the key insights
Earlier this month, leaders from more than 400 organizations descended on San Francisco for J.P. Morgan‘s 42nd annual healthcare conference to discuss some of the biggest issues in healthcare today. Here’s how Advisory Board experts are thinking about Modern Healthcare’s 10 biggest takeaways — and our top resources for each insight.
How we’re thinking about the top 10 takeaways from JPM’s annual healthcare conference
Following the conference, Modern Healthcare provided a breakdown of the top-of-mind issues attendees discussed.
Here’s how our experts are thinking about the top 10 takeaways from the conference — and the resources they recommend for each insight.
1. Ambulatory care provides a growth opportunity for some health systems
By Elizabeth Orr, Vidal Seegobin, and Paul Trigonoplos
At the conference, many health system leaders said they are evaluating growth opportunities for outpatient services.
However, results from our Strategic Planner’s Survey suggest only the biggest systems are investing in building new ambulatory facilities. That data, alongside the high cost of borrowing and the trifurcation of credit that Fitch is predicting, suggests that only a select group of health systems are currently poised to leverage ambulatory care as a growth opportunity.
Systems with limited capital will be well served by considering other ways to reach patients outside the hospital through virtual care, a better digital front door, and partnerships. The efficiency of outpatient operations and how they connect through the care continuum will affect the ROI on ambulatory investments. Buying or building ambulatory facilities does not guarantee dramatic revenue growth, and gaining ambulatory market share does not always yield improved margins.
While physician groups, together with management service organizations, are very good at optimizing care environments to generate margins (and thereby profit), most health systems use ambulatory surgery center development as a defensive market share tactic to keep patients within their system.
This approach leaves margins on the table and doesn’t solve the growth problem in the long term. Each of these ambulatory investments would do well to be evaluated on both their individual profitability and share of wallet.
On January 24 and 25, Advisory Board will convene experts from across the healthcare ecosystem to inventory the predominant growth strategies pursued by major players, explore considerations for specialty care and ambulatory network development, understand volume and site-of-care shifts, and more. Register here to join us for the Redefining Growth Virtual Summit.
Also, check out our resources to help you plan for shifts in patient utilization:
2. Rebounding patient volumes further strain capacity
By Jordan Peterson, Eliza Dailey, and Allyson Paiewonsky
Many health system leaders noted that both inpatient and outpatient volumes have surpassed pre-pandemic levels, placing further strain on workforces.
The rebound in patient volumes, coupled with an overstretched workforce, underscores the need to invest in technology to extend clinician reach, while at the same time doubling down on operational efficiency to help with things like patient access and scheduling.
For leaders looking to leverage technology and boost operational efficiency, we have a number of resources that can help:
- How technology can help solve the workforce crisis
- How AI and automation can help clinicians practice at top-of-license
- Redesigning the Care Team Holistically
- Primary Care Team Task Allocation Guide
- Resources to expand ambulatory access
3. Health systems aren’t specific on AI strategies
By Paul Trigonoplos and John League
According to Modern Healthcare, nearly all health systems discussed artificial intelligence (AI) at the conference, but few offered detailed implementation plans and expectations.
Over the past year, a big part of the work for Advisory Board’s digital health and health systems research teams has been to help members reframe the fear of missing out (FOMO) that many care delivery organizations have about AI.
We think AI can and will solve problems in healthcare. Every organization should at least be observing AI innovations. But we don’t believe that “the lack of detail on healthcare AI applications may signal that health systems aren’t ready to embrace the relatively untested and unregulated technology,” as Modern Healthcare reported.
The real challenge for many care delivery organizations is dealing with the pace of change — not readiness to embrace or accept it. They aren’t used to having to react to anything as fast-moving as AI’s recent evolution. If their focus for now is on low-hanging fruit, that’s completely understandable. It’s also much more important for these organizations to spend time now linking AI to their strategic goals and building out their governance structures than it is to be first in line with new applications.
Check out our top resources for health systems working to implement AI:
- The board’s guide to 5 AI challenges
- 3 insights on AI governance, according to health system leaders
- Your playbook for developing an AI governance strategy
4. Digital health companies tout AI capabilities
By Ty Aderhold and John League
Digital health companies like Teladoc, R1 RCM, Veradigm, and Talkspace all spoke out about their use of generative AI.
This does not surprise us at all. In fact, we would be more surprised if digital health companies were not touting their AI capabilities. Generative AI’s flexibility and ease of use make it an accessible addition to nearly any technology solution.
However, that alone does not necessarily make the solution more valuable or useful. In fact, many organizations would do well to consider how they want to apply new AI solutions and compare those solutions to the ones that they would have used in October 2022 — before ChatGPT’s newest incarnation was unveiled. It may be that other forms of AI, predictive analytics, or robotic process automation are as effective at a better cost.
Again, we believe that AI can and will solve problems in healthcare. We just don’t think it will solve every problem in healthcare, or that every solution benefits from its inclusion.
Check out our top resources on generative AI:
- Cheat sheet: Generative artificial intelligence
- Exploring the potential of generative AI in healthcare
5. Health systems speak out on denials
By Mallory Kirby
During the conference, providers criticized insurers for the rate of denials, Modern Healthcare reports.
Denials — along with other utilization management techniques like prior authorization — continue to build tension between payers and providers, with payers emphasizing their importance for ensuring cost effective, appropriate care and providers overwhelmed by both the administrative burden and the impact of denials on their finances.
Many health plans have announced major moves to reduce prior authorizations and CMS recently announced plans to move forward with regulations to streamline the prior authorization process. However, these efforts haven’t significantly impacted providers yet.
In fact, most providers report no decrease in denials or overall administrative burden. A new report found that claims denials increased by 11.99% in the first three quarters of 2023, following similar double digit increases in 2021 and 2022.
Our team is actively researching the root cause of this discrepancy and reasons for the noted increase in denials. Stay tuned for more on improving denials performance — and the broader payer-provider relationship — in upcoming 2024 Advisory Board research.
For now, check out this case study to see how Baptist Health achieved a 0.65% denial write-off rate.
6. Insurers are prioritizing Star Ratings and risk adjustment changes
By Mallory Kirby
Various insurers and providers spoke about “the fallout from star ratings and risk adjustment changes.”
2023 presented organizations focused on MA with significant headwinds. While many insurers prioritized MA growth in recent years, leaders have increased their emphasis on quality and operational excellence to ensure financial sustainability.
With an eye on these headwinds, it makes sense that insurers are upping their game to manage Star Ratings and risk adjustment. While MA growth felt like the priority in years past, this focus on operational excellence to ensure financial sustainability has become a priority.
We’ve already seen litigation from health plans contesting the regulatory changes that impact the bottom line for many MA plans. But with more changes on the horizon — including the introduction of the Health Equity Index as a reward factor for Stars and phasing in of the new Risk Adjustment Data Validation model — plans must prioritize long-term sustainability.
Check out our latest MA research for strategies on MA coding accuracy and Star Ratings:
7. PBMs brace for policy changes
By Chloe Bakst and Rachael Peroutky
Pharmacy benefit manager (PBM) leaders discussed the ways they are preparing for potential congressional action, including “updating their pricing models and diversifying their revenue streams.”
Healthcare leaders should be prepared for Congress to move forward with PBM regulation in 2024. A final bill will likely include federal reporting requirements, spread pricing bans, and preferred pricing restrictions for PBMs with their own specialty pharmacy. In the short term, these regulations will likely apply to Medicare and Medicaid population benefits only, and not the commercial market.
Congress isn’t the only entity calling for change. Several states passed bills in the last year targeting PBM transparency and pricing structures. The Federal Trade Commission‘s ongoing investigation into select PBMs looks at some of the same practices Congress aims to regulate. PBM commercial clients are also applying pressure. In 2023, Blue Cross Blue Shield of California‘s (BSC) decided to outsource tasks historically performed by their PBM partner. A statement from BSC indicated the change was in part due to a desire for less complexity and more transparency.
Here’s what this means for PBMs:
Transparency is a must
The level of scrutiny on transparency will force the hand of PBMs. They will have to comply with federal and state policy change and likely give something to their commercial partners to stay competitive. We’re already seeing this unfold across some of the largest PBMs. Recently, CVS Caremarkand Express Scripts launched transparent reimbursement and pricing models for participating in-network pharmacies and plan sponsors.
While transparency requirements will be a headache for larger PBMs, they might be a real threat to smaller companies. Some small PBMs highlight transparency as their main value add. As the larger PBMs focus more on transparency, smaller PBMs who rely on transparent offerings to differentiate themselves in a crowded market may lose their main competitive edge.
PBMs will have to try new strategies to boost revenue
PBM practice of guiding prescriptions to their own specialty pharmacy or those providing more competitive pricing is a key strategy for revenue. Stricter regulations on spread pricing and patient steerage will prompt PBMs to look for additional revenue levers.
PBMs are already getting started — with Express Scripts reporting they will cut reimbursement for wholesale brand name drugs by about 10% in 2024. Other PBMs are trying to diversify their business opportunities. For example, CVS Caremark’s has offered a new TrueCost model to their clients for an additional fee. The model determines drug prices based on the net cost of drugs and clearly defined fee structures. We’re also watching growing interest in cross-benefit utilization management programs for specialty drugs. These offerings look across both medical and pharmacy benefits to ensure that the most cost-effective drug is prescribed for patients.
Check out some of our top resources on PBMs:
- To get a quick refresher on what PBMs are and the role they play in the pharmaceutical market, check out: Pharmacy benefit managers, explained.
- To explore strategies PBMs have used in the past to pursue growth, check out: 5 PBM strategies to watch.
- To understand how PBMs are adapting their specialty pharmacy strategy, check out: What the next 10 years hold for specialty pharmacy — and 3 ways to succeed.
To learn more about some of the recent industry disruptions, check out:
- BSC shook up their PBM strategy. What does this mean for the industry?
- Disruptor or distraction? What you need to know about cash-pay pharmacies.
8. Healthcare disruptors forge on
By John League
At the conference, retailers such as CVS, Walgreens, and Amazon doubled down on their healthcare services strategies.
Typically, disruptors do not get into care delivery because they think it will be easy. Disruptors get into care delivery because they look at what is currently available and it looks so hard — hard to access, hard to understand, and hard to pay for.
Many established players still view so-called disruptors as problematic, but we believe that most tech companies that move into healthcare are doing what they usually do — they look at incumbent approaches that make it hard for customers and stakeholders to access, understand, and pay for care, and see opportunities to use technology and innovative business models in an attempt to target these pain points.
CVS, Walgreens, and Amazon are pursuing strategies that are intended to make it more convenient for specific populations to get care. If those efforts aren’t clearly profitable, that does not mean that they will fail or that they won’t pressure legacy players to make changes to their own strategies. Other organizations don’t have to copy these disruptors (which is good because most can’t), but they must acknowledge why patient-consumers are attracted to these offerings.
For more information on how disruptors are impacting healthcare, check out these resources:
- Three potential Amazon One Medical growth strategies
- Why Amazon’s One Medical and health systems need each other
- Big tech isn’t the disruptor it’s made out to be
9. Financial pressures remain for many health systems
By Vidal Seegobin and Marisa Nives
Health systems are recovering from the worst financial year in recent history. While most large health systems presenting at the conference saw their finances improve in 2023, labor challenges and reimbursement pressures remain.
We would be remiss to say that hospitals aren’t working hard to improve their finances. In fact, operating margins in November 2023 broke 2%. But margins below 3% remain a challenge for long-term financial sustainability.
One of the more concerning trends is that margin growth is not tracking with a large rebound in volumes. There are number of culprits: elevated cost structures, increased patient complexity, and a reimbursement structure shifting towards government payers.
For many systems, this means they need to return to mastering the basics: Managing costs, workforce retention, and improving quality of care. While these efforts will help bridge the margin gap, the decoupling of volumes and margins means that growth for health systems can’t center on simply getting bigger to expand volumes.
Maximizing efficiency, improving access, and bending the cost curve will be the main pillars for growth and sustainability in 2024.
To learn more about what health system strategists are prioritizing in 2024, read our recent survey findings.
Also, check out our resources on external partnerships and cost-saving strategies:
- The hospital leader’s guide to 5 types of vendors and partners
- 20 ways health systems can control costs
10. MA utilization is still high
By Max Hakanson and Mallory Kirby
During the conference, MA insurers reported seeing a spike in utilization driven by increased doctor’s visits and elective surgeries.
These increased medical expenses are putting more pressure on MA insurers’ margins, which are already facing headwinds due to CMS changes in MA risk-adjustment and Star Ratings calculations.
However, this increased utilization isn’t all bad news for insurers. Part of the increased utilization among seniors can be attributed to more preventive care, such as an uptick in RSV vaccinations.
In UnitedHealth Group‘s* Q4 earnings call, CFO John Rex noted that, “Interest in getting the shot, especially among the senior population, got some people into the doctor’s office when they hadn’t visited in a while,” which led to primary care physicians addressing other care needs. As seniors are referred to specialty care to address these needs, plans need to have strategies in place to better manage their specialist spend.
To learn how organizations are bringing better value to specialist care in MA, check out our market insight on three strategies to align specialists to value in MA. (Kacik et al., Modern Healthcare, 1/12)
*Advisory Board is a subsidiary of UnitedHealth Group. All Advisory Board research, expert perspectives, and recommendations remain independent.
What to expect in US healthcare in 2024 and beyond
A new perspective on how technology, transformation efforts, and other changes have affected payers, health systems, healthcare services and technology, and pharmacy services.
The acute strain from labor shortages, inflation, and endemic COVID-19 on the healthcare industry’s financial health in 2022 is easing. Much of the improvement is the result of transformation efforts undertaken over the last year or two by healthcare delivery players, with healthcare payers acting more recently. Even so, health-system margins are lagging behind their financial performance relative to prepandemic levels. Skilled nursing and long-term-care profit pools continue to weaken. Eligibility redeterminations in a strong employment economy have hurt payers’ financial performance in the Medicaid segment. But Medicare Advantage and individual segment economics have held up well for payers.
As we look to 2027, the growth of the managed care duals population (individuals who qualify for both Medicaid and Medicare) presents one of the most substantial opportunities for payers. On the healthcare delivery side, financial performance will continue to rebound as transformation efforts, M&A, and revenue diversification bear fruit. Powered by adoption of technology, healthcare services and technology (HST) businesses, particularly those that offer measurable near-term improvements for their customers, will continue to grow, as will pharmacy services players, especially those with a focus on specialty pharmacy.
Below, we provide a perspective on how these changes have affected payers, health systems, healthcare services and technology, and pharmacy services, and what to expect in 2024 and beyond.
The fastest growth in healthcare may occur in several segments
We estimate that healthcare profit pools will grow at a 7 percent CAGR, from $583 billion in 2022 to $819 billion in 2027. Profit pools continued under pressure in 2023 due to high inflation rates and labor shortages; however, we expect a recovery beginning in 2024, spurred by margin and cost optimization and reimbursement-rate increases.
Several segments can expect higher growth in profit pools:
- Within payer, Medicare Advantage, spurred by the rapid increase in the duals population; the group business, due to recovery of margins post-COVID-19 pandemic; and individual
- Within health systems, outpatient care settings such as physician offices and ambulatory surgery centers, driven by site-of-care shifts
- Within HST, the software and platforms businesses (for example, patient engagement and clinical decision support)
- Within pharmacy services, with specialty pharmacy continuing to experience rapid growth
On the other hand, some segments will continue to see slow growth, including general acute care and post-acute care within health systems, and Medicaid within payers (Exhibit 1).
Several factors will likely influence shifts in profit pools. Two of these are:
Change in payer mix. Enrollment in Medicare Advantage, and particularly the duals population, will continue to grow. Medicare Advantage enrollment has grown historically by 9 percent annually from 2019 to 2022; however, we estimate the growth rate will reduce to 5 percent annually from 2022 to 2027, in line with the latest Centers for Medicare & Medicaid Services (CMS) enrollment data.1 Finally, the duals population enrolled in managed care is estimated to grow at more than a 9 percent CAGR from 2022 through 2027.
We also estimate commercial segment profit pools to rebound as EBITDA margins likely return to historical averages by 2027. Growth is likely to be partially offset by enrollment changes in the segment, prompted by a shift from fully insured to self-insured businesses that could accelerate as employers seek to cut costs if the economy slows. Individual segment profit pools are estimated to expand at a 27 percent CAGR from 2022 to 2027 as enrollment rises, propelled by enhanced subsidies, Medicaid redeterminations, and other potential favorable factors (for example, employer conversions through the Individual Coverage Health Reimbursement Arrangement offered by the Affordable Care Act); EBITDA margins are estimated to improve from 2 percent in 2022 to 5 to 7 percent in 2027. On the other hand, Medicaid enrollment could decline by about ten million lives over the next five years based on our estimates, given recent legislation allowing states to begin eligibility redeterminations (which were paused during the federal public health emergency declared at the start of the COVID-19 pandemic2).
Accelerating value-based care (VBC). Based on our estimates, 90 million lives will be in VBC models by 2027, from 43 million in 2022. This expansion will be fueled by an increase in commercial VBC adoption, greater penetration of Medicare Advantage, and the Medicare Shared Savings Program (MSSP) model in Medicare fee-for-service. Also, substantial growth is expected in the specialty VBC model, where penetration in areas like orthopedics and nephrology could more than double in the next five years.
VBC models are undergoing changes as CMS updates its risk adjustment methodology and as models continue to expand beyond primary care to other specialties (for example, nephrology, oncology, and orthopedics). We expect established models that offer improvements in cost and quality to continue to thrive. The transformation of VBC business models in response to pressures from the current changes could likely deliver outsized improvement in cost and quality outcomes. The penetration of VBC business models is likely to lead to shifts in health delivery profit pools, from acute-care settings to other sites of care such as ambulatory surgical centers, physician offices, and home settings.
Payers: Government segments are expected to be 65 percent larger than commercial segments by 2027
In 2022, overall payer profit pools were $60 billion. Looking ahead, we estimate EBITDA to grow to $78 billion by 2027, a 5 percent CAGR, as the market recovers and approaches historical trends. Drivers are likely to be margin recovery of the commercial segment, inflation-driven incremental premium rate rises, and increased participation in managed care by the duals population. This is likely to be partially offset by margin compression in Medicare Advantage due to regulatory pressures (for example, risk adjustment, decline in the Stars bonus, and technical updates) and membership decline in Medicaid resulting from the expiration of the public health emergency.
We estimate increased labor costs and administrative expenses to reduce payer EBITDA by about 60 basis points in 2023. In addition, health systems are likely to push for reimbursement rate increases (up to about 350 to 400 basis-point incremental rate increases from 2023 to 2027 for the commercial segment and about 200 to 250 basis points for the government segment), according to McKinsey analysis and interviews with external experts.3
Our estimates also suggest that the mix of payer profit pools is likely to shift further toward the government segment (Exhibit 2). Overall, the profit pools for this segment are estimated to be about 65 percent greater than the commercial segment by 2027 ($36 billion compared with $21 billion). This shift would be a result of increasing Medicare Advantage penetration, estimated to reach 52 percent in 2027, and likely continued growth in the duals segment, expanding EBITDA from $7 billion in 2022 to $12 billion in 2027.
Profit pools for the commercial segment declined from $18 billion in 2019 to $15 billion in 2022. We now estimate the commercial segment’s EBITDA margins to regain historical levels by 2027, and profit pools to reach $21 billion, growing at a 7 percent CAGR from 2022 to 2027. Within this segment, a shift from fully insured to self-insured businesses could accelerate in the event of an economic slowdown, which prompts employers to pay greater attention to costs. The fully insured group enrollment could drop from 50 million in 2022 to 46 million in 2027, while the self-insured segment could increase from 108 million to 113 million during the same period.
Health systems: Transformation efforts help accelerate EBITDA recovery
In 2023, health-system profit pools continued to face substantial pressure due to inflation and labor shortages. Estimated growth was less than 5 percent from 2022 to 2023, remaining below prepandemic levels. Health systems have undertaken major transformation and cost containment efforts, particularly within the labor force, helping EBITDA margins recover by up to 100 basis points; some of this recovery was also volume-driven.
Looking ahead, we estimate an 11 percent CAGR from 2023 to 2027, or total EBITDA of $366 billion by 2027 (Exhibit 3). This reflects a rebound from below the long-term historical average in 2023, spurred by transformation efforts and potentially higher reimbursement rates. We anticipate that health systems will likely seek reimbursement increases in the high single digits or higher upon contract renewals (or more than 300 basis points above previous levels) in response to cost inflation in recent years.
Measures to tackle rising costs include improving labor productivity and the application of technological innovation across both administration and care delivery workflows (for example, further process standardization and outsourcing, increased use of digital care, and early adoption of AI within administrative workflows such as revenue cycle management). Despite these measures, 2027 industry EBITDA margins are estimated to be 50 to 100 basis points lower than in 2019, unless there is material acceleration in performance transformation efforts.
There are some meaningful exceptions to this overall outlook for health systems. Although post-acute-care profit pools could be severely affected by labor shortages (particularly nurses), other sites of care might grow (for example, non-acute and outpatient sites such as physician offices and ambulatory surgery centers). We expect accelerated adoption of VBC to drive growth.
HST profit pools will grow in technology-based segments
HST is estimated to be the fastest-growing sector in healthcare. In 2021, we estimated HST profit pools to be $51 billion. In 2022, according to our estimates, the HST profit pool shrank to $49 billion, reflecting a contracting market, wage inflation pressure, and the drag of fixed-technology investment that had not yet fulfilled its potential. Looking ahead, we estimate a 12 percent CAGR in 2022–27 due to the long-term underlying growth trend and rebound from the pandemic-related decline (Exhibit 4). With the continuing technology adoption in healthcare, the greatest acceleration is likely to happen in software and platforms as well as data and analytics, with 15 percent and 22 percent CAGRs, respectively.
In 2023, we observed an initial recovery in the HST market, supported by lower HST wage pressure and continued adoption of technology by payers and health systems searching for ways to become more efficient (for example, through automation and outsourcing).
Three factors account for the anticipated recovery and growth in HST. First, we expect continued demand from payers and health systems searching to improve efficiency, address labor challenges, and implement new technologies (for example, generative AI). Second, payers and health systems are likely to accept vendor price increases for solutions delivering measurable improvements. Third, we expect HST companies to make operational changes that will improve HST efficiency through better technology deployment and automation across services.
Pharmacy services will continue to grow
The pharmacy market has undergone major changes in recent years, including the impact of the COVID-19 pandemic, the establishment of partnerships across the value chain, and an evolving regulatory environment. Total pharmacy dispensing revenue continues to increase, growing by 9 percent to $550 billion in 2022,4 with projections of a 5 percent CAGR, reaching $700 billion in 2027.5 Specialty pharmacy is one of the fastest growing subsegments within pharmacy services and accounts for 40 percent of prescription revenue6; this subsegment is expected to reach nearly 50 percent of prescription revenue in 2027 (Exhibit 5). We attribute its 8 percent CAGR in revenue growth to increases in utilization and pricing as well as the continued expansion of pipeline therapies (for example, cell and gene therapies and oncology and rare disease therapies) and expect that the revenue growth will be partially offset by reimbursement pressures, specialty generics, and increased adoption of biosimilars. Specialty pharmacy dispensers are also facing an evolving landscape with increased manufacturer contract pharmacy pressures related to the 340B Drug Pricing Program. With restrictions related to size and location of contract pharmacies that covered entities can use, the specialty pharmacy subsegment has seen accelerated investment in hospital-owned pharmacies.
Retail and mail pharmacies continue to face margin pressure and a contraction of profit pools due to reimbursement pressure, labor shortages, inflation, and a plateauing of generic dispensing rates.7 Many chains have recently announced8 efforts to rationalize store footprints while continuing to augment additional services, including the provision of healthcare services.
Over the past year, there has also been increased attention to broad-population drugs such as GLP-1s (indicated for diabetes and obesity). The number of patients meeting clinical eligibility criteria for these drugs is among the largest of any new drug class in the past 20 to 30 years. The increased focus on these drugs has amplified conversations about care and coverage decisions, including considerations around demonstrated adherence to therapy, utilization management measures, and prescriber access points (for example, digital and telehealth services). As we look ahead, patient affordability, cost containment, and predictability of spending will likely remain key themes in the sector. The Inflation Reduction Act is poised to change the Medicare prescription Part D benefit, with a focus on reducing beneficiary out-of-pocket spending, negotiating prices for select drugs, and incentivizing better management of high-cost drugs. These changes, coupled with increased attention to broad-population drugs and the potential of high-cost therapies (such as cell and gene therapies), have set the stage for a shift in care and financing models.
The US healthcare industry faced demanding conditions in 2023, including continuing high inflation rates, labor shortages, and endemic COVID-19. However, the industry has adapted. We expect accelerated improvement efforts to help the industry address its challenges in 2024 and beyond, leading to an eventual return to historical-average profit margins.
1 hospital operator among Bloomberg’s ‘Companies to Watch’
HCA Healthcare is the single hospital operator that Bloomberg identifies as one of “50 Companies to Watch in 2024.”
“From Alphabet and BYD to Eli Lilly and Vivendi, keep an eye on these global stocks this year,” the outlet proposes for the 50 companies out of the 2,000 firms assessed. Bloomberg analysts highlighted the companies as those warranting a closer look, based on “contrarian views and upcoming catalysts for change such as new leadership, asset sales or acquisitions, and plans for new products and services.”
With 182 hospitals and more than 37,000 hospital beds, Bloomberg analyst Glen Losev said HCA “faces cost and revenue challenges that point to a reduction in its operating margin. Wages are increasing, especially for nurses, as are non-labor costs because of general inflation. And fewer physician visits indicate softening demand for care in areas such as elective surgeries.”
HCA is tied to an estimated 5% increase to its revenue in 2024 with a market cap of $72 billion.
The company posted $47.66 billion in revenue for the first nine months of 2023 compared to $44.73 billion in the same period of 2022. Its fourth quarter earnings are due later this month.
Other healthcare companies recognized by Bloomberg as worth watching are Novo Nordisk, BeiGene, Boston Scientific and Eli Lilly. Weight loss drug possibilities drive potential for Novo Nordisk and Eli Lilly, with estimated revenue increases of 22% and 16%, respectively.
6 priorities for health system strategists in 2024
Health systems are recovering from the worst financial year in recent history. We surveyed strategic planners to find out their top priorities for 2024 and where they are focusing their energy to achieve growth and sustainability. Read on to explore the top six findings from this year’s survey.
Research questions
With this survey, we sought the answers to five key questions:
- How do health system margins, volumes, capital spending, and FTEs compare to 2022 levels?
- How will rebounding demand impact financial performance?
- How will strategic priorities change in 2024?
- How will capital spending priorities change next year?
Bigger is Better for Financial Recovery
What did we find?
Hospitals are beginning to recover from the lowest financial points of 2022, where they experienced persistently negative operating margins. In 2023, the majority of respondents to our survey expected positive changes in operating margins, total margins, and capital spending. However, less than half of the sample expected increases in full-time employee (FTE) count. Even as many organizations reported progress in 2023, challenges to workforce recovery persisted.
40%
Of respondents are experiencing margins below 2022 levels
Importantly, the sample was relatively split between those who are improving financial performance and those who aren’t. While 53% of respondents projected a positive change to operating margins in 2023, 40% expected negative changes to margin.
One exception to this split is large health systems. Large health systems projected above-average recovery of FTE counts, volume, and operating margins. This will give them a higher-than-average capital spending budget.
Why does this matter?
These findings echo an industry-wide consensus on improved financial performance in 2023. However, zooming in on the data revealed that the rising tide isn’t lifting all boats. Unequal financial recovery, especially between large and small health systems, can impact the balance of independent, community, and smaller providers in a market in a few ways. Big organizations can get bigger by leveraging their financial position to acquire less resourced health systems, hospitals, or provider groups. This can be a lifeline for some providers if the larger organization has the resources to keep services running. But it can be a critical threat to other providers that cannot keep up with the increasing scale of competitors.
Variation in financial performance can also exacerbate existing inequities by widening gaps in access. A key stakeholder here is rural providers. Rural providers are particularly vulnerable to financial pressures and have faced higher rates of closure than urban hospitals. Closures and consolidation among these providers will widen healthcare deserts. Closures also have the potential to alter payer and case mix (and pressure capacity) at nearby hospitals.
Volumes are decoupled from margins
What did we find?
Positive changes to FTE counts, reduced contract labor costs, and returning demand led the majority of respondents in our survey to project organizational-wide volume growth in 2023. However, a significant portion of the sample is not successfully translating volume growth to margin recovery.
44%
Of respondents who project volume increases also predict declining margins
On one hand, 84% of our sample expected to achieve volume growth in 2023. And 38% of respondents expected 2023 volume to exceed 2022 volume by over 5%. But only 53% of respondents expected their 2023 operating margins to grow — and most of those expected that the growth would be under 5%. Over 40% of respondents that reported increases in volume simultaneously projected declining margins.
Why does this matter?
Health systems struggled to generate sufficient revenue during the pandemic because of reduced demand for profitable elective procedures. It is troubling that despite significant projected returns to inpatient and outpatient volumes, these volumes are failing to pull their weight in margin contribution. This is happening in the backdrop of continued outpatient migration that is placing downward pressure on profitable inpatient volumes.
There are a variety of factors contributing to this phenomenon. Significant inflationary pressures on supplies and drugs have driven up the cost of providing care. Delays in patient discharge to post-acute settings further exacerbate this issue, despite shrinking contract labor costs. Reimbursements have not yet caught up to these costs, and several systems report facing increased denials and delays in reimbursement for care. However, there are also internal factors to consider. Strategists from our study believe there are outsized opportunities to make improvements in clinical operational efficiency — especially in care variation reduction, operating room scheduling, and inpatient management for complex patients.
Strategists look to technology to stretch capital budgets
What did we find?
Capital budgets will improve in 2024, albeit modestly. Sixty-three percent of respondents expect to increase expenditures, but only a quarter anticipate an increase of 6% or more. With smaller budget increases, only some priorities will get funded, and strategists will have to pick and choose.
Respondents were consistent on their top priority. Investments in IT and digital health remained the number one priority in both 2022 and 2023. Other priorities shifted. Spending on areas core to operations, like facility maintenance and medical equipment, increased in importance. Interest in funding for new ambulatory facilities saw the biggest change, falling down two places.
Why does this matter?
Capital budgets for health systems may be increasing, but not enough. With the high cost of borrowing and continued uncertainty, health systems still face a constrained environment. Strategists are looking to get the biggest bang for their buck. Technology investments are a way to do that. Digital solutions promise high impact without the expense or risk of other moves, like building new facilities, which is why strategists continue to prioritize spending on technology.
The value proposition of investing in technology has changed with recent advances in artificial intelligence (AI), and our respondents expressed a high level of interest in AI solutions. New applications of AI in healthcare offer greater efficiencies across workforce, clinical and administrative operations, and patient engagement — all areas of key concern for any health system today.
Building is reserved for those with the largest budgets
What did we find?
Another way to stretch capital budgets is investing in facility improvements rather than new buildings. This allows health systems to minimize investment size and risk. Our survey found that, in general, strategists are prioritizing capital spending on repairs and renovation while deprioritizing building new ambulatory facilities.
When the responses to our survey are broken out by organization type, a different story emerges. The largest health systems are spending in ways other systems are not. Systems with six or more hospitals are increasing their overall capital expenditures and are planning to invest in new facilities. In contrast, other systems are not increasing their overall budgets and decreasing investments in new facilities.
AMCs are the only exception. While they are decreasing their overall budget, they are increasing their spending on new inpatient facilities.
Why does this matter?
Health systems seek to attract patients with new facilities — but only the biggest systems can invest in building outpatient and inpatient facilities. The high ranking of repairs in overall capital expenditure priorities suggests that all systems are trying to compete by maintaining or improving their current facilities. Will renovations be enough in the face of expanded building from better financed systems? The urgency to respond to the pandemic-accelerated outpatient shift means that building decisions made today, especially in outpatient facilities, could affect competition for years to come. And our survey responses suggest that only the largest health system will get the important first-mover advantage in this space.
AMCs are taking a different tack in the face of tight budgets and increased competition. Instead of trying to compete across the board, AMCs are marshaling resources for redeployment toward inpatient facilities. This aligns with their core identity as a higher acuity and specialty care providers.
Partnerships and affiliations offer potential solutions for health systems that lack the resources for building new facilities. Health systems use partnerships to trade volumes based on complexity. Partnerships can help some health systems to protect local volumes while still offering appropriate acute care at their partner organization. In addition, partnerships help health systems capture more of the patient journey through shared referrals. In both of these cases, partnerships or affiliations mitigate the need to build new inpatient or outpatient facilities to keep patients.
Revenue diversification tactics decline despite disruption
What did we find?
Eighty percent of respondents to our survey continued to lose patient volumes in 2023. Despite this threat to traditional revenue, health systems are turning from revenue diversification practices. Respondents were less likely to operate an innovation center or invest in early-stage companies in 2023. Strategists also reported notably less participation in downside risk arrangements, with a 27% decline from 2022 to 2023.
Why does this matter?
The retreat from revenue diversification and risk arrangements suggests that health systems have little appetite for financial uncertainty. Health systems are focusing on financial stabilization in the short term and forgoing practices that could benefit them, and their patients, in the long term.
Strategists should be cautious of this approach. Retrenchment on innovation and value-based care will hold health systems back as they confront ongoing disruption. New models of care, patient engagement, and payment will be necessary to stabilize operations and finances. Turning from these programs to save money now risks costing health systems in the future.
Market intelligence and strategic planning are essential for health systems as they navigate these decisions. Holding back on initiatives or pursuing them in resource-constrained environments is easier when you have a clear course for the future and can limit reactionary cuts.
Advisory Board’s long-standing research on developing strategy suggests five principles for focused strategy development:
- Strategic plans should confront complexity. Sift through potential future market disruptions and opportunities to establish a handful of governing market assumptions to guide strategy.
- Ground strategy development in answers to a handful of questions regarding future competitive advantage. Ask yourself: What will it take to become the provider of choice?
- Communicate overarching strategy with a clear, coherent statement that communicates your overall health system identity.
- A strategic vision should be supported by a limited number of directly relevant priorities. Resist the temptation to fill out “pro forma” strategic plan.
- Pair strategic priorities with detailed execution plans, including initiative roadmaps and clear lines of accountability.
Strategists align on a strategic vision to go back to basics
What did we find?
Despite uneven recovery, health systems widely agree on which strategic initiatives they will focus more on, and which they will focus less on. Health system leaders are focusing their attention on core operations — margins, quality, and workforce — the basics of system success. They aim to achieve this mandate in three ways. First, through improving efficiency in care delivery and supply chain. Second, by transforming key elements of the care delivery system. And lastly, through leveraging technology and the virtual environment to expand job flexibility and reduce administrative burden.
Health systems in our survey are least likely to take drastic steps like cutting pay or expensive steps like making acquisitions. But they’re also not looking to downsize; divesting and merging is off the table for most organizations going into 2024.
Why does this matter?
The strategic priorities healthcare leaders are working toward are necessary but certainly not easy. These priorities reflect the key challenges for a health system — margins, quality, and workforce. Luckily, most of strategists’ top priorities hold promise for addressing all three areas.
This triple mandate of improving margins, quality, and workforce seems simple in theory but is hard to get right in practice. Integrating all three core dimensions into the rollout of a strategic initiative will amplify that initiative’s success. But, neglecting one dimension can diminish returns. For example, focusing on operational efficiency to increase margins is important, but it’ll be even more effective if efforts also seek to improve quality. It may be less effective if you fail to consider clinicians’ workflow.
Health systems that can return to the basics, and master them, are setting a strong foundation for future growth. This growth will be much more difficult to attain without getting your house in order first.
Vendors and other health system partners should understand that systems are looking to ace the basics, not reinvent the wheel. Vendors should ensure their products have a clear and provable return on investment and can map to health systems’ strategic priorities. Some key solutions health systems will be looking for to meet these priorities are enhanced, easy-to-follow data tools for clinical operations, supply chain and logistics, and quality. Health systems will also be interested in tools that easily integrate into provider workflow, like SDOH screening and resources or ambient listening scribes.
Going back to basics
Craft your strategy
1. Rebuild your workforce.
One important link to recovery of volume is FTE count. Systems that expect positive changes in FTEs overwhelmingly project positive changes in volume. But, on average, less than half of systems expected FTE growth in 2023. Meanwhile, high turnover, churn, and early retirement has contributed to poor care team communication and a growing experience-complexity gap. Prioritize rebuilding your workforce with these steps:
- Recover: Ensure staff recover from pandemic-era experiences by investing in workforce well-being. Audit existing wellness initiatives to maximize programs that work well, and rethink those that aren’t heavily utilized.
- Recruit: Compete by addressing what the next generation of clinicians want from employment: autonomy, flexibility, benefits, and diversity, equity, and inclusion (DEI). Keep up to date with workforce trends for key roles such as advance practice providers, nurses, and physicians in your market to avoid blind spots.
- Retain: Support young and entry-level staff early and often while ensuring tenured staff feel valued and are given priority access to new workforce arrangements like hybrid and gig work. Utilize virtual inpatient nurses and virtual hubs to maintain experienced staff who may otherwise retire. Prioritize technologies that reduce the burden on staff, rather than creating another box to check, like ambient listening or asynchronous questionnaires.
2. Become the provider of choice with patient-centric care.
Becoming the provider of choice is crucial not only for returning to financial stability, but also for sustained growth. To become the provider of choice in 2024, systems must address faltering consumer perspectives with a patient-centric approach. Keep in mind that our first set of recommendations around workforce recovery are precursors to improving patient-centered care. Here are two key areas to focus on:
- Front door: Ensure a multimodal front door strategy. This could be accomplished through partnership or ownership but should include assets like urgent care/extended hour appointments, community education and engagement, and a good digital experience.
- Social determinants of health: A key aspect of patient-centered care is addressing the social needs of patients. Our survey found that addressing SDOH was the second highest strategic priority in 2023. Set up a plan to integrate SDOH screenings early on in patient contact. Then, work with local organizations and/or build out key services within your system to address social needs that appear most frequently in your population. Finally, your workforce DEI strategy should focus on diversity in clinical and leadership staff, as well as teaching clinicians how to practice with cultural humility.
3. Recouple volume and margins.
The increasingly decoupled relationship between volume and margins should be a concern for all strategists. There are three parts to improving volume related margins: increasing volume for high-revenue procedures, managing costs, and improving clinical operational efficiency.
- Revenue growth: Craft a response to out-of-market travel for surgery. In many markets, the pool of lucrative inpatient surgical volumes is shrinking. Health systems are looking to new markets to attract patients who are willing to travel for greater access and quality. Read our findings to learn more about what you need to attract and/or defend patient volumes from out-of-market travel.
- Cost reduction: Although there are many paths health systems can take to manage costs, focusing on tactics which are the most likely to result in fast returns and higher, more sustainable savings, will be key. Some tactics health systems can deploy include preventing unnecessary surgical supply waste, making employees accountable for their health costs, and reinforcing nurse-led sepsis protocols.
- Clinical operational efficiency: The number one strategic priority in 2023, according to our survey, was clinical operational efficiency, no doubt in response to faltering margins. Within this area, the top place for improvement was care variation reduction (CVR). Ensure you’re making the most out of CVR efforts by effectively prioritizing where to spend your time. Improve operational efficiency outside of CVR by improving OR efficiency and developing protocols for complex inpatient management.
From -10.6% to 11.1%: 34 systems ranked by operating margins
Hospitals began 2023 with a median operating margin of -0.9%, but that figure has increased steadily month over month to hit 2% in November — the ninth consecutive month of positive margins. Despite a modest positive turning point for some hospitals and health systems this year, Fitch Ratings projects 2024 to be another “make or break” year for a significant portion of the sector.
Editor’s note: Operating margins are based on health systems’ most recent financial documents and vary by reporting periods, such as the three months ending Sept. 30, the nine months ending Sept. 30 and the 12 months ending Sept. 30.
1. Tenet Healthcare (Dallas)
*For the three months ending Sept 30
Revenue: $5.1 billion
Expenses: $4.99 billion
Operating income/loss: $568 million
Operating margin: 11.1%
2. HCA Healthcare (Nashville, Tenn.)
*For the three months ending Sept 30
Revenue: $16.21 billion
Expenses: $14.58 billion
Operating income/loss: $1.63 billion
Operating margin: 10.1%
3. Universal Health Services (King of Prussia, Pa.)
For the three months ending Sept. 30
Revenue: $3.6 billion
Expenses: $3.3 billion
Operating income/loss: $285.4 million
Operating margin: 7.9%
4. Mayo Clinic (Rochester, Minn.)
*For the three months ending Sept 30
Revenue: $4.5 billion
Expenses: $4.2 billion
Operating income/loss: $302 million
Operating margin: 6.7%
5. Stanford Health Care (Palo Alto, Calif.)
*For the 12 months ending Aug. 31
Revenue: $7.87 billion
Expenses: $7.46 billion
Operating income/loss: $414.9 million
Operating margin: 5.3%
6. Community Health Systems (Franklin, Tenn.)
*For the three months ending Sept 30
Revenue: $3.09 billion
Expenses: $2.91 billion
Operating income/loss: $173 million
Operating margin: 5.6%
7. Christus Health (Irving, Texas)
*For the 12 months ending June 30
Revenue: $7.8 billion
Expenses: $7.5 billion
Operating income/loss: $324.5 million
Operating margin: 4.2%
8. Northwestern Medicine (Chicago)
*For the 12 months ending Sept. 30
Revenue: $8.7 billion
Expenses: $8.4 billion
Operating income/loss: $352.3 million
Operating margin: 4.1%
9. IU Health (Indianapolis)
*For the three months ending Sept 30
Revenue: $2.12 billion
Expenses: $2.06 billion
Operating income/loss: $59.6 million
Operating margin: 2.8%
10. Sanford Health (Sioux Falls, S.D.)
*For the nine months ending Sept. 30
Revenue: $5.39 billion
Expenses: $5.27 billion
Operating income/loss: $123.2 million
Operating margin: 2.3%
11. BJC HealthCare (St. Louis)
*For the nine months ending Sept. 30
Revenue: $5.17 billion
Expenses: $5.06 billion
Operating income/loss: $113.2 million
Operating margin: 2.2%
12. Vanderbilt University Medical Center (Nashville, Tenn.)
*For the three months ending Sept 30
Revenue: $1.8 billion
Expenses: $1.77 billion
Operating income/loss: $28 million
Operating margin: 1.6%
13. Banner Health (Phoenix)
*For the nine months ending Sept. 30
Revenue: $10.3 billion
Expenses: $10.2 billion
Operating income/loss: $149.4 million
Operating margin: 1.5%
14. Intermountain Health (Salt Lake City)
*For the nine months ending Sept. 30
Revenue: $11.9 billion
Expenses: $11.2 billion
Operating income/loss: $157 million
Operating margin: 1.3%
15. Prisma Health (Greenville, S.C.)*For the 12 months ending Sept. 30
Revenue: $6 billion
Expenses: $5.9 billion
Operating income/loss: $67.1 million
Operating margin: 1.1%
16. Kaiser Permanente (Oakland, Calif.)
*For the three months ending Sept. 30 2023
Revenue: $24.9 billion
Expenses: $24.7 billion
Operating income/loss: $156 million
Operating margin: 0.6%
17. Advocate Health (Charlotte, N.C.)
*For the nine months ending Sept. 30
Revenue: $22.83 billion
Expenses: $22.75 billion
Operating income/loss: $79.4 million
Operating margin: 0.4%
18. Mercy (St. Louis-based)
*For the 12 months ending June 30
Revenue: $8.02 billion
Expenses: $8.01 billion
Operating income/loss: $11.8 million
Operating margin: 0.1%
19. OSF HealthCare (Peoria, Ill.)
*For the 12 months ending Sept. 30
Revenue: $4.1 billion
Expenses: $4.1 billion
Operating income/loss: $1.2 million
Operating margin: 0%
20. Northwell Health (New Hyde Park, N.Y.)
*For the three months ending Sept. 30
Revenue: $4.1 billion
Expenses: $4.2 billion
Operating income/loss: ($11.6 million)
Operating margin: (0.3%)
21. Mass General Brigham (Boston)
*For the 12 months ending Sept. 30
Revenue: $18.8 billion (includes $143 million revenue related to federal COVID-19 relief)
Expenses: $18.7 billion
Operating income/loss: ($48 million)
Operating margin: (0.3% margin)
22. Cleveland Clinic
*For the three months ending Sept. 30 2023
Revenue: $3.6 billion
Expenses: $3.4 billion
Operating income/loss: ($14.9 million)
Operating margin: (0.4%)
23. Montefiore (New York City)
*For the nine months ending Sept. 30
Revenue: $5.61 billion
Expenses: $5.64 billion
Operating income/loss: ($28.6 million)
Operating margin: (0.5%)
24. SSM Health (St. Louis)
*For the three months ending Sept 30
Revenue: $2.61 billion
Expenses: $2.63 billion
Operating income/loss: ($21.1 million)
Operating margin: (0.8%)
25. UPMC (Pittsburgh)
*For the nine months ending Sept. 30
Revenue: $20.6 billion
Expenses: $20.8 billion
Operating income/loss: ($177 million)
Operating margin: (0.9%)
26. Scripps Health (San Diego)
*For the 12 months ending Sept. 30
Revenue: $4.3 billion
Expenses: $4.3 billion
Operating income/loss: ($36.6 million)
Operating margin: (0.9%)
27. Trinity Health (Livona, Mich.)
*For the three months ending Sept 30
Revenue: $5.6 billion
Expenses: $5.7 billion
Operating income/loss: ($58.6 million)
Operating margin: (1%)
28. UnityPoint Health (West Des Moines, Iowa)
*For the three months ending Sept 30
Revenue: $1.16 billion
Expenses: $1.18
Operating income/loss: ($16.4 million)
Operating margin: (1.4%)
29. Novant Health (Winston-Salem, N.C.)
*For the three months ending Sept. 30
Revenue: $1.94 billion
Expenses: $1.97 billion
Operating income/loss: (28.6 million)
Operating margin: (1.5%)
30. Geisinger (Danville, Pa.)
*For the nine months ending Sept. 30
Revenue: $5.66 billion
Expenses: $5.76 billion
Operating income/loss: ($104.4 million)
Operating margin: (1.8%)
31. CommonSpirit (Chicago)
*For the three months ending Sept. 30
Revenue: $8.58 billion
Expenses: $9.02 billion
*Adjusted operating income/loss: ($291 million)
Operating margin: (3.4%)
32. Tower Health (West Reading, Pa.)
*For the three months ending Sept. 30
Revenue: $457.4 million
Expenses: $476.5 million
Operating income/loss: $19.1 million
Operating margin: (4.2%)
33. Providence (Renton, Wash.)
*For the three months ending Sept. 30
Revenue: $7.18 billion
Expenses: $7.49 billion
Operating income/loss: ($310 million)
Operating margin: (4.3%)
34. Ascension (St. Louis)
*For the 12 months ending June 30
Revenue: $28.35 billion
Expenses: $29.9 billion
Operating income/loss: ($3 billion)
Operating margin: (10.6%)
Is the Medicare Advantage “gold rush” ending?
https://mailchi.mp/79ecc69aca80/the-weekly-gist-december-15-2023?e=d1e747d2d8
Published last week in the Wall Street Journal, this piece predicts that the era of immense profitability for Medicare Advantage (MA) insurers may be drawing to a close.
MA has experienced rapid growth over the past decade, due both to the pace of Baby Boomers aging into Medicare, and the increasing numbers of beneficiaries choosing MA plans. In 2023, MA surpassed 50 percent of total Medicare enrollment.
Payers readily embraced the MA market because they found they could earn gross margins two to three times higher than from a commercial life.
However, as the rate of enrollment growth begins to slow (the last of the Boomers will turn 65 in 2030), competition between payers increases, and government payments become less generous, the MA business—while still profitable—is poised to become less of a jackpot.
The Gist: While MA has been an outsized driver of profits for insurance companies in recent years, the nation’s two largest MA payers, UnitedHealth Group (UHG) and Humana, have been signaling growing concerns to the market.
UHG announced late last month that its 2024 MA enrollment growth will be less than half of its 2023 rate, and Humana has been engaged in merger talks with Cigna.
As the “gold rush” period ends, MA payers will have to earn their keep by better integrating their various care and data assets, and more carefully managing spending for an aging cohort of seniors with increasingly complex needs, both much harder than riding a demographic wave to easy profits.
For-profit hospital operators strained by physician fees, payer relations in Q3
The nation’s largest for-profit hospital systems by revenue — HCA Healthcare, Community Health Systems, Tenet Healthcare and Universal Health Services — reported mixed results during the third quarter of 2023, despite announcing strong demand for patient services.
With the exception of HCA, each operator reported lower profits in the third quarter compared with the same period last year. Health systems CHS and HCA reported earnings that fell short of Wall Street expectations for revenue.
Major operators posted declining profits in the third quarter compared to the same period in 2022
Q3 net income in millions, by operator
| Health System | Profit | Percent Change YOY |
|---|---|---|
| Community Health Systems | $−91 | −117% |
| HCA Healthcare | $1,800 | 59% |
| Tenet Healthcare | $101 | −23% |
| Universal Health Services | $167 | −9% |
Admissions rose across the board compared to the same period last year: Same facility equivalent admissions rose 4.1% at HCA , 3.7% at CHS and 0.6% at Tenet, and adjusted admissions at acute hospitals rose 6.8% at UHS.
Although the for-profit operators began cost containment strategies earlier this year — recognizing that rising expenses, including costs of salary and wages, were pressuring hospital profitability post-pandemic — expenses also rose, with growth in salaries and benefit costs once again pressuring most operators’ revenue.
Hospital operators faced new challenges this quarter, executives said, including increased physician staffing fees and what hospital executives characterized as aggressive behavior from payers.
Hospitals highlight rising physician fees
Rising physician fees were a topic of concern on earnings calls this quarter, with executives reporting fees that were 15% to 40% higher compared with the same period last year.
Third-party staffing firms charge hospitals physician fees, a percentage of physicians’ salaries, on top of the salaries themselves. Physician fees are separate but related to contract labor costs, which plagued hospitals during the COVID-19 pandemic as they attempted to stem staffing shortages.
Hospitals typically contract specialty hospitalist roles — like anesthesiologists, radiologists and emergency department physicians — and incur associated staffing costs.
Physician fees at HCA, the country’s largest hospital chain, grew 20% year over year in the third quarter, according to CFO Bill Rutherford.
Physician fees were up by as much as 40% at UHS — making up 7.6% of total operating expenses this quarter and surpassing the company’s initial projections for the year, CEO Marc Miller said during an earnings call. Historically, physician fees accounted for about 6% of UHS’ total expenses.
Likewise, Franklin, Tennessee-based CHS attributed some of its third-quarter losses to “increased rates for outsourced medical specialists,” according to a release on the operator’s earnings.
Tenet CEO Saum Sutaria noted that physician fee expenses were up 15% year over year, but said on an earnings call that the operator had spied rising physician fees during the pandemic, and had begun efforts to contain costs — including restructuring staffing contracts and in-sourcing critical physician services.
As a result, physician fee costs at Tenet had remained “relatively flat” from the second quarter to the third quarter this year, according to the Sutaria.
Physician fee increases may be a delayed consequence of the No Surprises Act, which went into effect in January of last year, experts say.
On an earnings call, UHS CFO Steve Filton said “the industry has largely had to reset itself” in wake of the law. Tenet and CHS executives echoed the sentiment, noting that the law had disrupted staffing firms’ business models and complicated payment processes.
The No Surprises Act prevents patients who unknowingly receive out-of-network care at an in-network facility from being stuck with unexpected bills. However, the act has had unintended ripple effects, experts say.
Staffing firms and hospitals allege that the arbitration process created to resolve disputes between providers and insurers is unbalanced and incentivizes insurers to withhold reimbursement for care. In an August survey, over half of doctors reported insurers have either ignored decisions made by arbitrators or declined to pay claims in full.
In other cases, a backlog prevents claims from being adjudicated at all. Last year, the CMS found the federal arbitration process had only reached a payment determination in 15% of cases. Federal regulators have been forced to pause and restart the arbitration process multiple times in the wake of federal court decisions challenging arbitration methodology.
Although the act went into effect more than a year ago, many hospitals are just now feeling the strain, said Loren Adler, associate director at the Brookings Institute’s Schaeffer Initiative on Health Policy.
That’s because most insurers, hospitals and medical groups operate on three-year contracts, according to Adler. Staffing firms, which have struggled since the No Surprises Act was enacted, have passed on costs to hospitals as contracts come up for negotiation and insurers charge firms higher rates.
In the face of rising costs, some hospitals may opt to follow Tenet and CHS and in-source physicians — either to retain contracts with physicians who worked with firms that have folded or because the passing of the No Surprises Act makes outsourcing less attractive.
CHS hired 500 physicians from staffing firm American Physician Partners after the company collapsed in July. CFO Kevin Hammons said on an earnings call that hiring the physicians had saved CHS “approximately $4 million sequentially compared to the subsidy payments previously paid” to the staffing firm.
However, in-sourcing may not be an effective cost containment strategy for all operators. HCA reported it was hemorrhaging money following its first-quarter majority stake purchase of staffing firm Valesco, which brought about 5,000 physicians onto its payroll. HCA CEO Sam Hazen said the system expects to lose $50 million per quarter on the venture through 2024, citing low payments as the primary issue.
Payer problems
Hospital executives also tied quarterly losses to aggressive behavior from insurers during third-quarter earnings calls.
UHS executives said payers were improperly denying high volumes of claims and disrupting payments to its hospitals, with UHS’ Miller characterizing insurers as “increasingly aggressive” during the third quarter. Though insurers had reduced their number of claims audits, denials and patient status changes during the early stages of the pandemic, payers were increasing denials and reviews, according to UHS’ Filton.
Tenet’s Sutaria said that claims denials were “excessive and inappropriate” during a third-quarter earnings call, adding that the hospital system was working to push back on the volume of claims denials.
Their number one strategy is to provide “excellent documentation” to refute denials quickly, Sutaria said.
Still, excessive claims denials can drive up administrative costs for hospitals, according to Matthew Bates, managing director at Kaufman Hall.
“That denial creates a lot more work, because now I have to deal with that bill two, three, four times to get through the denial process,” Bates said. “It starts to rapidly eat into the operating margins… [becoming] both a cashflow problem and an administrative costs burden.”
Executives across the four for-profit operators said they planned to negotiate with insurers to receive more favorable rates and limit the number of denials in subsequent quarters.
HCA’s Hazen said that it was important for HCA to maintain its in-network status with insurers “to avoid the surprise billing and that [independent dispute resolution] process,” but that it would work with its payers to get “reasonable rates” going forward.
Cartoon – On the Plus Side
HENRY KOTULA 