Concerns over how private equity is affecting health care access, quality, and costs in the United States have exploded in the past few years, reflecting the growing activity of private investors in health care markets.

Private equity investors spent more than $200 billion on health care acquisitions in 2021 alone, and $1 trillion in the past decade. Private equity firms have long been active in hospital, nursing home, and home care settings. But recently, acquisitions of physician practices have skyrocketed, especially in high-margin specialties like dermatology, urology, gastroenterology, and cardiology. A recent study showed that in 13 percent of metropolitan areas, a single private equity firm owns more than half of the physician market for certain specialties.

Given their potential impact on the cost, quality, and access to health care in the U.S., these developments have generated considerable interest among federal and state policymakers.

What is private equity?

Strictly speaking, private equity in health care is a form of for-profit ownership reflecting investment in health care facilities by private parties. In general, for-profit health care organizations can take two forms: private or public.

• Public, investor-owned organizations sell shares to the public that trade on a stock exchange. UnitedHealth Group, which now owns thousands of physician practices, is one example. Another is Hospital Corporation of America. These organizations are regulated by multiple federal laws and agencies, including the U.S. Securities and Exchange Commission.
• Shares of private, investor-owned organizations — such as private equity–owned firms — are not traded on public markets. As such, they aren’t required to follow the same regulations as public companies.

As a form of ownership, private equity is not new to health care. A variety of private investors have invested in and owned health care facilities in the past. These have included individual physicians who invest in and own their for-profit private practices and pay taxes on their earnings. Physicians and other private investors have long owned health care facilities, such as specialty hospitals, dialysis units, ambulatory surgical centers, and imaging units.

What’s different now about private equity in health care?

There have been two key shifts in recent years. The first is in who’s doing the investing. Instead of physicians or small groups of investors using their own funds, investors now also include firms that manage funds for large groups of wealthy individuals or institutions. Fund managers and their investors may have little knowledge of health care, viewing it as just another market opportunity.

The second change relates to how they’re investing. Aggressively pursuing quick profits, some private equity firms are taking out loans, using their newly acquired health care facilities as collateral. The loans are used to pay back investors quickly and handsomely, while the health care organizations carry the debt. Another strategy is to sell the health care organization’s land, facilities, and other capital assets to other investors. The proceeds from the sales generate returns for fund managers and their investors. Health care organizations then rent those assets back from the new owners.

A third approach to getting a quick return is to flip the asset — selling the newly purchased health care organization to another buyer, such as a publicly traded company like CVS or Amazon, for a large multiple of the original price. To attract such a buyer, however, the private equity firm must boost the organization’s profits, which usually requires rapidly cutting costs, raising prices, or increasing the number of services provided.

All these strategies are legal, but until recently they hadn’t been deployed as widely or intensively in health care.

How does private equity impact health care costs, quality, and access?

More research is needed on how private equity ownership affects health care costs, quality, access, and equity. So far, the results on cost are clearest. Given its short-term financial focus, private equity tends to increase health care prices and utilization — and thus costs — to both patients and the larger society. Some new private owners of health care facilities may adopt reforms that make care more efficient and reduce costs, thus improving value. And there are examples of promising innovations, such as CareMore, a privately funded organization that reengineered care for high-risk elderly individuals. But in general, it’s much easier, and more common, for private owners to raise prices and volumes and to focus on high-margin services.

Regarding quality, there is no evidence that private equity ownership leads to systematic improvements in care. In fact, a widely cited study of nursing homes acquired by private equity owners showed a 10 percent increase in mortality among Medicare patients. However, there haven’t been additional studies demonstrating such dramatic, harmful effects.

In terms of access to care and equity, the financial pressures on acquired facilities to pay rent or repay loans are raising alarms about possible bankruptcies and closures of hospitals, nursing homes, and other health care facilities. This is especially concerning for those serving poor and rural communities, since these entities tend to be less lucrative financially.

Why are private equity firms investing in health care?

Several factors have driven private equity’s attraction to health care in recent years. One has been the low cost of capital resulting from low interest rates, which has spurred an influx of investors seeking to earn a piece of the $4 trillion health care economy.

A second factor has been the increasing commercialization of health care, which has made it more acceptable for private investors to treat health care — traditionally a nonprofit sector — like other markets. In fact, some nonprofit health care organizations have begun to look more and more like their for-profit brethren. Nonprofits have sought near-monopoly power in local markets through widespread mergers and acquisitions, which have enabled them to raise prices sharply. Compensation for nonprofit executives has also skyrocketed, as have their organizations’ capital reserves.

A third factor has been the ongoing failure of the U.S. health care system to deliver value and keep Americans healthy. With falling life expectancy, increasing maternal mortality, glaring inequities, soaring costs, and punishing medical debt, our health system is ripe for disruption. Private investors — with their energy, fresh perspective, and capital — offer hope for change.

What’s next for private equity in health care?

As interest rates rise and investors pick the low-hanging fruit in health care, it seems unlikely that private equity will maintain its current rate of expansion into the sector, at least for the short term. Public scrutiny of private investment in the health sector is also increasing, as concerns grow about the effects on costs, quality, equity, and access.

Policymakers’ first step in addressing these concerns will likely include new transparency rules to make it clear who owns private, for-profit health care organizations. Congress is considering such requirements, and the Security and Exchange Commission has issued a new rule requiring increased transparency about the identity of investors in private equity arrangements. It seems doubtful, however, that greater transparency rules alone could slow private equity’s penetration of health care markets.

Other potential changes include reforming antitrust laws to open the sale of local physician practices to scrutiny. The Federal Trade Commission recently sued a private equity firm that has been trying to dominate the anesthesia market in areas of Texas.

Some scholars believe that private equity serves as a divining rod for failures in our current health care market. Investors, they believe, are simply exploiting the system’s weaknesses for profit. In this sense, the growth of private equity is a symptom, not the cause, of our health system’s failure to meet the needs of Americans.

Chicago-based CommonSpirit Health, one of the largest nonprofit healthcare systems in the country, reported an adjusted operating loss of $291 million on revenue of $8.9 billion for the first quarter of fiscal 2024, ending Sept. 30.

The adjusted figure reflects the effects of the California provider fee program. Without such an adjustment, the system reported an operating loss of $441 million versus a $23 million gain the previous year.

The adjusted figures compared with an operating loss of $227 million in the same period last year with revenue of $8.5 billion. Salaries and benefits increased $174 million over the prior year period, or 3.9%.

The overall net loss for the 142-hospital system totaled $738 million as CommonSpirit reported net investment losses of $289 million.

“Despite significant industry and economic headwinds, CommonSpirit was able to extend the momentum achieved in the previous quarter,” CFO Dan Morissette said in a statement. “While this is encouraging, we take nothing for granted. More efforts are underway to provide the strong financial foundation this health ministry needs to provide care to everyone in the communities we serve, including the most vulnerable.”

The New York Times last month published an analysis of Medicare spending trends and concluded that, contrary to the program’s budget busting reputation, annual cost growth has been moderate over the past decade or so. The implication is that the scramble to find more Medicare savings to narrow current and projected federal deficits should be reevaluated, given that previous predictions of runaway costs were off the mark. It’s a comforting picture, especially to those who would prefer to expand Medicare. But does the Times provide the full story?

Medicare is a vast and complex program that, at any given moment, has pressures pushing costs both up and down. Analysts need to look at the full picture to get a balanced view of what is underway.

Even if per person cost escalation has moderated (which it has), many previous years of very high-cost growth already increased the program’s total outlays to a very high level, and there is no real prospect of a reversal. Moreover, the reasons for the current slowdown may not be sustainable: For example, payments per service under current law are not expected to keep up with inflation and therefore may not be sufficient to ensure full access to care for the program’s beneficiaries. With aging baby boomers pushing enrollment up from 66 million today to 83 million by 2040, aggregate costs will grow very rapidly over the coming three decades under almost all realistic scenarios.

In other words, much as many elected officials might wish otherwise, the problem of high-cost entitlement programs outpacing government revenue remains central to the growing risk of a fiscal crisis.

Parsing the data.

The Times piece charts real per capita spending since Medicare began paying for services in the 1960s, with a focus on what has occurred this century. It suggests a slowdown in real spending per capita since 2011 has already provided substantial relief to the federal budget. 

The authors calculate that if spending had continued to escalate after 2011 at the same rate as it did previously (it appears the reference period runs from 2000 to 2011), then aggregate Medicare expenditures from 2011 to 2023 would have been $3.9 trillion higher than what was actually spent. The cited figures imply that the spending trend against which actual spending should be compared—the yellow line in the graph below—is 4.4 percent annual growth. If that was indeed avoided after 2011, then the budget did benefit substantially from a slowdown in Medicare spending. 

But while a slowdown happened, it was less dramatic than the Times implies. Though fully replicating the figures used in the reporting is difficult without additional information, it’s possible to make a similar assessment based on publicly available data. That reveals a somewhat different picture.

As the Congressional Budget Office (CBO) has noted, when making a calculation of per capita trends in the period after the turn of the century, the addition of drug coverage to Medicare expenditures starting in 2006—the largest benefit expansion since enactment in 1965—distorts calculations of average annual growth rates.

According to data from official national health expenditure (NHE) tables, nominal per capita spending growth in Medicare was 16.5 percent in 2006, when the drug benefit was first implemented. (Congress passed the legislation in 2003.) With economy-wide inflation then running at 2.7 percent, the jump in real per capita spending that year was 13.8 percent. In 2005, it was 3.8 percent; in 2007, 2.3 percent. 

Based on this same NHE data, the average annual growth rate from 1996 to 2011 (not counting the one-time effects of the Medicare expansion in 2006), was about 2.5 percent, far below the 4.4 percent assumption used in the Times.

Using this lower estimate of real per capita growth drastically affects the main conclusion. If real Medicare per capita spending had grown by 2.5 percent over the period 2011 to 2023, the added spending relative to what actually occurred would have been about $2.3 trillion, not $3.9 trillion.

The trend started before 2000.

While the spending slowdown in Medicare was less pronounced after 2011 than the Times suggests, it did occur. However, the change began long before 2010, and even before 2000.

According to NHE data, between 1987 and 1996, the average annual real per capita growth rate within Medicare was 5.2 percent. From 1996 to 2005, the rate was cut roughly in half, to 2.7 percent. From 2006 to 2022, it dropped again, to 0.7 percent.

Why did the downward trend begin nearly three decades ago and not in 2011?

While there are likely many explanations, the most obvious is the steady implementation of congressionally-mandated payment reforms (and cuts). When Medicare began offering insurance coverage, it paid for services based on reported costs from providers. Hospitals and physicians would file claims documenting what they spent when caring for program beneficiaries, and Medicare would send them checks with few questions asked. This fueled hyperinflation: From 1970 to 1980, Medicare spending per person grew at an average annual rate of 13.4 percent.

After some uncertainty about possible remedies, Congress settled on a strategy in the 1980s. Instead of paying providers based on their self-reported costs, Medicare would pay for services using formulas designed to provide fair reimbursement for the average patient, and the payment amounts would be set in advance of any care being offered. 

The switch started with the prospective payment system (PPS) for inpatient hospital care in 1983, and then was applied using separate provider-specific constructs to physician services (1992), skilled nursing facilities (1998), home health (2000), hospital outpatient care (2000), and much else.

In addition to these broad reforms, Congress regularly imposed cuts in the inflation factors used to increase payment rates each year. These provisions were included in the many broad deficit-cutting bills that were approved during this era.

By the mid-1990s, the cumulative effect of these cuts began to pinch as there were fewer and fewer revenue-enhancing options to offset the strict controls of the regulated payment systems.

Additional factors.

While the slowdown in per capita spending growth began well before 2011, it did intensify over the past decade.

There are likely several reasons for the improvement, some of which were mentioned in the Times’ assessment while others were not:

• Deep provider cuts. The Affordable Care Act, along with 2015 legislation that reformed Medicare’s physician fee schedule, severely restrained provider payments over the past decade. In the ACA, the annual inflation adjustment for hospitals and other institutional providers was cut on a permanent basis by a “productivity adjustment” of approximately 1.0 percentage point every year, which is an approximation of the improvement in productivity observed in the national economy every year. But productivity improvement in the health sector is usually much less, and the actuaries assume it will average 0.4 percent annually in the future. In a separate law, Congress tightened the screws further by limiting the annual fee increases for physician services over several years to rates that are also well below general inflation.
  
  These cuts have had a sizable cumulative effect. The savings are now so substantial that Medicare actuaries have been warning for years that they are unsustainable. In a memo released alongside the Trustees’ report each year, actuaries document that the divergence between Medicare and commercial payments for hospital and physician services will grow rapidly with the annual implementation of new cuts. By 2040, Medicare’s payments for physician services and hospital care are expected to be just 40 percent and 55 to 60 percent, respectively, of the average amounts paid by commercial insurers.
  
  The strain is also leading to a political response. Pressure is now building to bump up reimbursements for care, which would have the effect of increasing real per capita cost growth.
• Enrollment shifts. The baby boom generation began retiring over the past decade. In 2008, 43 percent of the 65 to 74 population was enrolled in Medicare. By 2021, it had grown to 50 percent. The surge in younger enrollees, with lower than average costs, also may be affecting per capita trends.
• Better adherence to effective therapies. As noted, Medicare began covering outpatient prescription drugs in 2006, and the CBO concluded some years after the law was implemented that it was having a positive effect on health outcomes by improving adherence to effective therapies. Moreover, these improvements in health status were lowering the use of non-drug services, with every 1.0 percent increase in drug use reducing other medical care costs by about 0.2 percent. This reduction in future spending growth is noticeable, but it is unlikely to fully offset the effects of building a legislative expansion of Medicare (as occurred with drugs in 2006) into the baseline spending projections. 
• Medicare Advantage spillover effects. Much has been made about the excessive payments made to Medicare Advantage (MA) plans—the private insurance options offered to program beneficiaries in lieu of the traditional government-administered benefit—based on a flawed system of risk adjustment. There has been less focus on the consistent findings of researchers that higher market penetration by MA produces spillover savings in the government option. A recent study found that every 10 percentage point increase in MA penetration was associated with sizable reductions in post-acute care for patients with congestive heart failure when the markets also included medium to high use of accountable care organizations, which are provider-led managed care arrangements operating under the government-administered umbrella.

The bigger picture.

While the Times provided less than a full view of per capita cost trends, it was not wrong about an improvement. Real per capita spending in Medicare has not been rising as fast since 1995 as it did during the program’s first three decades. 

But the Times misses the broader fiscal context. Even with moderate year-to-year rises in spending (which may not last), the federal government’s budgetary outlook has been rapidly deteriorating. Medicare is one reason for the trend. Program spending has grown faster than the revenue and premiums dedicated to Medicare for many years, and the gap will widen as the population ages.

According to Medicare trustees, total program spending in 1980 was 1.4 percent of GDP, with revenue and premiums coming into the program equal to 0.9 percent of GDP, which covered about two-thirds of the spending. By 2010, program expenditures were up to 3.5 percent of GDP (in part because of the new drug benefit) but program receipts had only risen to 1.9 percent of GDP, which only covered a little over half of the total cost. This gap between spending and receipts has continued to widen, and it will become especially problematic as the population ages. There were 28 million Medicare beneficiaries in 1980. By 2040, there will be more than 83 million.

It all adds up to a major fiscal challenge. CBO’s current long-term forecast shows the federal debt rising to above 180 percent of GDP in three decades, with the growing costs of Social Security and Medicare as principal reasons for the added borrowing.

Policymakers should take some comfort from the fact that, as the Times shows, it is possible to restrain Medicare spending with strong controls and incentives for more efficient care delivery. But one should not risk becoming complacent. With the government borrowing at levels that have no precedent in the nation’s peacetime history, it is inconceivable that a correction will occur without further changes to Medicare.

I wrote an Industry Insights article last year about large health system mergers
on the heels of the announcement that behemoths Advocate Aurora and Atrium
Health were coming together. That transaction closed in December of 2022
and since then, we have witnessed numerous other “mega-mergers,” creating health systems with
well over $5 billion in revenue.

With the operating environment for hospitals becoming even more challenging, is getting bigger the solution?

Before we answer that though, let’s take a brief look at the large mergers that have occurred over the past few years.

In 2021, Spectrum and Beaumont in Michigan announced they were coming together to create a $15
billion revenue system now known as Corewell Health. Intermountain and SCL Health came together
to create a $15B system; Illinois systems NorthShore University Health and Edward-Elmhurst
Healthcare ($5B); in Pennsylvania, Jefferson Health closed on its merger with Einstein Healthcare
Network ($8B); Piedmont Healthcare + University Health Care + 4 HCA hospitals in Georgia ($5B);
and North Carolina-based Novant Health closed on its merger with New Hanover Regional ($6B).

In 2022, the keynote merger was Advocate Aurora and Atrium Health coming together to create a
$27 billion multi-state system. There were also other sizeable combinations such as the University of
Michigan Health and Sparrow Health ($7B), South Dakota-based Sanford Health and Minnesota-based Fairview Health ($14B), though that merger has since been called off, Wisconsin’s Marshfield
Clinic and Minnesota’s Essentia Health ($5B), and Wellstar Health and August University Health in
Georgia ($6B).

So far in 2023, the most notable is Kaiser Permanente’s acquisition of PA-based Geisinger Health,
which will take the combined system to over $100 billion in revenue. Other mega-mergers include
BJC Health and St. Luke’s Health System in Missouri ($10B), Froedert Health and ThedaCare in
Wisconsin ($5B), and most recently, Oregon Health & Science University and Legacy Health ($7B).

So why are these systems merging?

For starters, there is the benefit of geographic and revenue diversification. Some markets are more
challenging than others, with diversification across a larger footprint helping to balance the combined
systems. Plus, scale allows the systems to more effectively manage risk. With the need to compete
in a value-based care world, health systems must operate in markets that are large enough to be
effective.

Of critical importance, and another key driver behind these mergers, is the enhanced ability to invest
in technological capabilities. It is important to note technology investments cannot be funded through
traditional tax-exempt debt and as technology plays a more important role in the delivery of
healthcare, not-for-profit systems must make investments to remain competitive. AI, data security,

revenue cycle, innovation, information sharing, etc. are all necessary for the successful delivery of healthcare. Furthermore, not every health system can source, invest, or build the right technology on its own. By combining, systems improve upon their ability to lower their per unit cost of investment in technology.

There is also the people. Human talent is a sought-after resource for hospitals these days and the business of running hospitals has
only gotten tougher. Not every health system can attract the best leaders. By merging, health systems can leverage the capability set
from across the organization to more effectively manage the business.
Another reason is the enhanced capital access. As rates rise and lenders tighten standards, bigger is better; and larger balance sheets
with greater assets and security enhances borrowing capabilities. However, capital access does depend on financial performance, so it
requires earnings creation. The jury is still out on the back-office savings created by these mega-mergers, but over time, with effective
leadership, the right technology, and the necessary scale, achieving synergies must be a motivating factor.
But do mergers actually achieve these goals? I have not yet found an independent study to answer this question as many megamergers are recent and there are many variables that influence the analysis. While an n of 1 would not be acceptable to my actuarial
wife, there are examples that show promising signs. In my home state of NJ, the 2016 merger between Hackensack and Meridian is
notable. Leading up to the merger, Hackensack had $1.7 billion in revenue and was averaging 9% operating EBIDA margins, 150 days
cash on hand, and 1x cash to debt. Meridian had $1.6 billion in revenue and was averaging just over 11% operating EBIDA margins,
240 days cash, and 1.4x cash to debt. Post-merger, the combined system now has $6.6 billion of revenue and not taking into the
account the recent swings during and post-COVID, was averaging 11% EBIDA margins, 270 days cash, and 1.6x cash to debt. For the
combined Hackensack Meridian Health System, 1+1 > 2. They have grown faster, plugged weaknesses, improved their balance sheet,
all while continuing to make investments.
There are many reasons why large systems are pursuing mergers and why we expect to see more. And one of these mega-mergers
could create another competitor to the national for-profit operators like HCA or the large catholic systems like Ascension,
CommonSpirit, Providence, or Trinity.