Who's making money off the health care crisis?

The Denver Business Journal - August 24, 2006

By Amy Fletcher

Almost everyone, really.

From doctors to hospitals, drug companies to insurers, nearly everyone involved in the health care system is making money.

The question is, really: Who's making the most?

And like everything in health care -- a $2 trillion industry in the United States -- the answer isn't simple. The really complicated issues, and the ones that generate the most controversy, are:

• What's driving the high cost of medicine?
• Who's to blame?
• What can we do about it?

The questions typically set off finger pointing among insurers, hospitals, doctors and others.

And when we asked experts in Denver, there was plenty of blame to go around, depending on their field.

Some say consumers are mostly to blame: We demand the best care money can buy, even if we can't afford it.

But looking at health care profit margins of the commercial entities involved in health care in the last 10 years, there are clear winners and "runners-up" -- because calling any subsector of health care a "loser" probably would be a stretch.

Profiting from health care spending isn't bad, benefits consultants and insurance brokers are quick to say. Employers, who also must turn a profit, expect hospitals, insurers and others to make money, too.

"But it's hard for an employer when they see their rates going up 20 percent a year," said Denver insurance broker Bill Lindsay. "It's a matter of looking at it sustained over time to say what are the issues and where is the money going."

Pharmaceuticals, hospitals lead way

The top finisher when it comes to margins isn't a surprise. Numerous reports and news articles have expounded on the swollen bottom lines of the pharmaceutical industry. The median industry profit margin has hovered around 17 percent in the last 10 years, and in 2005, Fortune 1000 pharmaceutical companies brought in more than $244 billion in revenue, according to Fortune magazine.

Some experts fear direct-to-consumer advertising, on which drug companies spend $4 billion a year, is needlessly adding to their bottom line. It's hard to watch an hour of commercial TV without seeing an ad imploring you to "ask your doctor if (insert drug) is right for you."

Daryl Edmonds, president of Cigna HealthCare of Colorado, said the ads, for example, have led to a marked increase in prescriptions for antidepressants, noting they are now among the 10 most prescribed drugs.

Some doctors "have just acquiesced to the patient," he said. "Do we just have that much more depression? ... It does beg the question."

But drug company profits probably have a smaller influence on premiums than one might think.

Though rising faster than other health care costs, spending on prescription drugs comprised only 10 percent of the health care dollar in 2004, according to national expenditure data from the Centers for Medicare and Medicaid Services. Some insurers say it's closer to 15 percent. Either way, it's not a huge chunk of the health care dollar. And drug makers are quick to say their products save money by helping patients avoid hospital stays.

Employers, doctors and insurers have more loudly criticized hospitals, which, at about 30 percent, comprise the largest share of health care dollars. Americans spent $571 billion on hospital care in 2004, according to a study published earlier this year in the journal Health Affairs. That year, hospitals posted $26.3 billion in profits, according to the American Hospital Association, totaling a 4.6 percent margin.

But metro Denver hospitals are faring better than facilities nationwide. According to information compiled from Medicare cost reports, metro Denver hospitals averaged a 7.8 percent margin over 10 years, bringing in more than $4.4 billion in net patient revenue in 2004.

Some Denver-area hospitals exceed the metro average, which is brought down by such facilities as Denver Health, which treats a higher number of uninsured and indigent patients and posts margins under 5 percent.

According to data from Medicare, the federal health care program for the elderly, four hospitals in the HealthOne system posted margins higher than 20 percent in 2004-05. Exempla Healthcare's Lutheran Medical Center's margin was 16 percent in 2004, and the state's largest hospital system, Centura Health, had two hospitals posting a 12 percent or higher margin.

Metro Denver's largest hospital system, HealthOne, is a joint venture with for-profit HCA Inc. (NYSE: HCA), HealthOne, which includes seven hospitals and 10 outpatient surgery centers, refused to answer questions for this article.

The wealth of metro-Denver hospital systems is evidenced by the opening of four new hospitals in the last few years, with two more in the works. Their healthy margins haven't gone unnoticed by employers and insurers.

"It's a little scary," said Donna Lynne, regional president of Kaiser Permanente, one of the state's largest insurers and the only health plan in Colorado that works so closely with one physician group. "The numbers are in the double digits."

Hospitals, even those with stockholders, say healthy margins are necessary to make investments in new technology and hospitals as metro Denver grows.

And despite their margins, hospitals say insurers are raising premiums faster than hospitals are raising their rates.

"It's a mystery to us as to how the premium increases we see out in the marketplace are connected to the increase that we negotiate with our plans," said Jeff Selberg, CEO of Exempla Healthcare, a three-hospital system based in Denver. "There doesn't seem to be a relationship."

Insurers strike back

Anthem Blue Cross and Blue Shield said it's become harder to negotiate with hospitals since they consolidated into three large systems, increasing their leverage. Hospitals can demand higher rates from insurers when they negotiate as a group.

"There needs to be more competition to get a better price level," said Joe Hoffman, vice president and general manager of Anthem in Colorado.

But there's also been a lot of consolidation among insurers nationwide. Anthem merged with Wellpoint in 2004, and UnitedHealthcare acquired PacifiCare in 2005.

Hoffman said in Anthem's case, growth has meant efficiency. Years ago when the plan operated as a nonprofit, administrative costs comprised 30 percent of expenses; now that's down to 15 percent.

Insurers such as Kaiser keep an eye on hospital margins, and they factor into negotiations over rates for care provided in facilities they don't own, Lynne said.

Doctors, hospitals and others seemed particularly skeptical of the large, for-profit players that are dominating metro Denver health care -- namely HealthOne and most of the five largest insurers in Colorado.

"We are different," said Lynne, referring to Kaiser's nonprofit status. "We don't return money to either our shareholders or some kind of private investors. ... When they are a for-profit, they have a different type of motivation."

Insurer profits cyclical

But Kaiser Permanente is among the nonprofits in Denver that have posted healthy margins in recent years, raising some eyebrows. In 2003, the insurer was the top finisher among Colorado health plans, making about $100 million.

Kaiser defended its performance in the same way any nonprofit would: "The money that Kaiser earns in excess of what we charge has to go back into the organization," Lynne said.

And, if you look at Kaiser's recent projects, it seems to have happened. In 2005, the insurer opened three new facilities. In the past couple years, Kaiser has invested millions in information technology, a move that should save money down the road by allowing doctors to access records in multiple locations, cutting down on the number of tests that will be duplicated.

The last two years, Kaiser has posted much lower margins: 2.6 percent in 2004 and basically breaking even last year.

Insurers as a whole have much lower margins than hospitals. In the last several years, margins have ranged from 3 percent to 5 percent, but the median margin among Fortune 500 insurers was 6 percent in 2005.

Hospitals are quick to point out insurers' capital needs aren't as great. While hospitals need capital to build new facilities and buy expensive new equipment, insurers' largest investments are often in their people and information technology systems, said Ned Borgstrom, chief financial officer of Exempla Healthcare.

Of course, doctors don't escape the blame for rising costs, particularly those who have an ownership share in outpatient imaging, heart and surgery centers, which have had a sharp increase in recent years.

About 21 percent of the national health care dollar goes to doctors, and certain specialties -- namely diagnostic radiologists, cardiologists and gastroenterologists -- have had a sharp increase in compensation through the years.

But primary care doctors' compensation has remained flat, which troubles some hospital and insurance executives.

"There is an awful lot the PCPs can do that specialists don't need to," Lynne said. "We also are very mindful of the relationship between primary care and specialty care."

Uninsured patients drive costs

Regardless of their margins, hospitals, doctors and insurers agree health care would be more affordable if everyone had insurance and government programs such as Medicare and Medicaid paid higher rates that covered the cost of providing care for those patients.

When these programs underpay doctors and hospitals, the costs are shifted to paying patients, most often people with employer-paid health insurance. An even greater amount is shifted when patients don't have any insurance.

According to a study by Families USA, an extra $934 in health care premiums per Colorado family was paid last year to cover the cost of the uninsured.

In 2005, Exempla Healthcare says its three hospitals lost $57.4 million caring for uninsured patients and people covered by Medicare and Medicaid.

The hospital system made up for that loss by charging other patients, primarily those with insurance through their employers, more. But the extent to which large insurers will accept price increases is limited, and Exempla made $74.4 million, or a 15 percent margin, on business from the state's five largest insurers: Aetna, Cigna, UnitedHealthcare, Anthem and Kaiser. The largest margin, 50 percent, came from small insurers, which added $34.7 million to Exempla's bottom line.

"It ought to drive employers crazy," Selberg said. "You talk about taxation without representation."

That's why almost everyone interviewed for this story said Colorado, or the federal government, must figure out a way to provide insurance -- or at least access to basic health care -- to every Coloradan. It seems like a federal issue, but some states, including Massachusetts, aren't waiting for Congress to address the problem.

In April, Massachusetts Gov. Mitt Romney signed legislation creating nearly universal health coverage for state residents. It requires everyone in Massachusetts to purchase health insurance by July 1, 2007. Employers with more than 10 employees must provide health insurance or pay a "fair share" contribution of up to $295 annually per employee. Subsidies for low-income residents are also included.

Colorado is working on its own plan. In June, Gov. Bill Owens signed Senate Bill 208, which creates a blue-ribbon commission to study and create reforms to expand health care coverage and decrease costs for Coloradans.

The commission includes 24 members: eight representing consumers; eight representing people who purchase health insurance, including employer health coalitions and chambers of commerce; and eight representing experts and business leaders. It will consider several proposals and submit recommended plans to the Legislature in November 2007.

"The biggest problem that we're facing right now is how are we going to restructure the system so that we can provide adequate insurance coverage for all of our citizens," said Jim Hertel, publisher of industry newsletter Colorado Managed Care. "We have to establish the public will to make the sacrifices that will allow that to occur."