Assessing the Early Impact of Hospital Mergers
An Analysis of the St. Louis and Philadelphia Markets

By

Elliot K. Wicks
Jack A. Meyer
Marcia Carlyn

January 1998

Economic and Social Research Institute

1015 18th Street, NW, Suite 210
Washington, DC 20036

Executive Summary

Along with other types of restructuring and reorganization in the health care industry, hospital mergers are occurring at a rapid pace. The day of the individual, independent medical facility may be coming to an end. Hospitals are hurrying to become part of hospital "systems." The expectation has been that such mergers would increase efficiency, create economies of scale, and improve quality of care. Mergers were seen as part of a process that would lead to a reduction in the duplication of services and equipment and in the over-supply of beds and facilities. This study of merger activity in two cities has found that some efficiency improvements are occurring, but they are generally not taking the form of consolidation of services and facilities, at least in the early years, and they do not appear to be primarily attributable to mergers. In fact, merger activity may be hampering the downsizing of the health care market.

The Economic and Social Research Institute (ESRI) conducted an in-depth examination of two cities. St. Louis, where extensive merger activity was initiated in 1993, was the primary site. Philadelphia, where major mergers have only recently begun, served as a control site. The primary methodology for gathering data was through site visits and field interviews in late 1996 and the first half of 1997, and the major conclusions are based primarily on this qualitative approach. We supplemented this qualitative work with a statistical analysis to further examine and compare the merger activity and early outcomes in these cities. This analysis, although limited in scope because of data and resource constraints, provides evidence that supports our qualitative findings.

Although it is too early to assess the long term impact of mergers, ESRI reached the following conclusions about the hospital merger process and its effects:

     
  • The hospitals in St. Louis are making some significant progress in improving efficiency, but these improvements do not appear to be caused primarily by the mergers, nor does efficiency improvement appear to be the major motive for mergers. In general, the mergers have not yet caused fundamental changes in terms of total hospital capacity or consolidation of specialized services.

     

  • Hospitals see mergers as a way to gain strength through size, improving their bargaining power in negotiations with health plans so that they are better able to resist pressure to cut rates.

     

  • A chief force driving mergers is hospitals’ concern about being able to compete for managed care and other health plan contracts. Health plans are increasingly contracting only with hospital systems that cover broad geographic territory and offer a full range of services; hospitals are merging in order to meet these requirements and thereby remain viable. Thus hospital systems are actually being rewarded for maintaining multiple facilities and services, rather than consolidating or eliminating them.

     

  • Mergers appear to be propping up weaker facilities that may not have survived if left on their own.

     

  • In these ways, mergers are allowing hospitals to resist market forces that would otherwise lead to closure and clinical consolidation, in some ways protecting inefficiency and excess capacity rather than reducing them.

     

  • Mergers are being used by hospitals in tandem with large-scale purchasing of physician practices in an effort to ensure a ready supply of patients and thereby strengthen market share.

     

  • Mergers by both suppliers (hospitals, physicians) and purchasers (health plans, insurers) have led to a market place with only a few large players—producing a kind of equilibrium or stalemate of buyers and sellers. Health plans need the hospital systems in order to ensure enrollees access to a large portion of providers, and the hospital systems need the health plans to assure a patient base. No one seems ready to do without the others.

     

  • Employers have not been pressuring for downsizing the hospital system, for several reasons: a sharp deceleration of health care costs in recent years, employees’ and unions’ preferences for broad choice of providers, and the fact that many business leaders are on the boards of the hospitals and therefore have conflicting interests.

While mergers do not appear to have caused changes in the trends for a number of measures of efficiency, some efficiencies have been achieved, and there is some reason to expect that mergers may have a greater impact in the future:

     
  • In both St. Louis and Philadelphia, the merged systems have consolidated many administrative functions, such as marketing, finance, public relations, and human resources. They report that this has produced substantial savings.

     

  • Some of the hospital systems are making efforts to "integrate cultures," that is, to promote discussions among physicians, paving the way to integrating services in the future. One system plans to establish ongoing clinical training programs for network primary care physicians and specialists to encourage collaboration and the exchange of ideas.

     

  • There is some development of system-wide medical information systems, and some efforts to develop medical protocols and guidelines to improve quality of care.

     

  • One Philadelphia hospital system has closed two hospitals that were deemed inefficient and redundant to capacity elsewhere in their system. This system has consolidated several types of health services previously provided in three major hospitals—including obstetrics, behavioral health, and psychiatry—into one of these hospitals. Some consolidation of these services is also occurring in St. Louis.

     

  • There are plans within various systems to consolidate some clinical services in other areas such as cardiology.

     

  • A number of the hospital system leaders interviewed indicated that this type of consolidation, while desirable in theory, is very difficult to achieve in practice. Senior medical staff often resist this type of change and try to protect their "fiefdoms."

     

  • Hospitals report that they are achieving some economies of scale by purchasing supplies and medical devices in bulk.

These findings have implications for public policy:

     
  • The federal government needs to guard against anti-competitive behavior in the hospital industry in light of the dramatic consolidation that is rapidly developing. In particular, the prospect of large and medium-size market areas being dominated by as few as three major hospital systems—or even two—should lead the Federal Trade Commission and the U.S. Department of Justice to monitor those markets carefully to determine the consequences for the local health economy. These agencies should establish clear criteria for determining whether meaningful competition exists. Remedial action should be taken when appropriate.

     

  • Policy makers should not rely on mergers to reduce excess capacity and produce efficiencies in the short term. They need to look at other ways to encourage reduction in duplication of services, oversupply of beds, and so forth. If purchasers want the excess capacity in the system reduced relatively quickly, they will have to take steps on their own to pressure for change—through their contracts with health plans and providers—rather than relying on the hospital industry to do this on its own.

     

  • If employers want a leaner and more efficient hospital industry, they will need to be less passive about the structure of that industry. If they actively try to reduce redundant capacity and channel their employees and their families to hospitals with the best performance records, they will incur some opposition, not only within the health care industry, but from employees used to wide-open access. If employers are not willing to take such risks, however, they are unlikely to see much change in the near future and could find that they are buying hospital care from a more concentrated and less responsive industry as time goes on.

     

  • Many states are contracting with health plans—or in some cases, directly with provider systems—for health benefits for their own employees’ and for Medicaid recipients. In their negotiations with plans and providers, states could establish criteria based more on how provider systems foster quality improvement and the efficient use of services and facilities, and place less emphasis on requiring that provider systems have the most inclusive networks of hospitals and physicians.

     

  • States could encourage private employers to promote efficiency in the health care industry by developing and sharing methods of measuring quality and efficiency or by collaborating with private employer groups for more selective purchasing. This type of cooperation is occurring today in Minnesota, Missouri, California, and Massachusetts.

It must be emphasized that this analysis is based on case studies of two cities, and only on the early years following merger activity. Despite these limitations, the findings signal the need to continue close monitoring of such activity in the coming years in order to assess the long-term impact of hospital mergers on the health care system.