3 Strategic Differences Between Nonprofit and For-Profit Hospitals

Community emphasis, cost-consciousness, and planning horizon are distinguishing strategic characteristics of nonprofit and for-profit hospitals.

This article appears in the July/August 2019 edition of HealthLeaders magazine.

While nonprofit and for-profit hospitals are engaged in the same fundamental activity—patient care—tax status leads to divergent approaches to strategy and governance.

Tax status is one of the most significant defining characteristics of U.S. hospitals. There are more than 5,200 nonfederal, short-term general, and other special hospitals in the country, according to the American Hospital Association. Nearly 3,000 of these hospitals are nonprofits, more than 1,300 are for-profits, and almost 1,000 are state and local government organizations.

"With the caveat that there is a wide range of nonprofits and the investor-owned hospitals vary from company to company, I have been involved in strategic planning for both, and there are substantial differences. You can't overstate the significance of the difference," says Paul Keckley, PhD, managing editor of The Keckley Report in Washington, D.C., and former executive director of the Center for Health Solutions at New York-based Deloitte.

HealthLeaders talked to several executives and representatives of nonprofit and for-profit healthcare organizations to learn about the three primary differences in strategy and governance between nonprofit and for-profit hospitals: relationships with the communities they serve, the level of leanness in their operating models, and the time horizon of their strategic plans.

1. Community-driven approach
 

Southwest General Health Center, which features a 350-bed nonprofit hospital in Middleburg Heights, Ohio, is literally rooted in the local communities it serves.

Six communities founded Southwest General in 1920 after a post–World War I flu epidemic, says Mary Ann Freas, senior vice president and CFO. "The residents had seen many of their neighbors die while they were being transported to the nearest Cleveland hospital."

The six communities raised $100,000 in 10 days and built a 32-bed hospital.

"Ever since, we have been invested in serving our local communities. It is reflected in our governance, and it is reflected in our strategic plan as well. You can have for-profits that move in and out of communities on the perception of whether the communities need them or not. At Southwest General, there is a specific governance structure in place to make sure that's never going to happen," Freas says.

Southwest General has two governing boards—a 34-member health system board and a 24-member health center board that focuses on the organization's hospital. Four trustees drawn from each of the six taxing districts dominate the health system board, which also appoints half of the members on the health center board. In each of the six communities, local delegates appoint three out of four of the health system board trustees that represent their city or town.

In addition to the 24 health system board trustees drawn from the taxing districts, there are eight at-large board members drawn from the local communities, the past president of the medical staff, and one medical staff physician.

"These board members are truly local. They may be local business leaders, school district superintendents, the local college president, and people … who have been involved heavily in fundraising for their local school system," Freas says.

The delegates are community leaders who play a vital role in keeping Southwest General a locally focused organization, she says. "Fifty-one percent of them have to approve any change to the code of regulations, and they only meet once a year. So, for them to be educated in terms of why we would want to make a change would be a challenge. It has been attempted—some minor things have gone through. But to put forth a wholesale change to our governance structure would be a very big undertaking."

The community-based governance has had an impact on the kind of services that Southwest General provides, Freas says.

"This structure preserves the community's interest in having their care local. If we have patients who need quaternary care, they are transferred to University Hospitals in Cleveland, with whom we have a partnership. But we have two surgical robots, we do open heart surgery, and we have radiation therapy. We have the full gamut of services, and we can provide a high level of care here in the community," she says.

In contrast, for-profit health system boards tend to be a blend of investor representatives and community leaders.

At Nashville-based HCA Healthcare Inc., a for-profit health system with more than 180 hospitals, the chairman of the board is Thomas F. Frist III, founder and managing principal of Frist Capital LLC, a Nashville investment firm.

Other members of the HCA board include Nancy-Ann DeParle, a partner at New York-based Consonance Capital Partners, a private equity firm that invests in healthcare companies. Charles O. Holliday Jr., chairman of Royal Dutch Shell PLC, which is headquartered in The Hague, the Netherlands, is also on the board.

Truman Medical Centers, a safety-net healthcare organization based in Kansas City, Missouri, is firmly linked to the communities it serves, says CFO Allen Johnson, CPA.

"We are more community-driven than a for-profit model, which is more driven by the ability to derive financial benefits to shareholders. Because we are more community-driven, our strategic plan is more oriented to community-based programs," he says.

For example, Truman Medical Centers has been entering into community partnerships to expand its primary care footprint. "We opened a new clinic that is connected to a community-based YMCA, and we are going to invest in another clinic with the YMCA," Johnson says.

In addition to local imperatives to be community-oriented, the Internal Revenue Service requires nonprofits to have a local focus in their strategic planning, Freas says.

"We are required to develop a community needs assessment, and we reference that assessment in our strategic plan. We have a whole section in that strategic plan centered on partnerships. This is to develop partnerships with other community entities—schools, businesses, and the taxing-district communities. We work together to target needs that have been identified in the assessment," she says.

2. For-profits' lean advantage
 

In the current era of declining or flat-leveled reimbursement from major payers such as Medicare, lean operating models are a distinct strategic advantage at for-profit healthcare organizations, says the leader of the investor-owned hospitals' national trade association.

"There is no question that the financial and revenue cycle aspects of the investor-owned sector hospitals is their sweet spot. They do a wonderful job in a complex environment. The companies we represent have generally found the balance between centralizing much of the paperwork for groups of hospitals, as well as making sure that the right kind of collection information and other tools are used at their individual hospitals. It has been an advantage for us," says Charles N. "Chip" Kahn III, president and CEO of the Washington, D.C.–based Federation of American Hospitals.

Cost-consciousness is a hallmark of for-profit health systems, Keckley says. "If you have a lower cost structure in this environment, it's an advantage. Period. And that tends to be an advantage that the investor-owned health systems have. In most markets, they operate cheaper."

One cost-conscious strategy pursued at for-profits is to shy away from offering tertiary and quaternary care in many markets, Keckley says.

"In some markets, you will find that the investor-owned hospitals have clinical programs like neonatal intensive care units, organ transplants, and burn units, but it's rare. That's because those programs tend to have operating losses. So, the cost structure at the investor-owned hospitals is typically lower because they tend to operate efficiently, they tend to buy in bulk with group purchasing muscle, and they don't do everything that many of the not-for-profits of the same or bigger size do," he says.

For example, Dallas-based Steward Health Care has adopted a community hospital-focused strategy in Massachusetts, essentially ceding tertiary and quaternary care to nonprofit competitors such as Boston-based Partners HealthCare, which features Massachusetts General Hospital as well as Brigham & Women's Hospital.

"There are four big payers in Massachusetts, and you have five big academic medical centers that were fighting among themselves. So, Steward had an interesting strategy," Keckley says.

There are examples of for-profits that buck this trend, Kahn says.

"Every market is different. Tenet has the Detroit Medical Center. HCA Healthcare has hospitals in Dallas that provide tertiary care. Beyond those Dallas hospitals, HCA Healthcare has a strategy across its hospitals to become the largest provider of graduate medical education in the country. This year, HCA has 4,000 residents," he says.

3. Short-term vs. long-term outlook
 

Compared to nonprofit health systems, for-profit organizations tend to have less tolerance for member hospitals that struggle financially, Keckley says.

"What's clear about the investor-owned world is they are in the asset management business, and when they can no longer generate a return on an asset, they will change. They will dispose of the asset, they will sell the company, or they will find another line of business. In the not-for-profit world, making bold changes is harder," he says.

Nonprofit health systems have more of a long-term strategic approach to struggling hospitals, says CFO Rob McMurray, MBA, CPA, at Wilmington, Delaware-based Christiana Care Health System.

"In a for-profit business, there is a greater focus on shorter- or nearer-term profitability. Whereas, in a not-for-profit organization, there is a greater focus on the long-term organizational vitality of the health system that is serving the community. As a result, the not-for-profit organizations are going to be more likely to accept short-term losses, with the understanding that there are going to be long-term positive benefits to the community," he says.

The long-term view prevalent at nonprofit health systems also applies to investment strategies, McMurray says.

"The nonprofit healthcare organizations are more likely to invest into the community that they serve, with a longer-term and more nontraditional view of return on investment," he says. "A nonprofit healthcare organization is more likely to invest money into programs that may not provide a return in the near term and, in the long term, ultimately provide a return that is aligned with the mission of the organization."

For example, Christiana Care recently made a $1 million commitment to the REACH Riverside Development Corporation, which is working to invigorate a struggling neighborhood in the health system's core service area.

"It's a local, nonprofit, community-based organization in one of the most impoverished neighborhoods of Wilmington, Delaware, which is the primary community that we serve. This group is supported by a combination of nonprofit, government, and community organizations. It is designed to address the needs of the local neighborhood, and it is led through a high level of community engagement. Our contribution will help provide REACH with the resources necessary to meet the needs of this neighborhood," McMurray says.

The investment in REACH reflects Christiana Care's commitment to the communities that the health system serves, he says. "Nonprofits have a different focus. We are focused on our community. A for-profit organization can address a community-based mission, but there's just a different focus involved."