Differences Between NFPs and For-Profits are Marginal

Is the distinction beginning to blur between for-profit and nonprofit healthcare organizations?

This article first appeared in the March 2016 issue of HealthLeaders magazine.

For-profit and nonprofit hospitals are fundamentally similar organizations with subtly different cultural approaches to managing the economics of healthcare.

All acute care hospitals serve patients, employ physicians and nurses as their primary personnel, and operate in the same regulatory framework for delivery of clinical services.

For-profit hospitals add a unique element to the mix: generating a return for investors. This additional ingredient gives the organizational culture at for-profits a subtly different flavor than the one at their nonprofit counterparts, says Yvette Doran, FACMPE, chief operating officer at Saint Thomas Medical Partners in Nashville, which is affiliated with Ascension Health, a nonprofit based in St. Louis that owns 131 hospitals in 24 states and the District of Columbia.

"When I think of the differences, culture is at the top of my list. While quality care is a priority for both, the culture at for-profits is business-driven. The culture at nonprofits is service-driven," she says.

However, the fundamental similarities of all acute care hospitals blunt the impact of the business-driven culture at for-profits, Doran says, noting the differences between for-profits and nonprofits reflect cultural nuances rather than cultural divides. "Good hospitals need both. Without the business aspects on one hand and the service aspects on the other, you can't function well."

Doran has prior work experience at Franklin, Tennessee–based for-profit Community Health Systems. CHS operates 202 hospitals in 29 states, and reported 2014 net operating revenues of $18.6 billion and adjusted EBITDA of $2.8 billion.

The executive leadership at Capella Healthcare, a relatively small for-profit health system based in Franklin, Tennessee, shares much of Doran's nuanced perspective on the differences between for-profit and nonprofit hospitals.

"At Capella, we do not believe there are significant differences between for-profit—or taxpaying—hospitals and nonprofit hospitals. In fact, that line of differentiation has become exceptionally blurred in recent years," says Michael Wiechart, president and CEO of Capella, a privately held company that operates 10 acute care and specialty hospital facilities in five states, and for fiscal year 2014 reported $713.4 million in revenue from continuing operations, net of the provision for bad debts, and adjusted EBITDA of $103.3 million.

"Both of us share the mission of delivering the highest-possible quality of care. And both of us must make a sustainable bottom line in order to achieve the mission and to expand care for the future. We are both held accountable on our quality of care, our ability to be good stewards of the operations, and to make our organizations great places to work for both employees and physicians. While each operates by some slightly different rules and regulations based on our business or tax structure, both of us have all of the same basic goals and challenges."

For-profits and nonprofits have a nearly identical mission under ground rules designed to foster and support value-based care, Wiechart continues. "Neither for-profits nor nonprofits have the luxury of ignoring sustainability or patient-care excellence. We're all dealing with the same environment and the same challenges. And it's about who can do it better. Being able to make a sustainable bottom line is necessary for reinvestment and growth for everyone, regardless of your tax status.

"You just have to consider what the motivation is around making the profit. For us, it's about being able to reinvest in our family of hospitals, which we historically have done by reinvesting 100% of free cash flow into growth and quality improvements, not in dividends to shareholders."

Comparing business model theories
In theory, for-profit hospitals should operate with more zealous attention to business objectives than nonprofits because shareholders have their money on the line.

"The absence of a residual claimant with a financial interest in the organization means that no one individual, or group of individuals, has strong incentives to monitor the behavior of the organization at nonprofit hospitals," Rexford Santerre, PhD, a professor of finance and healthcare management at the University of Connecticut, wrote in a 2005 National Bureau of Economic Research report with a Finance Department colleague John Vernon, PhD. The NBER is a private, nonprofit economic research organization based in Cambridge, Massachusetts.

In the absence of mitigating factors such as shared regulatory frameworks and shared interests in providing quality services, financial considerations would dominate decision-making at for-profit hospitals, Doran says. "If I were a fly on the wall at a for-profit meeting, the dollar would be at the top of the list. If I were a fly on the wall of a nonprofit meeting, the patient would be at the top of the list."

In an interview with HealthLeaders, Santerre explains that for-profit boards and their executive leadership teams, which invariably have monetary performance incentives built into compensation packages, face a measure of financial pressure that is absent at nonprofits. "Theoretically, there is a residual claimant, and that residual claimant wants to maximize profit," he says, referring to for-profit shareholders.

In contrast, Santerre says nonprofit boards and their executive leadership theoretically have an "incentive not to compromise quality," noting a nonprofit is required to distribute earnings back into the organization or into its service-area communities. Nonprofits can reinvest earnings in facilities, lower charges to patients, or offer community benefits. In contrast, one of the prime benefits of operating as a for-profit is the opportunity to bank positive operating margin after taxes. "You can take on risks, but you can also gain the rewards as a for-profit," he says.

Quality as a common denominator
Despite the indications of business theory, there is no evidence that for-profits compromise quality of care through cost-cutting, Santerre says. "It's never played out in reality. … Physicians play a huge role at hospitals, which are the workshop of physicians. The physicians will do what they do regardless of the ownership structure of the hospital. Studies have shown not a dime of difference between for-profits and not-for-profits in terms of performance … measures such as quality, community benefits, and costs."

There also is no indication that for-profit hospitals are posting higher operating margins than their nonprofit counterparts, Santerre says. "There may be a different target at for-profits, but they're not achieving a different margin. … When taken as a whole, the literature does not show a significant difference in the profitability of for-profit and nonprofit hospitals. That's what we report in our textbook."

The 2016 HealthLeaders Media Industry Survey indicates there is little difference in reported margin among for-profit and nonprofit organizations. Fifteen percent of the for-profits reported a negative operating margin for the most recent fiscal year, nearly equal to the 16% of nonprofits reporting negative margin. Similarly, 9% of respondents from for-profits reported that their organization's financial forecast for the current fiscal year was negative or very negative, just a few points better than the 12% of nonprofits reporting a negative outlook.

For-profit and nonprofit hospitals achieve similar levels of quality care, says Mark R. Chassin, MD, FACP, MPP, MPH, president and CEO of The Joint Commission, an independent nonprofit that accredits and certifies nearly 21,000 healthcare organizations and programs in the United States.

The organization's Top Performer program has measured hospital quality performance from 2010 to 2014. The program recognizes those that attain excellence in accountability measure performance. The data report on evidence-based interventions for heart attack, heart failure, pneumonia, surgical care, children's asthma care, hospital-based inpatient psychiatric services, venous thromboembolism, stroke, immunization, perinatal care, substance use, and tobacco treatment.

"By 2014, there really are only minor differences between quality outcomes of for-profit and nonprofit hospitals," Chassin says.

The data shows that a greater share of for-profit hospitals make the quality cut as a Top Performer than nonprofits, he says. In 2010, 30.7% of for-profit hospitals participating in the quality assessment program earned Top Performer status, but only 9.7% of nonprofit hospitals qualified for the top honor.

Nonprofits have improved their standing in the Top Performer program significantly, Chassin says, noting 30.6% of nonprofits qualified as Top Performers in 2014. But for-profits continue to outperform nonprofits in Top Performer propensity, with 47.8% of for-profits qualifying as Top Performers in 2014. "Not-for-profit hospitals made up a lot of ground on the quality measures over this time period," he says.

For the 2014 results announced in November 2015, 3,315 hospitals provided data to The Joint Commission and 1,043 were recognized as Top Performers.

All hospitals have been under pressure to improve quality since the publication of an Institute of Medicine report in 1999 that estimated as many as 98,000 people die in hospitals each year from preventable medical errors.

To Err Is Human: Building a Safer Health System launched a systemic push to improve quality at hospitals, Chassin says. "Community stakeholders started asking questions. Boards of directors started asking questions. CEOs started asking questions. Adverse events got into the media. The quality problem needed to be addressed."

In September 2013, a report in the Journal of Patient Safety estimated that more than 400,000 premature deaths occur annually due to preventable harm to patients at medical facilities. The report also noted that serious harm seems to be 10- to 20-fold more common than lethal harm.

The staff and quality
The motivations of for-profit health system and hospital leadership teams extend far beyond financial incentives, Chassin says. "Self-interest is a very narrow view of how for-profit hospitals see their pathway to success. You can get by for a while scrimping on quality … but in order to be recognized, grow volume, and attract physicians as well as patients, you can't cut corners on quality for long."

Quality is a goal for all hospitals, Chassin says. "Nothing significantly separates not-for-profits and for-profits now on quality measures. The difference is a few percentage points one way or the other in care measure data. Qualitatively, hospitals of all kinds are focused on quality. They are all very attuned to a much wider array of quality initiatives than before, both external metrics and internal metrics."

The staff members who provide care in hospitals have motivations that trump financial incentives, says Dereesa Reid, CEO of Hoag Orthopedic Institute in Irvine, California, a 70-staffed-bed joint venture between physicians and Hoag Memorial Hospital Presbyterian.

"Economic theory does not totally apply in healthcare because one of the variables that is not considered in traditional economics is the vocational calling factor," says Reid, who worked at a county hospital, a state-owned academic medical center, and a faith-based nonprofit health system before leading HOI, which has a nonprofit/for-profit ownership structure. Hoag Memorial Hospital Presbyterian, a nonprofit health system based in Newport Beach, California, holds a 51% ownership stake in the for-profit HOI and for-profit physician groups hold a 49% stake. "Doctors and nurses go into the profession because they want to help people. It is a calling."

Business-driven operational discipline
In practice, manifestations of the economic pressures inherent to the business model at for-profit hospitals are subtle but significant, says Neville Zar, senior vice president of revenue operations at Boston-based Steward Health Care System, a for-profit that includes 3,000 physicians, nine hospital campuses, 30 affiliated urgent care providers, and six ambulatory surgery centers, plus home care, hospice, and other services. The system earns nearly $2.4 billion in net patient service revenue and serves more than 1 million patients annually in more than 150 communities. The system is owned by New York City–based Cerberus Capital Management.

With positive financial performance among the primary goals of shareholders and the top executive leadership, operational discipline is one of the distinguishing characteristics of for-profit hospitals, Zar says. "At Steward, we believe we've done a good job establishing operational discipline. It means accountability. It means predictability. It means responsibility. It's like hygiene. You wake up, brush your teeth, and this is part of what you do every day."

A revenue-cycle dashboard report is circulated at Steward every Monday at 7 p.m., and includes point-of-service cash collections, patient coverage eligibility for government programs such as Medicaid, and productivity metrics, he says. "There's predictability with that."

Steward's commitment to operational discipline is reflected in the health system's training and staff development programs, Zar says. "They're one of the last things we cut if there are budget reductions. That's how you lose operational discipline."
The revenue cycle team at Steward has an internship program for college students and peer-to-peer coaches who work side by side with the low performers on the staff, he says. "The reason the coaches are effective is the coach is not the boss, and they have to be high performers."

The coaching program also serves as a performance incentive. "People want to be coaches. It takes them out of production, at least temporarily. It gives them recognition. It gives them an opportunity to advance," Zar says.

Operational discipline is an essential building block for developing speed of execution capacities, he says. "At Steward, we have a flat organization. We have eliminated a lot of the bureaucracy you see at nonprofits and academic medical centers. The revenue cycle leaders sit down with the IT team every week. Once we decide something is important, we roll up our sleeves and get it done."

Another method of addressing operational efficiency involves a thorough review of practices.

"One of the initiatives we've had success with—in both new and existing hospitals—is to conduct an operations assessment team survey, says Andrew Slusser, executive vice president and chief development officer at Capella. "It's in essence a deep dive into all operational costs to see where efficiencies may have been missed before. We often discover we're able to eliminate duplicative costs, stop doing work that's no longer adding value, or in some cases actually do more with less," he says.

An emphasis on financial accountability
A high level of accountability also fuels operational discipline at Steward and other for-profits, Zar says.

There is no ignoring the financial numbers at Steward, which installed wide-screen TVs in most business offices three years ago to post financial performance information in real time. "There are updates every 15 minutes. You can't hide in your cube," he says. "There was a 15% to 20% improvement in efficiency after those TVs went up. It's not punitive. It builds teamwork. … Your name is on the board, or your team's name is on the board. It becomes competitive; people are naturally competitive."

The TVs display several metrics, such as receivable follow-up performance and claims denial reversal rates. "Everybody's throughput is up on the board," Zar says.

Accountability for financial performance flows from the top of for-profit health systems and hospitals, says Dick Escue, chief information officer at Valley View Hospital, a 78-licensed-bed nonprofit community hospital in Glenwood Springs, Colorado.

Escue worked for many years at a rehabilitation services organization that for-profit Kindred Healthcare of Louisville, Kentucky, acquired in 2011. "We were a publicly traded company. At a high level, quarterly, our CEO and CFO were going to New York to report to analysts. You never want to go there and disappoint. … There's so much more accountability. You're not going to keep your job as the CEO or CFO of a publicly traded company if you produce results that disappoint."

Finance team members at for-profits must be willing to push themselves to meet performance goals, Zar says. "Steward is a very driven organization. It's not 9-to-5 hours. Everybody in healthcare works hard, but we work really hard to serve the communities in which we are invested. We're driven by each quarter, by each month. People will work the weekend at the end of the month or the end of the quarter to put in the extra hours to make sure we meet our targets. First and foremost is patient satisfaction, patient safety, and clinical outcomes. There's a lot of focus on the financial sustainability, from the senior executives to the worker bees. We're not ashamed of it."

"Cash blitzes" are one way Steward's revenue cycle team goes into to overdrive to boost revenue when financial performance slips, he says. Based on information gathered during team meetings at the hospital level, the revenue cycle staff focuses a cash blitz on efforts that have a high likelihood of generating cash collections, including tackling high-balance accounts and addressing payment delays linked to claims processing such as claims rejections from payers.

Finding unique ways to incentivize employees is part of the business-driven culture for Steward's revenue cycle team, Zar says, adding that nonmonetary incentives can be just as effective as a little extra money in a paycheck. In November, when the health system posted cash collections at a record pace, members of the revenue cycle staff received fleece sweaters with the cash goal for the month embroidered on the sleeve. "People wear those fleeces for bragging rights," he says.

Executive compensation and incentives
For-profit hospitals routinely utilize monetary incentives in the compensation packages of the C-suite leadership, says Brian B. Sanderson, managing principal of healthcare services at Oak Brook, Illinois–based Crowe Horwath LLP. "If your income is tied to the success of the business, you will pay a lot of attention to operational discipline. The compensation structures in the for-profits tend to be much more incentive-based than compensation at not-for-profits," he says. "Senior executive compensation is tied to similar elements as found in other for-profit environments, including stock price and margin on operations."

In contrast to offering generous incentives that reward robust financial performance, for-profits do not hesitate to cut costs in lean times, Escue says, noting cost discipline is a key element of the organizational culture at such hospitals.

"The rigor around spending, whether it's capital spending, operating spending, or payroll, is more intense at for-profits. The things that got cut when I worked in the back office of a for-profit were overhead. There was constant pressure to reduce overhead," he says. "Contractors and consultants are let go, at least temporarily. Hiring is frozen, with budgeted openings going unfilled. Any other budgeted-but-not-committed-spending is frozen. … Even capital spending can be affected. Capital spending almost always creates new operating expenses. Capital spending such as IT projects can be slowed down or stopped."

The impact of tax status
The for-profit hospital business model has several unique characteristics. The most obvious difference—tax status—has a major impact financially on for-profit hospitals and the communities they serve.

"I see taxes as a preferred dividend back to the community. They're first in line," Wiechart says of Capella's local and state taxes. "They give us their trust and their patients. The community can then turn around and redeploy tax payments for other social needs like schools, roads, and public safety."

Hospital payment of local and state taxes is a significant benefit for municipal and state governments, says Gary D. Willis, CPA, executive vice president and chief financial officer at Capella. "Our hospitals are proud of the community support they provide, including the payment of property and sales taxes used to help fund community needs such as support of their local schools, development of roads, recruitment of business and industry, and other needed services. Taxes paid in the communities we currently serve ranged in 2014 between $984,856, in a state with no sales tax, to $3.6 million."

The financial burden of paying taxes helps to create a corporate culture that emphasizes cost consciousness and operational discipline, says Slusser. "For-profit hospitals generally have to be more cost-efficient because of the financial hurdles they have to clear: sales taxes, property taxes, all the taxes nonprofits don't have to worry about."

The advantage of scale
Scale is another hallmark of the for-profit hospital sector.

There are 4,974 community hospitals in the United States, according to the American Hospital Association. Nongovernmental not-for-profit hospitals account for the largest number of facilities at 2,904. There are 1,060 for-profit hospitals, and 1,010 state and local government hospitals.

The for-profit hospital sector is highly concentrated. The country's for-profit hospital trade association, the Washington, D.C.–based Federation of American Hospitals, represents 14 health systems that own more than 1,000 hospitals. Four of the FAH health systems account for about 520 hospitals: CHS; Nashville-based Hospital Corporation of America; Brentwood, Tennessee–based LifePoint Health; and Dallas-based Tenet Healthcare Corporation.

"For-profits represent 20% of the total hospitals but only a handful of companies—companies that have huge sets of assets," says Chip Kahn III, FAH president and CEO. And that scale generates several benefits at for-profit hospitals.

"Scale is critically important," says Julie Soekoro, chief financial officer at Grandview Medical Center, a CHS 250-staffed-bed tertiary care hospital in Birmingham, Alabama. "What we benefit from at Grandview is access to resources and expertise. I really don't use consultants at Grandview because we have corporate expertise for challenges like ICD-10 coding. That is a tremendous benefit."

Grandview also benefits from the best practices that have been shared and standardized across the 200 CHS hospitals. "Best practices can have a direct impact on value," Soekoro says, adding that large health systems can support individual hospitals in several ways. "The infrastructure is there. For-profits are well-positioned for the consolidated healthcare market of the future. … You can add a lot of individual hospitals without having to add expertise at the corporate office."

The High Reliability and Safety program at CHS is an example of how standardizing best practices across every hospital at the health system has generated significant performance gains, she says.

"A few years ago, CHS embarked on a journey to institute a culture of high reliability at the hospitals. The hospitals and affiliated organizations have worked to establish safety as a core value. At Grandview, we have hard-wired a number of initiatives, including daily safety huddles and multiple evidence-based, best practice error-prevention methods. Meetings begin with a safety moment, we have safety coaches throughout the facility, and other structures designed to support safety as a core value.

"For example, at 9 a.m. on weekday mornings at Grandview, each department gets on a facilitywide safety call where we address all manner of safety concerns," Soekoro says. "Frequently heard [comments] may include: 'It's raining today—make sure the entrances are adequately managed for possible wet floors'; or 'Two patients with same name on the seventh floor today—assign different nurses to avoid confusion in dispensing medications'; and 'Based on anticipated volumes today, any anticipated staffing issues?'

"The success of these efforts is measured by companywide reductions in serious safety events, which are shared on a quarterly basis," she says.

Expertise in the corporate office has been a key to success for Capella, which has many executives with ownership stakes in the company, Wiechart says. "We're vested consultants who have a shared interest in our hospitals' success."

Members of Capella's executive leadership teams at the health system and hospital level own 48% of the economic value of the company and control 51% of the Capella board of director voting rights, he says.

The ability to access capital
Scale also plays a crucial role in one of the most significant advantages of for-profit hospitals relative to their nonprofit counterparts: access to capital.
"There's no question that scale is additive to the discussion when it comes to access to the capital markets," Wiechart says, noting investors covet the diversified risk that comes with scale.

Investors are also drawn to for-profits because of their focus on the financial side of their business, says Willis, Capella's CFO. "A significant difference is that we often have better access to capital for investment in our hospitals due to the expectation that we will be good stewards with capital deployment."

Ready access to capital gives for-profits the ability to move faster, says Crowe Horwath's Sanderson. "They're finding that their access to capital is a linchpin for them. … When a for-profit has better access to capital, it can make decisions rapidly and make investments rapidly. Many not-for-profits don't have that luxury."

The result, Wiechart says, is "a better structure through which to access capital dollars for investing in facilities, services, and recruitment. For-profit organizations don't have to rely on taxes or bond support to launch needed services or recruit vital providers. And, while we rely on leadership and support from our communities, we don't have to ask them to fund our investments. Nonprofits tend to rely on their communities for financial support. We can be more nimble or flexible, responding more quickly to what's needed."

Learning from the for-profit model
The similarities between for-profit and nonprofit hospitals outweigh the differences, but there are valuable lessons for nonprofits to draw from the for-profit business model as the healthcare industry shifts from volume to value, Doran says.

When healthcare providers negotiate managed care contracts, for-profits have a bargaining advantage over nonprofits, she says. "In managed care contracts, for-profits look for leverage and nonprofits look for partnership opportunities. The appetite for aggressive negotiations is much more palatable among for-profits."

As patients take on more out-of-pocket costs and become more prominent economic agents in the healthcare industry, the revenue cycle teams at nonprofit hospitals can improve their bill-collection performance through adoption of the business-driven culture at for-profits, Doran says, noting "the level of zest with which you pursue the patient's responsibility" is more intense at for-profits.

Particularly for faith-based nonprofits such as Ascension Health that actively reach out to economically disadvantaged patient populations, embracing elements of for-profit culture will require walking fine lines, she says. "In addition to conducting charity care, we have additional Medical Missions that include the poor and vulnerable within the community. It's a little bit of a twist that makes us different from for-profits."

And of course, a successful organization can better meet its mission. "Good business practices make sense for nonprofits because if you're managed effectively, you can provide care to a lot more people, Reid says. She also notes that nonprofit hospitals can even learn from for-profit organizations outside the healthcare industry.

"Hospitals can learn from other industries on how to align and incentivize employees closer with pay for performance. Semiconductor wafer fabricators are a wonderful model to study. They measure quality, efficiency, and cost in almost real time. I have seen wafer fabricators where frontline employees can see real-time metrics and how they are trending to monthly incentive goals," she says.

"The idea is to make an impact as soon as the data starts trending in the wrong direction—waiting weeks or months for the perfect report results in inertia," Reid says. "Semiconductor employees know how many defects are in the manufacturing line. They know where the defects occur and they know how their efficiency is trending. At hospitals, this approach could be applied to OR turnover times, staffing targets, and bed turnover."

Delivering healthcare services based on value is going to be a far more complicated and risky business environment for all hospitals, and nonprofits can help ensure their existence through adoption of a more business-driven organizational culture, Kahn says.

"If you have any kind of an enterprise in our economy: No margin, no mission. Every hospital has to make a margin," he says. "The no-margin, no-mission imperative is always present on the private investor side; but on the nonprofit side, sometimes they forget that. And they forget at their own risk."

"At some point," Sanderson says, "part of the mission is to be a relevant, thriving healthcare organization. If you have no margin, if you have no money to invest, if you cannot maintain a reputation as a high-quality provider, then it's hard to remain a relevant organization in the communities you serve."

"Since Capella's decentralized management approach involves local control of the hospital, this is particularly important. … Without their support, buy-in, and involvement, the hospital will not make progress."