Health systems’ financial results so far this year suggest the start of a gradual and sustained recovery, though there are persistent challenges — such as high costs for drugs and supplies, as well as less-than-ideal rates from payers.
Despite ongoing cost pressures, hospitals’ median operating margin held steady at 4.2% to close out the first half of the year, dropping slightly in July to 4.1%, according to data Kaufman Hall released on Wednesday. This is compared to a median operating margin of 1.3% in July 2023 and -0.98% in July 2022.
“It is notable that many hospitals were able to maintain relatively stable operating margin performance in the first half of 2024 amid the persistent cost pressures, increasing regulatory burdens, and other operating pressures,” declared Steve Wasson, chief data and intelligence officer at financial software company Strata Decision Technology.
While there are definite signs of improving financial status for health systems, it’s also important to note that the gulf between financially successful institutions and those still struggling is only widening.
Wasson and five other financial experts who were interviewed recently agree that in order for struggling organizations to get back on track, they will need to focus more on operational efficiency, as well as negotiate better rates with payers and suppliers.
Things are getting better than they were last year
Increasing patient volumes and decreasing length of stay are two recent positive signs of improving fortunes at health systems.
In July, hospitals’ outpatient and inpatient revenue grew by 9% and 8%, respectively, from July 2023, according to Kaufman Hall’s data. Discharges grew by 3% year-over-year as of July, while average length of stay decreased by 2%, the report showed.
Nonetheless, most hospitals are still facing significant headwinds, pointed out Andrew Bess, chief client officer at Ensemble Health Partners, which provides health systems with revenue cycle management solutions.
“Providers are still struggling to get payers to agree to adequate reimbursement rates to cover the increasing cost of care. Meanwhile, payers are heavily investing in preemptive payment scrutiny, causing an influx of AI-driven denials and significant payment delays, which are exacerbating resource constraints and financial pressure across most hospitals,” he explained.
Bess noted that he expects hospitals’ administrative costs to continue rising as payer’s denials continue to increase. These costs will be mainly tied to the management of claims, appeals and denials.
Many health systems are also still facing financial fallout from the Change Healthcare cyberhacking incident, “which highlights how fragile financial stability is for most systems,” he added. It’s been more than six months since the Change Healthcare incident occurred, but some health systems are still missing payments for patient encounters from February.
For some hospitals, the money situation is so dire that a few too many missed payments could spell financial ruin.
Cost pressures are unabating
Hospitals continue to feel the pains of rising labor and non-labor expenses, and those
pressures show no signs of slowing anytime soon, stated Wasson of Strata Decision Technology.
Hospitals’ total expenses per day grew by 6% from July 2023 to July 2024, according to Kaufman Hall’s data. Costs for drugs and other supplies rose by nearly 10%, and labor expenses increased by 4%.
“Looking at monthly data from hospitals nationwide, [labor and non-labor expenses] seem to be in a constant, neck-and-neck race in terms of which grows at a faster rate,” Wasson observed. “We anticipate cost pressures will remain high throughout the remainder of the year.”
Another expert — Elizabeth Southerlan, partner in West Monroe’s healthcare and life science practice — agreed that expenses will likely continue to increase through the end of 2024.
Hospitals that are doing well financially have made targeted improvements to modernize and digitize their workforce, she said. Successful hospitals are adopting new technologies, such as AI assistants and documentation tools, to automate tasks and make employees’ work days more efficient.
They are also finding ways to purchase medications and medical supplies at lower costs by negotiating better deals with suppliers or buying in larger quantities, which allows them to get discounts, she added.
“There is obvious value in scale, so the hospital systems that are unable to invest capital into these improvements will likely continue to suffer from economic pressures,” Southerlan stated.
The performance gap is getting bigger
While hospital finances seem to be stabilizing overall, a closer review shows that there is a widening gap between the highest- and lowest-performing organizations.
There are several factors contributing to the growing gap between hospitals that are performing well financially and those that aren’t, said Erik Swanson, senior vice president at Kaufman Hall.
“Higher-performing hospitals have developed strategies to pursue opportunities in outpatient services, which are growing at a significantly faster pace than inpatient services. They also have been more effective at driving down utilization of more expensive contract labor — often, they increased wage rates for full-time employees, which seems to have helped them recruit and retain full-time staff,” he explained.
The outpatient services he mentioned include ambulatory surgeries, diagnostic services, physical therapy, and urgent care and walk-in clinics.
Swanson also said that hospitals with strong finances also tend to be very focused on patient throughput, which leads to timely and appropriate patient discharges.
In his opinion, smaller hospitals that are continuing to struggle financially should adopt a “no-regrets” strategy. In other words, these hospitals should pursue opportunities to capture every last penny.
“A ‘no regrets’ strategy for these hospitals is to focus on efforts to stabilize financial performance through operations improvement and accurate revenue capture. These efforts will help keep the organization on a financially sustainable path and will also help position the hospital for possible partnership opportunities,” Swanson stated.
For-profit vs. nonprofit
Unsurprisingly, the hospitals that have performed best this year are large, for-profit systems.
During the second quarter of 2024, the nation’s two largest for-profit hospital chains — Nashville-based HCA Healthcare and Dallas-based Tenet Healthcare — posted a net income of $1.5 billion and $259 million, respectively. HCA ended the quarter with an operating margin of 12.8%, and Tenet finished with a 14.9% operating margin.
“Profit margin improvement has supported modest deleveraging for most for-profit hospitals. While cost of doing business, [such as labor and supplies], is higher, it seems to have plateaued, and for-profit hospitals are gradually passing increased costs to payers through their periodic contract rate renegotiations,” Kailash Chhaya, a vice president at Moody’s Ratings, said in an emailed statement.
The story for nonprofit health systems isn’t as rosy, though they are doing better as a whole than this time last year.
Some of the large nonprofit systems are thriving financially, such as Rochester, Minnesota-based Mayo Clinic and Oakland-based Kaiser Permanente. Mayo Clinic reported an operating income of $449 million for the second quarter, which represents a 8.9% operating margin. Kaiser Permanente posted an operating income of $908 million, which represents a 3.1% operating margin.
Daniel Steingart, another vice president at Moody’s Ratings, pointed out that only about 10% of Moody’s rated nonprofit hospitals are now producing operating cash flow margins that are less than 1%. In the second quarter of 2022, this metric was about 20%, he stated.
“Though over 60% of hospitals are producing more sustainable cash flows of 6% or greater compared with less than half in 2022, margins still remain weaker than pre-pandemic levels in the 8-9% range,” Steingart added.
There were even some well-known nonprofit systems that ended the second quarter in the red. For instance, the second quarter operating margin was -1.6% for Washington-based Providence, -2.9% for Pittsburgh-based UPMC and -7.9% for Boston-based Tufts Medicine.
Performance improvements for these health systems will “largely hinge on improved payer rates, increased volumes and disciplined cost cutting,” Steingart said in his statement.
Photo: Andrey Tolkachev, Getty Images
