CONNECTICUT GENERAL ASSEMBLY

LEGISLATIVE PROGRAM REVIEW AND INVESTIGATIONS COMMITTEE

The Legislative Program Review and Investigations Committee is a joint, bipartisan, statutory committee of the Connecticut General Assembly. It was established in 1972 to evaluate the efficiency, effectiveness, and statutory compliance of selected state agencies and programs, recommending remedies where needed. In 1975, the General Assembly expanded the committee's function to include investigations, and during the 1977 session added responsibility for "sunset" (automatic program termination) performance reviews. The committee was given authority to raise and report bills in 1985.

The program review committee is composed of 12 members. The president pro tempore of the Senate, the Senate minority leader, the speaker of the house, and the House minority leader each appoint three members.

2005-2006 Committee Members

Committee Staff

Carrie Vibert, Director

Catherine M. Conlin, Chief Analyst

Jill Jensen, Chief Analyst

Brian R. Beisel, Principal Analyst

Michelle Castillo, Principal Analyst

Maryellen Duffy, Principal Analyst

Miriam P. Kluger, Principal Analyst

Anne E. McAloon, Principal Analyst

Renee La Mark Muir, Principal Analyst

Scott M. Simoneau, Principal Analyst

Carrie O. Evangelinos, Legislative Analyst II

Bonnine T. Labbadia, Executive Secretary

Project Staff

Catherine M. Conlin

Michelle Castillo

Wes Renfro, Legislative Fellow

Legislative Program Review

& Investigations Committee

Funding of Hospital Care

December 2006

Table of Contents

Funding of Hospital Care

Executive Summary

Introduction 1

Methods 1

Report Organization 2

I. Hospital Funding: A Summary Profile 5

Connecticut's Hospital System in National Context 7

II. Profile of Hospital Funding by Payer Source 15

Private Insurance 17

Medicare 20

Medicaid Managed Care 24

Medicaid Fee-For-Service 27

State Administered General Assistance 33

Disproportionate Share Program 35

III. Profile Summary of Acute Care Hospitals 39

Administrative Structures 39

Financial Indicators 42

Utilization Measures 45

Analysis of Selected Indicators and Potential Impact 46

Summary 53

IV. Connecticut's Hospital Payment System 55

Medicaid Fee-For-Service Inpatient Rate-Setting 57

Impact of Medical Assistance Underpayment Among Connecticut Hospitals 60

Medicaid Managed Care Rates 67

V. Additional Financial Assistance 73

Hardship Grants 73

Medicaid Disproportionate Share Program 78

Uncompensated Care 89

Free Care and Reduced-Cost Reporting Requirement 93

VI. Hospital Utilization in Connecticut 101

Emergency Room Utilization 101

Medicaid Inpatient Utilization 104

VII. Connecticut's Health Care Market and Cost Containment 109

Connecticut's Health Insurance and Hospital Market 110

Other Competitive Pressures 112

Containing Health Care Costs 116

Appendices

Executive Summary

Funding Hospital Care in Connecticut

In April 2006, the Legislative Program Review and Investigations Committee voted to undertake a study of hospital funding in this state. The study's main purpose was to examine the mix of revenue sources hospitals rely on to fund services, and especially to focus on how government payments impact the financial viability of hospitals in Connecticut.

There are currently 30 acute care hospitals in Connecticut, and all except one are non-profits. (For most of the study there were 31 hospitals, and the analysis in the report is based on 31 hospitals. In October 2006, New Britain General Hospital and Bradley Memorial merged into the Hospital of Central Connecticut, although the two separate campuses are maintained).

The total amount of adjusted net revenue for all hospitals for FY 05 was approximately $6.36 billion. Using measures that examine Connecticut's hospitals in comparison with the national experience, several impressions emerge. Connecticut has a low ratio of hospitals and hospital beds for its population and, therefore, it does not appear that it has too much capacity to support. Connecticut is a small, densely populated state, though, and Connecticut residents have a hospital located closer to them than do residents in almost any other state.

Connecticut ranks very high in terms of the dollars per capita it spends on health care, but on closer examination, this state spends considerably less on hospital care as a percent of all health care expenditures than does the rest of the country. Connecticut residents spend significantly more on long-term care, partly because Connecticut has a high percentage of elderly, but also because this state has a very high number of nursing home beds per 100 people 65 years and older. Increasing competition by outpatient surgical centers and other ambulatory centers has also impacted hospitals' revenue streams.

Connecticut's hospitals appear not as healthy financially as hospitals in the rest of the country. Operating margins for Connecticut hospitals are below those nationally. There seem to be a number of reasons for this, some empirical and others anecdotal. Connecticut has very high labor costs; this is recognized by the federal government in establishing a Medicare wage index that is 15 to 35 percent higher than the standard. The wage issue for Connecticut hospitals will likely not lessen as a nursing shortage continues, and hospitals offer signing and retention bonuses.

Connecticut hospitals also are faced with higher than average energy costs, and malpractice insurance is high for hospitals in the state. The physical plant of most hospitals in Connecticut is older than hospitals in many other regions of the country. Federal government actions, including the Balanced Budget Act of 1997, have also had a negative financial impact on most hospitals in the Northeast, including Connecticut, as Medicare readjusted its rate structure to pay more to hospitals in rural areas of the country while maintaining overall budget neutrality.

The study also found that Connecticut's Medicaid payments reimburse for about only 73 percent of hospital costs for treating clients covered under Medicaid and other state medical assistance programs. This is substantially less than the average 87 percent of costs that Medicaid pays in all states. However, Medicare payments to Connecticut hospitals statewide cover about 97 percent of costs, which is a greater percentage than the 90 percent Medicare covers nationally. Historically, hospitals here and elsewhere have shifted the costs of government underpayments to private payers like commercial insurance. Nationwide, private payers account for about 130 percent of hospital costs, which is greater than the 120 percent from private payments in Connecticut, but without comparative expense data, it is difficult to assess the actual financial burden the ratios place on different payers.

The committee also found that the government underpayments account for a larger portion of Connecticut hospitals' uncompensated care expenses than the costs of treating the uninsured. While inadequate revenues can cause weakened financial conditions, hospitals may not be run as efficiently as they might be. The committee found that some hospitals in financial distress have high expenses per discharge, even when adjusted for patients' severity of illness, and while some financially weak hospitals have held the line or even cut costs in recent years, others experienced high percentage increases in expenses.

Connecticut hospitals are not all similar or equal entities, and a combination of historical, regulatory, and market forces have shaken the financial foundation of many, and likely not all hospitals will survive as currently structured. The recommendations contained in the report change the Medicaid fee-for-service payment structure, and increase accountability of Medicaid managed care organizations, but Medicaid payments are not a large source of most hospitals' revenue stream. While the recommendation should make that payment system fairer, for the smallest hospitals, serving less than one percent of all patients statewide, and a smaller portion of Medicaid clients, the payment changes from Medicaid will not help their financial situation.

Hospital care and its funding is only one part of the fragmented, partly regulated, partly competitive, multi-payer, costly health care system. Increasingly, economists and health care policy experts indicate that recent growth in health care costs is unsustainable, and that unless actions are taken to curb that growth, they predict dire consequences.

The committee found areas contributing to higher health care costs in Connecticut that need closer examination are numerous, interconnected, and complicated. Many of those cost drivers -- from nursing shortages to Connecticut's high portion of health care expenditures for nursing home care -- are discussed in the report, but the committee determined these were beyond the scope and resources of this hospital funding study. The report recommends a panel be formed to examine and recommend strategies to make private health insurance more affordable and improve access to primary and preventive health care.

In all the committee approved 13 recommendations to modify the way hospital Medicaid inpatient rates are set, establish annual increases to Medicaid outpatient rates, restructure the disproportionate share programs, and establish contractual obligations for Medicaid managed care organizations. The recommendations also require greater oversight by state agencies on payments and utilization by Medicaid clients, and broaden the development and reporting of consumer information at the Office of Health Care Access. The committee also recommends the establishment of a panel to examine health care costs, make private insurance more affordable and improve access to primary and preventive health care. The specific 13 recommendations are listed below.

RECOMMENDATIONS

Areas for the panel's consideration should include but not be limited to:

Introduction

Funding of Hospital Care

The Legislative Program Review Committee authorized a study of hospital funding in Connecticut in the spring of 2006. Connecticut's hospitals for the most part are facing worsening financial circumstances than the rest of the nation. More than 30 percent of Connecticut hospitals have had negative operating margins in six of the last seven years. Six hospitals are in serious financial circumstances, with negative margins for all of the past three years, or a large negative margin for the last year. The committee's study was to determine the factors that contribute to hospitals' fiscal strength or weakness, and specifically to examine how state government payments impact that stability, and make recommendations for improvements.

Methods

To conduct this study, the program review committee and its staff relied on many state and national sources of information. The report used information from the federal government agencies such as the Centers for Medicare and Medicaid Services, which collects data on both of those health care programs, primarily Medicare; the Agency for Healthcare Research and Quality, another division of the U.S. Department of Health and Human Services; and the National Center for Health Statistics. Information and comparative state data from the American Hospital Association, the Kaiser Family Foundation, and the National Conference of State Legislatures were also used.

On the state level, committee and staff collected and analyzed data from the financial reports and accompanying schedules that hospitals must file with the Office of Health Care Access (OHCA). The hospital fiscal year is identical to the federal fiscal year – October 1 through September 30 – and references to fiscal years in the report are to that period unless otherwise noted. The most recent fiscal years -- FY 03 through FY 05 – were used for analysis. The study also used Medicaid cost reports that hospitals submit to the Department of Social Services (DSS), as well as other Medicaid financial and utilization data maintained by the department. Data from CHIME, the information system maintained by the Connecticut Hospital Association were also used for the report.

In addition, committee staff interviewed personnel of OHCA, DSS, the Department of Mental Health and Addiction Services, as well as representatives of the Connecticut Hospital Association, the Connecticut Association of Health Maintenance Organizations. Program review staff also visited several hospitals and met with each facility's administrative and financial staff. The committee and staff also relied on information provided by staff in the legislative fiscal and research offices. The committee held a public hearing in September 2006 to obtain information from state agencies and interested parties on the study topic.

Report Organization

The report on the funding of hospital care contains six chapters. Chapter I includes a chronological synopsis of hospital funding and a summary profile of Connecticut's system in a national context. Chapter II provides more in-depth information of Connecticut's hospital funding by major payer source, including: a description of the populations covered; how rates and payments are determined by each payer; the amounts of revenue received from each payer group; and selected utilization statistics.

Chapter III provides a summary profile of Connecticut's hospitals on three aspects – their administrative structure, various utilization measures, as well as an analysis of general financial and efficiency measures among hospitals and the potential impact on their financial condition.

Chapter IV provides the committee's findings concerning the Medicaid Fee-For-Service inpatient hospital rates and makes recommendations the committee believes will improve fairness, equity and adequacy of Medicaid rates. The committee also recommended that the outpatient rates be increased annually to improve with access to care, and ensure a closer connection between costs and payments for service. This chapter also makes recommendations that DSS modify its contracts with Medicaid Managed Care organizations (MCOs) to require that rate increase to MCOs be passed on to providers, and to establish penalties for MCOs whose clients frequently use the emergency room inappropriately.

Chapter V discusses financial assistance available to hospitals in addition to revenues by payers for patient services, including hardship grants and the state's various disproportionate share programs. The committee found that the level and availability of these other forms of financial assistance are unpredictable and are not open to all hospitals, and made recommendations to expand the availability of the funds to hospitals serving similar clients. The committee also determined that OHCA should improve its oversight of hospital reporting on uncompensated care and use of free bed funds to ensure the accuracy and uniformity and recommends that OHCA issue an annual supplemental report on the need and distribution of free and charitable care.

Chapter VI discusses the utilization of emergency room services by payer group and the distribution of visits by hospital, and the committee believes the analysis could be used by a panel established by the legislature's Public Health Committee to examine emergency room overcrowding. In addition, the chapter analyzes inpatient hospital services by Medicaid patients and the overall population by diagnostically related groups, and the committee recommends that state agencies as payers of medical care strengthen oversight of client utilization of inpatient services, and that DSS more thoroughly examine and evaluate the Medicaid payments made under fee-for-service and those by the MCOs under contract.

The state's health care market, including health insurance, competition among hospitals themselves and other health care facilities, and other competitive pressures are discussed in Chapter VII. The committee found that hospitals are not all similar or equal entities, and that a combination of historical, regulatory, and market forces have shaken the financial foundation of many, particularly smaller, Connecticut hospitals. The committee recognized that more steps need to be taken to broaden regulatory oversight of health care facilities as well as to expand the development and reporting of information that will help the consumer make more informed health care decisions, and makes recommendations to advance those areas. Finally, the committee found that health care costs are rising faster than the economy, and that fewer persons are being covered by employer-based health insurance. The committee determined that many of the factors contributing to this were beyond the scope, resources and timeframe of the study, and recommends a panel to examine health care costs, develop strategies to make health insurance more affordable and improve access to primary and preventive care.

It is the policy of the Legislative Program Review Committee to provide agencies included in the scope of the review with the opportunity to comment on the committee findings and recommendations prior to the publication of a study report in final form. Both the Office of Health Care Access and the Department of Social Services were offered an opportunity to comment. The Department of Social Services' response is contained in Appendix A, but the Office of Health Care Access chose not to respond.

Chapter I

Hospital Funding: A Summary Profile

Hospitals originally were most often charitable institutions reliant on donations, endowments, and the like. Frequently they were (and often still are) affiliated with a religious organization; in some states acute care hospitals were publicly owned by the state, county or city. Hospitals did bill for services for those patients who could afford to pay, but it was not a great source of their funding.

The Great Depression created the recognition of the nation's health care needs. But nationalized health insurance or any federal program to address health care was not part of the Great Society Plan. During World War II, private health insurance through employers grew rapidly, as direct wage increases were limited by the federal government and employers could attract and keep workers through offering benefit packages instead. This private insurance trend continued after the war, and while there were proposals discussed in Congress to sponsor national health insurance, none came up for a vote.

In 1965, Congress passed legislation creating the Medicare and Medicaid programs. At their inception both programs reimbursed hospitals for all costs for serving clients of either program. With the creation of these two government programs, the foundation of hospital funding—a mixture of employer-based private insurance and Medicare and Medicaid – was established and continues today.

Table I-1 provides a synopsis of key milestones in hospital funding nationally and in Connecticut.

Connecticut's Hospital System In National Context

To analyze the financial viability of Connecticut's hospitals, it is necessary to view the state and its hospitals in context with the national healthcare picture, in terms of population, hospital type and other comparative measures.

State comparison of hospital capacity. Connecticut has 31 acute care hospitals. If measured on a per capita basis, Connecticut ranks fourth from the bottom with one hospital for approximately every 110,000 people. The median nationally is fewer than 70,000 persons per hospital, and the average is one hospital for almost every 75,000 persons. Thus, by this measure, Connecticut does not appear to have too many hospitals. Table I-2 on the left shows Connecticut and the states with similar number of people served by one hospital.

Further, when hospital beds are considered, Connecticut also does not appear to be overserved. Connecticut has one hospital bed for every 550 state residents, while the national average is one bed for every 454 persons. Table 1-3 shows states with similar bed capacity to Connecticut.

However, Connecticut is a small state with a fairly dense population. As shown in Table 1-4, Connecticut ranks 4^th from the top in terms of population per square mile, and also 4^th in terms of density of hospitals, with one hospital covering an average of 150 square miles, while the national average is one hospital per 890 square miles and the median is one hospital covering almost 600 square miles. Thus, Connecticut residents are very close to a hospital, and not surprisingly, other states with a high ranking also tend to be smaller, densely populated states.

Comparison of hospital funding. As a nation, Americans spend a great deal on health care; health care is now approximately 16 percent of the national gross domestic product. The most recent state comparison of personal health care expenditures indicates that Connecticut --along with other states in the Northeast -- have higher health care expenditures per capita than the national average. Table 1-5 shows the top states using this measure, and indicates that Connecticut ranks 5^th. (The District of Columbia is not included because of distortions in spending and population.)

Connecticut is considered a wealthy state with the highest per capita income in the nation. When health care expenses are measured as a percent of the state's 2004 gross state product (GSP), Connecticut, at 11.4 percent, is well below the national average.

Further, for the last two decades, Connecticut has spent less than the national average in terms of the percentage of health care spending on hospital care. As Figure 1-1 shows, Connecticut's percentage spent on hospital care has hovered around 30 percent, while the national average has been at least 35 percent.

Trends in overall hospital spending. Connecticut has also lagged behind the rest of the country in terms of the percentage increases in hospital spending for all payers. Nationally, the average annual long-term growth (1980-2004) has been 7.5 percent, while in Connecticut that growth rate has been 6.8 percent. More recent trends, as shown in Figure 1-2, indicate that the growth rate in hospital spending – for both the nation and Connecticut -- has increased from about two to four percent in the mid- to late-1990s to about seven and eight percent beginning in 2001.

The other trend depicted in Figure 1-2 is that Connecticut's hospital spending is considerably more volatile than the national spending, with more dramatic spikes and drops than those experienced nationally. One of the substantial declines in Connecticut occurred between 1998 and 2000, a result of the Balanced Budget Act of 1997 that was enacted to reduce the costs of Medicare and Medicaid, including the payments made to hospitals, especially those in more urban areas.

Comparison of inpatient hospital costs. Hospital expenses in Connecticut are higher than those nationwide. As Figure I-3 shows, the cost of providing care in Connecticut hospitals in 2004 was $1,668 per inpatient day compared to $1,450 nationally (a 15 percent difference). However, the gap between Connecticut's expenses has narrowed; in 1999, Connecticut's per diem costs were almost 25 percent higher. Further analysis of hospital expenses and per diem payments is presented in Chapters II and III.

Comparison of hospital operating margins. Table I-8 shows that Connecticut hospital operating margins are less than the average nationally. (This is the percent of surplus or loss of operating revenues). Reasons contributing to this are that hospital expenses are higher in Connecticut, as shown in Figure I-3, and the percentage of health care expenditures going to hospitals is less in this state than the U.S. average, as shown in Figure I-1 and Table I-6. While hospital operating margins have improved nationally, that has not been the case in Connecticut.

The percentage of hospitals in Connecticut with negative operating margins has consistently been higher than the national average of nonprofit hospitals operating “in the red”. As Figure I-4 shows, except for 1998 when the national average was slightly above Connecticut's 25 percent, the ratio of Connecticut's hospitals experiencing financial distress has been higher than the nation. Further, the scope of the problem is greater in Connecticut – with more than 40 percent of the 31 hospitals in the state experiencing negative operating margins in three of the six years examined. Chapter III analyzes in greater detail some of the aspects that appear to impact the financial viability of Connecticut hospitals.

Chapter II

Profile of Hospital Funding by Payer Source

Hospital funding in Connecticut comes from a variety of sources, as shown in Figure II-1. The funding most relied upon is revenue for providing patient care, i.e., operating revenue, and is the major focus of this study. Patient funding streams, while varied, can be categorized into one of three major categories: private insurance, or one of the major government payers, Medicare or Medicaid.

There is tremendous variation in how and what hospitals are paid depending on the payer. Generally, a hospital will submit the bill for services to one of many private insurers, Medicare, or a Medicaid-covered program, and be paid different amounts for the same services or charges. Hospitals negotiate discounts or rate reductions with private insurers and managed care companies while government payers pre-set the rates they will pay hospitals.

As displayed in Figure II-2, the payments and utilization of the populations by payer stream vary considerably. These measures used in the graph for each major payer source are: the average inpatient per diem payment; the average length of stay (ALOS); and the rate of inpatient discharges per 100 persons in that coverage group. These measures are important to a hospital's financial condition. If a hospital is located in an area that has a high Medicaid population, for example, and a high percentage of its patients are Medicaid clients, with heavy hospitalization and low reimbursement rates, as displayed in Figure II-2, the hospital's financial condition will be more impacted by those factors than a hospital located in an area with a higher private pay population. Chapter III discusses the impact of these various factors on individual hospitals.

This chapter profiles the various major payer sources including:

Hospital filing requirements. Hospitals must file a number of different reports on their revenues and costs, as well as patient data, with both the federal and state governments for various purposes. In Connecticut, hospitals file audited financial statements, along with a number of schedules and attachments with OHCA. Hospitals also file extensive Medicare cost reports with the federal Centers for Medicare and Medicaid Services (CMS), and more limited Medicaid cost reports with the state Department of Social Services. Thirty of the 31 hospitals in Connecticut are nonprofit and therefore do not pay taxes on revenue, but must file a form 990 with the Internal Revenue Services to maintain that status.

Some of these reports are used in establishing rates and for adjustment of payments by Medicare and Medicaid, known as cost settlement. Some schedules are used by OHCA to determine actions on applications for additions or changes in health care services, known as “certificate of need”. The data from other schedules are used in reports developed by OHCA on state utilization of services and on financial stability of hospitals in the state. PRI used the data from the schedules and reports filed with OHCA in developing the information in this report.

Private Insurance

While the percentage of people covered by public health insurance is increasing, the majority of persons are still covered by private health insurance (also known as non-government payers). As Table II-1 shows, about 64 percent of the state's population is covered by private insurance, compared to about 59 percent nationwide.

Population

Most private health insurance is offered through a person's employer; thus, most of the privately insured population is working age – under 65 – and their families. Certainly, some of these persons have disabilities, or suffer from chronic conditions, but compared to people covered by Medicare and Medicaid, many of whom are elderly or disabled by virtue of the program's eligibility requirements, the private-insured population is healthier.

Populations covered by private health insurance do not have to meet eligibility requirements per se, as with public health insurance. However, many employers, especially small employers, are limiting health care coverage by: covering the employee only and not dependents, and reducing benefits. Further, in recent years, health care coverage has become increasingly difficult to afford, as employees are asked to shoulder a greater percentage of the premiums, absorb higher deductibles, incur higher co-pays for service, and the like.¹

Coverage

Coverage under private insurance can vary considerably. There are statutory mandates in Connecticut that require certain services and treatments to be covered under policies offered by private health insurance companies and managed care organizations, but employers who self-insure are exempt from those mandates.

Inpatient hospital care is a mandated covered service. Coverage of other outpatient services may or may not be required, but visits to the emergency room are a mandated coverage. By statute, Connecticut uses the “prudent layperson” definition (C.G.S. Sec. 38a-478r(c)) of when emergency room care is appropriate and must be covered. This is a fairly non-restrictive definition.

Sometimes managed care plans require a pre-certification for an elective hospital admission, an elective surgery for example. Admission through the emergency room would likely not require pre-certification.

Currently, the six health maintenance organizations licensed in Connecticut and the top 15 health insurers that offer managed care plans cover or administer coverage for about 2.9 million persons. The breakdown of coverage is shown in Table II-2. All HMOs and MCO plans offer statewide coverage in their networks, and almost all hospitals are included in the networks.

Rates and Payments

Since 1994, a competitive market has determined how private insurers pay hospitals for care. Private insurers negotiate rates (typically annually) with individual hospitals or hospital networks. These rates are discounts off a hospital's charges, and annually the hospitals file with the Office of Health Care Access the average discount rates for that year. These average discount rates have been growing, from 41 percent off charges in FY 02 to 44 percent in FY 04.

The discount off charges is not a very meaningful statistic, though, because a hospital can increase charges (adjust its charge master) when it wants, but almost no one pays full hospital charges. In fact, the overall ratio of costs to charges in FY 05 for all hospitals was 44 percent. A more relevant ratio for private insured, as well as other payers, is what hospitals are paid as a percent of their costs. Overall, most private insurers pay more than actual costs; this offsets somewhat the underpayment of costs from public payers like Medicare and Medicaid.

Figure II-3 show the ratio of payments to costs for all hospitals from FY 03 through FY 05 for the three major payer groups – private (non-government), Medicare, and Medicaid. As the figure shows, for FY 05 the average private payment-to-cost ratio is 1.2, which means that private insurers were paying hospitals 20 percent more than their costs. This is considerably higher than the .97 ratio for Medicare, and .73 for Medicaid.

Overall, FY 05 revenue from non-government payers was about $3 billion, or 48 percent of all hospital revenue, after OHCA adjustments for DSH payments, etc. The average inpatient per diem rate for private payers was $2,079 (see Figure II-2 for comparisons).

Utilization