Life Support

After experiencing unparalleled growth in the two decades leading up to the pandemic, the Department of Health’s current review of the viability of the Australian private hospital sector underscores the depths to which the industry has plummeted in 5 short years. Gone are the dizzying valuations and swarms of private investors clamouring for the next hospital deal. The industry is now struggling with blame laid squarely at the feet of private health insurers for not ponying-up sufficient of their members’ premiums in the form of annual price indexation.

A significant contributor to the current malaise has been input cost increases and operating and workforce issues that the private hospitals have had to wear during and post-Covid. However, volume of admissions has concurrently played a key role. Historically, private hospital growth was driven as much, if not more, by volume growth rather than price uplift (comprised of PHI price indexation and increasing patient acuity). Yet there has been a stalling in private hospital admissions growth, especially for overnight admissions, despite increasing numbers of privately insured consumers. The roots of volume stagnation are multi-factorial. In part, it is attributable to a commensurate plateauing of GP consultations (as private billing becomes more ubiquitous) and derivate downstream referrals, but also significantly the desire of surgeons to work less in a post-pandemic world.

The private hospitals are learning the hard way that upstream dynamics in the healthcare system have material consequence as does their woeful lack of sophistication and focus on physician engagement. Once admission volume growth is stripped away, then PHI price indexation is the only remaining immediate lever for them to pull.

The private hospital operators’ pitch to the government is that their infrastructure is critical to a well-functioning public/private healthcare system in Australia, and if the private hospital sector begins to shrink due to viability issues, then this will inflate the number of people reliant on an already overburdened public hospital system. The payors, by contrast, contend that material increases in price indexation paid to private hospitals will require equivalent growth in PHI premiums, thereby causing exodus from PHI and more consumers using the public hospital system.

In amongst these contrasting positions, there hasn’t been much discussion as to whether the current private hospital infrastructure in Australia is appropriate in terms of both scale and configuration. While innovation in minimally invasive surgery and anaesthesiology was disrupting the US hospital market over the past 2 decades, leading to the rapid rise of efficient Ambulatory Surgical Centres (ASCs) and less reliance on large acute general hospitals for routine surgery, Australian private hospital operators were embarking on an unprecedented greenfield and brownfield building boom, constructing and expanding large acute hospitals. The expectation that bed capacity would be filled by an untrammelled growth in admissions volume has proven to be a fiction. Large acute hospitals have high fixed costs. Like many analogous businesses, if occupancy and utilisation diminishes (especially at a time of accelerated cost growth), you’re underwater pretty quickly.

The position of the Australian private acute hospital sector could have been materially worse had the ASC sector taken off as it has in the US. While the Australian day hospital sector has continued to moderately expand over the last decade and more, this hasn’t been supported until very recently by major financial backing, and has been largely focused on those surgical modalities which easily lend themselves to day only procedures (e.g. ophthalmology, scopes etc.) rather than on those major, high-value overnight procedures (e.g. joint replacements) that could be performed same day for a majority of non-complex patients.

It is somewhat surprising that ASC adoption has been so slow given the nature of private healthcare in Australia (predominantly focused on elective surgery) and the superior profit margins and return on capital that ASC operators enjoy in the US. No doubt there are barriers (the funding model, absence of skilled nursing facilities etc.) but none of these are insurmountable, especially with a payor community open to innovation in care and payment models and growing sophistication of clinical homecare operators that can care for patients in the home immediately post discharge. In the absence of a well-resourced, sophisticated ASC competitor in the market, the private hospital sector has been content to expand their existing acute model and infrastructure without the need to disrupt and cannibalise themselves.

The question that the hospital sector should be asking, nevertheless, is whether the infrastructure that they have today is the most efficient and effective way of delivering care. While there will always be a necessity for acute general hospitals into the foreseeable future to manage more complex patients and procedures, the mix of theatres (too few) and beds (too many) in the Australian private hospital market today appears to misaligned with contemporary surgical practice. ASCs, by focusing on a narrow casemix through a small, efficient built format, and avoiding the requirement for significant overnight costs, are able to undercut the cost base of acute hospitals in the US by c. 20-40% depending on the modality and procedure mix. Moreover, their specialised focus enables them to deliver same or better outcomes and experience in tandem with greater efficiency.

It would be interesting to perform a detailed analysis of the proportion of private hospital admissions in Australia that could occur in an ASC (assuming that the infrastructure was in place and the doctors were amenable to the model). In the absence of granular detail, I thought I’d offer up this approximation using the wealth of data offered up publicly by the Private Hospital Data Bureau (PHDB). In summary:

? There were 4.39 million separations in private hospitals reported to the PHDB in FY23 (AR-DRG version 8.0), excluding psychiatric and pregnancy admissions (the latter is assumed to require an overnight stay);

? Of these, 955k separations are already performed in day hospitals, thus they are amenable to an ASC model;

? A further 2.3 million separations are day procedures are currently performed in acute hospitals, and thus it is assumed that these too are amenable to an ASC model;

? This leaves 1.12 million overnight separations remaining, virtually all of which are currently performed in acute hospitals;

? However, of these 1.12 million overnight separations, more than half are coded as minor complexity. The AR-DRG system splits most (not all) procedures by level of complexity, and thus each patient’s procedure is categorised as either minor complexity, intermediate complexity, or major complexity;

? Excluding most minor complexity medical (non-surgical) separations (except chemotherapy and other infusions), minor complexity overnight separations where the average length of stay is 4 days or more (except joint replacements and spinal procedures), and any minor complexity overnight separation where there are high rates of referral to ICU (5% or more of patients, except spinal procedures), there are a further 521k overnight separations could potentially be performed in an ASC;

? Furthermore, there are a significant number of overnight separations where the procedure only has a single DRG code (i.e. is not split by complexity). Using the same exclusion criteria as above, if it is assumed that these too could be performed in an ASC in the same proportion as minor complexity overnight procedures, then a further 54k separations could conceivably migrate to ASCs in Australia;

? This leaves acute overnight hospitals with 554k separations, c. 15.9% of the volume that they currently perform (excluding psychiatry and pregnancy), noting that this number includes over 100,000 medical separations (e.g. >10,000 overnight separations in acute hospitals for Cellulitis) that can be performed in a hospital-in-the-home environment rather than within the walls of an acute hospital.

Graphically, this is estimated as follows:

If we only consider minor complexity hip and knee replacements currently performed in acute overnight hospitals, there were c. 73,000 in FY23 (excluding revisions) with an aggregate spend of $1.4bn. We know from the US that some health systems perform >90% of these minor complexity hip and knee replacements in an ASC environment with high efficiency and strong outcomes at markedly lower cost. In Australia, that comparable figure today is near zero.

While this rudimentary analysis is likely the absolute universe of potential migration from acute private hospitals to an ASC environment, it does give directionally good indication that a material proportion of the hospital infrastructure we have today was built for a bygone era when surgical technique and length of stay requirements were radically different than they are today. In this regard, Australian private hospital operators are in good company, including the Australian public hospital system and pretty much all hospital infrastructure that's currently or recently been built in the Middle East and Asia.

It remains to be seen whether any of the major Australian private hospital operators will have the courage to disrupt their own model like Tenet in the US or else vertically integrate to deliver an end-to-end model of care and strike true value-based funding arrangements with payors. Personally, I’m not hopeful given the current approach for some appears to be pressuring government to force a consumer/insurer funded bailout of an ill-conceived acute hospital expansion strategy for which they were wholly responsible. Privatisation of profits and socialisation of losses can’t be the way forward. Perhaps its time for a strategy rethink?