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Is Private Equity good for healthcare?
Patient data from nursing homes suggest that PE ownership results in higher death rates and more negative patient outcomes
Over the last two decades, investments made by Private Equity (PE) firms in the healthcare sector have expanded dramatically from less than $5 billion in 2000 to more than $100 billion in 2018. PE-owned firms staff more than one-third of emergency rooms, own large hospital and nursing home groups, and are the biggest and most active buyers of physician practices.
With the increase in PE ownership of healthcare assets, a debate has arisen about whether this evolution is good or bad for patients. Many regulators and patients' groups have expressed concerns about PE's expanding healthcare power, while private sector analysts have often painted a positive picture of this development. The pandemic put nursing homes, in particular, under the spotlight, enhancing the need to assess how PE ownership affects healthcare operations such as nursing homes and the ensuing care of patients. Fortunately, a new working paper from Atul Gupta (Penn), Sabrina T. Howell (NYU), Constantine Yannelis (Chicago), and Abhinav Gupta (NYU) provides a unique view into what happens when PE firms buy nursing homes.
Nursing homes, of course, provide both short-term housing — usually after surgery — and long-term residential services to elderly patients. Two factors make the U.S. nursing home market unique. First, government payers (Medicaid and Medicare) account for 75% of nursing home revenue. Second, about 70% of nursing homes are for-profit, which is a much larger share than other health care subsectors. Because both payers set fixed amounts for each day of residence and for specific care procedures — which work on a "take it or leave it" model for the nursing homes, the usual market factors do not affect pricing or home selection. That said, the authors note that payments "are adjusted for patient complexity, so there is an incentive to overstate their severity—a practice known as up-coding," which is one of the few ways nursing homes have to drive up revenue.
The researchers found that PE firms pursue several major initiatives after acquiring a nursing home operation. The financial incentives of the home's senior managers are changed to align with the PE firm's goals. The managers themselves are changed for ones with experience working in a PE-backed operation. The PE firms can also provide equity incentives to the management team. Research about other industries suggests that the kinds of changes PE firms make often work, and that "PE-owned firms are better managed than similar firms that are not PE-owned."
A final point worth noting about the nursing home industry is that because of its unique pricing mechanics, operating margins are low — as low as 1-2%. These margins are stressed by the PE firms' common practice of borrowing funds to finance an acquisition and then placing the debt burden on the firm purchased. Sometimes the main way that PE firms reach deal profitability is by selling off the real estate assets. Cash from the real estate sales, note the researchers, "can be disbursed as profits to the PE fund." A cash inflow early in the life of the investment "is particularly beneficial to the fund's Internal Rate of Return, a key performance metric." Of course, this leaves the home with new rental expenditures that, when combined with the new debt, make profitable operations even more challenging or even impossible in some cases.
This fundamental tension between the way in which PE firms usually make money and the unique challenges of the nursing home business model is at the heart of this research.
For their analyses, the authors obtained "facility-level annual data between 2000 and 2017” from data sources maintained by the Centers for Medicare & Medicaid Services (CMS). For each year, they looked at "about 15,000 unique skilled nursing facilities,” for “a total of approximately 280,000 observations."
The team also obtained "patient-level data for Medicare beneficiaries from 2004 to 2016" that included "patient enrollment details, demographics, mortality, and information about care in nursing homes and hospitals during this period." The main indicator of nursing home quality in this study is mortality, i.e. the rate at which patients die in a home or within 90 days of discharge. Death, the authors note, "is an unambiguously bad outcome, has little measurement error, and is difficult to 'game' on the part of a facility or a government agency."
Mortality rates were complemented with "four outcomes that CMS uses when computing the Five Star quality ratings for nursing homes." The first is "an indicator for the patient starting antipsychotic medication during the stay." The second is "an indicator for the patient's self-reported mobility score declining during the stay." The third is "an indicator for developing a pressure ulcer." The fourth is "an indicator for the patient's self-reported pain intensity score increasing during the stay." Interestingly, "the Five Star overall rating has a negative relationship with buyouts, indicating that PE firms target relatively low-performing nursing homes."
As for the PE firms, the authors used Pitchbook data from 2004 to 2015, for a total of "128 deals, which correspond to a change in ownership to PE for 1,674 facilities.” Because the PE firms typically owned facilities for eight years post-acquisition, the authors suggest that their results "should be interpreted as medium to long-term effects of PE ownership." PE firms in the data were a diverse group that included "very large funds, smaller funds, and specialized healthcare PE investment funds."
Lastly, because most patients tend to go to nursing homes near their home locations, the authors controlled for this factor as well as several others. The controls included income and zip code and adjustments made because PE firms might be inclined to buy nursing homes in areas with specific health or age demographics.
From their various analyses, the researchers concluded that PE ownership yields negative effects on patients. Indeed, "receiving care at a PE-owned nursing home increases the probability of death during the stay and the following 90 days by 1.7 pp, about 10% of the mean." In the context of the health economics literature, the authors note, "this is a very large effect.”
Extrapolating from the first finding, the authors further conclude that PE ownership resulted in about 20,150 additional deaths during their twelve-year sample period. When put in terms of "life-years lost," this figure "leads to an estimate of about 160,000 lost life-years." Furthermore, if one applies a "standard estimate of statistical value to a life-year of $100,000," this outcome "implies a mortality cost of $20.7 billion" (in 2016 dollars). To put this figure in perspective, "this is about twice the total payments made by Medicare to PE facilities during our sample period, about $9 billion."
Nursing homes flagged as "Special Focus" facilities have persistently under-performed in government quality metrics. Regulators also flag homes that have recently been cited for patient abuse. These situations are rare, but are more common among for-profit entities. (Source CLAconnect/NY Times)
Returning to the location preference issue, the authors found that the largest mortality effect was present "among patients in the bottom two quintiles of differential distance, i.e., those located nearest to PE-owned facilities." A more nuanced finding is that the effect "on mortality is driven by patients who are low risk, with the most robust result among patients who are low risk but above-median age." In other words, "PE-owned nursing homes are able to take better care of more complex patients, especially when they are on the younger side" but "lower risk or older patients suffer." This finding may align with the "up-coding" phenomenon noted earlier, i.e., younger/complex patients may be the most profitable customer base at a PE-owned nursing home, which might make them worth caring for a little more carefully than other types.
As for the CMS Five Star factors, the authors found "that going to a PE-owned nursing home increases the chances of starting antipsychotics by 3 pp [percentage points], or 50% of the mean," a finding that may account for up to "15% of the total effect on mortality." The authors also found "worsening mobility, which increases by 4.3 pp, or about 8% of the mean. While they did not find any significant effect on the third measure – developing ulcers – they did find "a positive effect on increasing pain intensity of 2.7 pp, which is 10% of the mean."
Over 40% of U.S. COVID-19 deaths occurred in nursing homes, which naturally raised concerns about the kind of care patients received during the crisis. Recent research, however, is generally positive to PE-owned homes, noting that "PE ownership was associated with a mean decrease in the probability of confirmed resident cases by 7.1 percentage points" and that PE ownership "was also associated with decreased probability of PPE shortages.” Furthermore, "contrary to a common media narrative—PE-owned facilities have actually fared better under the COVID-19 pandemic."
Private equity is trying to maximize their profit. In this regard our findings make sense. There isn't any profit in COVID outbreaks that devastate your residents and staff, and it's plausible that PE-owners were motivated to leverage their financial resources and operational expertise to try to avoid outbreaks.
Today, about 70 percent of nursing homes are operated by for-profit corporations and 58 percent are operated by corporate chains, with PE firms owning about 11 percent of nursing facilities nationwide. While the pandemic may lessen PE interest in nursing home acquisitions, the economic fundamentals that led to their entry remain. Consequently, this paper raises important regulatory and social questions about PE's role in this one sector, independent of PE's performance in other healthcare markets. Indeed, at least some states have begun to question the efficacy of the regulatory bodies that oversee nursing homes as a result of what happened during the pandemic, even as the operators seek immunity from liability for COVID-related deaths. If the "more regulation" side wins, it is possible that increased regulatory overhead may yet turn the tide on growing PE participation in the industry.
Whether or not the PE firms lessen their focus on the sector, this widely cited research makes an interesting case study for those wishing to understand the tensions that arise when PE firms enter highly regulated idiosyncratic markets. This is an important line of inquiry because "beyond healthcare, there has been significant PE investment in sectors such as education, defense and infrastructure, which like healthcare rely on high levels of government subsidy but are characterized by opaque product quality." This trend is likely to continue, as are the debates about PE firms' role in these socially unique but vital sectors.
Gupta, Atul and Howell, Sabrina T and Yannelis, Constantine and Gupta, Abhinav, Does Private Equity Investment in Healthcare Benefit Patients? Evidence from Nursing Homes (November 12, 2020). NYU Stern School of Business, Available at SSRN: https://ssrn.com/abstract=3537612