To assess health systems’ financial performance, policymakers often use data from the Medicare Cost Report (MCR), which measures the cost of Medicare patients’ care but does not adequately evaluate the financial health of the entities themselves. An alternative is available: audited financial statements (AFSs) are an untapped resource that can provide policymakers with data to support policymaking on a range of issues.
There are many recent examples of the need for such robust information. For instance, research has shown the inexorable rise of and wide variation in hospital prices over the past two decades. High prices charged to commercial insurers — and not excess utilization — has been the major contributor to unaffordable private health insurance premiums. Yet, health systems assert that high prices charged to commercial insurers are necessary to offset shortfalls from public payers. A national AFS database would allow policymakers to know whether limiting prices would affect the financial well-being of hospitals.
During the COVID-19 pandemic, financial distributions authorized by the CARES (Coronavirus Aid, Relief, and Economic Security) Act to hospitals should have been based on need, but neither Congress nor the Centers for Medicare and Medicaid Services had the necessary data to accurately assess financial need. As a result, there was a mismatch: large cash grants were awarded to many health systems with substantial and readily available surplus funds, while cash-strapped health systems serving low-income populations received smaller grants.
For many years, policymakers have raised concerns that the favorable tax treatment of nonprofit hospitals does not always produce sufficient “community benefit” returns to the public. That is, nonprofit hospitals are expected to provide unique services for their communities, not just care for individual patients. Yet, policymakers lack the financial information to calculate the value of the taxes forgone because of tax-exempt status.
AFSs are the gold standard of health system financial data. They include detailed information about system finances and are certified by outside auditors. The health systems are legally responsible for the accuracy of the information produced. Institutional investors routinely use AFSs to assess the ability of health systems to repay their debt. AFSs are produced and made public for nearly every health system that uses the public equity and credit markets.
But instead of relying on AFSs, federal policymakers use MCRs as their only national source of financial information across hospitals. However, MCRs suffer from the following flaws:
- limited financial information, with the primary focus on total or Medicare profit margins
- data not comparable across hospitals
- data at the individual hospital level; currently 72 percent of hospitals and 92 percent of hospital beds are in health systems that may include other hospitals, parent entities, foundations, physician groups, and other facilities and businesses, some with substantial implications for the financial health of hospital members.
Another resource used — the IRS Form 990 — is required only of nonprofit hospitals, and the information is not timely, comparable across reporting organizations, or consistently reported.
To illustrate the potential value and feasibility of using AFSs in financial analysis, we standardized the AFSs of 50 general hospitals and health systems, representing different ownership categories and sizes. This group comprised about 25 percent of national admissions (adjusted for outpatient activity) for 2017 to 2019. From this study, we learned that:
- medium and larger-sized private, nonprofit health systems typically maintained enough cash on hand to fund operations without additional revenue for an average of seven to eight months, with some exceeding one year. This suggests CARES Act distributions could have been better targeted to health systems with urgent need for operating cash.
- the pension obligations of government-owned hospitals raised their solvency risks more than other ownership groups; this threat may lead them to seek mergers with more financially advantaged health systems, which may threaten long-standing community resources and require giving up local control.
- on average — and particularly for health systems with substantial liquidity (i.e., large nonprofit systems) — investment income and other nonoperating revenues contributed as much or more to total margins as did patient care operations. Policymakers are generally unaware that total margins reflect capital market returns as much as revenues from patient care services.
A comprehensive database of AFSs, focusing attention on important variations across systems, can provide a greatly enhanced picture of health system finances, with many potential policy applications. Twelve states currently require the reporting of financial data based on AFSs, without posing unreasonable reporting burdens on health systems. Almost all health systems already produce AFSs as routine reporting to creditors. Compiling a standardized AFS database at the federal level, with full transparency, is long overdue.