A Context for Decision-Making 2: Guide to Communities Considering Hospital Conversion in the Carolinas

ALTERNATIVES TO STANDING ALONE
In theory, public hospitals can rely on retained earnings, higher taxes or borrowing through general obligation bonds (requiring taxpayer approval) or revenue bonds to finance refurbishment or replacement of facilities and equipment. Not-for-profit hospitals can rely on donations, retained earnings or borrowing for the same purpose. But obtaining capital in any of these ways often is difficult or impossible.

Contract Management
An alternative to raising taxes or increasing debt is to use contract management by an outside authority to supply the management expertise needed to improve the hospital's financial performance. Indeed, hospitals with poor financial performance are more likely to become contract-managed. Historically, anecdotal evidence suggested that due to legal disputes between the hospital board and contract-management organizations, hospitals have often entered into contract management arrangements only reluctantly., Today, however, there is hard evidence that contract management of financially troubled facilities can improve hospital performance,19 20 21 22 so there is growing community acceptance of this alternative.

Strategic Hospital Alliance
Another strategy is to join a strategic hospital alliance (SHA), which is a loosely coupled horizontal combination (e.g., network or partnership) formed to compete for managed care contracts. Such "corporate courtships" lack the structural and financial integration and binding, irreversible legal commitments required by mergers, sales, or other forms of corporate "marriage." This permits hospitals to gain some benefits of partnering without losing ownership or control entirely. Such arrangements may often be implemented in relatively short time frames, which may be attractive to administrators seeking to address a facility's immediate problems.

Choosing Conversion
Nevertheless, many non-profit and public hospitals may find these solutions unsatisfactory for their circumstances, and must search for other options. Even a well-managed hospital may find survival difficult in the face of competition from nearby hospital systems whose size better positions them to negotiate contracts with large employers or managed care plans. Alternatively, changing ownership form may open up possibilities not previously available. For example, although for-profit hospitals do not generally have access to tax-exempt bond markets, they can generate funds by selling equity, thereby offering a local hospital a source of capital not available from local resources.

Conceptually, contract management, strategic hospital alliances and other options typically associated with conversion (e.g. lease, sale, etc.) form a continuum of alternatives for hospitals seeking change. Anchored on one end is the autonomous operation of an independent hospital (Figure 1). At the opposing end of the continuum is the outright purchase of facility by another entity, or, in the worst case, hospital closure.

The options between these two extremes offer a range of possibilities that may solve a hospital's problems; however, the price paid by the hospital governing board is the progressive yielding of control to others. The decisionmakers must strike a balance between maintaining the hospital's viability and some degree of community control. For a hospital that historically has been independent, the available choices may not seem very attractive. However, as an alternative to closure--which most communities seek to avoid--even formerly "unthinkable" options may become acceptable.

There is no single "best" answer for all communities. Whether conversion is a good idea depends on what a community wants and what it can get in exchange for some degree of loss of community control over the hospital.

WHO MAKES THE CONVERSION DECISION?
The growth of the for-profit hospital and its impact on the provision of care comes at a time when communities served by the hospitals are already facing the "shrinking safety net" of health and human service community programs. Consequently, as the number of hospitals that changes hands rises, the call for accountability in these transactions becomes louder. Those ultimately charged with this duty are the boards of not-for-profit hospitals and the elected officials who direct public hospitals.

The Role of Hospital Governing Boards
Not-for-Profit Hospitals
Legally, no one "owns" not-for-profit assets. They are to be managed for the benefit of the "community" even though there are no rules requiring not-for-profit organizations to define what their community is. Unlike for-profit firms, where owners make decisions or shareholders elect a board to act on their behalf, most not-for-profit hospital boards are self-perpetuating. Its management and board determine a not-for-profit hospital's goals.28 Therefore, an important question is whom these boards really serve.

Such boards typically are composed of the leaders of different community sectors and therefore, to various degrees, are representative of the community. However, in the face of growing competition, tighter cost control and demands for greater public accountability, "hospital governing boards are being asked to act more as strategic think tanks than as community stewards." This is part explains a trend towards greater use of "insider" representation—from hospital senior management and medical staff-- on such boards. As noted earlier, most of the attention in the academic literature and the media has focused on the challenge faced by these not-for-profit boards: that of hospitals changing from not-for-profit to for-profit ownership, resulting in clear changes in how a hospital is legally organized and taxed. Such a conversion may also represent a fundamental change in the underlying purpose or mission of the hospital.

For this reason, not-for-profit boards are guided by laws regulating the sale or transfer of all or substantially all of a nonprofit 501(c)(3) organization (hospital or otherwise). Practically speaking, this usually results in the creation of a not-for-profit foundation that invests and spends the proceeds from the sale of a not-for-profit to a for-profit facility. While the devil is always in the details, there is at least a basis in existing law to guide such changes.

The members of boards of not-for-profit hospitals are guided by the duties of care and loyalty set forth in the articles of incorporation of that charitable entity (as are boards of for-profit hospitals). This essentially requires the boards to make judgments with the "care which men of ordinary prudence would exercise in similar circumstances.2 In this role, board members are both guided and held accountable by the community, making decisions that may be subject to judicial review at some point in this process.

In their analysis of the conversion decision, board members must use reasonable care, evidenced by the compilation of pertinent and expert information in order to make sound decisions.2 The duties of care and loyalty may be reflected in three critical issues that must be addressed as the conversion issue is undertaken.

Public Hospitals
The sale or other conversion of a public hospital is undertaken solely at the discretion of the publicly elected officials charged with running such a facility. Apart from open meeting and public disclosure requirements, individual state statutes may or may not guide these conversions: North Carolina has laws that govern the sale of public hospitals, whereas South Carolina does not. In the absence of such regulation, the public interest in the conversion of these hospitals is guarded through the electoral process that charges elected officials with a public trust in decisions of this magnitude.

The Role of the Public

Are there legal requirements or guidelines regarding the public's role in conversions?
Legal Requirements. The North Carolina Municipal Hospital Act, Nonprofit Corporation Acts and Freedom of Information Acts in North and South Carolina each contain various rules regarding public notification and involvement in hospital conversion decisions, depending on the type of conversion involved. Section VI provides greater detail regarding the legal requirements for public involvement.
Guidelines. Other groups such as the American Hospital Association and Volunteer Trustees Foundation for Research and Education have issued guidelines regarding the extent of community involvement in the conversion process. These are summarized in Section VII.

There is a diversity of opinion regarding when and how the public should be informed of the details of a hospital conversion transaction. In some transactions, confidentiality agreements and executive sessions may be used to keep certain information from being disclosed. For the same reason that public agencies are not obligated to divulge contractual discussions, there may be legitimate reasons that the process not be entirely open. For example, it may be perceived that involving the public may slow down the decision-making process due to the number of stakeholders with different interests in the deal, both altruistic and self-serving.

How can decision-makers involve the broader community?
There are several ways to involve the broader community in the hospital conversion process.36

Public notification in a timely fashion allows citizens to become aware before deals are finalized.
Public hearings allow community members to voice concerns regarding the conversion.
Public disclosure of transaction agreements helps ensure the hospital is realizing its fair value.
Public input regarding conversion proceeds gives the community the opportunity to rectify any perceived gaps in services that might result from conversion.

However, when a hospital decides to change its ownership or governance structure, there is the potential for enormous community impact. The importance of these decisions is crucial since once a conversion is finalized the community may have little or no recourse for change. In this respect, the role of the public in this process may well be that of a "watchdog" to protect the interests of the community. Some advantages of public disclosure and input include a) providing reassurance the conversion is fair; b) allowing local or national consumer groups to review a proposed agreement and provide useful technical or feedback to decisionmakers (or regulators), and c) encouragement of other bidders.

* The relationship between public disclosure and the outcomes resulting from a transaction is unclear. In our 10 case studies, communities with little disclosure were not demonstrably worse off than communities with more public involvement. In other cases, such as the recent conversion of Durham Regional Hospital and a Portsmouth, New Hampshire case, many public concerns aired during the process resulted in improvements made to the final agreement.
* A 1997 General Accounting Office study of 14 conversions across the United States (including two of the hospitals among our 10 case studies) concluded that "communities were generally not informed about conversions" in terms of whether a sale was pending or details of the sale such as sale price or structure of the transaction. Likewise, in the Project HOPE case studies, community participation typically was limited in not-for-profit to for-profit conversions and much more extensive in cases involving rural public hospitals.8

The hospital board responsible for conversion decisionmaking might consider itself already representative of the community. However, many boards may not represent certain stakeholders, such as physicians, nurses, or disadvantaged groups—a gap that is clearly widened if such groups cannot make their voices heard. There are no rules, and those making the conversion decision must strike a fine balance between the interests of the public in knowing and the advantages to the community of keeping selected information confidential. In addition, a board must acknowledge the fact that its decision, while made with due care and loyalty, may not be popular with each member of the public.41

* The degree of community involvement in the conversion of our case study hospitals varied widely, in large part due to the extent to which the decision-makers kept the community informed. In some of the hospitals, it was clear that the conversion happened quickly and with relatively little public awareness and potential for involvement. This has apparently resulted in mixed feelings as to whether the conversion was truly good for the community. In contrast, the board of Byerly Hospital began publicizing the need for hospital change well before the final transaction was approved. Through a combination of a formal survey of area key industry individuals and general community focus groups, the board was able to judge the potential level of commitment for a community fund-raising campaign to finance the high projected cost of renovations to the hospital.

Public hearings can offer an effective forum in which to answer questions and alleviate potential fears of the community regarding a proposed conversion.

* In the Hilton Head Hospital case, substantial parts of the community had expressed concern over a change to for-profit ownership. Acknowledging a long-standing community interest in the local hospital, the hospital board organized public hearings to discuss the hospital's need for change and the ways in which an affiliation with a for-profit hospital might offer solutions, simultaneously providing the community the opportunity to ask questions and offer input.