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Going south: How one hospital company crashed and burned

The high-flying rehab hospital giant HealthSouth has crashed to Earth. Is this just one company's isolated problems, or are all large for-profit physician and hospital companies doomed to failure?

By Bob Cook, amednews staff. Dec. 2, 2002. - Correction

HealthSouth, which spent the 1990s aggressively building the nation's largest chain of rehabilitation facilities and outpatient surgery centers, is in need of some rehabilitation itself.

The Birmingham, Ala.-based company, which owns 1,900 centers spread over all 50 states and a few locations elsewhere, has suffered compound fractures over the last year. The most severe came when it declared Aug. 27 that, because of a Centers for Medicare & Medicaid Services' clarification on how physical therapy services would be billed, the company would see revenue decline by $175 million in 2002. That sent the company's stock down 44% in one day, to $6.71 from about $12.

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Region: South

On Nov. 5, the company announced that its profits would be even less than Wall Street expected. The company in the third quarter of 2002 earned $38.3 million -- or 10 cents per share -- of revenue, down more than half from the $79.1 million -- or 21 cents per share -- in the like period in 2001, though revenue bumped up 2% to $1.1 billion. As a result, HealthSouth shares dropped another 32%, to $4.07.

Given that HealthSouth has followed the same pattern as so many other once-booming for-profit health companies -- grow, grow faster, grow even faster, crash in a heap of its own chutzpah -- the question is, is it impossible to mix caregiving with Wall Street? Is HealthSouth doomed no matter what?

There's a temptation to say yes. Historically, companies that grew too fast suffered under some combination of an inability to integrate their acquisitions into a cohesive whole, a propensity to upset physicians by cutting corners on paying for care, or questions over whether they're overbilling Medicare or other insurers to keep earnings growing to Wall Street's satisfaction. In this, HealthSouth has plenty of company:

The physician practice management industry -- in which for-profit companies bid like crazy to buy practice assets -- went from birth to boom to practically out of existence in only 10 years, angering physicians and investors with their unfulfilled promise of creating economies of scale among physician practices.
Magellan Health Services Inc., which manages much of nation's mental-health services, is struggling under the weight of $1 billion in debt, thanks to money spent on a two-year spate of acquisitions.
Tenet Healthcare, a for-profit chain of hospitals, watched its stock price get cut in half on Nov. 8 as news broke of two top executives resigning, two days after the U.S. Dept. of Health and Human Services announced an audit of the company's Medicare billing because of higher-than-usual billing for outliers. The FBI has launched a separate investigation of two cardiac surgeons in a Redding, Calif., Tenet hospital who are accused of performing unnecessary heart surgeries.

"The models that have been put out there are not very workable," said Joel Cunningham, MD, an MBA-holder and an internist in a small group practice in Waco, Texas. "I don't see the for-profit ... chains as being stable."

HealthSouth owns rehab and surgery centers throughout the U.S.

Then again, there's also evidence to show a turnaround is possible, even for an accused Medicare scofflaw such as HealthSouth.

Columbia/HCA appeared troubled in the last half of the 1990s, shedding hospitals as it dealt with a barrage of lawsuits accusing the hospital chain of Medicare fraud. But the company ended up settling with the government. The company, whose name changed to HCA, is financially healthy and acquiring hospitals again.

"You have to look at it company by company," said David Peknay, director of Standard and Poor's corporate ratings division in New York.

"The key is how the company is being managed," Peknay said. "Whether you are big or small, you have to pay close attention to business policy and financial policy."

One disturbing sign for all of the for-profit health care companies is that many seem to be on an acquisition binge again, he noted. Tenet and HCA, in particular, have been expanding hospitals or buying more of them. "That's something we're getting concerned about because too aggressive acquisitions have gotten companies in trouble in the past," he said.

Investigative work

There's no indication HealthSouth's acquisition spree (during 10 years the company grew from 50 centers to its current 1,900) is directly responsible for its problems.

But for whatever reason, lately Medicare billing has a been a problem for HealthSouth.

HealthSouth grew from 50 to 1,900 centers in 10 years.

On May 17, CMS sent a transmittal "clarifying" a billing rule regarding physical therapy. Under Medicare, a physical therapist treating more than one patient at a time must bill at the lower group rate, rather than the single-patient rate, even if the patients are receiving different treatments.

According to HealthSouth, the company didn't know of this until June 6, and even then thought that, at most, the clarification -- which HealthSouth took to be a rule change, although CMS says it's not -- would affect only its outpatient physical therapy centers, which had low Medicare usage.

But after meeting with CMS in July and August and receiving what it called "somewhat conflicting guidance," HealthSouth announced in an Aug. 27 news release that it would apply a "conservative interpretation" of CMS requirements, thereby sending its revenue and stock price down. The news was sandwiched between word that HealthSouth would spin off its $1 billion surgery center business -- a relatively hot Wall Street sector -- and that company founder, Chair Richard M. Scrushy, would turn over the CEO reins to longtime HealthSouth executive William T. Owens.

Security and Exchange Commission investigators, as well as the at least 21 law firms handling class action lawsuits against HealthSouth saw all of the financial whirlwinds coming. On May 14, three days before CMS issued its clarification, Scrushy exercised stock options, then sold the shares immediately, at $12 per share, for a $52 million profit. Scrushy's defense is that the 10-year-old options were about to expire.

Then, on July 31, Scrushy traded 2.5 million shares -- about half his stake -- back to the company to settle a $25 million loan. Scrushy has said he did this because investors, in the current sensitivity toward corporate scandal, didn't like companies holding outstanding loans to their executives.

HealthSouth hired a Houston law firm, Fulbright & Jaworski LLP, to investigate Scrushy's claims, and the firm said there was no wrongdoing. On Oct. 30, the firm sent its report to the SEC, whose case is pending.

HealthSouth stock plunged 44% in one day.

Meanwhile, HealthSouth also is dealing with five whistle-blower lawsuits accusing the company of Medicare fraud; in May these were combined into one case in U.S. District Court in San Antonio, Texas. The lawsuits, filed by former HealthSouth employees, accuse the company of billing Medicare for physical therapy services done by an unlicensed technician.

HealthSouth spokesman Brian Keeter declined to comment on the company's recent struggles, saying the company has a policy of not commenting on ongoing SEC investigations and litigation.

But this isn't the first time HealthSouth has run into Medicare troubles. Last year, it paid $7.9 million to settle charges it had overcharged Medicare by overpaying for supplies through a company owned by Scrushy's parents. HealthSouth admitted no wrongdoing.

So what now?

HealthSouth has hired a doctor to help cure its ills -- a spin doctor, that is. Lanny J. Davis, who served as President Clinton's special counsel during Whitewater and campaign-finance investigations from 1996 to 1998, in late October was hired on as a spokesman for HealthSouth. Davis gave many speeches post-Clinton about his techniques for blunting bad news about the president -- mainly, releasing bad news before the opposition could. (So far, Davis has merely been denying the charges against HealthSouth.)

Also, in the last two months, the company has hired two "independent" directors, with at least two more expected, to join nine other members who in the past have been criticized by analysts and investors for essentially being Scrushy's rubber stamp.

The company has a long way to go in improving its management, analysts said. What's disturbing about HealthSouth's problems is that they are the result of sloppy management, Peknay said. "The magnitude [of HealthSouth's $175 million earnings shortfall] was surprising," he said. "It's surprising that HealthSouth would make such an error."

Despite the problems that HealthSouth is facing now, however, physicians should not worry that their nearest HealthSouth facility will close down, Peknay said. HealthSouth has an extensive network of rehabilitation facilities and surgery centers, and up until the last year, the company was doing well and had a reputation for being well-run.

But will HealthSouth be able to weather its current problems in the long term?

It's probably too soon to tell if HealthSouth will be able to bounce back from its problems in the same way that HCA was able to rebound as a smaller but better-managed company, analysts said.

Although the company has a reputation for providing good rehabilitative and surgery services, there are many questions about its management and finances.

Said Peknay: "There are a lot of open issues we need to monitor, such as the SEC investigation and the uncertainty of the billing issues. ... Right now the company needs to gain investor confidence. Right now there are a lot of uncertainties."

ADDITIONAL INFORMATION:

Misery loves company

HealthSouth is not the only health care service company that has stumbled in recent years.

HCA, formerly known as Columbia/HCA, was the subject of a Justice Dept. investigation during the 1990s, which charged the for-profit hospital company of defrauding Medicare by listing expenses in its cost reports that Medicare did not cover. In 1997, HCA pleaded guilty to committing Medicare fraud and paid $840 million in fines and penalties. HCA then sold off many of its hospitals and ambulatory centers, brought in new management -- including founder Thomas Frist Jr., MD -- and hired an executive to focus on corporate ethics.

MedPartners, the physician practice management company, declared bankruptcy in 1999, a year after rival PhyCor withdrew an $8 billion offer to buy the company because of MedPartners' shaky finances. (See correction.) In 2000, KPC Medical Management, which the year before had bought most of MedPartners' medical clinics in Southern California, declared bankruptcy and shut down the clinics, forcing 250,000 patients to find other places to receive medical care.

PhyCor sold its last multispecialty clinic in 2001 and declared bankruptcy earlier this year. The company recently emerged from Chapter 11 bankruptcy proceedings with a new name, Aveta Health.

Magellan Health Services Inc., the behavioral health care giant, is struggling with $1 billion in debt.

Tenet Healthcare Inc., a large hospital chain, is under HHS investigation for its unusually high outlier billing. The FBI also is investigating two Redding, Calif., Tenet cardiac surgeons for allegedly performing unnecessary heart surgeries.

Correction

MedPartners Inc. has never declared bankruptcy, contrary to a statement in the box of this story. In 1999, the California Dept. of Corporations filed for Chapter 11 bankruptcy protection for a MedPartners subsidiary, MedPartners Provider Network, which the state agency had taken over without MedPartners' consent. AMNews regrets the error.