Ongoing market changes from cost pressures, patient needs and Affordable Care Act implementation will continue to accelerate the momentum in hospital consolidation. Mergers bring economies of scale and enhanced access to capital, and can create opportunities for improved quality of care. But individual markets still will continue to provide exceptions to this trend. In such markets, the opposition and lack of support can be greater than the momentum to change it. Rockford, Ill., provides a case in point, one that many hospital boards and administrators can learn from to better develop a proactive communication and contingency strategy.

The Rockford Story

Rockford, 60 miles northwest of Chicago, has a population of 153,000 in a metropolitan area of nearly 350,000. Its economy has suffered since the decline of local manufacturing industries began in the late 1980s. Although there are still several large manufacturers in the city, half of the top six employers are the three local hospital systems: SwedishAmerican Health System (333 beds), Rockford Health System (305 beds) and OSF Saint Anthony Medical Center (254 beds).

In May 2010, Rockford Health and OSF HealthCare System (based in Peoria, Ill.) signed a letter of intent to combine Rockford and OSF Saint Anthony Medical Center. The merger was formalized in February 2011, pending regulatory approval. Although the Illinois Health Facilities and Services Review Board gave its assent, the Federal Trade Commission in November 2011 announced its opposition, saying that the merger would end "decades of competition" between the hospitals and "lead to significantly higher costs." After months of effort to reach an agreement, an Illinois federal judge enjoined the merger in April 2012. Rather than continue to press for the combination in the face of rising legal costs, an ongoing distraction to operations and an FTC challenge, the parties called off the merger.

The Case for Merging

Planning for the merger began when Rockford Health System's board assessed the changing local health care market and asked challenging questions about the organization's future: Where are we going? How are we going to treat patients better? How are we going to perform better as an organization? What will we look like in the future? What new services might we offer? The answers led to the conclusion that being part of a larger health system would be much more advantageous for Rockford Health System while strengthening the ability to better care for the community's residents. OSF Saint Anthony Medical Center was the logical partner.

The goal of the merger was to create a new business model for the two hospitals reflecting:

  • the foundation of a large physician group;
  • combined home health care programs;
  • combined information technology functions;
  • new clinical programs across the spectrum;
  • consolidated back-office operations in areas like registration, medical records and finance;
  • consolidated clinical services such as pediatrics, obstetrics and cardiothoracic surgery.

It was estimated that the merged organizations could have eliminated $30 million to $40 million in annual operating expenses, and avoided $20 million or more in capital duplication. The participants anticipated little or no price increases, a solid clinical foundation (including accountable care organizations and noninvasive surgery centers), and an advantage in recruiting subspecialists in critical areas. The hospitals were convinced they would be profitable, would offer new services and would not increase prices.

The Lessons Learned

With all these positives, why didn't the Rockford merger happen? Five elements not only define the unique factors at work in this transaction, they convey lessons that any health systems — particularly those in mid-sized markets — should learn before embarking on their own partnerships. Their fundamental message is: Even when the merging parties manage expectations and successfully communicate the benefits to all stakeholders, factors beyond their control can play the biggest role in whether a combination can be achieved.

1. The initial response from regulators will set the tone. In this transaction, the FTC almost immediately challenged the Hart-Scott-Rodino filing made by Rockford Health System and OSF. Despite two appearances before FTC staff in Washington and Chicago, meetings with each of the FTC commissioners, and a pledge to freeze prices for five years, the hospitals were unable to change the agency's perception that the merger would mean less competition and higher prices. The FTC was prepared to use its subpoena power to support that viewpoint by requiring that community stakeholders testify in proceedings about local health care market conditions, which for many of them posed an expensive, unwanted distraction that diverted them from more active support. Without wholehearted community backing, the merger partners ultimately decided that spending millions of dollars more in legal costs to win over the FTC and the Rockford community was not consistent with their goals.

2. Insurers will have a major impact. Some of the state's health insurance companies were not convinced that the cost-efficiencies from consolidation would reduce service prices. Insurers who weighed in on the proposed merger expressed the concern that reducing choice in the market from three hospital systems to two would raise fees and create health service access problems. Such arguments reinforced the FTC's own position.

3. The FTC's index of market penetration will carry great weight. Based on the Rockford experience, it appears that the agency primarily relied on the Herfindahl-Hirschman Index to measure market share concentration. Using HHI in this instance, the FTC focused on the two hospitals' medical and surgical inpatient volume while factoring in family practice and internal medicine physician practice visits to determine market share. This approach did not include such additional factors as surgical volume or emergency department visits from the nine-county area surrounding Rockford.

4. The business community will consider more than cost. The Rockford business community, including the Rockford Area Economic Development Council, was neutral about this merger. Unions, insurers, contractors and the rest of the business community had learned to live within the current system and were reluctant to have any change, even one that would potentially have positive long-term impact, for fear that short-term economic effects might be negative. In particular, there was apprehension about the merger's impact on employment. Rockford's three largest health care systems employ more than 7,000 people. Two of those health systems were the intended merger partners, and the third raised concerns about increased unemployment. This made it more difficult for many community stakeholders to advocate for the merger's benefits. With major insurers either neutral or opposed, and the chamber of commerce and major employers similarly neutral or silent, the FTC view that the merger would reduce responsiveness in providing patient value had a disproportionately strong voice in the wider community.

5. Medical staffs have their own economic concerns. The merger between the two hospitals offered potential benefits for staff physicians. However, both hospitals had staff with subspecialists who provided services to and received income from multiple institutions. As such, a merger potentially would reduce the need for their service, but enhance the convenience of call coverage or enhance service. For some, it appears that income might have been more important than convenience.

Communication Influences Outcomes

Rockford's three hospitals have long sought ways to merge with one another, arguing that the city's shrinking population and declining economic base justified it. In 1988, a federal judge granted an injunction to block a merger between SwedishAmerican Hospital and Rockford Health System, and that deal fizzled. SwedishAmerican also explored a merger with OSF in 1997, which the FTC approved, but the transaction never materialized.

A broader trend, however, is emerging in the FTC's opposition to this latest merger bid. From 1993 to 2008, the FTC and the Justice Department were unable to block a single hospital merger, most often because they were overruled by the courts. One major reason for this was that the courts often used studies from economists suggesting that hospital mergers did not lead to price increases. The economic analyses used by the FTC and others reflect a different conclusion, and now are in the ascendency. As a result, there is skepticism about claims that mergers between healthy hospitals in the same market will have good results.

To some extent, the five lessons learned in Rockford were outside the direct control of the participants in the potential merger, but this is often the case in business combinations. It is incumbent upon merger partners in the health care sector to investigate not only the economic and competitive factors, but also the community relations landscape in which their combination will take place. Communicating a clear and transparent message of merger progress can help manage expectations among local allies and advocates. In addition, merger participants may need an alternative strategy that takes into account local market conditions.

While consolidation in general may be increasing, it is not necessarily inevitable. That is why it is prudent for health systems to have alternative combination strategies with larger players further afield from the local market, even though the combination of two local players will produce higher local market savings. Hospitals also can look to selectively combine subspecialty programs with other hospitals (in oncology, for example) through a joint venture or similar arrangement, or can become a branch of a larger system based hundreds of miles away.

These are alternatives to local health system consolidation, and they are unlikely to bring the material reconfiguration that the health care sector needs. The health care system that was built up to serve the population and use rates of the second half of the 20th century simply cannot be sustained. Consolidation in some form is a way for a community to manage this reconfiguration, rather than leaving it to more impersonal market forces. Some hospital systems that may appear to be viable competitors today will not be viable in five years. Planning now for the messages and strategies that will build community stakeholder acceptance for these partnerships, in contrast to the Rockford experience, is the most practical way to realize the savings and quality improvement that a well-planned merger can bring.

David Burik (dburik@navigant.com) is a managing director with Navigant Healthcare, Chicago. Gary Kaatz (gkaatz@rhsnet.org) is president and chief executive officer, Rockford (Ill.) Health System.