Hospitals see a margin advantage as care migrates to the outpatient department

The site-of-care shift toward the outpatient setting increasingly is manifesting in margin per case, according to recent financial data.

“While overall margins for both inpatient and outpatient hip and knee replacement surgeries have declined, outpatient procedures now have higher margins than inpatient procedures,” Strata Decision Technology wrote in its Performance Trends Report for Q2 (registration required).

The gap is growing for total knee and total hip arthroplasties, both of which became eligible for Medicare reimbursement in hospital outpatient departments (HOPDs) and, later, ambulatory surgical centers (ASCs) after CMS removed the procedures from the inpatient-only list in 2018 and 2020, respectively.

For knee replacements, outpatient margin per case surpassed inpatient cases in 2020 and now sits at $1,513 — down from recent years amid rising costs but still an increase of almost $200 compared with 2019. There has been a precipitous drop on the inpatient side during the same span, from plus $2,762 to negative $5,325.

For hip replacements, margins in both settings have dipped sharply during the past five years, but outpatient procedures remain in positive territory at $2,501 (down from $5,305) while inpatient procedures lose $4,817 per case (down from plus $1,865).

Those trends have accompanied a substantial volume shift, with outpatient cases now comprising 88.3% of knee replacements (up from 30.3% in 2019) and 62.8% of hip replacements (up from only 2.4%).

The margin dichotomy hinges, in large part, on efficiency, said Steve Wasson, chief data and intelligence officer with Strata.

“You get paid less for the outpatient, but they’re able to manage their costs differently than when you’re an inpatient,” Wasson said. “Even though you’re getting more reimbursement, so your top line would be higher for that inpatient case, the costs associated with it are so much higher.”

A boom period

Forward-looking organizations in recent years have been building or buying outpatient facilities, or partnering in joint ventures, Wasson said.

“Some organizations have leaned into this,” he said. “Others, either they can’t, or they don’t want to, or they don’t see it as their mission, and you can see the [resulting] difference.”

Spending on capital investment remains relatively robust in the post-pandemic period, but in a different way from what was once seen.

“The type of capital spending is shifting away from the traditional inpatient tower to more access points,” Mark Pascaris, senior director for U.S. Public Finance with Fitch Ratings, said during an Aug. 15 call to discuss 2024 medians for the not-for-profit (NFP) hospital sector.

Those access points increasingly include freestanding ASCs.

On the for-profit hospital side, for example, Tenet Healthcare’s top capital priority “remains the expansion of low-cost, high-quality ambulatory surgical centers for the communities around the country,” CEO Saum Sutaria, MD, said during the company’s Q2 investor call.

Tenet’s ASCs (operating as the United Surgical Partners International chain) showed constrained growth year-over-year, but Sutaria attributed the sluggishness to temporarily having limited room to grow after a 2023 post-pandemic volume surge.

“The ASCs are incredibly busy, and if you look at the margins, they’re busy at a level where the operating leverage is actually creating very, very strong margins,” Sutaria said. “The business doesn’t have a lot of fixed cost at the center level. And so, when there’s that type of throughput, the margins look really good, and they all do this year.”

Inpatient care still pivotal

Acute-care inpatient operations remain the crux of the hospital service portfolio, including because those services appear to be the least susceptible to competition from newer industry entrants.

Year-over-year volume growth is currently higher on the inpatient side, Strata reported, although Wasson said that’s likely a statistical anomaly stemming from CMS’s 2024 guidance expanding the two-midnight rule to include Medicare Advantage.

Tenet reported that inpatient surgery volumes increased by 4% during the first half of the year, while the outpatient side fell by 3%.

“Obviously, inpatient surgical tends to reflect both emergent and elective acuity and the programs that we’ve been focused on building,” Sutaria said. “Inpatient surgical takes up OR capacity significantly. Hospital outpatient surgeries also have this trend of moving into the freestanding setting.”

The bifurcation increases the complexity of a hospital’s inpatient population, in turn affecting costs and margin metrics.

“What’s happening more and more is the cases that end up being inpatient are high-acuity, high-comorbidity,” Wasson said. “The pool of people that actually go inpatient is becoming more specific because of some sort of extenuating circumstances, which unfortunately leaves the burden with the hospital to say, ‘OK, now there’s this one patient who has to be here. What could all this cost?’”

If attainable, robust inpatient margins would be the surest path to financial stability under the traditional business model. In its medians report (login required), Fitch Ratings described a “slow and sustained recovery” for the NFP hospital sector after the pandemic, including projections of “a lengthier time of margin compression when compared to historical levels.”

One hindrance preventing a faster rebound is the continued “shift from surgical to medical for many, along with the longstanding inpatient to outpatient migration trend still occurring.”

An unsettled landscape

ASCs continue to gain market share in conjunction with the steady expansion of Medicare’s ASC covered procedures list, even after CMS reversed course for 2022 and removed more than 250 procedures that had been added under relaxed criteria the year before. Shoulder and ankle reconstructions were among 11 procedures added for 2024, and pacemaker insertion and removal are proposed for addition in 2025.

Tenet’s Sutaria sees orthopedics as a particularly robust area for growth in ASCs over the next five years.

“First you get [care] migration, then you get market expansion, with more qualified patients who choose to go into a simpler, cheaper, easier service setting,” he said. “And I think both of those things will provide a tailwind.”

One policy development that could disrupt HOPD and ASC strategies is the effort to expand site-neutral payment. Some analysts continue to push the approach as a way to moderate healthcare spending and reduce incentives for hospitals to acquire physician practices and convert them to higher-revenue HOPDs.

Sweeping 2023 transparency legislation that passed in the House but stalled in the Senate would implement site-neutral payment for drug administration services and require unique national provider identifiers for all off-campus HOPDs. Proponents are hopeful the bill can still gain traction in the upper chamber during the post-election lame-duck session or the next Congress.