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Understanding Horizontal and Vertical Integration
[By Robert James Cimasi MHA, AVA, CMP™]
Health Capital Consultants, LLC
St. Louis MO
Several potential benefits are associated with the integration of companies in the same or related industries. These synergistic benefits depend upon the type of companies and their integration strategies, as well as whether the anticipated transaction is a manifestation of horizontal consolidation or vertical integration.
Horizontal consolidation is “the acquisition and consolidation of like organizations or business ventures under a single corporate management, in order to produce synergy, reduce redundancies and duplication of efforts or products, and achieve economies of scale while increasing market share.”
Vertical integration involves the joining of organizations that are fundamentally different in their product and/or services offerings, i.e., “the aggregation of dissimilar but related business units, companies, or organizations under a single ownership or management in order to provide a full range of related products and services.”
Healthcare Locality
As healthcare is essentially a local business, horizontal integration within the local market has been limited by antitrust laws. Therefore, in order to control greater market share, a hospital’s strategy has required vertical integration. Healthcare providers and organizations have placed much emphasis on the benefits of vertical system integration in the last 10 or more years, whereby a single healthcare organization owns all of the elements needed to provide a continuum of care for all the needs of a given patient population. Much of this effect has stemmed from the desire to be able provide a “continuum of care,” i.e., to be able to single source contract for the healthcare needs of a patient population and to profit from implementing preventative healthcare and utilization management measures. The relative economic benefits of this type of vertical integration versus horizontal integration strategies remain the subject of great debate in academia and among the strategic managers of other industries. One lesson that may be drawn from other industries is that neither of these forms of integration is universally applicable or beneficial to every organization and market. There are also great costs to integration, which must be outweighed by the benefits. Each specific benefit should be identified and researched when examining the probable effects of integration, consolidation, mergers or divestitures as a competitive strategy.
Rapid Consolidation Periods
During the rapid consolidation and integration of healthcare providers, insurers, and purchasers, in recent years, there was much discussion of a concept termed “managed competition.” This term appears to have been an outgrowth of the term “managed care” and was viewed by many as the logical result of the integration of healthcare markets nationally. The concept of “managed competition” apparently related to an idealized vision of competition between very large, integrated providers (organized into integrated delivery systems), large, national managed care payors, and purchasing group coalitions that could achieve a balance of power between these interacting groups. However, many believe that the result of such an arrangement would more likely be a reduction in competition between members of each of these three groups and the creation of powerful bureaucratic and intractable organizations. Further, this scenario does not appear to effectively remove any of the existing barriers to competition and therefore doesn’t introduce any additional incentives for innovation to produce value for consumers which, of course, is the “sine qua non” of competition.
Disadvantages
The disadvantages of integration are becoming apparent, including:
- the loss of autonomy;
- increased bureaucracy;
- difficulty in aligning incentives; and
- other failed expectations.
Many organizations that sought strategic advantage through integration are ending those arrangements and now divesting acquired organizations.
Other Industries
In other industries, specialized providers of goods and services are increasingly able to offer customers a full range of services through affiliation and affinity with other independent specialists, made more seamless through the use of increasingly sophisticated communications and computing technologies. However, this move to “dis-integration” must also be carefully considered if organizations are not to make further costly organizational changes inspired by a rushed judgment of general market trends.
Porter Speaks
Michael Porter (et al.) wrote in the Harvard Business Review that,
In industry after industry, the underlying dynamic is the same: competition compels companies to deliver increasing value to customers. The fundamental driver of this continuous quality improvement and cost reduction is innovation. Without incentives to sustain innovation in health care, short-term cost savings will soon be overwhelmed by the desire to widen access, the growing health needs of an aging population, and the unwillingness of Americans to settle for anything less than the best treatments available. Inevitably, the failure to promote innovation will lead to lower quality or more rationing of care — two equally undesirable results.
Assessment
Therefore, if the emerging healthcare industry is to respond successfully to the Affordable Care Act [ACA] and related market pressures to reduce costs, then the healthcare market must first create incentives for innovation. The barriers to competition cannot include barriers to innovation as many do now. Physicians, nurses, healthcare purchasers, managers, and legislators must ensure innovation takes the forefront of any reform, if it is to be effective.
Conclusion
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Filed under: Experts Invited, Practice Management, Research & Development | Tagged: Affordable Care Act., Health Capital Consultants LLC, healthcare reform, Horizontal Integration, michael porter, robert james cimasi, Vertical Integration, www.healthcarefinancials.com |
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Market Competition in Healthcare
“Market-competition is the only form of organization which can afford a large measure of freedom to the individual.”
Frank Hyneman Knight (1885-1974)
[Freedom and Reform 1947]
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Bob,
Outstanding essay; thanks.
Sinclair
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Health System Consolidation Expands to Post-Acute Care
The first installment of this three-part Health Capital Topics series regarding provider consolidation will discuss the recent trends in the consolidation of healthcare enterprises and its spillover into the post-acute care sector of the healthcare industry. The consolidation of healthcare enterprises has been a consistent trend in the healthcare industry since the 1970’s, but has only recently affected the post-acute care sector.
This first installment will examine the recent trends in the consolidation of healthcare enterprises; the providers currently seeking to consolidate in the post-acute care sector; and, the impacts of consolidation on the various stakeholders in the healthcare industry.
Click to access Consolidation.pdf
Robert James Cimasi MHA AVA CMP™
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M and As
With the recent announcement of planned acquisitions of Cigna and Humana by Anthem and Aetna respectively, we are seeing a rapid acceleration of the consolidation trend being witnessed over the past several years. These M & A developments will have material implications for provider organizations both large and small from a strategic, contracting, and competitive perspective.
And, although these acquisitions will take several years to complete, it will be wise for provider organizations to evaluate and plan for the likely impact within the marketplace(s) and for their organizations.
Naftali
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Becker’s Hospital Review: 5 Recent Hospital Mergers, Acquisitions, and Partnerships
1. CHS sells 10 medical office buildings for $163M
2. Hallmark Health System to join Wellforce Jan. 1
3. Massena Memorial Hospital slims possible affiliates to 2
4. Walgreens, Rite Aid ink $950M deal to sell 865 stores
5. Advocate Health Care forms two partnerships with Surgical Care Affiliates
Source: Becker’s Hospital Review
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Joint Ventures
In the commercial sector, the impact of health plan and local health system product joint ventures around the country will be similar to what it has been in the past: many will grind to a slow diminution or a halt and a few will do OK, but not much more.
On the other hand, both health plans and health systems have a better understanding of each other’s needs than they had the last time we saw a wave of joint ventures and products back in the 1990s.
Both health plans and for health systems share one goal, which is to increase market share, but strongly differ on other goals. Many, if not most, hospital and health systems are able to enjoy market power and the ability to obtain high prices that has two major implications:
• Any savings from utilization management comes right out of the hospital’s pocket
• A product that requires the exclusive use of hospitals, physicians, and other services that are high priced will increase health plan costs, even if utilization is controlled.
Theoretically this is offset when the health system is also at risk, but unless the joint product accounts for the majority of a health system’s revenue, behaviors are not likely to change. On top of that, health systems are still rewarding leaders and managers for keeping beds full and revenues up, which will not be offset by having a few executives rewarded for a new product.
The other major factors are that health systems are adverse-risk magnets that often target their frequent users, and attract them even if they don’t target them. In addition, many of these products have focused on the health insurance exchanges, which are adverse-risk magnets on their own.
These are not insurmountable problems, but they take a lot of change and work to successfully address. Also the dynamics are different for the Medicare managed care market, but that’s another topic. Finally, changes in the healthcare environment will continue as they always have, and what I’ve described here will change as well. I just can’t say when.
Peter R. Kongstvedt MD FACP
via Ann Miller RN MHA
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