This report originally appeared in the October 2010 issue of DOTmed Business News

As a favor to a friend, John Baran, a retired PricewaterhouseCoopers partner, sat in on an Auburn Memorial Hospital board meeting to take a look at its financial situation. What he saw wasn’t pretty.

“I saw the place was underwater,” Baran recalls. “I went to the first meeting and said to my friend, ‘Jeez, this place is bankrupt, it just hasn’t filed yet.’”

Baran accepted the position of CFO for the Auburn, N.Y.-based hospital in January 2007 after the interim CFO departed. Having been born at Auburn Memorial, Baran has a special place in his heart for the hospital and wanted to bring it to life again. And even though Baran knew the only way out was to seek Chapter 11 protection, or file for Chapter 11 bankruptcy, he was confident that Cayuga County’s only hospital would not close.

“We knew going in, that our strongest asset was the fact that we were the only hospital in town,” says Baran. “If there were two hospitals, we never would have survived.”

The hospital’s largest liability was about $20 million owed to pension plans, which was considered the biggest burden, and about $4 million owed to trade vendors.

“When you’re starting to run out of cash, you fill up your Visa card and max that out, which is what the hospital did, select vendors and push them out — the ones that squeal the loudest get paid first,” explains Baran. “With the pension plans, no one notices [something is wrong] until the year is over.”

In April 2007, the hospital filed for bankruptcy, ironically the first step in pulling itself up by its bootstraps.

How did we get here?
Of course, the main reason a hospital files for bankruptcy protection is because it ran out of money. But why do hospitals face such financial distress? The driving factor behind Auburn Memorial’s struggles is not uncommon: physicians left the facility for a number of reasons and were not replaced. Without physicians, a hospital can’t treat patients, and cash flow slows or even ceases.

For the hospital, there was a steady decline in admission in the late 1990s and early 2000s as physicians retired and were not replaced. In some cases, physicians were frustrated with management and left, Baran says.

“At the end of the day, the hospital’s customer is the physician,” says Baran. “Physicians admit patients, but you have to have physicians there to treat [patients] in the first place. If you start to lose customers, all of a sudden, expenses exceed revenue. It’s a compounding problem.”

In 2006, new management took over the floundering hospital, and ultimately, the decision was made to file and seek help from the government agency, Pension Benefit Guaranty Corporation (PBGC). The agency is designed to protect employees’ and retirees’ pension programs. In the process of moving pensions to PBGC, only three out of 1,500 Auburn Memorial’s employees or retirees took a pension cut. The three were highly compensated physicians, says Baran.

Those who are familiar with hospital bankruptcy realize that the key to keeping the money flowing is physicians. In fact, one of the warning signs that a hospital is in financial distress is having a poor relationship with its physicians, says Richard Gundling, vice president of Healthcare Financial Management Association (HFMA).

The light at the end of the tunnel
Baran realizes that his hospital’s situation was not typical, especially for upstate New York, which has a bad reputation for bankruptcies and closures, he says.

“Bankruptcy usually means to [upstate New York residents], the company is closing,” says Baran. “The fear in everyone’s mind is, ‘Bankruptcy, I’m going to lose my job.’ That’s the pervasive thought.”

Baran’s most important message to employees, he says, was that no one would close the county’s only hospital. The closest hospital would be 30 miles away in Syracuse.

“I remember saying this [when I met with employees]: ‘Yes, we are filing for Chapter 11, but we are not closing. No, you will not lose pension benefits. You will not lose your job.’”

In July 2008 the hospital reached an agreement with creditors, and the court officially discharged the hospital by November of that year. Generally, it takes a hospital 12 to 18 months to emerge from bankruptcy, says Baran.

While the unsecured vendors — about 500 — lost money, it was in their best interest to continue doing business with the now-thriving health care facility, says Baran.

The hospital lost some of its market to the hospital in Syracuse, not due to the bankruptcy, but to the lack of physicians. This market, including elective surgeries and baby deliveries, has now gone back to the facility, says Baran.

Auburn Memorial is out of the woods except for $1 million it owes to PBGC, which it expects to pay off next year.

“Four years later and we’re still in business, and business is better than ever,” says Baran.

While the situation Baran encountered was rare for the area, it’s not uncommon for a hospital to emerge from bankruptcy.

Hospitals that file for Chapter 11 protection give themselves a chance to reemerge, explains Adam Rogoff, a partner in the corporate restructuring group for the Kramer Levin firm in New York. But those that file for Chapter 7 protection pass the company over to individual management and liquidate, closing its doors.

Facing financial stress
In New Jersey, the recession certainly hasn’t helped already-floundering hospitals, says Kerry McKean-Kelly, spokeswoman for the New Jersey Hospital Association.

In fact, six hospitals have filed for bankruptcy protection since 2007, which is an unprecedented number, McKean-Kelly says.

“That’s definitely considered a rash number of filings,” she says.

But it wasn’t solely the recession that pushed these hospitals over the edge.

“In reality, the financial pressures on New Jersey hospitals preceded the recession,” McKean-Kelly says. “Reimbursement pressures on the state contributed not only to bankruptcy filings but also hospital closings.”

Of the six hospitals that filed, two emerged: St. Mary’s Hospital and Bayonne Medical Center.

McKean-Kelly points out hospitals can run into financial problems if they accept a lot of patients covered by Medicare, Medicaid or New Jersey’s Charity Care.

“All three of those major government programs pay hospitals less than it costs to take care of patients,” she says, explaining that Medicare pays New Jersey hospitals 89 cents on the dollar per patient; Medicaid pays just 68 cents on the dollar per patient; and Charity Care ranges from 15 cents to 96 cents per patient.

“The big issue is what we would call the patient mix,” she says.

In other words, hospitals taking more government-covered patients earn less than hospitals taking more privately insured patients.

New York hit hard
Neighboring New York also felt the pain as two major New York City-based hospitals succumbed to financial stress earlier this year. St. Vincent’s Hospital in Manhattan closed its doors in April after filing for bankruptcy, carrying a debt of $700 million, and Harlem’s North General Hospital filed for bankruptcy and subsequently closed its doors in June, $200 million in debt.

Efforts to save St. Vincent’s from closure fell short. The facility was split up, with Beth Israel Medical Center taking on the hospital’s cancer center; Lenox Hill running the urgent care center; and Mount Sinai Medical Center acquiring the HIV/AIDS center.

“In the crucial seconds of a health emergency getting to a hospital in time can literally save a life,” said City Council Speaker Christine Quinn in a statement last February. “Redirecting patients to a hospital miles away is simply not an appropriate response, and we won’t allow our community, especially our senior community, to be left without an emergency care medical center right here, on the west side of Manhattan.”

In April, days before St. Vincent’s closed its doors, Quinn addressed the situation again.

“Only a full-service hospital can fully replace St. Vincent’s Catholic Medical Center,” she said. “However, no hospital has come forward with a proposal to buy St. Vincent’s and [its] massive debt.”

Over the summer, St. Vincent’s was granted court approval to sell its cancer center, hospice and its long-term home health business and certified home health agency.

While the West Village was still reeling from losing its only neighborhood hospital, the Harlem community was devastated when its North General Hospital shut down and its clinics were handed over to the Institute for Family Health.

“We are extremely saddened and disappointed with the … closure of North General Hospital,” the hospital’s union SEIU 1199 said in a statement. “On the heels of St. Vincent’s Hospital, the closure of yet another acute care facility two months later is the regrettable result of continued and repeated cuts to health care funding.”

As a result of the North General closure, a battle between two unions has ensued. SEIU 1199 employees have been ousted from their positions unless they saddled up with IFH’s union, OPEIU Local 153, sending former North General employees to the picket lines.

“The patients identify with us because we’re the people they have seen throughout the years,” says former employee Mullin Davis, as she pickets against the new management. “The impact of this hospital closing is, ‘Where am I going to get care? What’s there for me?’”

The American Hospital Association recognizes the negative effects a bankrupt and closing hospital have on a community.

“Hospitals are the cornerstone of any community, and when a hospital is faced with financial difficulties, it impacts everyone,” said Matthew Fenwick, AHA’s associate director of media relations, in an e-mail to DOTmed News. “Given the recent economic downturn, many hospitals have faced tough financial decisions about how to keep their doors open to the community. At the worst, those in need can be denied vital services, and at a minimum, face a disruption to their case.”

The Greater New York Hospital Association declined to comment for this article.

Making back the money
Whether a hospital merely files for bankruptcy or eventually closes its doors, there is the issue of paying back creditors, lenders and vendors. But if a hospital closes its doors, it will choose to sell -off assets to pay back its debt. When hospitals are racing against the clock, auctions are a common option to sell assets and make back a nice chunk of change.

DOTmed.com, the parent company of DOTmed Business News offers online auction services. Rick McDaniel, auction manager for the company, says even if hospitals need to liquidate their assets immediately, auctions are a good way to get more money.

“It’s a factor of time and exposure,” he says. “Based on that, we can get the most value [for the assets] because we’re not liquidators. We auction the equipment in partnership with the hospital, instead of buying low to sell high.”

While it’s hard to guess how much a certain piece of equipment will sell for in an auction — the market is always changing — an auction is a hospital’s best chance at making a dent in debt owed, says McDaniel.

Hospitals have two types of auctions to choose from when selling their assets: live (onsite auctions) or online auctions.

Hospitals may turn to a live auction instead of an online auction if they are short on time. In some cases, a live auction can liquidate assets in anywhere from two to eight days, while an online auction may last several weeks.

Centurion Service Group, a company that manages both online and live auctions, recognizes that live auctions create immediacy.

“A frenzy usually feeds to higher prices, and you can look at the competition in the eye, and that’s where the ego steps in — you’re not going to let this person win, and the price goes up from there,” says Erik Tivin, Centurion’s CEO.

Online auctions, says McDaniel, also create bidding frenzies. Another factor unique to online auctions is the exposure products receive. Online, the audience is limitless.

Lee McLendon, formerly the CEO of Bossier Specialty Hospital, is now in charge of the liquidation of the facility after the decision was made in September 2009 to liquidate assets rather than declare bankruptcy.

Through a DOTmed online auction, McLendon was able to reach a wider range of potential buyers, including international buyers.

“I had assets to sell that had a cost basis of $4.5 million,” he recalls. “That’s a whole lot of stuff. It took a whole lot of transactions. Without opening to a broader market [through auctions], there’s no way I would have sold all that stuff.”

Economic stress
While the economy is starting to show signs of recovery, hospitals “continue to be adversely impacted by the lingering effects of the economic recession,” based on a hospital survey published earlier this year.

The survey revealed that patients delay or forgo care — 70 percent of hospitals reported fewer patient visits and elective procedures. Making the situation worse, almost nine in 10 hospitals reported an increase in care for which the hospital received no payment at all.

In order for hospitals to stay afloat, they have made significant changes, including cutting administrative costs, reducing staff and curtailing services. The survey found that 89 percent of hospitals reported they had not added staff or increased staff hours. Ninety-eight percent reported not restoring services or programs previously cut due to the economic downturn.

In 2009, Bankruptcy Creditors’ Service, Inc. recorded seven hospital bankruptcy filings, including three New York hospitals. The company, which publishes the Troubled Company Reporter, a daily newsletter that tracks large companies and their credit quality, reported that nine hospitals have filed for bankruptcy so far in 2010. The report noted that St. Vincent Catholic Medical Centers has liabilities worth more than $1 billion.

And even while cutting costs, there has been a jump in hospital bankruptcy filings, says Rogoff, and those filings are expected to increase.

“There is a greater demand [for] health care services,” he says. “But there is less revenue coming in.”

“At the end of the day, a hospital is still a business,” Rogoff says.