February 7, 2018

Hospital CEO Salaries Are Not the Problem

by Chas Roades

THE GIST

With hospital CEO salaries under increasing scrutiny, health systems should look to link executive compensation to value creation for consumers and communities, making (justifiably-high) salaries transparently connected to performance.

THE FACTS

  • The sweeping tax reform signed by President Trump at the end of last year contains a provision placing an excise tax of 21% on the salaries of up to five executives who earn more than $1m working at nonprofits
  • As reported by the Wall Street Journal (paywall), this tax will affect non-profit health systems in different ways, depending on whether the health system is structured as a single entity or multiple entities, and how physician compensation is treated under the new law
  • The Journal estimates that around 16% of non-profit hospitals employ at least one executive earning $1m or more—again raising the issue of the “fairness” of executive compensation in the hospital industry

OUR ANALYSIS

1. The argument that hospital CEO salaries are too high is a silly distraction. 

It’s satisfying to point to well-compensated hospital executives and question whether their salaries are driving our runaway healthcare spending problem. The argument feeds into a larger, populist narrative about CEO compensation. And since hospitals are often the largest employers in any town, their executives are often among the highest earners in their communities. With little transparency into how hospitals actually work, and what really drives cost, it’s easy to point to CEO compensation as a reason for why our healthcare bills are so high.

This phenomenon has led to a seemingly endless stream of muckraking articles—and some serious academic studies—of how much CEOs are paid. Many of these articles juxtapose the million-dollar salaries with horror stories of enormous patient bills for hospital care, essentially arguing that the reason bills are so large is that patients are footing the cost of the CEO’s salary.

In the strictest sense, of course, that’s true. Hospitals’ billing is based on a combination of direct cost of care and fully-allocated overhead costs—and those overhead costs include the salaries of executives running the hospital. But that’s scarcely the largest—or even a significant—driver of the overall size of a patient’s bill. Clinical labor, pharmaceuticals, medical supplies and technology, and myriad other factors figure into the ultimate set of fees a patient is billed. And the portion of the bill a patient is actually charged for is driven largely by the rate negotiated between the hospital and the insurance company. Somewhere in there the CEO’s salary is getting factored in, but to blame executive compensation for the size of the bill is missing the (much) bigger picture.

The optics of $1m-plus salaries are not good in an industry under such intense pressure to reduce costs

2. We don’t pay health system CEOs too much—we pay them too little.

Health system executives run critical businesses that provide essential services and specialized, complex medical care. Not only does the physical health of a community depend on the success of its hospitals, but economic well-being does as well; in many places the health system is the biggest employer in town (and the creator of skilled, well-paying jobs at that). These businesses have an outsized impact on the quality of life in many parts of our country.

Further, hospitals and health systems are large, growing, and incredibly complex businesses. Add to that the performance pressures, regulatory scrutiny and competitive threats faced by traditional health systems, and you can see why other executive positions look more appealing compared to hospital CEO.

If anything, as health systems grow in size, scope and complexity, I’d argue that one of the biggest challenges most hospitals face is a talent gap—the level of compensation on offer for running a $1B-plus organization is not on par with what similarly-complex, equally-large businesses pay in the rest of the economy. Why would our nation’s best and brightest opt for careers in healthcare administration when the brass ring at the end of the race is so undersized relative to other, similarly challenging paths? With 17% of GNP going to healthcare, and national spending on care creating a ticking time bomb for our economy, it’s hard to think of a more urgent need than putting our best minds and talent against the task of remaking healthcare.

3. That said, it’s critical that health systems transparently link executive compensation to value delivery.

None of this is to say that health systems—particularly nonprofits, which are rightly held to a higher standard of scrutiny as to how they allocate their resources—should be able to dole out millions of dollars of salary without regard to performance. The optics of $1m-plus salaries are not good in an industry under such intense pressure to reduce costs. Beyond optics, patients shouldering the sky-high cost of care are right to ask whether everything is being done to ensure that costs are managed and quality is reliable.

What’s needed is a tighter linkage between executive compensation and system performance. “Value-based payment” is the order of the day in hospital and physician reimbursement, and hospitals everywhere are beginning to link what they pay their doctors to how well care is delivered and how good the outcomes are. Healthcare executives should be no exception to this approach.

Beyond simply linking salary and bonus to metrics such as market share growth and profitability—every industry does that—health systems should look to link executive pay to value creation for the end user of healthcare: the consumer. Value-based executive compensation should be the standard approach used by health systems to reward performance. Non-profit hospitals in particular, given the economic exemptions they enjoy, ought to be at the forefront of transparency in reporting how CEO compensation is directly linked to consumer value delivery. We want health system executives to be richly compensated—as long as they in turn are accountable for the value they create for the communities they serve.

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