Report 2003-125 Summary - July 2004

California Department of Corrections: More Expensive Hospital Services and Greater Use of Hospital Facilities Have Driven the Rapid Rise in Contract Payments for Inpatient and Outpatient Care

HIGHLIGHTS

Our review of the California Department of Corrections' (Corrections) contracts for medical services revealed the following:

RESULTS IN BRIEF

The level of health care the California Department of Corrections (Corrections) provides inmates housed in its 32 correctional institutions (institutions) varies depending on whether the institution contains a skilled nursing facility, a general acute care hospital, a correctional treatment center, or an outpatient housing unit.1 Medical care that an institution cannot provide within its walls is administered by a public or private hospital on either an inpatient or outpatient basis. From fiscal years 1998-99 through 2002-03, the average total inmate population has remained relatively constant at about 160,000 inmates, with roughly 151,000 inmates housed at institutions and 9,000 at community-based facilities. However, during this four-year period, Corrections' hospital payments increased $59.4 million, from $53.2 million to $112.6 million, averaging a 21 percent rate of growth per year. In contrast, the consumer price index for hospital services averaged less than 8 percent annual growth from 1998 through 2003. For Corrections, the growth was most evident beginning in fiscal year 2000-01 with a 37 percent increase over the prior year. Of the $59.4 million increase, $38.5 million related to inpatient hospital payments, $12.7 million to outpatient services, and $8.2 million to other hospital payments.

Our analysis of inpatient hospital payments with associated admission numbers found that 71 percent of the increase Corrections experienced in the four-year period could be attributed to increased costs per admittance and 29 percent to a greater number of admittances to hospitals with which Corrections contracts. The primary driver, increased costs per admittance, relates to either Corrections paying a higher price for the same service or to an increase in the complexity of cases for which inmates were admitted to the hospital. We were unable to determine the extent to which more-complex cases were contributing to increased costs because Corrections did not consistently require and enter into its computer database the necessary data, such as the diagnosis related group (DRG) code, which indicates the typical level of hospital resources for a particular inpatient hospital case and is an important factor in determining if there was an increase in the severity level across all DRGs. For example, in its computer database, Corrections recorded DRG codes in only 482 of 5,779 inpatient hospital payment records in fiscal year 2002-03.

In contrast, our analysis of outpatient hospital payments revealed that higher prices and more outpatient visits were roughly equal drivers of increasing costs, with $6.9 million of the increase attributable to increased costs per visit and $5.8 million attributable to the increased number of visits. As with inpatient payments, however, Corrections entered incomplete medical procedure codes, thus hampering its ability to analyze and determine the reasons why its outpatient costs increased.

Higher numbers of costly cases significantly affected Corrections' rising costs for both inpatient and outpatient hospital care. Although payments for inpatient hospital cases costing less than $50,000 increased 68 percent from fiscal years 1998-99 through 2002-03, payments for cases costing $50,000 or more increased 254 percent. For example, in the four-year period, the number of cases costing more than $200,000 increased from seven to 25, with two exceeding $670,000 each.

For outpatient visits, payments related to cases costing less than $1,000 increased 73 percent over the four-year period, and payments for cases costing $5,000 or more tripled in fiscal year 2002-03 compared with two years earlier. Of equal importance for outpatient costs is that the number of outpatient visits nearly doubled from approximately 7,500 to 14,900, even though the number of inmates remained relatively constant. This doubling of outpatient visits also has a significant effect on Corrections' nonhospital costs because each inmate visiting an outpatient facility must be transported and guarded by correctional officers, who are frequently paid at an overtime rate for these tasks.

When we asked selected correctional institutions why their inpatient or outpatient costs increased dramatically from fiscal years 1998-99 through 2002-03, we received some insightful information. Two institutions performed analyses showing that changes in contract terms resulted in their paying hospitals three times as much as they previously paid for the same inpatient stay. One of these institutions also said it had fewer inpatient beds because, according to the Department of Health Services' standards, its inpatient rooms were not suited to house two medical patients. Another factor this institution cited as contributing to higher inpatient costs was a larger number of inmates with complex medical and mental health issues that led to an increase in hospitalizations for drug overdoses and seizure disorders.

To test the reasonableness of what Corrections paid hospitals for inpatient services, we compared Corrections' payments to what Medicare would have paid hospitals for the same services, including an allowance for exceptional cases. This analysis showed that for more than half of the 15 hospitals we reviewed, Corrections paid amounts that were from two to eight times the amounts Medicare would have paid the same hospitals for the same services. To more fully understand the inpatient hospital payments that were multiples of Medicare payments, we reviewed contracts related to these hospitals and found that the addition of stop-loss provisions significantly increased Corrections' costs. Stop-loss provisions are intended to protect hospitals from incurring financial losses for exceptional cases in which patients develop complications that cause their hospital stays to be longer or more expensive than anticipated. In Corrections' stop-loss cases, once cumulative hospital charges for a case exceeded a contractual threshold amount, Corrections paid the hospitals a percentage of their billed charges rather than a per diem rate for typical cases. If Corrections had been able to negotiate hospital contracts without its typical stop-loss provisions, we estimate that Corrections might have saved at most approximately $9.3 million in fiscal year 2002-03 for the six hospitals we reviewed that have stop-loss provisions in their contracts. With better negotiated stop-loss provisions, Corrections may have achieved some of these savings at these six hospitals if its stop-loss provisions had not paid the hospitals a discount from billed charges for the entire stay. Instead, a better arrangement would be to pay per diem for the days up to when the stop-loss threshold is met, then pay the hospitals' costs plus a reasonable percentage for the remaining days of the inpatient stay.

We performed additional analysis on publicly available data and found that the hospitals we reviewed had costs that on average were from 8 percent to 54 percent of their billed charges. Thus, even if Corrections paid a discount on the billed charges, it paid much more than the hospitals' costs. For example, one hospital operated by the Tenet Healthcare Corporation, for which our review of a sample of 2002-03 payments revealed that Corrections paid eight times the rate that Medicare would have paid, had an operating profit margin of approximately 71 percent on the payments it received from Corrections.

We also asked institutions that had experienced significant increases in outpatient costs to explain what they knew about the cost drivers. One institution said the facility charge for a routine scheduled appointment increased 143 percent from fiscal years 1998-99 through 2002-03. This institution also indicated that its increasing costs resulted from its growing population of reception-center inmates. A reception center provides short-term housing to inmates who are just entering the correctional system and must be processed, classified, and evaluated. According to this institution, unlike inmates who have been in the system and receiving regular health care, many reception-center inmates have severe health problems that have been neglected in their previous environments (county jails or parole) and require expensive and immediate outpatient treatment. However, a closer analysis of this institution's outpatient payments revealed that its outpatient hospital costs increased significantly primarily because of significant increases in its average payment per outpatient visit to an emergency room, which is paid at a percentage of the hospital bill without a maximum limit.

In contrast with the assertions of this institution, we found that the increase in costs for outpatient visits was higher at some institutions that did not have reception centers than at others that did have them. In addition, inmates at some institutions that did not have reception centers went to outpatient visits more frequently than did inmates at some institutions with reception centers. For example, at California State Prison, Sacramento, which does not have a reception center, an average of one in five inmates visited an outpatient facility, while at North Kern State Prison, which does have a reception center, an average of one in 24 inmates visited an outpatient facility.

At California State Prison, Sacramento, the health care manager could not say why the number of outpatient visits increased from 147 to 630 per year over the four-year period, in part because the institution entered into Corrections' computer database certain outpatient procedure codes for only two of its outpatient payment records in fiscal year 1998-99 and for none of its outpatient payment records for fiscal year 2002-03.

Finally, we compared Corrections' payments for outpatient hospital services to what Medicare would have paid hospitals for the same services. We found that because Corrections typically pays a percentage of a hospital's billed charges rather than costs for its outpatient services, it paid on average two and one-half times the amounts Medicare would have paid for the same outpatient services. These higher payments were most evident with Corrections' payments for emergency room outpatient services that are typically paid without a limit. The significant difference in Corrections' payments to what Medicare would have paid indicates that Corrections could possibly achieve significant savings if it could pay the same rates as Medicare for its outpatient services. Medicare bases its outpatient payments on an estimate of the resources used by hospitals and their associated costs for the services provided. Although not a statistically valid estimate, as a rough illustration of the potential savings that Corrections might achieve if it could pay the same rates as Medicare and if the outpatient payments we reviewed were representative of its nearly 15,000 outpatient payments, Corrections could potentially reduce the $19.8 million it spent on outpatient hospital services in fiscal year 2002-03 to $8.4 million. Although we realize that the potential savings of $11.4 million may not be entirely achievable, the potential for Corrections to achieve some level of savings appears significant if it based its outpatient hospital payments on the cost of hospital resources used, similar to Medicare.

RECOMMENDATIONS

To understand the reasons behind the rising trend in its hospital payments, Corrections should do the following:

To control increases in inpatient and outpatient hospital payments caused by hospital contract payment provisions, Corrections should do the following:

To control rising inpatient and outpatient hospital payments caused by increases in the number of hospital admissions or visits, Corrections should do the following:

AGENCY COMMENTS

Corrections agreed with our recommendations and stated that the recommendations, as presented, would help guide it with future management decisions regarding inpatient and outpatient care for its inmates.

1 Although California currently has 32 adult correctional institutions, 33 institutions were counted in this audit because the Northern California Women's Facility made payments for hospital services during fiscal year 2002-03 but was deactivated early in 2003.