Financial Stabilization and Recovery for Rural and Safety Net Hospitals Post-COVID—New Developments and Options Going Forward
This Briefing is brought to you by AHLA’s Business Law and Governance Practice Group and the Public Health System Affinity Group of the Hospitals and Health Systems Practice Group.
- September 22, 2021
- Andrea Ferrari , HealthCare Appraisers, Inc.
- Alaina N. Crislip , Jackson Kelly PLLC
- Gary Torrell , Hooper Lundy & Bookman PC
- David A. Weil , Guardian Bridge Group
This briefing is Part I of a series from the Public Health System Affinity Group and Business Law and Governance Practice Group that will explore what counsel need to know to advise rural and safety net hospitals and health systems that are in or emerging from financial distress, including the factors that contribute to cycles of distress; counsel’s role in navigating the federal and state options and obligations related to Provider Relief Funds (PRFs); counsel’s role in facilitating transactions for scaling operations (while avoiding related compliance failures); and counsel’s potential role in restructuring with and without bankruptcy protection. This introductory briefing will discuss why hospitals have been in distress and how the picture is changing.
Factors Affecting Cycles of Distress
According to a study conducted by the Chartis Center for Rural Health, 135 rural and safety net hospitals (RSNHs) have closed in the past ten years and currently 453 RSNHs are vulnerable to closure.
Historically, there are many reasons that hospitals—particularly RSNHs—have struggled. These interrelated and compounded factors include:
- Patient and Payer Mix: Many RSNHs serve a relatively high percentage of patients with demographic, socioeconomic, or other characteristics that contribute to higher risk for chronic disease and related complications. These patients may be more likely to be uninsured or underinsured, or may be disproportionately reliant on Medicaid and Medicare, which have historically paid for services at lower rates than private insurers and health plans. Further complicating the picture, RSNHs may have limited negotiating power with private insurers due to limited commercial market share and may be unable to show performance on the specific payer outcome metrics that are needed to secure upside payer incentives under value-based payer contracts. The combination of these factors can lead to a complex set of overlapping legal and business questions, from appropriate payer contracting strategy to nuanced questions arising from the high stakes for compliance with Medicare and Medicaid fraud and abuse laws. Any or all of these questions may have short and long term financial implications.
- Economies of Scale: For struggling RSNHs, an event such as the COVID-19 Public Health Emergency or a national or local economic downtown could quickly create or exacerbate a financial crisis. These hospitals may not have sufficient cash on hand to weather such difficulties. and financial instability may hinder their ability to maintain their debt service coverage ratio, refinance debt, and secure access to necessary funds to recover after an unexpected crisis. Financial instability may also hinder the ability to invest in information technology, electronic health record applications, analytics, telemedicine, artificial intelligence, and other beneficial tools for the evolving environment of digital- and data-driven health care.
- Recruiting and Retention: Distressed RSNHs often struggle with recruitment and retention of needed health care providers. Providers may have questions about the availability of peer networks and work/life balance if they are one of only a few serving the hospital or community. Difficulties with recruiting and retention may have compounding financial implications for a distressed RSNH, with high turnover, high recruiting costs, expensive sign-on/retention incentives, related compensation creep, and accompanying costs for contract revisions and compliance review. Sustained difficulties with recruiting and retention could lead to the loss of staff in certain key departments.
- Operational and Compliance Challenges: The circumstances of financial distress may give rise to complicated questions and decisions that can have significant long term financial and legal implications, such as which services, personnel, and agreements to continue verses which to terminate; which assets to keep verses which to divest and when; how much to pay contractors; how much to demand from contractors and clients; and whether to pursue risky transactions or investments in the face of changes in the market or regulatory environment. These questions and decisions may warrant careful review and attention at multiple levels, yet review infrastructure—and the associated expenses such as outside legal, audit, and valuation—may need to yield to the immediate demands of patient care delivery in a time of significant distress or emergency.
Overview of Options Out of Distress - What Counsel Need to Know
Utilizing COVID PHE Relief Options
The Coronavirus Aid, Relief, and Economic Security (CARES) Act allotted $178 billion in Provider Relief Funds (PRFs) for qualified providers of health care services and support. The most recent COVID relief package includes an additional $8.5 billion specifically for rural hospitals. Hospitals are eligible to apply for Phase III PRFs if they meet at least one of the following criteria:
- Billed Medicaid/CHIP or Medicaid managed care plans for health-related services between January 1, 2018 and– March 31, 2020;
- Billed Medicare fee-for-service during the period January 1, 2018 – March 31, 2020;
- Are a Medicare Part A provider that experienced a Centers for Medicare & Medicaid Services (CMS)-approved change in ownership prior to August 10, 2020;
- Are a state-licensed/certified assisted living facility as of March 21, 2020; or
- Received a prior targeted distribution.
In addition, hospitals that provide oral health care-related services or behavioral health services are eligible.
PRF payments may be used to cover lost revenue attributable to COVID-19 or health-related expenses to prevent, prepare for, and respond to coronavirus, including but not limited to: supplies; equipment; workforce training; reporting COVID-19 test results to federal, state, or local governments; building temporary structures for COVID-19 patient care or non-COVID-19 patients in a separate area; acquiring additional resources such as facilities, supplies, or staffing to expand/preserve care delivery; and developing and staffing emergency operation centers. PRF recipients of more than $10,000 are required to submit reports about the use of their PRF distribution. 
On May 10, 2021, various hospital associations submitted a letter to Xavier Becerra to request that the Department of Health and Human Services provide more time, beyond the previous deadline of June 30, 2021, to use PRFs and submit reports. The extension may assist hospitals as they take stock of their go-forward needs and seek to pursue transactional activity or longer term turnaround strategies that, in some cases, may not be possible or feasible without the buoy of the PRFs.
Strategic Changes, Affiliations, and Related Transactions
Strategic alignment transactions such as multihospital affiliations, acquisitions, joint ventures, and participation in clinically integrated networks and accountable care organizations are contemplated and encouraged by many of the recent legislative and regulatory changes that are designed to facilitate coordination of care and address historical inequities in care delivery. Some distressed hospitals are pursing such transactions as part of a growth and turnaround strategy. The right transactional structure and partner(s) may yield improvements in patient and payer mix, leverage with payers, economies of scale, and access to technology, as well as better success with recruitment and retention. Availability of PRFs and other financial assistance can provide the capital boost needed to pursue transactions that may otherwise be too much of a strain.
A key development in the current options is the September 10 announcement by the Biden Administration that HHS, through the Health Resources and Services Administration (HRSA), will allocate $25.5 billion in new funding for health care providers affected by the COVID PHE. The funding includes:
Additional American Rescue Plan (ARP) funds: $8.5 billion for rural providers who serve Medicaid, Children's Health Insurance Program (CHIP), or Medicare patients. These funds will be allocated based on the amount of Medicaid, CHIP, and/or Medicare services that the provider furnishes to patients who live in rural areas as defined by the HHS Federal Office of Rural Health Policy. Generally, payment will reflect Medicare reimbursement rates.
“Phase 4” PRFs: An additional $17 billion in PRFs will be available for providers to cover their documented lost revenue and expenses from the period July 1, 2020 to March 31, 2021. Seventy-five percent of the funds will be used to reimburse lost revenues and expenses. Larger providers will receive a payment based on a percentage of their lost revenue and expenses. Smaller providers, who may be more vulnerable due to their lower margins and reduced ability to absorb losses, will receive a base payment plus an enhanced supplement, amounting to a higher percentage of lost revenue and expenses than for larger providers. The remaining 25% of the funds will be available as bonus payments. The bonus payments will reflect the volume and type of services a provider furnishes for patients covered by Medicare, Medicaid, and CHIP, and will be calculated based on Medicare reimbursement rates.
In addition to PRFs and ARP funds, two newer strategic options that RSNHs may consider during the post-COVID PHE adjustment are Rural Emergency Hospital (REH) Medicare designation and utilization of the Community Health Access and Rural Transformation (CHART) Model.
REH designations allow existing hospitals to provide outpatient hospital and emergency department services without providing inpatient care. Hospitals that receive REH designation will receive Medicare reimbursement at rates higher than those that would otherwise apply, and expenses and provider needs may be dramatically lower.
The CHART Model aims to address rural health disparities by providing a way for rural communities to transform their health care delivery systems by leveraging innovative financial arrangements. The CHART Model provides seed money and regulatory and operational flexibility to allow rural hospitals to reap the benefits of participating in an accountable care organization (ACO).
Finally funding available through the USDA Community Facilities Program includes $156 million to support health care related improvements and emergency response services to benefit nearly 1 million rural residents. These investments are going to Alabama, California, Georgia, Iowa, Illinois, Kansas, Michigan, Missouri, New Jersey, North Carolina, New York, Ohio, South Dakota, Virginia, Vermont, Washington, and Puerto Rico. The Community Facilities funding is for specific projects, such as upgrading double-occupancy inpatient rooms to private suites and providing emergency response vehicles, in rural areas with a population of 20,000 or less.
Even the most dramatic financial improvements can be undermined or derailed by lack of attention to the legal and regulatory questions of distressed party transactions and post-transactional planning. As will be discussed in future bulletins in this series, counsel’s role may include keeping a watchful eye to avoid the hazards of navigating out of distress, which include pre- and post-transaction liability for breach of contracts; pre- and post-transaction liability for regulatory compliance failures; and any form of alleged liability in tort, such as for officers and directors or patient safety failures.
In the 2019 case of CMH Liquidating Trust v. Community Mem. Hospital d/b/a Cheboygan Memorial Hospital, which was a tort case against the officers and directors of a bankrupt hospital, the plaintiff trustees alleged that the defendant officers and directors breached their fiduciary duties and were negligent in failing to exercise proper oversight to prevent the financial collapse of the distressed hospital. Among the allegations were that the defendants failed to address losses from employed physician practices; failed to address billing and coding failures; failed to ensure adequate control over financial issues and financial statements; approved a sale of the hospital’s interest in a joint venture for less than fair market value; allowed excessive senior management turnover to continue; and allowed excessive compensation of physician Board members. Although these are merely allegations, the case is illustrative of the potential danger of allowing lapses in transactional oversight in times of financial distress. 
In an older case, Manhattan Eye, Ear and Throat Hospital v. Spitzer, a hospital facing substantial financial problems proposed to sell substantially all of its assets to two buyers, (1) a cancer treatment/research center and (2) a real estate developer who planned to build an apartment building. The Court found the Board decided to sell the property and close the hospital without properly considering the possibility the hospital could be saved. The Court disapproved the sale because the Board failed to explore options that would have met the standards of fair and equitable corporate purposes, and instead appeared to sell in response to an attractive real estate offer.
In another more recent case (2018), PCH Lab Services, LLC v. Newman Memorial Hospital, Inc., a distressed hospital entered into an agreement with PCH Lab Services to manage its finances and help avoid financial collapse. The hospital sued PCH for 16 causes of action, including fraud and other contract claims, because PCH entered into agreements on behalf of the hospital that ultimately worsened the hospital’s financial health.
Bankruptcy as an Opportunity to Restructure
Although it is often viewed as an option of last resort, bankruptcy may offer a distressed RSNH or health system new options to navigate out of distress.
Bankruptcy creates an automatic stay of nearly all pending lawsuits and proceedings, and prevents creditors who hold pre-petition claims from attempting to collect on those claims outside of the bankruptcy.
The bankruptcy filing can stop the dominoes from falling for long enough to rebuild, change course, or divest assets to preserve otherwise fragile hospital operations. Part III of this Bulletin series will provide more insight into the processes and “need to know” takeaways of hospital bankruptcies.
 See introduction to the series, May 10 Letter to Xavier Becerra Regarding Provider Relief Funds.
 Michael Topchik, et. al., Crises Collide: The COVID-19 Pandemic and the Stability of the Rural Health Safety Net, The Chartis Group (Feb. 5, 2021), https://www.chartis.com/resources/files/Crises-Collide-Rural-Health-Safety-Net-Report-Feb-2021.pdf.
 Nicole Huberfield, Rural Health, Universality, and Legislative Targeting, 13 Harv. L. & Pol'y Rev. 241, 244 (2018).
 Id. at 251.
 U.S. Department of Health & Human Services, CARES Act Provider Relief Fund: For Providers, HHS.gov, https://www.hhs.gov/coronavirus/cares-act-provider-relief-fund/for-providers/index.html (last reviewed May 25, 2021).
 Robert King, Biden Signs $1.9T COVID-19 Package that Boosts ACA Subsidies, Rural Hospital Funding, Fierce Healthcare (March 12, 2021, 9:39 AM), https://www.fiercehealthcare.com/hospitals/house-passes-1-9t-covid-19-package-boosts-aca-subsidies-rural-hospital-funding.
 U.S. Department of Health & Human Services, supra note 5.
 Emily Jane Cook, et. al., Congress Establishes New Medicare Provider Category and Reimbursement for Rural Emergency Hospitals, MEW.com (January 5, 2021), https://www.mwe.com/insights/congress-establishes-new-medicare-provider-category-and-reimbursement-for-rural-emergency-hospitals/.
 CHART Model, CMS.gov, https://innovation.cms.gov/innovation-models/chart-model (last updated May 12, 2021).
 U.S. Department of Agriculture, USDA Invests $266 Million to Improve Rural Community Facilities and Essential Services in 16 States and Puerto Rico, USDA.Gov (Mar. 23, 2021), https://www.usda.gov/media/press-releases/2021/03/23/usda-invests-266-million-improve-rural-community-facilities-and.
 CMH Liquidating Tr. v. Anderson (In re Cmty. Mem'l Hosp.), 599 B.R. 923 (Bankr. E.D. Mich. 2019).
 Id. at 929.
 Manhattan Eye, Ear & Throat Hosp. v. Spitzer, 186 Misc. 2d 126 (Sup. Ct. 1999).
 Id. at 139-40.
 Id. at 158.
 PCH Lab Servs., LLC v. Newman Mem'l Hosp. Inc., No. 17 C 7971, 2018 U.S. Dist. LEXIS 43040 (N.D. Ill. Mar. 16, 2018).
 Id. at *2.