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Projecting Hospitals’ Profit Margins Under Several Illustrative Scenarios

September 1, 2016
By Tamara Hayford, Lyle Nelson and Alexia Diorio

This paper calculates hospitals’ profit margins and the share of hospitals that might lose money in 2025 under several illustrative scenarios.

Changes stemming largely from implementation of the Affordable Care Act (ACA) could affect hospitals’ finances significantly. Although the ACA reduces Medicare’s payment updates for hospitals, it also expands insurance coverage, which should reduce hospitals’ costs for uncompensated care. To examine the effects of those and other provisions of federal law, this paper calculates hospitals’ profit margins and the share of hospitals that might lose money in 2025 under several illustrative scenarios. The analysis focuses on about 3,000 hospitals that provide acute care and are subject to Medicare’s cuts in payment updates, and it thus excludes most rural hospitals. Before the ACA’s main changes took effect, about one-quarter of the hospitals covered by this analysis reported negative profit margins in a given year, on average— but most of those unprofitable hospitals have been able to continue operating.

Those hospitals may face significant pressure in the future, but the extent of that pressure and their profit margins will depend crucially on their productivity growth. If they achieve the same productivity growth as the economy as a whole—and if they use those gains in productivity to limit the growth of their costs and do not respond to financial pressures in other ways—then the share of those hospitals with negative margins would rise to 41 percent in 2025. But if those hospitals do not improve their productivity at all, or do not use any of their productivity gains to limit their costs, then that share would rise to 60 percent in 2025. A key limitation of this analysis, however, is that we cannot account for hospitals’ responses to those financial pressures. Therefore, the calculations are illustrative and are not a projection of what will happen under current law, and we cannot estimate whether access to care or quality of care would suffer as a result. The hospitals we examined would have to increase the growth of total revenues or reduce the growth of total costs by an additional 0.2 percent to 0.5 percent per year to achieve the same level of average profitability in 2025 as they obtained in 2011; whether that would be easy or difficult is unclear.