European Union: Public Hospital Mergers: A Case For Broader Considerations Than Competition Law?*

Keywords: healthcare, hospital services, EU, mergers, competition authority

In the European Union, concerns about increasing healthcare expenditures are a major motivating factor for introducing competition in hospital services. The EU healthcare landscape is dominated by public hospitals (that is, hospitals owned and funded by the State). This article addresses the question of whether mergers between public hospitals should only be decided upon by a competition authority on competition principles, or whether it would be better that the ultimate decision is taken by the government on the basis of broader considerations. In addressing this question, the focus, by way of example, is the situation in the United Kingdom.

This article is prompted by the change that occurred from April 2013 in UK law as it applies to public hospital mergers, that the second merger to be investigated under the new regime was subjected to a second phase investigation and ultimately blocked by the UK's Competition Commission (CC),² and there has been much criticism stemming from the matter. An indication of this criticism is that at the July 2, 2013 meeting of the UK Parliament's Health Committee, in response to a question the Secretary of State for Health stated that "It is a concern to me...I want to make sure that they [the Office of Fair Trading] properly consider the benefits and also that it doesn't take too long". In responding to a question about consideration of amended legislation, he said "If we thought there was a serious problem in terms of the structures...then we would consider it, yes."

Unique Aspects of Public Hospital Mergers

Hospital mergers have particularities that make analysis complex. First, there tend to be few market players and, typically, the market(s) of relevance are oligopolistic or even monopolistic for certain services and in certain areas. Further, entry and exit are costly and, as a highly regulated market, it may in particular areas be impracticable or simply not allowed by the regulator/government.

Most problematically, hospital services are credence goods—i.e., a good whose utility impact is difficult or impossible for the consumer to ascertain. In contrast to experience goods, the utility gain or loss of credence goods is difficult to measure both before and after consumption. However, the seller of the good knows the utility impact of the good, creating a situation of asymKiran metric information. Examples of credence goods include vitamin supplements, education and car repairs.

One example of how this may create market effects is that the least expensive products might be avoided in order to avoid suspected fraud and poor quality. So a restaurant customer may avoid the cheapest wine on the menu, but instead purchase something slightly more expensive. However, even after drinking it, the buyer is unable to evaluate its relative value compared to all the wines they have not tried (unless they are a wine expert). This course of action—buying the second cheapest option—is observable by the restaurateur, who can manipulate the pricing on the menu to maximise their margin, that is, ensuring that the second cheapest wine is actually the least good value.

Dealing with this information asymmetry has led some, and this is the case in the United Kingdom, to focus on customer choice. This means ensuring there are choices and improving the information and information delivery mechanisms to enable customers to make informed choices. Such choices tend only to be relevant for elective care (that is, a health service that is chosen by the patient or doctor, in contrast to accident and emergency services).

Another important distinction of hospital services is integrated care, namely, the need for multi-disciplinary teams both across specific health services and between health and social care. Integrated care is a requirement of patients and, therefore, a concern of the regulator/government.

Integrated care needs to be a part of the market offering and may require hospitals to co-operate in the provision of patient care. For example, in England, many hospitals have formed networks for the treatment of cancer. This allows them to share best practice, to transfer patient records effectively between organisations and to ensure that patients requiring specialist treatment receive care in the specialist hospitals best placed to provide that care. A hospital merger would need to be considered in this context so that cooperation is not adversely affected and that such networks do not become anticompetitive structures.

Finally, the sector is both economically and emotionally significant, and is therefore politically significant. It is estimated that expenditure in England on publicly provided elective hospital services was around £12 billion in 2012. The sector also raises emotions in the customer (patient and their relatives) and stakeholders (e.g., doctors). Consequently careful consideration of the outcomes of applying competition law to this sector is required.

Market Definition

PRODUCT MARKET

The definition of "product market" has two main complexities for public hospital mergers. First, there is a multitude of different hospital services. The International Statistical Classification of Diseases and Related Health Problems (ICD), is the United Nations-sponsored World Health Organization's standard diagnostic tool for epidemiology, health management and clinical purposes. There are currently 14,400 different ICD codes, and some countries have felt the need to supplement the ICD through introducing codes dealing with medical procedures, and/or use their own codes. In the United Kingdom, there is a tendency to use the Office of Population Censuses and Surveys Classification of Interventions and Procedures (OPCS-4), which is a procedural classification for the coding of operations, procedures and interventions performed during in-patient stays, day case surgery and some out-patient attendances in the NHS.

Second, there are different participants in the market, with different demand and supply factors, leading to blurring of the market definition. For example, the patient has an illness. The doctor works in a particular hospital and, thus, that hospital will have a specialty. The hospital will typically offer a multitude of different yet interrelated services. The payer (the government or, in the case of the UK, increasingly in the first instance a set of purchasers that are autonomous from the government) faces a multiplicity of different costs: diagnostic tests, drugs, medical devices, ancillaries, room and board, etc., none of which are of concern to the patient. However, the patient may need different services and, given the issue of integrated care identified above, these component services may be offered by different (competing) hospitals.

Seeking to facilitate analysis, hospital services can be clustered based on similar medical resource requirements (primary, secondary and tertiary care services), similar duration (inpatient and outpatient services), or on similar complexity and volume. In relation to the latter, market commentators have offered different suggestions. For example, Zwanziger Service Categories, based on a paper by Zwanziger, Melnick and Eyre (1994), creates "diagnostic related groups" (DRGs) and identifies 48 service categories, where the emphasis of the definition is on the doctor as the key input into hospital treatments. Such analysis can lead to opposite problems. Thus, statistics at the cluster level that do not appear problematic may mask issues in underlying categories, while issues in underlying categories can complicate a case that looks nonproblematic at the cluster level.

As was noted previously, the UK's competition authority has blocked the first public hospital merger that was subject to a full investigation, following the regime change in April 2013. The summary of its conclusion on product market definition in its decision indicate the complexities involved:

GEOGRAPHIC MARKET

Geographic market is an even more complex subject than product market definition. Local market analysis techniques are critical and the case experience of local market mergers in other markets offers some insight. Thus, isochrones analysis (determining the geographic market by reference to the locality bounded by a travel time, for example, 20 minutes journey time by car) is a technique that can be relevant.⁴ Diversion ratio analysis (surveying where customers would go if a particular site was temporarily closed), may also provide insight, as could the more complicated related technique of critical loss analysis (measuring when the lost "business" reaches a level such that it does not make sense for the hypothetical monopolist to raise prices).

Overlaying these techniques, it is necessary to consider the particularities of hospital services. For example,in many countries in Europe, emergency services are obliged to take accident and emergency patients to the hospital nearest to the where the patient has been found. For elective care, the degree of choice and information asymmetry is important. Many patients will be directed to a hospital by their general practitioner, or will naturally go to the hospital of choice of the specialist doctor they are seeing (who may have to choose that hospital because the specialist doctor has a working relationship with it).

Analysis of geographic market definition is particularly important given the experience of hospital mergers in the United States. Between 1993 and 2000 there were more than 1000 hospital mergers. The antitrust agencies (the Department of Justice and the Federal Trade Commission) challenged only seven of these mergers, yet lost in each case. As a result of that set-back, the two agencies did not challenge a hospital merger for several years. A full review by the agencies as to the actual effect on the market of past mergers led the agencies to conclude, in relation to geographic market analysis, that the methods used by the courts to define geographic markets in past hospital merger challenges lead to markets that are overly broad, mistakenly implying that some anticompetitive hospital mergers are innocuous.

In the hospital merger challenges of the 1980s and 1990s, courts relied on the Elzinga-Hogarty (EH) test to establish the boundaries of hospital geographic markets. The EH test posits that a relevant antitrust geographic market can be defined as an area for which the product flows into and out of the area are sufficiently small. In the context of hospital mergers, the first step of implementing the EH test is to designate a circle or group of zip codes that contain both of the merging hospitals. If most of the patients treated at the hospitals in this area also reside in this area (i.e., the inflows are small) and most of the patients residing in this area seek treatment at hospitals in the area (i.e., the outflows are low), then the area is an EH market.

The thresholds used by the courts to define flows that are sufficiently small range from 10 to 25 percent. If either the inflows or outflows exceed the threshold, the market is expanded (usually by adding adjacent zip codes) and the inflows and outflows are recalculated until an area is obtained with inflows and outflows both below the threshold. Some economists have long argued that the use of the EH test in hospital merger cases is inappropriate and leads to geographic markets that are too broad, especially in and around urban areas where the inflows are typically large, as rural and suburban patients seek care at the larger hospitals in the city. Courts using the EH test in hospital merger cases have, in some cases, defined geographic markets that are over 100 miles in diameter.⁵

It is perhaps not surprising that the Office of Fair Trading (OFT) commissioned a report into market definition.⁶ While the report addresses private healthcare services (PH), its consideration is also relevant to geographic market definition in relation to public hospital mergers. As the reviewers noted:

For the UK, the reviewers' opinion was that the simpler techniques (isochrones or fixed-radii) were likely to be more relevant, principally because of the paucity of data available. However, a multi-layered approach to geographic market definition is suggested, depending upon the health services in consideration and the type of hospital. For example, A&E services are likely to have smaller catchment areas compared to elective cosmetic surgery, while a large teaching (or university) hospital is likely to have a larger catchment area than a limited service community hospital.

Reasons for Public Hospital Mergers

One of the UK government's policies is that it wants the NHS to become more efficient to free up funds for treating patients and keeping up with new treatments. On July 2, 2013, at the meeting of the UK Parliament's Health Committee, the Secretary of State for Health said that "mergers between NHS providers were important to improving efficiency...." This is consistent with and an expression of the UK government's emphasis on competition, which has been an important part of the UK government's NHS policy since 2000, and has antecedents in changes made since 1997.

Hospital mergers are intended to improve or sustain clinical quality, reduce operating expenses, increase revenue, reconfigure service delivery, rapidly acquire new skills or technologies, improve access to capital, and be able to afford to provide new services that were otherwise prohibitive for either hospital to acquire on its own.

Given the above, it is perhaps surprising that the view of the vast majority of commentators— generally, and not just in the UK—is that hospital mergers produce little benefit. A paper published in 2012⁷ examined hospital mergers in the UK between 1997 and 2004. It focused on short term general (referred to as acute in the UK) hospitals. During the period studied, about half of the short term general hospitals in the UK merged. The study examined the impact of mergers on a large set of outcomes including financial performance, productivity, waiting times and clinical quality. The conclusion in the paper is that "such mergers often produce little benefit" and that "the findings suggest that further merger activity may not be the appropriate way of dealing with poorly performing hospitals."

A paper published by McKinsey & Company in 2012⁸ states in its introduction, "Many hospital mergers fail. But when a merger is supported by both a compelling strategic rationale and strong pre-and post-deal management, the impact achieved is impressive." In a later article published in the UK's Health Service Journal the McKinsey authors confirm the general view when stating that "unfortunately, examination of the evidence from previous hospital mergers suggests very few have delivered significant improvements in clinical quality or financial performance." The authors add that "our research—an examination of more than 700 mergers around the world, combined with surveys, interviews and literature review—suggested the primary reason was the absence of substantial changes in service delivery."

In aggregate, studies consider a large set of metrics in considering hospital performance, for example, mortality rate, teaching status, staff per bed, complication rates, high-tech services, overall reputation, newspaper ranking, number of hospitals within X drive time, standard deviation of distance to nearest four hospitals, elective predictive patient flows, total admissions, length of stay, total income, income deprivation index for catchment population, prevalence of private hospitals, deaths after surgery, and hip-replacement readmissions. These metrics clearly

make the potential for a complicated and difficult analysis. It is perhaps for this reason that despite the general view held by commentators that hospital mergers do not bring benefits, some commentators are more nuanced.

For example, in a paper published in November 2012 by the Centre for Health Economics at the University of York⁹ the theoretical and empirical literature on competition and quality is reviewed. The authors' conclusion following a review of the theoretical literature is that there are gaps in the theory and further modelling work should be undertaken.

Perhaps a Broader Government View on Mergers Would Be Better?

Prior to April 1, 2013, the UK government, or an agency that was directly accountable to the Department of Health, made all decisions regarding public hospital mergers. Since that date, however, the UK has placed mergers of most public hospitals into the competition mainstream. This might result in competition law applying to activities that under EU law are able to be exempted from competition law oversight because the public hospitals, at least in part, are entrusted with the operation of services of general economic interest, per Article 106 of the Treaty on the Functioning of the European Union (TFEU).

In Part I, above, it is identified that the particular characteristics of public hospitals suggest that careful consideration should be given to the outcomes of applying only competition law to public hospital mergers. These characteristics include, most notably, that hospital services are credence goods, that they have significant political and economic weight, and that the different interests of the many participants may mean that competition laws, and the authorities that implement these laws, are not able to address all of the relevant public policy and societal goals.

In Part II, the difficulties of product market and geographic market definitions are identified. Generally, these difficulties are not a new challenge for competition authorities, nor are they ones that the authorities cannot meet. However, at least in the context of the United Kingdom, it might be unrealistic to consider that the OFT would have the time or resources to address the complexities, and this concern might even apply to the CC.¹⁰ With experience, though, the analysis of hospital mergers by the OFT or CC should become more efficient. The test that the CC must consider—the SLC test¹¹—and so whether or not there is an anticompetitive outcome, allows the CC to consider any actions it proposes to take on customer benefits – s.35(5) Enterprise Act 2002 (EA 2002). Despite this reference to customers (patients), it is unlikely that the CC could, through this provision alone, consider the broader societal effects of a merger.

In Part III, above, it is identified that public hospital mergers are being encouraged through public policy and the introduction of competition into the NHS. This is despite the general record indicating that mergers do not bring benefits. Moreover, there are a host of potential benefits that merging parties seek—although profit maximization is not typically one of them. These nonpecuniary benefits could still be assessed in terms of the economic unit of utility. However, such analysis may be outside the experience and perhaps capability of most competition authorities as the private utility benefits of the merging parties needs to be measured together with the effect on the utility of other stakeholders (for example, individual doctors or the government which is the ultimate funder in the UK).

The above raises the thought that perhaps a broader government view on public hospital mergers would be preferable to the current method where a competition authority makes the decision based strictly on competition law and principles.

In relation to the UK, one possibility of allowing government to take the ultimate decision on the basis of broader considerations, without having radically to alter the new regime, and maintain competition principles as a key pillar for assessment, is to allow the Secretary of State to issue a "public interest notice" under the EA 2002, effectively allowing the Secretary to be the ultimate decision maker.

The Secretary may, prior to the OFT deciding to whether to refer a merger to the CC, issue a public interest notice.¹² Such a notice is issued if the Secretary believes that a "public interest consideration" may be relevant to the merger.¹³ A public interest consideration is a consideration listed in section 58 of the EA 2002. The list of public interest considerations may be amended, removed or extend by order of the Secretary of State.¹⁴ While no health subjects are currently listed, they could be inserted by the Secretary through a relatively simple and fast procedure. Indeed, the Secretary can simultaneously issue a public interest notice and commence the procedure to have a new subject determined to be a public interest consideration. The Secretary has similarly intervened in relation to large bank mergers in the UK, allowing mergers to proceed even though the CC concluded that the SLC test was met.

There are various potential outcomes from the use of an intervention notice, but in short it allows the Secretary to block a public hospital merger that otherwise would have been permitted on competition grounds, or to allow a public hospital merger that otherwise would have been blocked on competition grounds.

Conclusion

When considering the merger of public hospitals, competition authorities arguably should address issues beyond those that are normally considered. Further, while competition law and principles should remain a key element in the analysis, there is justification for making the decision based on broader considerations than competition law.

Footnotes

* This is an abbreviated version of the article published in the December 2013 issue of European Competition Law Review.

2 The proposed merger between the Royal Bournemouth and Christchurch Hospitals NHS Foundation Trust and Poole Hospital NHS Foundation Trust. In the UK mergers are first reviewed by the Office of Fair Trading (OFT), and will be referred to the CC for full investigation if the OFT believes that the merger would result in a substantial lessening of competition.

3 Final Report, para. 5.53, page 56: The final report can be found at: http://www.competition-commission.org.uk/assets/competitioncommission/docs/2013/royal-bournemouth-and-christchurch-poole/131017_final_report.pdf target=_blank.

4 Please refer to the article of this author "Isochrones: Analysis of Local Geographic Markets" available at: http://www.mayerbrown.com/files/Publication/7633e871-05b8-428f-bbcd-cf6d9163bab8/Presentation/PublicationAttachment/c7b45b1f-d4f4-413c-b5aa-b0579c87049f/Isochrones-Desai_Iss2_1108.pdf target=_blank.

5 OECD, Policy Roundtables, Competition in Hospital Services, 2012, DAF/COMP(2012)9.

6 Techniques for defining markets for private healthcare in the UK, Literature review, Prepared for Office of Fair Trading, November 2011. Although the report was supposed to address product and geographic definition, the literature review in the report did not discuss product market definition in PH in detail because the reviewers opinion is that "the product market definition will often draw on clinical expertise and judgement, and may also depend on the particular attributes of the competition case being considered." As a result the report focuses on the techniques for geographic market definition.

7 "Can governments do it better? Merger mania and hospital outcomes in the English NHS" by Martine Gaynor, Mauro Laudicella and Carol Propper, Journal of Health Economics 31 (2012) 528-543.

8 Marry in haste, repent at leisure: when do hospital mergers make strategic sense?, by Penelope Dash, David Meredith and Paul White, McKinsey, 2012 at: http://www.google.com/url?sa=t&rct=j&q=&esrc=s&frm=1&source=web&cd=1&ved=0CD0QFjAA&url=http%3A%2F%2Fwww.mckinsey.com%2F~%2Fmedia%2FMcKinsey%2520Offices%2FUnited%2520Kingdom%2FPDFs%2FWhen_hospital_mergers_make_strategic_sense_.ashx&ei=rwsWUrqGBqqk0QXXl4CoCw&usg=AFQjCNFS4QcbHXgGxUNO1m2riSzwB5VNMQ&sig2=QsELCCqQEZ_3H9mvNCweDA&bvm=bv.51156542,d.d2k .

9 Hospital Quality Competition Under Fixed Prices, The University of York, Centre for Health Economics, CHE Research Paper 80, November 2012, at: http://www.york.ac.uk/media/che/documents/papers/researchpapers/CHERP80_hospital_quality_competition_fixedprices.pdf target=_blank.

10 While the reasons are not clear from the public record, it can be noted that for the first public hospital merger investigated by the CC—see footnote 2—very unusually two notices extending the period of the investigation were issued, so extending this investigation from the statutory limit of 24 weeks (approximately 6 months) to approximately 10 months.

11 Substantial lessening of competition.

12 EA 2002, s. 42(1).

13 Id., s. 42(2).

14 Id., s. 58(3).

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