Few things epitomize the true business of healthcare today more than a $10 million combination CT/PET scanner, an elaborate, ultra-sophisticated mobile magnetic resonance imaging suite.

Welcome to the Big Kahuna, the luxury box, the upper stratosphere of hospital finance, a nervous arena where the futures of many large hospitals – and the CEOs who run them – are often carved out.

As pressured as many hospitals are today with declining reimbursements, they are spending (and in many cases leasing) literal fortunes on complex, high-end capital equipment that’s intended to keep them as viable and competitive in their markets as much as stewards of quality patient care.

Take Sentara Health, a multi-hospital system serving Virginia and the Northeast, which takes in $1.7 billion in revenues, serves more than 2 million people, and employs more than 3,000 workers. Consistently ranked among Solucient’s 100 Top Hospitals National Benchmarks for Success, Sentara this year alone is opening its checkbook to the tune of more than $400 million in capital expenditures – including two new hospitals, a $95 million expansion to its flagship in Norfolk and a new patient tower in Virginia Beach. A large portion of that price tag is also a centerpiece investment in a network-wide picture archiving and communications system (PACS) — the digital storage and display technology that most radiologists covet more than a new Mercedes. Well, almost more.

‘Feeding frenzy’

What’s fueling hospitals’ appetite for big-ticket capital equipment? Competition for the hearts and minds – and referrals — of technology-savvy physicians, as much as patient lives. "Hospitals have to keep pace with new modalities, otherwise the business will leave the hospital for somewhere else," said Richard Howe, Ph.D., vice president of information technology consulting for Irving, TX-based VHA, the nation’s largest hospital alliance. Howe and his consulting services group advise VHA members on capital equipment acquisition and planning.

Added Jim Melia, principal at Walsh Consulting, a Glenview, IL-based medical equipment planning company, "It’s very competitive out there. New equipment and technology can bring in new physicians for hospitals. To many, it’s key to their business."

Capital equipment procurement is a phenomenon most materials managers can only observe from the sidelines, shaking their heads in disbelief. "People don’t generally think of hospitals as competitive animals, but they very much are," said Jim Ambrose, general manager, Equipment Financing, for Milwaukee-based GE Healthcare Financial Services, the nation’s, if not the world’s, biggest healthcare lender. "Hospitals are looking to leapfrog over competitors in their market, and technology allows them to do that. This is true especially in oncology and radiology. The lifecycles of MRI, CT and PET scanners are getting shorter and shorter. Why? Manufacturers want to drive more sales. But innovation is brisk. Hospitals also are receptive to this. It’s a feeding frenzy out there."

Still for some hospitals, enjoying even the perception of being on the cutting edge can ease even the most dire of financial pressures, even if it means turning to private investors to fund capital acquisitions.

"These are very difficult decisions for some hospitals to make. Many are realizing that they may need to bite the bullet and invest in new technology in order to remain competitive," said Nik Fincher, a radiology industry veteran and vice president, technology solutions, for Nashville-based InPhact Inc., a firm specializing in Web-based PACS archiving and distribution systems.

"From a competitive standpoint, hospitals are looking at how to carve out increased market share," Fincher adds. "If they think they can lock in a market and increase referrals by investing in new technology, they will be more likely to invest and take the plunge." Fincher said in some cases, even hospitals not bent on increasing revenues will invest in new technology if only to maintain their referral base and keep their physicians happy.

In categories such as imaging, any innovation is almost a guarantee of new product sales. And the timing couldn’t be better. Take the new generation of computed tomography (CT) multi-slice scanners, which can acquire up to 16 slices at a time in split-second speed, making the new devices seem like racing a Ferrari against a Yugo. "A lot of CT scanners out there are approaching the replacement stage anyway, so the timing for these new multi-slice scanners is quite fortuitous," said Fincher.

A better mousetrap?

When new hybrid scanners melding PET and CT capabilities began hitting the market, they created a flurry of sales, even among institutions with individual PET and CT scanners. To help quench their endless thirst to stay competitive, hospitals bought the machines to replace their "old," yet perfectly functioning scanners, observes GE Ambrose. The phenomenon opened up a healthy market for older generation scanners, and hospitals in rural communities in the U.S., as well as those in Latin America and Europe, eagerly scooped them up from the clearance bin.

Yet, while the new hybrids are in many ways clinically superior to their standalone predecessors, "sometimes, there’s a perception of needing a better mousetrap," Ambrose added.

Even as hospitals whet their appetites for the latest capital gadgets, it sometimes can be more than they can afford, said Walsh Consulting’s Jim Melia. "There are lots of bells and whistles out there," he added.

Take the MRI with a 3.0 magnet – the largest in the world. "I have a small hospital customer with a very knowledgeable radiologist who wants to buy the 3.0," said Melia. "A Northwestern Memorial doesn’t even have one this sophisticated because it was designed for a large research facility." Melia said he advised his client against buying the $2.8 million MRI, but declined to say whether he took the advice. While most manufacturers value long-term relationships over quick sales, Melia said he has seen some aggressive salespeople "push hospitals to buy something beyond their needs and means."

Tough customers

That’s unlikely to be a successful tact at Sentara, whose internal decision-making process for capital acquisitions is peppered with more safeguards than a pre-flight check for the Space Shuttle.

"With new technology, we never jump in first, but we never are the last either. We prefer to wait for a little blood-letting in the market before taking the plunge," said Rodney Hochman, M.D., Sentara’s senior vice president and chief medical officer.

"A lot of our vendors think we’re a pain in the neck, but they have no idea how tough we are on ourselves," Hochman added. "We beat each other up constantly over new capital investment, especially the strategic ones, and spend a lot of time on feasibility studies and product evaluation. We’ve learned you can really get burned on software issues because it’s either non-compatible with your hardware or it easily becomes obsolete. We explore the differences between the companies. It’s quite an exhaustive process."

Sentara groups its capital wish list into two buckets: strategic acquisitions — the $1 million-and-over items — and the more "routine" maintenance capital items. Capital expenditures of over $1 million require formal board approval. Those between $300,000 and $1 million are reviewed and approved by a hospital COO management group.

"We convene as a management group and hash things out," Hochman said. "We balance the priorities out what it takes to keep our physicians happy against critical things such as a new roof or wing." After that, Sentara’s management sits down with the system’s 14-member physician group to prioritize expenditures. What falls off the buy list often gets top priority the following year.

For maintenance capital decisions, Sentara uses a formula based on elements like cash flow, and then metes out the budgets to its individual hospitals. Careful planning allows the system to bundle and standardize on its capital equipment purchases to take advantage of volume pricing, Hochman said. At individual facilities, committees of vice presidents review their directors’ wish lists and prioritize expenditures for the coming year.

The exhaustive process helps to ensure that hasty decisions aren’t made. "We’re constantly asking ourselves, ‘Is this going to be the latest or greatest piece of equipment, or will it eventually sit in a corner collecting dust six months from now?’" added Hochman.

To understand just how painstaking the course of action leading to Sentara’s capital decisions is, consider the process it undertook to evaluate a network-level, multi-million-dollar PACS system, which is scheduled to be installed by year’s end.

"First, we looked at clinical quality issues," said Hochman. "For PACs, we looked at the future of radiology and the ability to move images around." Next, Sentara examined competitive issues. Like all strategic capital decisions, the PACS acquisition followed a system that ranked the decision based on a number of factors, including safety and quality, return on investment, and political or strategic implications. "This helps take emotions out of the equation by applying math and science to the decision," Hochman said.

Sentara closely examined the impact of a PACS acquisition on Sentara’s standards of care. "This takes a while," Hochman said, adding that the new system is so revolutionary, it will dramatically change the way physicians diagnose and treat patients. "It’s easy to underestimate the cultural change that’s needed when investing in new, expensive technology, and we’ve come to understand the need to spend more time orienting and training our staff," he added.

As thorough as Sentara’s capital acquisition system is, it’s more the exception than the rule, according to Connie Ferguson, equipment planning manager for Charlotte-based FreemanWhite, Inc., a healthcare construction consulting firm. "In the past, hospitals often relied upon vendors for equipment planning services. This can be a successful technique and has been in the past, especially when product enhancements moved at a much slower pace than they do now," said Ferguson. "Still today, many hospitals, lacking a technological direction, use this planning alternative often to their disadvantage."

Ferguson said vendor planning is generally product or technology-driven and rarely based on key operational issues originating from a particular facility’s strategic imperatives. "By definition, it is a less-than-objective exercise and, if unrealistic, can lead to costly ramifications," she added.

Creative financing abounds

GE Healthcare Financial Services recently surveyed hospital CFOs and found that patients and physicians expect state-of-the art equipment as part of the standard of quality patient care. This, in spite of pressures on CFOs to reduce costs even while their 2003 operating budgets are increasing.

Because the rate of innovation is so brisk in high-end capital markets such as imaging, equipment lifecycles are getting shorter and shorter. According to a recent report issued by the Advanced Medical Technology Association, the largest medical technology trade association in the world, the average life cycle of a new medical technology can be as short as 18 months.

Such fast-moving trends have fueled a boon in creative financing products for capital acquisitions. Consequently, many, if not most hospitals are leasing equipment. "Providers don’t want to get stuck owning a piece of aging equipment that may be obsolescent or less competitive three to five years down the road," said GE Ambrose. "So, leasing is a prime financial product for capital equipment right now. Moreover, if you’re a hospital with poor liquidity, you begin looking at selling non-core assets such as medical office buildings to generate cash, pay down debt and improve your bond rating."

How deep are GE Healthcare Financial Services’ pockets? About $9 billion deep. One example: The company recently arranged a $100 million revolving line of credit for Hanger Orthopedic Group, the largest country’s largest owner/operator of orthopedics and prosthetics providers. During its inaugural year in 2002, GE Healthcare Financial Services grew by more than 25 percent — in a difficult global economy – and is now one of GE’s fastest growing businesses. Today, the company has over $10 billion in loans and leases outstanding to some 15,000 healthcare customers worldwide.

With liquidity drying up, many hospitals are looking to strengthen their finances while increasing their market share. "CFOs want to match their expenses and revenues and don’t want fixed assets draining their profits," said Wynn Blieberg, national sales manager, financial services group, for Melville, NY-based Olympus America. "Their focus is on technology that’s cost effective, generates revenue, increases throughput and provides better quality care."

Olympus has a unique capital financing program, Cost Per Procedure, that allows hospitals to pay for capital equipment only when they use it. "This allows hospitals to match their expenses only when they generate revenues," Blieberg said. The CPP product allowed Rush North Shore Medical Center, for example, to completely equip its five endoscopy suites with leading edge Olympus equipment with no initial capital investment. Under the CPP program, Olympus bears the burden of ownership and the technological risk of obsolescence, he said.

Too much information?

Today, nearly every major piece of high-end capital equipment has an information systems component that allows clinicians to evaluate and manipulate data. "That’s why we’re starting to see more and more IT people joining CFOs in the decision making and evaluation process," said InPhact’s Fincher.

That tendency has at times posed significant strains on hospitals with aging information systems, added VHA’s Howe. "It used to be you couldn’t connect a diagnostic device to a conventional [hospital] network," he said. "But that’s changing today."

During the course of evaluating its new PACS acquisition, Sentara wrestled with its own information system demons. "The ROI decision was a tough one," said Hochman, adding that a huge expense component for PACS is the information system needed to drive it. So, even before the ink was dry on its agreement with Agfa for the PACS system, Sentara installed a new radiology information system.

Another information challenge surrounding PACS is the people behind the information engines. "There’s no consistent operating system platform yet, and in many hospitals, there’s a dearth of competent IT talent," said Ambrose. "But that may eventually be a non-issue."

Fewer than 15 percent of U.S. hospitals today are using PACS. But according to some observers, that is expected to change, and, quite suddenly. Howe predicts that as many as 70 percent to 80 percent of VHA members will have PACS installations within the next four years.

"The question for hospitals is not if, but when to go filmless, and later, by what route," said Fincher. InPhact, for example, helps hospitals sidestep the huge information system outlay by allowing its customers to store and retrieve PACS images over wide area networks from its huge servers in Nashville.

PACS is part of a growing trend among physicians of being more involved in, and informed about, their patient’s overall health state. "Even conventional imaging systems used to be confined to diagnostic departments, but today, they’re all over the place," said Howe, adding that imaging "is becoming an enterprise wide application. All physicians want to get more involved in diagnostics. Hospitals look at this as a strategic decision by making images accessible to a wide range of physicians across their network."

Many hospitals also are looking at PACS not only to keep their physicians happy, but also to gain efficiencies from eliminating film storage and distribution, as well as labor costs. "In the long run, PACS will dramatically lower a hospital’s operating costs," said Howe. Film is more expensive than ever, and much like the way the compact disc replaced the vinyl LP, manufacturers are beginning to curtail film production in anticipation of the PACS revolution.

PACS also may significantly impact the skilled labor pool inside hospitals. But while PACS promises to increase the productivity of radiologists, it may also be their undoing, according to some. "A lot of hospitals have several full-time radiologists on staff," said Howe. "I’ve seen large IDNs with 12 radiologists on staff go down to four when they implement PACS."

Recent years have seen an increase in the number of hospitals that outsource their radiology services to third parties, a trend fueled as much by technology as venture capitalists.

"We’ve seen a significant increase in outsourcing radiology, but there’s starting to be a pullback on that as some hospitals begin bringing their radiology back in-house," said Ambrose. "Many of those entrepreneurs that got into providing radiology services learned the hard way that it’s difficult to manage." Ambrose said several key failures among large third-party imaging service providers may signal a "return to more sanity" in the marketplace.

John Hall, a former senior editor of Healthcare Purchasing News, is now a Chicago-based freelance writer specializing in healthcare.