Nonprofit Conversion: A Guide to Community Involvement

Each conversion represents a tremendous opportunity to preserve community assets and target them toward state or local unmet health needs. At the same time, the potential for loss of services and nonprofit dollars continues to be staggering. Despite the billions of dollars and the many health institutions that have converted, the majority of hospitals and a significant number of health plans remain nonprofit. Some of these institutions are contemplating a move to for-profit status and may be taking actions to facilitate a conversion.

With so much at stake, community groups play a critical role in the conversion process. It is important that organizations and advocates are vigilant and get involved to ensure that community resources are secure in all future conversions. Local leaders and advocates can also play a role in re-examining past conversions to determine whether transactions have adequately protected the public’s interest. Community health resources may be lost forever if local organizations and advocates do not get involved.

Coalitions across the country have successfully ensured continued access to health services even as a new for-profit takes over a former nonprofit corporation. These same communities are often able to assure that nonprofit assets are preserved in a charitable foundation dedicated to promoting community health and endowed with millions, sometimes billions, of dollars. Other communities have successfully changed the course of a conversion, either stopping it entirely or ensuring that a nonprofit bidder is awarded the sale. Public participation can help ensure the likelihood that a nonprofit conversion is fair and that it serves the public interest.

There are four key elements to community participation:

Timely public disclosure of the conversion proposal, including transaction agreements and valuations;
Public hearings to explain the conversion and respond to questions and concerns from members of the community;
Public scrutiny to alert regulators to new and possibly better methods for properly valuating nonprofit charitable assets and distributing assets
Public input informing the structure, purpose, governance, and community accountability of a conversion foundation.

Not in the Public Interest: Insurance Commissioners in Washington and Alaska Reject Premera Blue Cross’s Proposal, Costing Too Much, Offering Too Little (PDF). This document tells the story of the proposed conversion of Premera Blue Cross. It demonstrates the positive impacts that a careful, thorough regulator and committed consumer coalition can have in protecting the public interest during the conversion process.

Identifying Allies

One of the first steps in building a consumer voice to address a conversion is to identify those individuals/organizations most likely to be concerned about the impact a conversion might have on the community or the constituency they represent. An organized consumer movement can influence a conversion outcome. Communities can often use the conversion issue to bring diverse organizations together. Below is a list of potential partners who might be interested in getting involved in a conversion transaction, or who may want to learn more about conversions:

Health services and health reform advocates
Seniors and their advocates
People with physical and mental disabilities, and advocates working on their behalf
Medicaid and Medicare beneficiaries and their advocates
Groups representing communities of color
Parents of children with special health needs
Children’s organizations
Primary care associations
Community health center employees
Religious organizations
Health philanthropies
Local health planning agencies
Health policy experts
Pre-existing health reform and universal healthcare coalitions
Grassroots groups working on issues in low income communities
Housing and homeless coalitions
Providers specifically committed to care of vulnerable populations
Environmental health organizations
Legal services agencies and other legal advocates
University-based healthcare planning experts/advocates
Local affiliates of national organizations (AARP, League of Women Voters, YMCA, NAACP, National Council of La Raza)
Employees and their unions (local & national)
Community action agencies

The Regulators Perspective

Responsibility for conversion transactions typically is not vested in one agency or public official. Various officials like the Insurance Commissioner (insurance issues) or the Attorney General (charitable and antitrust issues) have responsibilities for certain aspects of a conversion. As a result, there can be gaps in oversight and a lack of coordination regarding regulatory review, particularly when it comes to protecting health services. Unfortunately, regulatory involvement has been patchwork, particularly in states where there is no conversion statute in place to standardize the process under which conversions can take place.

A number of other regulatory agencies may have responsibility over the business of nonprofit corporations. For health plans and insurers, the Insurance Commissioner often has authority to protect policyholders and subscribers. For hospitals, local and/or state Commissioners of Health have authority to monitor the provision of health services, ensuring that they meet government standards for health and safety. Together the public, consumer leaders, and regulators can work to preserve and maintain scarce charitable health assets.

Regulators with power to reject or require changes in a nonprofit health organization’s proposed transaction should follow standardized procedures and rigorously review all proposed transactions.

When reviewing conversions, regulators should do at least the following:

Provide public notice of all proposed transactions and broadly disseminate such notice;
Make all documents related to the proposed transaction available for public review;
Determine whether the proposed transaction is in the public interest by a thorough analysis of the entire transaction;
Require that the converting entity show that the purpose for which the nonprofit was created has become impossible, impracticable, or is frustrated, thus necessitating a conversion;
Require that the converting entity submit a plan for the proper use of charitable assets similar to the purposes of the converting nonprofit;
Scrutinize the impact the proposed transaction will have on the local healthcare system and determine whether important, but possibly unprofitable health services, will remain available after the nonprofit organization becomes a profit-making business;
Hold at least one public hearing, timed to ensure that public input will be meaningful to the decision-making process;
Require that the full fair market value of the converting entity is preserved for charitable purposes;
Ensure that the board and executives of the nonprofit receiving the charitable assets are independent of the old nonprofit and without any ties to the new for-profit corporation;
Analyze the planned compensation for the new board of directors to ensure it does not exceed that received by board members at similar institutions;
Prohibit any economic benefits to staff or directors of the nonprofit as a result of the proposed transaction; and
Engage independent experts to aid in review of the proposed transaction, especially to provide an independent financial analysis of the transaction (including independent valuation) and to conduct a health impact assessment.

(This list is largely taken from: Daniel M. Fox and Phillip Isenberg, “Anticipating the Magic Moment: The Public Interest in Health Plan Conversion in California,” Grant Watch Essay; Health Affairs, Vol. 15, No. 1, pp. 202-209.)

Your Relationship With the Regulators

The likelihood that your involvement will improve the outcome of a conversion is enhanced by organizing early, bringing together as many organizations as you can, being clear in your concerns and recommendations, and involving the media. But from the outset, you should keep in mind that your relationship with regulators will be very important. While there are different regulators across the country with their individual viewpoints on the necessary level of community involvement in conversions, many view the community’s role as crucial and will welcome the opportunity to include your voice in the process.

What You Can Do If A Regulator Is Involved:

Offer to meet with the regulator(s) to determine how s/he views public participation in a conversion, the timeline for approval, and whether documents will be made public.
Try to become a formal party (PDF) to any administrative hearing. If unsuccessful, attend the hearing and work with the media to raise community awareness of the conversion.
File position papers with the regulator and request that these be considered a part of the public record of the conversion.
Maintain communication with regulators throughout the review process.
Participate in public hearings and court proceedings.
Unfortunately, there are states where conversions occur with no oversight by a regulator. You can still be involved however, to ensure that the charitable assets are not lost.

What You Can Do If There Is Not A Regulator Is Involved:

Make a public request that the Attorney General file a cy pres petition in court before allowing the conversion to occur.
File an administrative petition requesting that the Attorney General proceed with the cy pres filing, if the Attorney General is not willing to file the petition.
Make a public request that the Attorney General inform the public and those interested about the cy pres petition prior to the filing, allowing for the community to participate.
Make a public request that the Attorney General evaluate the conversion to determine if it is in the public interest.
Inform the public and the media about your requests and keep them informed of your progress.
If the nonprofit has filed seeking court approval to convert, seek legal assistance to ask the court’s permission to intervene in the proceeding to represent the community’s interest.
Even with significant involvement by the community and efforts to improve the conversion, however, it is unrealistic to imagine that all regulators will have the same reaction to your involvement. You may run across a regulator’s office that does not see that it has an important role.

What You Can Do If A Regulator Is Not Getting Involved:

Work with the community to prioritize your issues.
Be clear about what you want the regulator to do.
Contact the media to get coverage on the issue.

Checklist of questions for your regulator

Public Disclosure

A key to ensuring that conversions benefit the public, and not just a few highly-placed officers, directors, and executives of the nonprofit, is to bring the discussions, financial data, and terms and conditions of each transaction out from behind closed doors and into the light of day. Full disclosure allows the public an opportunity to participate meaningfully in conversion proceedings, to learn the facts, to ask informed questions, and to demand that the public’s rights be protected. Public notice and access to all information is essential at the earliest stage of a conversion, not after the regulator’s decision, if any, has been made and the plans have been finalized. When the nonprofit’s board of trustees and state regulators communicate and share all information with the public from the outset, community concerns can be raised and properly addressed.

At every phase of a conversion, it is important that transaction documents be released for public inspection and review. As the intended beneficiary of the nonprofit’s assets, the public must have the opportunity to learn about the details of the transaction, to raise concerns, and to influence the process as it unfolds. Without access to information, the public is left in the dark about where the assets will go, how much they are worth, who will control them, and who will benefit from them. Community groups have convinced policymakers in the healthcare arena that public disclosure is essential when reviewing conversion transactions.

Communities can take steps to limit violations of the public interest that sometimes occur when nonprofits convert.

Secure Public Notice Early On: Receiving public notice at the outset of a conversion process will help ensure sufficient time for communities to organize and review the transaction.

Advocates should:

Get regulators to agree to provide public notice as soon as they learn of a proposed conversion;
Get regulators to maintain a database of interested individuals, organizations, news reporters, and others in order to notify them of a potential conversion when that information becomes available;
Identify themselves and be sure they are added to the regulator’s database;
Make the media aware of the conversion and keep them informed of developments;
Seek legal advice to determine whether a nonprofit “restructuring” (e.g. joint venture, creation of a subsidiary) is really a conversion that requires full oversight by the public plus regulators or the courts.
Advocate for Public Access to Conversion-Related Documents: There are several ways to ensure that conversion documents are made available to the public. While regulators and policymakers can and should be allies in this effort, community organizations cannot solely rely on regulators.

Advocates should:

Initiate legislation that requires full public disclosure of a nonprofit conversion proposal and ensure that it explicitly overrules any state laws that would otherwise shield such documents from the public;
Pressure regulators to rule in favor of public disclosure when faced with the task of interpreting state law on confidentiality
Submit public records act (e.g., Freedom of Information Act) requests for documents from federal, state, or local government sources;
Obtain all documentation that the law requires be made available directly from the nonprofit, including I.R.S. Form 990s, Annual Reports, etc;
Renew and revisit all public record requests as the conversion proceedings move forward in order to obtain updated documents;
Engage reporters in the attempt to release documents.

Examples of Success: States Recognize that Public Disclosure is Essential

Colorado

In Colorado, when the statewide Blue Cross and Blue Shield (BCBS) plan’s proposed conversion was under consideration, the board of trustees attempted to quash public debate by keeping important documents confidential. Community organizations argued against confidentiality, urging the hearing officer overseeing the conversion to require public disclosure of transaction related documents. After hearing both sides’ arguments, the hearing officer stated, “[w]hile I am willing to accept the need for some form of protection for information that truly qualifies for protection under the Colorado Open Records Act, I am concerned that the need for such confidentiality must be carefully balanced against the public’s right to be informed regarding proceedings such as this which will affect the rights and interests of Colorado citizens.”* Ultimately, he ruled in favor of the community and required that most of the documents be made public.

Order Re: Protective Order, In the Matter of Blue Cross and Blue Shield of Colorado Plan of Conversion to a Stock Insurance Company and Application for Amended Certificate of Authority, Case No. 0-97-024, March 11, 1997.

New Jersey

In New Jersey, a large nonprofit health plan, Health Insurance Plan of New Jersey (HIP), was purchased by a for profit plan, Physicians Health Plan (PHP). Although the Attorney General was involved in the approval process, the conversion occurred behind closed doors without any public notice or disclosure. After the conversion had been completed and was announced to the public, several community organizations tried to obtain documents from the Attorney General’s office. Both HIP and PHP opposed the Attorney General’s effort to release the documents. Rather than rely solely on the Attorney General to represent their interests, the groups asked to participate in the court proceeding. They argued that conversions involve public assets and that documents regarding conversions should thus be available for public review and inquiry. The New Jersey court ruled in favor of the community groups, stating that “[t]he changing landscape of the medical profession and medical industry requires that the public, more than ever, has available to it those facts and information which will bear directly on their well-being and ultimately on the delivery of medical services.” The dramatic shift from a non-profit medical provider to a profit making entity requires close scrutiny by not only the Department but by the public as well.”

HIP of New Jersey, Inc. v. New Jersey Department of Banking and Insurance, Superior Court of New Jersey, Appellate Division, A-3002-97T1, March 12, 1998.

Formal Participation and Funding

Health plan and hospital conversions are just one type of health related decision made by policymakers that directly affects consumers. Emergency room closure reviews, regulations governing medical error reports and health insurance rate reviews, for example, have an especially widespread impact. For this reason, it is important that these policymakers take the consumer perspective into consideration when they act. The laws that govern these proceedings achieve the most positive policy outcomes for consumers when they encourage and facilitate the participation of consumer groups. Advocacy for systemic change often takes many years to achieve success, but the improved consumer features that result make it worthwhile for advocates to pursue this work. Statutes that compensate advocates for their contribution to sound policy development, foster consumer involvement and ensure that the important work of protecting consumers and the marketplace can continue. Consumer groups have been successful in getting such laws enacted in California and other states.

You too can create a program within your state code that provides a framework for individuals or consumer groups to participate formally in administrative proceedings and be funded for their contributions. There are a number of California laws that have established successful programs which have greatly benefited the public. The Toolkit offered here, begins with a brief overview of these programs and is followed by a Workbook that will help you draft a program tailored to your state.

Toolkit for Creating Consumer Participation in Policy Decisions (PDF)

Public Hearings: Preparing the Community for Public Hearings

If a public hearing is held on a proposed conversion it is important that you mobilize the community to attend and generate media attention. It is critical that there be strong attendance to show the importance of this conversion and to provide the regulator with information that s/he may not know about the impacts this proposed transaction will have on the community. A large turnout can make a huge difference.

What You Can Do:

Work with someone who is reviewing the transaction documents.
Present the research you conducted in a compelling format, perhaps by using graphs and posters.
Write your comments out and practice them several times so you are comfortable when you are providing your testimony.
Take copies of your testimony to hand out to regulators and the media.
Mobilize the community to attend, including medical staff, health officials, emergency medical technicians, and elected officials.
If your coalition has t-shirts or pins, wear them to show community support for your position.

Getting Media Coverage

Conversions often receive a lot of attention from the media—attention that is important to inform the community. However, if the content of the press coverage does not include all of the questions relevant to the community, it will be your job to ensure that those issues are covered. If you have concerns about the conversion, it is likely that your “opposition,” the hospital or health plan and buyer, will have vast resources. It will be your job to inform and mobilize the public as effectively as you can with less financial resources. Media coverage can be a very effective tool to achieve that goal.

Click here for a helpful list of Media Advocacy Tips (PDF).

Hold a Public Event

One way to get press coverage is to invite the press to an event that draws the community to discuss the conversion.

Issue a Press Release

Issuing a press release is one of the best ways to obtain media coverage and increase public awareness. A press release provides you the opportunity to get your message out, and it sends a powerful message that there is significant support for the issue you are working on. It also gives the media easy access to your questions and concerns about the conversion.

Write an Op-Ed or Letter to the Editor

Another way to get coverage for your issue is to submit an op-ed article or letter to the editor to a local newspaper. A quick scan of the newspaper’s editorial page will give you basic information about the procedure for submitting an op-ed. But you should contact the newspaper to determine to whom you should address your letter, any length limitation, how you should submit your letter (by fax, email or hard copy), and any personal information you need to provide such as your name, address, or phone number. Typically, you cannot submit an anonymous letter to the editor; most likely, your name and town will be included. It is also helpful to be as brief as possible and distill your message. You should articulate your argument and the reasons for your position as succinctly as possible. That said, sometimes newspapers will waive space limitations when there is a controversial issue that is generating a lot of attention.

Create a Website

A website is an effective way to disseminate information about your issue to the public and to the media. It should include information about your organization, its purpose, how people can get involved, and background material. It is very helpful to have one person in charge of the website—a webmaster—who can manage all of the information and update the site often, daily if necessary.

Run Your Own Newspaper Advertisements

You can buy space in your local newspaper and run your own advertisements. Bear in mind that newspapers generally need a great deal of notice to publish an ad and may have strict content requirements. You will need to contact the newspaper and find out its rates, approval process, and the amount of notice that is needed to run an ad. You will also need to create the “copy” or the content of the ad, but many newspapers will assist with the typesetting and formatting.

Gathering Information about the Conversion

In order to participate fully in a local hospital or health plan conversion, it is helpful to find out as much as possible about the transaction. The links below highlight the important relevant issues that you should research. There are a few considerations that are specific to hospital conversions, and these are addressed in the next section, Specific Considerations for Hospitals.

When gathering information, you are fortunate if the conversion law in your state provides for public disclosure, in which case you may be able to obtain the documents by requesting them from the appropriate agency or regulator. Be prepared, though, for the possibility that the parties have removed or “redacted” a significant amount of information. This is possible even if there is a public disclosure requirement. If this happens, you should contact the Attorney General or other regulator to request the “redacted” information be released so the community can thoroughly review the proposal and its implications.

What you can do if your state requires public disclosure:

Ask the regulator in charge of overseeing the conversion for a copy of all information that has been filed on the proposed conversion.
Request that all documents submitted regarding the conversion be posted on a website.
Ask for a database to be maintained so that those interested in the conversion can be informed of updates, filings and other information by email.
Ask for an ongoing database to be created to inform the public about future conversions.

What you can do if your state does not require public disclosure: If the law in your state does not require public disclosure, your task will be much more difficult because you will need to formally request that the documents be made available. One way to accomplish this is to make your request under the state’s Freedom of Information Act provision. If you are unable to obtain the transaction documents after expending significant effort, this may be good motivation for improving the conversion legislation in your state.

Request the conversion documents from the parties.
If the parties are not willing to provide the documents, submit a public records act (or Freedom of Information Act) request for documents from federal, state, or local government sources.
Propose a bill to your state legislature requiring full public disclosure of a nonprofit conversion proposal and an open public review process.
Generate media attention to the fact that key documents, including financial information needed to determine proper value of the assets, are being kept secret.

Information about the Parties

Your nonprofit hospital or health plan is part of a system providing healthcare services to the entire community. In that capacity, it plays a unique role. If a nonprofit health entity in your area decides to convert, it will be very helpful to gather information on the quality of patient care, pricing, hospital and health plan finances and information about the healthcare delivery system in your community so that you can increase your influence in the conversion process.

Click here for specific recommendations for gathering information about a converting hospital (PDF).

It is also critical that you obtain as much information as you can about the proposed buyer of your hospital or health plan. You should gather all of the same information for the purchaser as you do for the converting entity. There is also research that you can do only on for-profits. Under the Securities Act of 1933, all companies that sell stock must file certain information with the U.S. Securities and Exchange Commission. You can obtain information about the company’s financial offerings, management, and other information through a service known as EDGAR. You can also request a copy of the company’s annual report containing a financial statement of its activities and changes in net assets. Regardless of whether the purchaser is nonprofit or for-profit, you can review information filed with state agencies and you can contact communities where conversions have occurred with the same purchaser and find out both the terms of the conversion and whether the community was involved.

What You Can Do

If the purchaser is a nonprofit, gather its 990s and other relevant information.
If the purchaser has stockholders, request a copy of its annual report and review its SEC filings.
Regardless of the tax status, seek out other communities that have worked on conversions and have first hand knowledge of the buyer

Using the Articles of Incorporation and Bylaws

The articles of incorporation are the organizing documents for a nonprofit. They are typically filed with the Secretary of State’s office, which has strict rules about recording changes or amendments to the documents. The bylaws are the rules for how the organization will operate. When a nonprofit entity proposes to convert, there will inevitably be changes to the articles of incorporation and the bylaws. When a health entity goes from nonprofit to for-profit status, it will no longer be organized and operated exclusively for charitable purposes. It is important to review the proposed changes in mission when a hospital or health plan converts from nonprofit to for-profit, but it is equally important to do so when a nonprofit is bought by or becomes affiliated with another nonprofit. Why? Because changes to the mission may have a great effect on what happens with the health entity and the services delivered in the future.

St. Luke’s Hospital in San Francisco was created in 1871 with a benevolent and innovative mission: “St. Luke’s doors as a charitable hospital are open wide to our community for the reception of all colors, nationalities and creeds. Its benefits, refused to none, will be limited only by its means.” Its 1885 original articles of incorporation stated that it was created for the purpose of “founding and maintaining a hospital in the City and County of San Francisco, State of California, and not for pecuniary profit.” Even though changes were made to the articles through the years, the phrase “in the City and County of San Francisco, State of California” was always maintained. When Sutter Health, a nonprofit system with more than two dozen acute care hospitals in California sought to “affiliate with” St. Luke’s, it said that all of its hospitals were operated by nonprofit corporations governed by local community boards. When Consumers Union reviewed the asset purchase agreement, however, we found that St. Luke’s articles of incorporation would be significantly changed, removing the requirement that the hospital be maintained in San Francisco. At public hearings before the California Attorney General, Consumers Union raised objections to this change; the Attorney General responded by placing a condition on the transaction that prohibited any changes to the charitable purposes without his express consent.

Alongside the issue of mission is the issue of what happens when the hospital or health plan eventually dissolves. As mentioned above, these charitable assets are imprinted with a charitable purpose that does not go away even if the health entity stops operating as a nonprofit.

St. Luke’s 1946 articles of incorporation stated that upon dissolution all of its property “shall be distributed to a fund, foundation or corporation organized and operated for religious, hospital or charitable purposes or to the United States of America, the State of California, or any political subdivision of either thereof as may be selected or designated by the Board of Directors.” Again, despite subsequent changes to the articles, it was clear that the original and maintained intent of the nonprofit was that the board of directors would direct where the assets would eventually go. Sutter Health’s proposed articles of incorporation, on the other hand, would not have allowed the property to be distributed as designated by the board of directors, but would instead “become the property of Sutter Health.” The community was concerned that, if Sutter Health sold or closed St. Luke’s, the charitable asset would be lost forever to the coffers of Sutter Health. Consumers Union asked the California Attorney General about this issue; he responded by requiring Sutter Health to pay a monetary penalty if it sold the facility within 10 years of the affiliation.

What you can do:

Make sure the original articles of incorporation and bylaws are provided so you can compare them with later copies of those documents.
Request to see the specific language of all proposed changes.
Ask how those changes will affect the operation of the health entity in the future.
Ask about any other organizational changes that will be made.
Seek written commitment, and regulator involvement, to protect services and assets.

Determining Fair Market Value

A nonprofit corporation is made up of many different types of assets. Assets include not only the bricks and mortar of a nonprofit (the building, its equipment, etc.), but its list of subscribers, its good will, its reputation in the community, any revenue, profit or surplus it has accrued, and the value of its trademark/service mark. The “cross” and “shield” service marks of the Blue Cross and Blue Shield plans are well known and carry with them value as a distinct product, similar to the product trademark “Coca Cola.” Similarly, a nonprofit hospital has an established reputation and the incoming for-profit corporation is banking on using that name – a name that the community often trusts.

The determination of the proper value of a nonprofit corporation or the reallocation of assets is critical in the review of any conversion because valuation determines how much must be paid for the nonprofit’s assets. The higher the price, the more money that will be preserved for nonprofit purposes and be available to meet the community’s health needs. Undervaluation of assets not only can allow public charitable assets to benefit private individuals or be used for for-profit purposes, but also removes from the nonprofit sector the assets available for community health needs.

There are many examples of the undervaluation of nonprofit corporations and their assets that have converted, particularly where regulators and communities have not been vigilant.

In each of the undervalued deals illustrated, the nonprofit corporations did not preserve the full fair market value of the assets for nonprofit purposes, but instead some of the assets benefited private individuals, public investors, or for-profit endeavors.

Valuation is an inexact science, often using a number of different theories and formulas to determine the fair market value of nonprofit corporations. Defining the value of a nonprofit corporation’s assets is best done by experts, such as investment banking firms, independent of the parties to the transaction. However, regulators and local groups working to ensure that a fair market value is calculated should remain involved in the process.

Communities that have been able to ensure a fair market value share common characteristics, including:

The use of independent experts. If the nonprofit conducts an independent valuation, an expert can review the valuation and other financial aspects of the transaction. This can be an expensive undertaking, beyond the means of most community groups. If the nonprofit does not conduct its own independent valuation, regulators should hire an expert to undertake an independent valuation at the parties’ expense. In choosing an expert, regulators must examine the relationship of the expert(s) retained to all the parties involved in the proposed transaction, past, present, and future, for any actual or potential conflicts of interest.
The requirement that the valuation be made available to the public prior to a public hearing.
The effort to obtain the highest possible value for the nonprofit converting. To ensure the highest possible value, a regulator might require the converting nonprofit to elicit and consider competing bids. With the method of valuation and the price open to the public, the reaction of competitors and other possible suitors could well determine whether fair market value is obtained. Settling for the lowest or a reasonable value within a range is not maximizing the nonprofit charitable assets and could even be considered a breach of the fiduciary duties of board members.
Valuation assesses the value of a nonprofit corporation as it will perform in the for-profit market.
The valuation includes a historical analysis of the company’s operations. In some transactions, the value of the company is based only on a one or two-year look back into the nonprofit’s operations, without recognizing the nonprofit’s role in the community over time. If a nonprofit conversion proceeds over those one or two years, the nonprofit may have reduced its charitable activity in order to make it more profitable for potential buyers. A valuation that takes into consideration the full historical analysis of a nonprofit’s operations is more likely to illustrate the true value of the company to the community.

Preserving Competition

When a health entity owns more than one hospital or health plan in an area, it may wield too much power and control over the delivery of healthcare in that community. Just as the buyer will argue it will become more “efficient,” the buyer may also raise prices and diminish quality if this “efficiency” translates into less competition. The Federal Trade Commission is responsible for reviewing antitrust concerns for hospital transactions under the federal Hart-Scott-Rodino Antitrust Improvements Act. In order to qualify for FTC review, the acquisition must meet strict requirements relating to the size and financial strength of the corporations involved. For the FTC to review a sale, both parties must have assets of more than $100 million, and the purchasing entity must have at least $50 million in the seller’s assets when the sale is completed. The FTC must be notified of the sale before it is completed, and is given 30 days to investigate and determine whether there are antitrust implications. The FTC has not often taken the position that a proposed hospital or health plan merger will have a negative effect on marketplace competition. That trend may be changing, however.

In early 2003, the FTC began an investigation into the proposed sale of Slidell Memorial Hospital to Tenet. With that sale, Tenet would have been the only medical services provider in Slidell, Louisiana. Members of the community were concerned that the quality of service would suffer and prices would increase if Tenet owned all of the hospital beds in Slidell. Because Slidell Memorial was a public hospital, Louisiana law allowed the community to vote on whether the conversion should occur. There was much discussion of the antitrust issues. Newspapers inaccurately reported that the FTC had no such concerns about the sale, despite the fact that it had conducted an extensive investigation and had interviewed many community members about the sale. Four days before the public vote, the FTC issued a letter saying it was concerned about the anti-trust implications of the sale. Click here to see the FTC’s letter to the Louisiana Attorney General (PDF). This was the first time the FTC has issued a comment outside of the litigation context on a hospital conversion. At the polls, the community overwhelmingly rejected the proposed conversion.

Read this report by the FTC about the proper role of competition in the healthcare industry (PDF).

What You Can Do:

Ask the parties to articulate why this transaction does not implicate marketplace competition. Will they, for example, cap price increases and commit to maintaining service levels and quality?
If the conversion involves parties that are each worth more than $100 million, ask the FTC to investigate the antitrust implications.

Preventing Private Inurement and Benefit

Members of the nonprofit health entity’s board of directors have a fiduciary duty to protect the assets of the nonprofit. One question is whether the management of the health entity or the directors is benefiting from the conversion in any way. Another related question is whether entity officials did all they could to maintain the hospital or health plan as a nonprofit, and whether other nonprofit options were considered before the directors decided to convert to for-profit status. You may want to request the opportunity to review all board minutes relating to the conversion decision.

Preventing Private Inurement

It is clearly inappropriate for “insiders,” people who have a personal and private interest in the nonprofit’s activities, to personally profit from the hospital or health plan (also known as private inurement). Insiders may include board members, trustees, officers and contributors. By virtue of its 501 (c)(3) tax status, the health entity may not allow any “part of the net earnings [to] inure to the benefit of any individual.” A ruling by the IRS on this issue outlines the considerations required by law to ensure that compensation does not violate the prohibition on private inurement. This ruling, known as IRS Revenue Ruling 69-383 (PDF), outlines considerations to ensure that there is not inappropriate compensation:

Does the compensation further the tax exempt purposes of the hospital or health plan?
Is the compensation a result of arm’s-length bargaining?
Is the amount reasonable in terms of the responsibilities and activities required by the job when compared to others having similar responsibilities at similar hospitals or health plans?

Preventing Private Benefit

The private benefit doctrine is related to private inurement in that it prohibits a nonprofit health entity from improperly benefiting an individual. It is different, however, because it does not only apply to “insiders” but to any person, organization or group. All of the entity’s activities must be sufficiently tied to benefiting the public to pass muster under the private benefit doctrine. If either the private inurement or benefit doctrines are violated, the hospital or health plan risks losing its tax-exempt status.

What You Can Do:

Ask to see the entity’s conflict of interest policies.
Ask for a disclosure of the ownership and financial interests of both the seller and the buyer.
Ask for a disclosure- by the health entity’s executives, directors, or others who are connected to the entity- of any prior relationship with the buyer.
Ask to review any proposed compensation arrangements between the buyer and the seller’s executives, directors or others who are connected in any way to the entity.
If the conversion involves smaller parties, ask the Attorney General or other regulator to investigate the effects on competition.

Measuring the Health Impact of the Conversion

It is critical to determine the potential long-term effects on the community’s healthcare delivery system before the conversion is approved in order for both the community and the regulators to fully understand the conversion’s impact. Will a proposed hospital conversion result in the loss to the community of an essential emergency room or specialty clinic? Would a health plan conversion have a disproportionate impact on the state’s Medicaid population? One option is to commission a health impact study. By reviewing such factors as the healthcare needs of the community, the inpatient and outpatient service usage, the unique services provided at the facility and any demographic trends, your hospital’s role in the community and the impact of a sale or conversion can be better evaluated. Even if your state law does not require a health impact statement to be conducted, it is still possible for you to advocate for one.

Review the conversion application to determine if the new for-profit owner has made any written promise to continue services, or mitigate any negative health impact. Ask the regulators to place conditions on the sale or conversion to ensure that needed health services are protected.

What You Can Do:

If the converting entity is a hospital, request that the available beds in the converting hospital and in the service area be evaluated along with expected demographic changes.
Also, request an assessment of the community’s healthcare needs and a comprehensive evaluation on the hospital’s:
number of patient days, broken down by payer (particularly Medicaid and other state or local programs providing care to the indigent population) annually for the last five years;
number of hospital discharges, broken down by payer annually for the last five years;
number of emergency services visits annually for the last five years;
number of outpatient visits annually for the last five years;
provision of charity care annually for the last five years; and
unique services (such as emergency room, obstetrics, burn unit) offered at the facility.
In the case of a conversion of a nonprofit health plan, assess the impact the transaction would have on accessible, affordable, quality healthcare for consumers.
Does the proposed business plan of the for-profit insurer adequately address the healthcare needs of the community?
How will the conversion impact healthcare specifically for vulnerable populations such as children, seniors, and people with disabilities, low income families, people with HIV and people with chronic illnesses?
Does the conversion include a plan to provide affordable and accessible services and products that will meet the community’s needs?

For a complete discussion, check out this publication written by Community Catalyst: “Looking at the Full Picture: Analyzing the Community Health Impact of Hospital and Insurer Transactions” (PDF)

Specific Considerations for Hospitals

There are serious issues at stake for the delivery of healthcare to the community when a local nonprofit hospital converts. Many nonprofit hospitals provide emergency room services, making it possible for people to obtain medical care where and when they need it most. As part of their mission, many nonprofit hospitals provide charity care–free or reduced cost medical care to people unable to pay for it. Nonprofit hospitals also typically provide many valuable community programs such as support groups, intervention efforts and projects to reduce health problems in the surrounding areas. Finally, for as long as the hospital has been in existence, it has received contributions from the community, including time and energy from volunteers and monetary contributions from donors. Everything from the paper clips to the facility’s brick and mortar are part of the charitable assets of a nonprofit hospital. A nonprofit hospital, in essence, belongs to the community and this means there are additional considerations that must be made when a proposed conversion arises.

Property Restrictions

A nonprofit hospital is often created as a result of a sizable monetary or property donation. In the event that property has been donated for the hospital, there can be restrictions on its use. Since the charitable trust doctrine requires that the assets be dedicated to the same purpose forever, it is very important that you review the language of the deed to ensure that it allows for such a change.

Not long after nonprofit Catholic Healthcare West acquired Long Beach Community Medical Center in Long Beach, California in 1998, CHW began planning to consolidate services with its nearby facility, St. Mary Medical Center (St. Mary’s). In June 2000, CHW announced that reductions in reimbursements and increases in overhead at Long Beach were driving CHW to close the facility and completely relocate all medical services to St. Mary’s. Despite an outpouring of public support for the hospital, CHW closed its doors on September 29, 2000 and began efforts to sell the facility. There was one critical detail that was overlooked, however—a deed restriction on the land that required it to be forever used as a nonprofit hospital. The Mayor and City Council refused to let CHW sell the facility for any other purpose. After much legal wrangling, CHW gave the city back the property on October 31, 2000. As a result of significant community effort, the doors to the renamed Community Hospital of Long Beach were re-opened on June 27, 2001.

What You Can Do:

Request that the seller provide all documentation on the real estate, including the original deed granting the hospital’s land and all subsequent deed changes.
Find a real estate expert who is willing to review the documents for you.

Fair Market Value: Preventing the Seller from Imposing Restrictions on Health Services

The value of a facility may be depressed when the seller imposes certain conditions on the deal, such as when hospitals affiliated with religious organizations propose to restrict reproductive and end of life services. It may be challenging to locate a buyer willing to abide by these restrictions long after the sale has gone through. Such a scenario could be likened to selling a car, only placing severe restrictions on its use, such as driving only on Monday, Wednesday and Friday.

Understandably, few buyers would be interested in the car because of the limitations and the selling price would accordingly be reduced. Even if someone could agree today that the restrictions would not interfere with their schedule, there is no guarantee that the restrictions will still be workable in a few years. With an issue as important as healthcare, it is inappropriate to arbitrarily limit the care provided at the facility after a religious hospital has been sold to a secular organization.

Furthermore, as a policy matter, allowing former owners of nonprofit hospitals to restrict future services is inappropriate for several reasons. First, medical services should be determined between a patient and a doctor, not by the previous owner. Second, it is impossible to predict how the delivery of healthcare services will change in a community. While today there may be a sufficient number of alternatives for women seeking certain reproductive services, there may be closures of clinics or hospitals tomorrow. Third, allowing several potential buyers to compete for the hospital will likely result in a higher purchase price and more money for a nonprofit foundation.

In the sale of the Daniel Freeman Hospitals in Los Angeles in 2001 to Tenet Healthsystem DFH, Inc., a division of Tenet Healthcare Corporation, the seller required that any buyer restrict the types of services to be delivered at the hospital. The Sisters of Carondelet, a religious organization based in St. Louis with hospitals around the country, sought to require the secular buyer to comply with the Catholic Ethical and Religious Directives (ERDs) in the care provided at both sites, one in Inglewood and one in Marina del Rey, California, even though the Sisters would no longer be operating hospitals in the state. In addition, they demanded a deed restriction that the Catholic restrictions would be binding on all future owners in perpetuity. When the Sisters looked for buyers for the two struggling hospitals, they made it clear they would not consider an offer unless the buyer agreed to comply with the Catholic Ethical and Religious Directives. This restriction left many advocates feeling that the purchase price for the two hospitals, which amounted to approximately $50 million, was far less than it should have been, given the size and the locations of the facilities. The Attorney General sued Tenet in a challenge to the deed restriction and the perpetual restrictions. They settled the lawsuit agreeing that the ERDs would be a contractual obligation for Tenet but would not be binding on the next owner. In 2003, the California legislature passed a law making service restrictions as a condition of a hospital sale illegal (PDF). This law prohibits the California Attorney General from approving any conversion that contains any restrictions on the type of medical services to be provided in the future.

Tenet subsequently sold the Daniel Freeman Hospitals to Centinela Freeman Health System, who voluntarily adopted the ERDs at the request of the Sisters of Carondolet, thereby intentionally sidestepping the new law. Over time they closed the OB/Gyn units at Daniel Freeman, moving many, but not all, reproductive health services to the Centinela campus where there are no restrictions on services.

What You Can Do:

Request to see the seller’s Request for Proposal (commonly called an RFP) that was sent out to obtain bids on the facility.
Review the RFP carefully for conditions that refer to service restrictions.

Nonprofit Hospitals and Charity Care

The provision of “charity care” or reduced-fee services, to those who cannot afford to pay for them is an important issue in the sale of a nonprofit hospital. Generally speaking, the provision of charity care is one of the biggest differences between a nonprofit and for-profit hospital. Although the provision of charity care should not be the sole benefit a nonprofit hospital extends to the community, it is one of the most important features, at least in terms of making healthcare accessible to the uninsured and underinsured population. That is why, when a hospital converts, large questions loom about whether the facility will continue to provide charity care as it has in the past. You can investigate the buyer’s intentions by looking into both the amount of charity care historically provided and the policies and practices related to charity care. Click here for more on Protecting and Promoting Charity Care.

It’s All in the Numbers: A Beginner’s Guide to Charity Care Analysis (PDF)

During 2006-2007 Senator Charles Grassley (R-IA) and the U.S. Senate Finance Committee investigated non-profit hospitals’ provision of charity care to determine whether they are providing uncompensated care commensurate with the value of their tax exemptions. The Committee requested detailed information from non-profit hospitals about this issue and held public hearings on this topic.

After months of investigation, the Senate Finance Committee released a discussion draft prepared by Senator Grassley’s staff. The document contains proposed recommendations for legal standards that would define what non-profit hospitals must do to maintain their tax-exempt status. Consumers Union commented on this letter in September of 2007.

Protecting and Promoting Charity Care

You will first need to locate information about how much charity care was provided in the past by the hospital. You may be able to access this information through the hospital’s: 1) filings with the state agency charged with the task of receiving hospital financial information; 2) IRS 990 filings; 3) annual financial reports or 4) community benefits reports, depending on the state’s community benefits law. While the historical amount of charity care provided by the nonprofit hospital is important, it is also critical to research the level of charity care provided by the new buyer.

At a public hearing on the sale of nonprofit St. Luke’s to nonprofit Sutter Health, the California Attorney General asked Sutter Health how much charity care it had provided at California Pacific Medical Center (CPMC), one of its other nearby hospitals in San Francisco. Sutter Health claimed this information was not available, but Consumers Union was able to provide research showing that St. Luke’s provided an average of 7 times more charity care than CPMC. As a result of this research, the Attorney General imposed conditions on the St. Luke’s transaction regarding the provision of charity care, requiring that the hospital: 1) continue for five years the policies and procedures that were in place before the sale; 2) quantify charity care in cost and 3) provide at least $2 million per year in charity care.

What You Can Do:

Find out whether the same level of charity care provided in the past will be provided in the future, and if so, for how long.
Ask how the historical amount of charity care was calculated (i.e., by cost or charges) and where this information was reported.
Find out what method will be used to calculate charity care and how it will be reported in the future.
Ask if this information will be made public and if the hospital will be penalized for failing to maintain its charity care commitment.
Get a written commitment through commenting pressure and/or regulator involvement.
Check out whether prior and promised levels comport with state and federal legal requirements.

Promoting Adequate Charity Care Policies and Practices

Equally important to the charity care amount are the hospital’s policies and practices regarding charity care. Therefore, it is critical that you obtain the hospital’s charity care policy that has been in place prior to the conversion. The fact that a hospital says it provides charity care is meaningless if the hospital does not have appropriate policies for informing the public about its availability, and for processing charity care applications in a fair and speedy manner. It is very important that you review the charity care policies at the hospital and determine which of the policies will be continued after the conversion and which will be changed.

Hospital policies relating to charity care vary widely by individual hospital, community and state. When reviewing a charity care policy, you should pay particular attention to the eligibility requirements, when and how a hospital notifies a person that charity care is available, and the requirements for applying. Oftentimes, financial eligibility is reflected as a percentage of the Federal Poverty Guidelines, or FPG, and the hospital provides a form that must be completed by the patient. There is, however, very little consistency in hospital charity care policies and implementation. Some hospitals have an informed staff member who can provide guidance to patients. Some also post signs informing patients about the availability of charity care and an information number to call. Other hospitals treat charity care as “Top Secret,” and do not tell anyone about it, not even the staff.

What You Can Do:

Ask questions about what, if any, charity care policies and practices will be continued after the conversion and how long these\ measures will be in place.
If the buyer intends to cut charity care, insist that current levels continue. Argue that regulators are responsible for minimizing the health impact of the conversion, and that this requires maintaining existing charity care practices.
Find out how patients will be informed of the availability of charity care.
Ask who will oversee the provision of charity care in the future.

Obtaining Service Guarantees

One of the biggest concerns in a hospital conversion is that the new owner will change the services provided by the hospital. Frequently, the buyer will talk about “economies of scale” and how it can make the delivery of healthcare “more efficient” by “improving coordination” and “minimizing duplicative services.” The buyer will claim that, after the conversion, services will be better coordinated with those offered at nearby facilities. Yet communities are often concerned that this “coordination” will bring significant reductions in services, requiring patients to travel farther to get their medical care. The community health impact study, if any, may show that there are looming gaps in service or inequities if the proposed deal goes through. Moreover, less profitable services may be cut, and there may be less access to care for indigent patients, such as those who obtain their care through Medicaid or other public health insurance programs.

In the Daniel Freeman Hospitals transaction, the community expressed great concern that the level of services would be reduced, that the amount of Medicaid delivered would decrease, and that one of the facilities would be closed. The California Attorney General imposed several conditions on the sale, requiring that for five years after the sale, the level of emergency room capacity and services be maintained. If Tenet, the buyer, intended to eliminate emergency room services, it would have to meet with the Attorney General to discuss the proposal. In addition, the Attorney General required Tenet to provide a minimum of 15,000 patient days for Medicaid patients at Memorial and expand the eligibility program. Finally, if Tenet closed the Marina Hospital facility, the Attorney General required Tenet to either establish an urgent care or ambulatory care facility within two miles of the hospital or provide free transportation to nearby clinics for Medicaid and Medicare patients. The Attorney General also required Tenet to conduct an outreach program to publicize the availability of these services in low-income areas surrounding the hospital.

What You Can Do:

Find out if the buyer intends to reduce any healthcare services and ask for it to identify which services are slated to be cut.
Conduct research on why particular services are important and should not be reduced or eliminated.
Ask for conditions on the sale requiring certain services to be maintained in the future.
Request alternatives if any services are reduced or eliminated.

Guaranteeing Capital Improvements

It is likely you will hear a proposed buyer talk about how the hospital is “outdated” and in need of financial support to make necessary upgrades to the facility and equipment. Often when a buyer makes a proposal to purchase a nonprofit hospital, it will argue it is going to make these “much-needed improvements” to the facility. Unfortunately, these improvements are not necessarily required by the asset purchase agreement or other transactional documents. When reviewing the transaction documents, pay careful attention to the details about how, when, and if expenditures for capital improvements will be made.

As part of its purchase of public Slidell Memorial Hospital, for-profit Tenet told the public it would spend $40 million on proposed improvements. But when the community looked at the actual language of the asset purchase agreement, it was so vague that it raised more questions than answers about what the money would be spent on. A review of the contract language, however, revealed that Tenet could have spent the money at any time over a five-year period; there was no guarantee that the purchases would be made immediately after the sale. Moreover, the money could have been spent on things such as equipment and services—normal expenditures every hospital makes—and not just on capital improvements. Finally and most important there was no guarantee that the money would be spent at Slidell Memorial. Tenet could have spent the money at its other facility, Northshore Regional Medical Center, located down the street. This was one of several factors that led to defeat of the proposed purchase.

What You Can Do:

Ask the buyer for details on how it came up with the amount it would spend on capital expenditures.
Did it, for example, survey the staff or the community for what is most needed at the hospital?
Request the buyer provide information on where the expenditures will be made and how long they will take.
Request the buyer put all promises to the community in writing as part of the asset purchase agreement.

Preserving Assets

A conversion- turning a nonprofit organization into a for-profit business- can have a tremendous impact on community assets and resources. A nonprofit operates in the public interest and for the benefit of the community it is organized to serve. Conversion transaction players mindful of the potential loss of such services can preserve these community benefits. This can be done by the creation of a new foundation that holds the former nonprofit’s assets for the benefit of the community. Or, a community can decide to create and permanently fund a new nonprofit, such as a clinic or revolving student loan fund, with these assets. If a conversion neglects to protect the public’s interest, it can result in the loss of millions, if not billions, of dollars that would otherwise have been available for community resources such as indigent healthcare services, adult literacy programs, day care facilities, and job training centers. Consumer advocates, regulators, lawmakers, the media, the courts, and those in the nonprofit sector must be diligent in order to ensure that the nonprofit’s resources are protected for the public’s benefit when a conversion occurs.

After the Conversion

After a conversion has been approved or denied there are still important opportunities for community involvement. In the event that the conversion was approved there may still be questions about the new buyer’s actions. If there are conditions on the sale, the community should continue to be engaged with the hospital to maintain oversight of compliance. For instance, is the buyer supposed to provide a certain amount of charity care or are there certain levels of services that should be monitored? It is also very important for the community to be continually involved in monitoring a new foundation formed after an approved conversion. If the regulator denies the application for conversion, community advocates can work with the attorney general or other regulators to ensure the nonprofit health plan or hospital is fulfilling its mission by providing charity care, community benefits, or affordable individual and small group policies. Advocates should research the nonprofit’s surplus and how it is being used.

What Other Communities Have Done

In Slidell, Louisiana, the regulatory structure required public vote to approve the sale of a public hospital. There, the community voted overwhelmingly against the conversion, and has stayed engaged on issues involving the hospital. After the vote, the group continued to work to improve the organizing legislation for the hospital and improving the process for selecting board members. In addition, some members of the community continued their efforts by working to pass a bond measure authorizing a property tax to provide substantial funding for the hospital.

In Yakima, Washington, the community group that initially came together to discuss the hospital conversion there, continues to meet regularly to discuss and strategize on ways to address the community’s healthcare needs and heighten awareness of healthcare issues in the Yakima Valley.

In the Daniel Freeman Hospitals conversion in Los Angeles, members of the community repeatedly raised their concerns that Tenet would close Daniel Freeman Memorial Hospital in Inglewood, particularly because Tenet owned several other hospitals in the area surrounding it. At the public hearings before the California Attorney General, many people testified about the important role the facility played in the community. Included in the asset purchase agreement was a provision that required Tenet to conduct a comprehensive assessment and planning process within 90 days after the conversion to determine the operating and capital needs of the hospitals on an aggregate basis including programmatic, facility and resources needs for the two facilities. The agreement said the planning process, at a minimum, had to include medical staff and employees, local elected officials, and the local governing boards at the hospitals. The Attorney General expanded the comprehensive planning process to incorporate public input and consultation with community-based healthcare organizations and the county emergency services agency.

The community was then taken by surprise when Tenet announced on May 29, 2002 that it was going to stop admitting inpatients the next day at its other hospital, Daniel Freeman Marina del Rey, and that it would completely close the hospital in less than three months. The advocacy groups that had been involved in the sale requested that the Attorney General investigate Tenet’s compliance with the conditions. After researching Tenet’s activities prior to making the closure announcement, the Attorney General found that Tenet had, in fact, failed to comply with the public input requirement. The Attorney General then filed a preliminary injunction in Los Angeles Superior Court on July 16, 2002 to stop Tenet from closing the hospital. At the August 13, 2002 hearing, the judge granted the preliminary injunction and ordered Tenet to keep the hospital open and return it to the level of services provided before the closure announcement was made.

Tenet and the Attorney General announced on April 1, 2003 that they had settled the case. Tenet agreed to pay $100,000 to cover legal fees and $400,000 to a foundation to distribute grants to organizations that provide medical services to the indigent population in the areas surrounding the hospital. On April 7, 2003, Tenet announced that it was going to keep the hospital open indefinitely.