Tenet Healthcare Corporation

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Tenet Healthcare Corporation

3820 State Street
Santa Barbara, California 93105
U.S.A.
Telephone: (805) 563-7000
Fax: (805) 563-7070
Web site: http://www.tenethealth.com

Public Company
Incorporated: 1968 as National Medical Enterprises, Inc.
Employees: 113,817
Sales: $13.91 billion (2002)
Stock Exchanges: New York
Ticker Symbol: THC
NAIC: 622110 General Medical and Surgical Hospitals

Tenet Healthcare Corporation, formerly National Medical Enterprises, ranks as the second largest hospital chain in the United States. Through its subsidiaries, the company owns or operates 114 acute care hospitals and related businesses in 16 states. These facilities offer a broad range of medical services and support regional healthcare networks designed to provide communities with a full complement of care. Over more than three decades, Tenet has continually adjusted its strategies to accommodate a rapidly changing market. As National Medical Enterprises (NME), the company spent its first decade building and acquiring medical facilities and related services. Industry changes during the mid-1980s prompted NME to shift its emphasis from acute-care to specialty hospitals. The company’s Specialty Hospital Group, a division consisting of psychiatric, substance-abuse, and rehabilitation services, was NME’s major strength in the late 1980s. After a damaging scandal in the early 1990s, however, NME unloaded its specialty facilities, reconfiguring itself as Tenet, and resuming its focus on acute care facilities. Although the new company realized surging profits in the late 1990s, it was mired in scandal again by the end of 2002.

Growth and Diversification in the 1970s

NME’s founder and CEO, Richard K. Earner, has degrees in accounting and law. Co-founders Leonard Cohen and John Bedrosian are also attorneys. Earner’s interest in the enterprise was piqued by his own work as a financial consultant and hospital attorney. In 1968 he joined forces with Cohen and Bedrosian, although the company is often dated to 1969, when NME acquired its first hospitals in California—four general and three convalescent—and offered public stock. That same year, NME also purchased a medical office building and three potential building sites.

The building, owning, and operating of numerous hospitals allowed NME to develop cost-cutting skills. Attention to both cost management and physician input became trademarks as NME concentrated on building services around community hospitals. Interest in efficiency also led to NME’s early diversification into hospital equipment and supplies, a hospital-consulting firm, and even a construction company that specialized in building hospitals. In the early 1970s the focus was on growth. The company launched seven construction projects in 1971, in addition to another hospital purchase, and had tripled in size within a year. In 1973 NME took its first steps outside of California by acquiring a general hospital in Seattle, Washington, and by building another in El Paso, Texas.

By this time, the hospital-management and cost-cutting techniques of NME were already being hired out. There were both domestic and international divisions within NME to oversee management services provided to other hospitals by 1974. Management of non-NME-owned hospitals and healthcare-equipment rental were significant income sources during the company’s growth years.

Throughout this period, the central concept was to profit from cost-efficient, well-managed hospitals that satisfied both doctors and patients. NME applied standard business practices in its healthcare ventures. As Earner told Forbes, “in many ways, running a hospital chain is like operating a hotel or retail chain.” The first decade was devoted to building a diversified, multi-facility hospital company with an eye on market needs. These efforts culminated in the 1979 purchases of Medfield Corporation and The Hillhaven Corporation. Medfield added five Florida-based hospitals, including one psychiatric institution, to NME; the Tacoma, Washington-based Hillhaven was the nation’s third largest chain of nursing homes.

By the end of 1979, NME was the nation’s fourth largest publicly owned hospital chain, with the majority of its revenues coming from acute-care hospitals. These two major acquisitions presaged the new decade’s changes. Up until this point NME, like the rest of the hospital industry, operated with an eye to the Medicare and Medicaid legislation passed in 1965, which assured reimbursement for medical care of the poor, disabled, or elderly. This assurance spawned enormous growth in the investor-owned hospital industry, a growth which in turn eventuated problems of reimbursement.

Shifting Focus from Acute-Care Hospitals to Specialty Facilities: 1980s

NME began to shift focus from acute-care hospitals to alternative facilities such as nursing homes, and to develop its products-and-services segment, which included healthcare equipment rental for home use and visiting-nurses agencies before the reimbursement problem became widespread. In addition, management-services contracts were booming. In 1980, NME signed a five-year, $150 million contract with Saudi Arabia to help develop healthcare facilities in that country. More international contracts came in 1981, and by the end of that year NME had more than $1 billion in sales.

The healthcare business was the second largest industry in the United States during the early 1980s, second only to food and agriculture. NME acquired National Health Enterprises in 1982, whose 66 additional long-term care facilities made NME the nation’s second largest nursing home owner. In order to better manage its own size, NME subdivided into four operating groups; international (largely consultant work), hospital, nursing homes, and medical products and services. In 1983, NME bought the Psychiatric Institutes of America (PIA), one of the nation’s largest mental-healthcare providers, based in Washington, D.C.

From 1981 to 1983, corporate revenues doubled. Entry into the private psychiatric industry allowed NME to profit from a sector whose size doubled every two years throughout the 1980s. In 1983, NME further streamlined its specialty interests by forming Recovery Centers of America (RCA), a subsidiary comprised of substance-abuse-recovery operations.

By 1984, the hospital business began a decline, the result of overexpansion and of cost-containment efforts by both government and private healthcare interest groups. NME continued to look to what it considered more stable and promising medical service alternatives. These included its equipment leasing and home care services, and even extended to health insurance and a Miami-based health maintenance organization (HMO) acquired in 1984.

By 1985 NME was the second largest, publicly owned, healthcare services company in the nation, but changes within the industry mandated adjustments and restructuring. The following year, NME sold its recent HMO purchase, as well as a number of unprofitable outpatient clinics and acute-care hospitals. Emphasis was placed on the specialty facilities—especially rehabilitation and substance-abuse centers and psychiatric hospitals—in an effort to bypass nonpayment problems by shifting away from Medicaid- or Medicare-dependent services. The Rehab Hospital Services Corporation (RHSC) of Pennsylvania had been merged with NME in 1985 for this purpose. The company also began developing academic medical center strategies.

As the industry, and NME’s stock, wobbled in the late 1980s, the company concentrated on internal reorganization instead of expansion. Restructuring produced the new subdivisions of hospitals, specialty hospitals, long-term care, and retail services in 1986. NME also continued divesting the acute-care hospitals hit by the drop in occupancy rates, shorter stays, and other results of the healthcare cost-containment squeeze. Within one year, the company had unloaded a quarter of its businesses, including ten acute-care hospitals. Many other hospitals were converted to specialty services. NME’s specialty hospitals division—consisting of PIA, RHSC, and RCA—became the company’s new core business and growth field. NME’s specialty hospitals supplanted the acute-care hospitals, which had accounted for 90% of NME’s revenues in 1969, and in 1990 NME spun off its long-term care facilities and related operations, as The Hillhaven Corporation.

NME retained a 14 percent equity interest in Hillhaven, and the parent company expected this change to help it avoid the short-term challenges created by healthcare legislation and the recompensation crackdown. At that time, Medicaid accounted for 50 percent of Hillhaven’s revenues, but less than 3 percent of the specialty hospitals division’s revenues, and less than 6 percent of the general hospitals division’s revenues.

Because government programs had not kept pace with the rising cost of healthcare while private insurance rates had, NME began to focus on services that were less dependent on Medicare and Medicaid. With this safeguard and the steady growth in specialty-services industries in the late 1980s, NME seemed to have found its niche.

Still one of the nation’s largest healthcare providers, NME held fast to its policy of high-quality, cost-effective care. By concentrating on specialty services such as psychiatric, rehabilitative, and substance-abuse recovery and by limiting itself to profitable acute-care hospitals, NME seemed well-positioned to ride out the changes in U.S. healthcare.

Scandal and Recovery in the 1990s

Indeed, NME’s strategy seemed to be working. By 1991, under Earner’s leadership, NME had more than tripled the number of psychiatric facilities it operated. Moreover, of the company’s $578 million in operating profits that year, profits from psychiatric care accounted for 40 percent. Unfortunately, however, as a major scandal concerning NME’s psychiatric hospitals erupted, this specialty division brought the company to the brink of ruin.

Company Perspectives:

Tenet will distinguish itself as a leader in redefining healthcare delivery and will be recognized for the passion of its people and partners in providing quality, innovative care to the patients it serves in each community.

The trouble began in 1991 when the Texas attorney general sued NME for alleged overbilling practices at its psychiatric facilities in that state. Allegations of wrongdoing were compounded that year, as individual patients began to accuse NME of having held them in psychiatric facilities against their will, only releasing them when their insurance coverage was exhausted. Eventually, more than 130 patient suits would be filed. Further, in the summer of 1992, 19 insurance companies, including Metropolitan Life, Aetna, Prudential, and Mutual of Omaha—some of the biggest providers in the country—filed suit accusing NME of an elaborate program of insurance fraud, beginning as early as 1988, whereby NME admitted tens of thousands of patients who did not need inpatient care, paying illegal kickbacks to referring physicians, fabricating trumped-up diagnoses, and charging exorbitant fees to treat them. At its peak, the cost of the fraud was estimated at $750 million.

Although NME would not comment on any of its patient treatment, citing confidentiality restrictions, the company took decisive steps to mitigate the damage of the scandal. In the spring of 1993, amid rumors that the company was facing potential bankruptcy, founders and top executives Richard Earner and Leonard Cohen were ousted, along with four other board members, and Jeffrey C. Barbakow, former chief executive and president of MGM/UA Communications Company, took over as president and CEO of NME. Barbakow was committed to lifting the company out of its legal quagmire, but his already Herculean task was compounded as NME became a primary target of the Clinton administration’s new initiative to crack down on health insurance fraud. In August 1993, 600 FBI and other federal agents raided NME’s headquarters and 11 of its psychiatric facilities, seizing hundreds of documents as part of an investigation into possible criminal misconduct. To his credit, Barbakow insisted on full cooperation with the investigations.

The scandals significantly damaged NME’s finances as well as its reputation, as operating profits from the psychiatric division fell from $234 million in 1991 to just $3 million in 1993. As for the cost of putting the past behind, by the end of 1993 settlements with only a few of the insurance companies in question had already topped $125 million. Moreover, after spending nearly $65 million in legal fees, NME pled guilty to felony federal charges in 1994 and agreed to pay $379 million to the Justice Department and the Department of Health and Human Services, the largest settlement in history between the U.S. government and a healthcare provider. To offset the cost of these settlements and to excise the source of corruption from its corporate identity, NME sold off all but 10 of its 81 psychiatric facilities for about $200 million in 1994. Also that year, NME sold off 73 rehabilitation hospitals and clinics for $260 million, laying the groundwork for a radical refocusing away from specialty facilities and back to the acute-care business.

Late in 1994, amid other dramatic consolidations in the healthcare industry, NME acquired American Medical Holdings in a $3.3 billion deal, more than doubling its presence in U.S. hospitals. Together, the companies would operate 84 acute-care hospitals with annual revenue in excess of $5.3 billion and become the second largest hospital chain in the country, behind the significantly larger Columbia/HCA Healthcare Corporation. By combining operations, the companies expected to realize a $60 million reduction in annual costs, and other significant efficiencies. NME completed its makeover in May 1995 by reincarnating itself as Tenet Healthcare Corporation, a name that was meant to reflect the company’s new, rigorously principled approach to business. Analysts were pleased with the company’s clean-up efforts, and projected renewed vitality for Tenet.

Indeed, Tenet’s performance improved significantly. Determined to remain large enough to compete with and fend off acquisition from Columbia/RCA, the company sold off its international operations, especially in Asia and Australia, to finance growth in its core U.S. market. The key to success, according to Barbakow, was to concentrate on regional markets where Tenet could create solid networks of hospitals and physicians. Tenet enjoyed a dominant presence in the southern California market, and sought to establish similar positions in south Florida, Louisiana, and Texas, as well as in the Philadelphia area. Strength in regional markets enabled Tenet to exert significant pricing pressure. In addition, the company increased its focus on the most lucrative fields of medicine, including cardiology, neurology, and orthopedics. By 2001, Tenet owned 111 hospitals in the United States, and profits were soaring.

Key Dates:

1968:: Richard K. Earner, Leonard Cohen, and John Bedro-sian found National Medical Enterprises (NME).
1969:: NME acquires its first hospitals in California and offers public stock.
1973:: NME makes its first foray outside of California, acquiring a general hospital in Seattle, Washington, and building another in El Paso, Texas.
1979:: NME purchases Florida-based Medfield Corporation and Washington-based Hillhaven Corporation.
1982:: NME subdivides into four operating groups: international (largely consultant work), hospital, nursing homes, and medical products and services.
1983:: NME streamlines its specialty interests by forming Recovery Centers of America (RCA), a subsidiary comprised of substance-abuse-recovery operations.
1990:: As part of a broad internal restructuring, NME spins off its long-term care facilities and related operations as The Hillhaven Corporation.
1994:: NME pleads guilty to felony federal charges concerning its psychiatric facilities and agrees to pay $379 million to the Justice Department and the Department of Health and Human Services.
1995:: After acquiring American Medical Holdings in a $3.3 billion deal, NME reincarnates itself as Tenet Healthcare Corporation.
2002-03:: Company faces a new series of scandals, in which its management, billing, and diagnostic practices are called into question.

A New Wave of Scandal: 2002

Barbakow hardly had the opportunity to enjoy his success, however, before Tenet was beset by a new wave of scandal. In November 2002, federal agents seized documents at the Redding Medical Center in northern California, one of Tenet’s. best-performing hospitals, where the director of cardiology and the chairman of cardiac surgery were suspected of performing 25 to 50 percent of their surgeries unnecessarily. While Tenet stressed that it did not participate in doctors’ decisions to perform surgery, the allegations raised serious questions about Tenet’s aggressive pricing strategies and its hospital management practices, nonetheless. The next month, scrutiny of Tenet intensified when another of its facilities, the Alvarado Hospital Medical Center in San Diego, California, came under investigation for possible violations of anti-kickback laws. Tenet’s stock value plummeted 70 percent in just two weeks. At the end of December, trading of its shares was halted altogether due to the investigations. Still a third federal inquiry was launched in January 2003, when Tenet received a subpoena demanding documents from company headquarters and 19 of its hospitals, dating from January 1997 to the present. While the outcome of these investigations remained uncertain, analysts lamented that Tenet’s credibility had sustained significant damage. In May 2003, Barbakow resigned as CEO, replaced by Trevor Fetter. Under the latter’s leadership until a permanent CEO could be found, the company would likely be weathering this new storm of controversy and internal crises for the foreseeable future.