Conversions to Rural Emergency Hospitals

Analyzing the Opportunity

Effective January 1, 2023, certain hospitals have the option of electing a new provider type—Rural Emergency Hospital (REH)—under the Centers for Medicare and Medicaid Services (CMS). The initial wave of rural hospitals pursuing REH conversion have profiles generally consistent with those identified as candidates prior to the adoption of the Final rule.

Key Characteristics:

1. The monthly facility payment and OPPS +5% payment provisions are favorable, likely with more weight on the facility payment until REHs potentially expand outpatient services to meet patient needs.
2. Lack of eligibility to participate in 340B drug savings.
3. Opportunities for physician ownership in REHs currently is limited. With broader exceptions to regulations, the industry would be more established for enterprise valuations.
4. Certain exceptions for physician compensation arrangements remain available for REHs. It will be important for management to monitor compliance after conversion and for valuators to understand changing dynamics when providing fair market value opinions.

Criteria for Becoming a Rural Emergency Hospital

According to recent CMS guidance, the following facilities that were enrolled and certified to participate in Medicare as of December 27, 2020, are eligible to be an REH:

• Critical access hospitals (CAHs); or
• Hospitals with not more than 50 beds and located in a county in a rural area or treated as located in a rural area (referred to as a rural hospital); or
• CAHs or rural hospitals that closed after December 27, 2020. They would be eligible to seek REH designation if they re-enroll in Medicare.

The conversion of an eligible facility to an REH allows for the provision of emergency department services, observation care, and additional outpatient medical and health services, if elected by the REH, that do not exceed an annual per patient average length of stay of 24 hours.

REHs are prohibited from providing inpatient services, except those furnished in a unit that is a distinct part licensed as a skilled nursing facility to furnish post-hospital extended care services. REHs are also able to serve as telehealth originating sites and apply medical staff credentialing rules for telehealth providers like those for hospitals and CAHs.

On November 1, 2022, the CMS published the 2023 Hospital Outpatient Prospective Payment System (OPPS) and Ambulatory Surgical Center (ASC) Payment System final rule (the Rule). The Rule finalized several provisions specific to REHs, including policies addressing REH enrollment, payment, Conditions of Participation (CoPs), quality reporting, and the federal physician self-referral law (Stark Law).

Hospitals Converting to Rural Emergency Hospital Status

Since January 1, 2023, several eligible hospitals have applied for and obtained approval to convert to REHs.

By the Numbers – REH Profiles

This sample of hospitals is generally consistent with the profiles of 68 hospitals identified as potential REH converters in a July 2021 study by the North Carolina Research Health Program (NCRHRP). NCRHRP used three measures to predict the number of rural hospitals with 50 beds or less that are likely to consider conversion to an REH: 1) three years negative total margin; 2) average daily census (ADC) (acute + swing) less than three; and 3) net patient revenue less than $20 million.

Four of the eight hospitals in our sample are in Texas, but only seven of the 68 NCRHRP identified were in Texas. One important factor in transition is that state law must be updated to allow for the REH designation. In addition to the states in the sample (TX, NM, OK and MS), IA and AR have enacted such legislation and presumably others are exploring options.

Other notable exceptions in our sample, compared to the NCRHRP study, include just one CAH identified vs. 56 of 68 (82%) and a lower estimated Medicare outpatient payer mix. CAHs have been more reluctant to pursue REH conversion at this point. Further, outpatient Medicare payor mix may not be as significant a factor in the overall decision as service needs and/or the fixed monthly facility payment.

Effect of OPPS Payment Provisions

The monthly facility payment and OPPS +5% payment provisions are favorable, likely with more weight on the facility payment, until REHs potentially expand outpatient services to meet patient needs.

The CMS 2023 Final Rule provides the following payment provisions for REHs:

• REH services will be paid at OPPS payment rates increased by 5%. This includes qualified off‑campus provider-based departments (PBDs).
• Non-REH services will be paid at the same rate the service would be paid if performed in a hospital outpatient department (such as the clinical laboratory schedule).
• REH monthly facility payment for CY 2023 will be $272,866.

Interestingly, in a hypothetical REH conversion scenario, applying these provisions to the median revenue values from Table 1, results in a net increase in total revenue of approximately $2.1 million, assuming all non-Medicare outpatient revenue remains the same. (This does not include allowable revenue from skilled nursing facility (SNF) swing beds as a distinct part unit (DPU) of the REH.)

Prior to adoption of the final Rule, industry experts predicted increases in margins of REH converters in a range of 4-7%. However, assumptions for average facility payment were lower than the actual payments in the final Rule, leaving room for additional margin improvements.

Lack of eligibility to participate in 340B drug savings is likely a key consideration for conversion.

Another unknown variable in early financial predictions was whether REHs would be eligible to participate in the 340B Drug Pricing Program. As it currently stands, REHs are not eligible to participate in 340B programs because the Health Resources and Services Administration has not provided a pathway. A common element is that none participated in 340B Drug Pricing Program prior to a contemplated REH conversion. From this relatively small sample, it appears that rural hospitals or CAHs participating in 340B have not yet been interested in forgoing 25% to 50% in drug savings by converting to an REH.

From a cost perspective post-REH conversion, it would be reasonable to assume that certain inpatient costs would be eliminated while outpatient and other general costs would change according to the scope of services offered and to meet the CoPs. For this set of hospitals, the recent median historic outpatient to inpatient cost ratio was approximately 3:2. Going forward, those concerned with forecasting and valuations of REHs must adjust each hospital department on a case-by-case basis, keeping in mind these key Conditions of Participation (CoPs).

• Emergency services: Emergency services 24 hours a day in accordance with CAH standards.
• Staffing:
  • The emergency department of the REH must be staffed 24 hours a day, 7 days a week to receive patients and activate the appropriate medical resources.
  • The REH must have a professional health care staff that includes one or more doctors of medicine or osteopathy, and may include one or more physician assistants, nurse practitioners, or clinical nurse specialists.
• Laboratory services: Emergency laboratory services are available 24 hours a day.
• Radiologic services: The REH must maintain, or have available, radiologic services according to needs of the patients.
• Pharmaceutical services: The REH must have pharmaceutical services that meet the needs of its patients. The REH must have a pharmacy or a drug storage area that is directed by a registered pharmacist or other qualified individual.
• Additional outpatient medical and health services: The REH may provide outpatient and medical health diagnostic and therapeutic items and services that are commonly furnished in a physician’s office or at another entry point into the health care delivery system that include, but are not limited to, radiology, laboratory, outpatient rehabilitation, surgical, maternal health, and behavioral health services. If the REH provides outpatient and medical health diagnostic and therapeutic items and services, those items and services must align with the health needs of the community served by the REH.
• Quality assessment and performance improvement program: The REH must develop, implement, and maintain an effective, ongoing, REH-wide, data-driven quality assessment and performance improvement (QAPI) program.
• Agreements: The REH must have in effect an agreement with at least one certified hospital that is a level I or level II trauma center for the referral and transfer of patients requiring emergency medical care beyond the capabilities of the REH.

The median department costs as a percentage of total costs for a sample of REHs are summarized below.

While each of the more cost burdened departments align historically with services in the CoPs above (emergency, laboratory, radiology, and drugs), there seems to be a lack of additional outpatient medical health services. Reasons for this could be past capital or regulatory constraints which may be alleviated under the REH designation through changes in funding, operations, and legal exceptions. Moreover, physician arrangements that meet existing exceptions to Physician Self-Referral laws are possible. The industry is also eager to see if there will be additional special exceptions for REHs.

Status of Physician Self-Referral Law for REHs

Opportunities for physician ownership in REHs currently is limited. With broader exceptions to regulations, the industry would be more established for enterprise valuations.

Prior to the 2023 Final Rule, CMS proposed special exceptions for physician ownership and compensation arrangements with REHs. The proposed exceptions related to ownership would have broadly permitted physicians to own and invest in REHs, opening the door for syndications. Commenters dissuaded CMS from finalizing the ownership exception “at this time” due to concerns of program or patient abuse. Commenters have not provided alternative program integrity criteria. Note, physician ownership in converted REHs may still meet certain existing rural provider exceptions. An REH may qualify for this exception if the entity furnishes substantially all (not less than 75%) of the designated health services (DHS) it furnishes to residents of rural areas. There continues to be risk, however, when relying on a rural designation that is subject to change based on demographics and/or patient mix.

Certain exceptions for physician compensation arrangements remain available for REHs. It will be important for management to monitor compliance after conversion and for valuators to understand changing dynamics when providing fair market value opinions.

Regarding compensation arrangements between physicians and REHs providing designated health services, CMS did finalize exceptions in the 2023 Final Rule, which include the following.

• Physician recruitment
• Obstetrical malpractice insurance subsidies
• Retention payments in rural and underserved areas
• Electronic prescribing items and services
• Assistance to compensate a non-physician practitioner
• Timeshare arrangements.

In general, these exceptions are consistent with those for hospitals, rural health clinics, and federally qualified health centers. CMS is also soliciting comments for an REH exception related to medical staff incidental benefits.

For a quantitative perspective, below are historical physician compensation statistics of sample REHs.

REHs should remain competitive with other hospital physician compensation arrangements. An important condition for an REH is that it must generally always have a physician or other professional practitioner on call and available onsite within 30 minutes or 60 minutes if it is in a frontier area. According to the 2022 BFMV Physician Call Coverage Burden and Compensation Survey, specialties such as family medicine and diagnostic radiology physicians are generally accustomed to meeting the 30-to-60-minute response time burden with daily compensation ranges of $155 to $795 and $350 to $2,550, respectively by specialty.

More to Come

Key factors that impact fair market value are subject to change, so, from a compliance perspective, it will be important to review and potentially adjust physician compensation arrangements based on individual circumstances. We will continue to closely monitor the evolution of the REH industry and any related regulatory changes that affect fair market value issues. For more information please contact us.

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