Public Benefit Corporations: A Third Option For Health Care Delivery?

Corporate structure is central to the mission of any corporation. This is especially true in health care. By providing different internal incentives, corporate structures influence an organization’s ability to deliver high-value care to patients. For US hospitals, two primary types of private corporate structures exist: for-profit and nonprofit. Each has social value, but both possess features that may constrain their ability to offer high-value patient care, while limiting their accountability toward achieving this goal. A relatively new and lesser-known corporate structure—public benefit corporations (PBCs)—offers a promising alternative. In health care, PBCs may simultaneously improve individual patient outcomes and collective benefit without sacrificing institutions’ financial stability. Patients, providers, and policy makers should understand the incentives driving decision making in for-profit and nonprofit hospitals, as well as the advantages and drawbacks of adopting PBCs in health care delivery.

Limitations Of For-Profit And Nonprofit Hospitals

For-profit hospitals, which represent a quarter of all US hospitals, are owned and governed by investors or shareholders, and they can raise equity. As with any for-profit enterprise, hospital leaders are incentivized—and legally bound by fiduciary duty—to maximize financial value for shareholders. These features can promote efficiency while improving resilience and sustainability amidst financial hardship. This has been demonstrated during the COVID-19 pandemic. An analysis of large hospitals selected by the Medicare Payment Advisory Commission demonstrated that in Q2 2020 four large, for-profit hospitals were able to decrease their aggregate operating expenses by $2.3 billion (65 percent of their revenue), as compared to three large nonprofit hospitals that decreased aggregate operating expenses by $13 million (1 percent of their revenue). This could be because for-profit hospital executives are often pressured by their board members to meet financial objectives and, thus, may be better at cutting overhead spending during lean times.

Focusing on returns for shareholders, however, might create conflict between the short-term profit interests of investors and the long-term health interests of patients and communities. Because they do not receive tax exemptions, for-profit hospitals are not legally required to conduct community health needs assessments, establish financial assistance policies, nor limit hospital charges for those eligible for financial assistance. This could shift financial responsibility for marginalized patient populations onto the public sector. Or, as is often the case today, nonprofit community hospitals are disproportionately left to shoulder the burden.

Nonprofit hospitals, which represent half of US hospitals, are operated for collective benefit. However, nonprofits still have profit incentives and can be more profitable than for-profit counterparts. Unlike for-profit hospitals, nonprofits are exempt from local, state, and federal taxes and receive tax-free contributions from donors and tax-free bonds for capital projects. As a result of these exemptions, nonprofit hospitals can accumulate large operating margins. For example, 82 nonprofit hospitals secured $33.7 billion net asset increase year over year (20.5 percent) from 2016 to 2017 even after subtracting $5.2 billion in charitable donations.

Although large prestigious nonprofit hospitals in major markets are profitable, many small or rural nonprofit hospitals struggle with financial sustainability to the point of impacting patient care. In 2020, 10 out of the 17 rural hospitals that closed in the US were nonprofits. This could partly be due to their inability to raise equity, along with their dependency on charitable and public funding. Finally, although nonprofit hospitals are required to report monetary inputs toward community benefits in Schedule H (Form 990), they are—in most states—not required to demonstrate whether these inputs are leading to meaningful achievements (for example, whether investments in a workforce development program led to more individuals successfully placed in jobs). This may limit the extent to which nonprofit hospitals are held accountable to ensuring their surrounding community is benefiting from their operations.

A related disadvantage shared by both nonprofit and for-profit hospitals is that both face limited accountability with respect to anticompetitive mergers and acquisitions. Hospital consolidation over the past decade has led to moderately worse patient experiences and no significant changes in readmissions nor mortality rates. Since both for-profit and nonprofit hospitals have profit incentives, they are driven to increase market share and gain pricing power in their referral regions. The extent to which the Federal Trade Commission (FTC) and Department of Justice (DOJ) can enforce antitrust lawsuits against private hospitals is also limited by decreases in federal funding and employment reductions within these agencies, even though mergers reported to both agencies have increased by 80 percent over the past decade. In 2020 alone, there were 80 total hospital mergers, but the FTC sued to block only three hospital transactions and submitted letters to state regulators opposing two transactions. Private hospital acquisitions by payers, such as UnitedHealth Group’s $4.3 billion acquisition of DaVita Medical Group, have also been approved despite concern over anticompetitive outcomes from multiple FTC commissioners. Given the extent to which public actors are limited in their challenges, it is worth considering whether certain corporate structures themselves could internally provide safeguards against anticompetitive behavior.

What Are Public Benefit Corporations?

Broadly, PBCs refer to hybrid, for-profit corporations that must 1) pursue a general or specific public benefit, 2) consider the non-financial interests of its shareholders and other stakeholders when making decisions, and 3) report how well it is achieving its overall public benefit objectives, in addition to the usual fiduciary duty to investors. In 2010, Maryland became the first state to pass legislation allowing the establishment of PBCs. As of 2020, 37 states allow companies to incorporate as PBCs while imposing variable accountability mechanisms. Since their inception, PBCs have demonstrated success in certain industries by promoting better incentive alignment between profit motives and social value. Allbirds, for example, is a privately held sustainable shoe startup that was valued at more than $1.7 billion in 2020. Due in part to their PBC structure, Allbirds has made certain business decisions motivated by social welfare rather than purely financial interests (for example, using recyclable materials for shoelaces despite their higher prices). Lemonade, a publicly traded insurance PBC with a total revenue of $74 billion, has beneficiaries select a nonprofit or charity that will receive payouts on an annual basis from unclaimed premiums.

The number of PBCs in the health care industry is increasing, yet relatively little is known about the model’s potential role in health care delivery. Despite state statutes that explicitly allow for professional service corporations (for example, physician groups) to be benefit corporations, few PBC hospitals currently exist. One example is Community First Medical Center, a hospital in Chicago that operates as a safety-net clinic (less than 1 in 10 patients at Community First have private insurance). Other hospitals, including NYC Health + Hospitals, are referred to as public benefit corporations, although this designation was developed pre-2010 and refers to entities with board members appointed by elected officials that oversee both privately and publicly operated systems.

For the purposes of this report, we used “PBCs” to refer to the post-2010 model outlined at the beginning of this section. Currently, no precise model exists for PBC hospitals, specifically. As we will show below, a generalized criterion for a PBC hospital, shared across states, could be useful to policy makers seeking to implement a hospital corporate structure that may improve upon the disadvantages of for-profit and nonprofit models.

Why Are PBCs A Better Hospital Model?

There are three primary reasons why certain PBC corporate hospital structures could be poised to improve health care delivery. The first reason is that PBCs are held legally accountable to a predefined public benefit, which, for hospitals, could involve delivering high-quality, affordable care to local populations. PBCs are required to produce annual benefits reports that are assessed against a third-party standard. Although there is state variation in the structure of these reports, a hospital-oriented version could include data on Medicaid case-mix, risk-adjusted mortality rates, or market size. These reports could be used by regulatory agencies such as the Centers for Medicare and Medicaid Services (CMS) or local health authorities to evaluate whether the PBC is making progress toward its stated mission and respond accordingly. This would differ from Schedule H (Form 990) filed by nonprofit hospitals because it could measure patient population outcomes, rather than purely tracking monetary inputs toward community benefit. There is precedence for this requirement: In February 2019, the Connecticut Office of Health Strategy (OHS) used a certificate of need process to mandate that Yale New Haven Health System (YNHHS) submit documentations to the OHS describing how patient outcomes would be measured and reported to the community for YNHHS’s newly acquired hospital. Eventually, the YNHHS was required to submit a report to the OHS quantifying 30-day readmissions, infection rates, surgical complication rates, patient safety scores, and patient experience ratings to the OHS. Similar standards could be applied to PBCs and potentially alleviate resource-strain on the FTC or DOJ by placing the onus on hospitals to regularly demonstrate, through relevant quality and access metric reporting, that their market size is not harming the community.

Currently, there is also large variation in the types of legal enforcement mechanisms imposed upon PBCs. In some states, shareholders, directors, or any individuals named in articles of incorporation can bring benefit enforcement proceedings (BEPs) for a PBC’s alleged failure to pursue a prespecified public benefit. These PBCs, particularly those that are publicly traded, are required to have a “benefits director” on their board to ensure that the PBC is meeting its stated public purpose. In practice, a PBC hospital’s benefits director could sue its board for not meeting stated objectives integral to the hospital’s mission, such as those related to adequately serving marginalized patient populations. Benefits directors also enjoy protections from fiduciary liability (for example, for pursuing the stated public benefit at the expense of shareholder profits) that are not available to directors of regular corporations.

The second advantage is that PBCs can legitimize local community voices in the decisions made by hospitals that, inevitably, affect the local community. The individuals named in the PBC’s articles of incorporation could include representatives from surrounding community organizations. These stakeholders could contribute to developing the PBC’s predefined public benefit. Patient group representatives may decide, for example, that the community would benefit more from investments toward mental health care instead of basic science research. Community stakeholders could also have the ability to bring forth BEPs for a PBCs failure to adequately serve the community’s interests—for instance, if the PBC exhibits anticompetitive behavior by acquiring a large share of local physician practices and raising prices. To further bolster accountability to local patient populations, the FTC or DOJ could be granted the right to bring forth BEPs if a PBC allegedly fails to pursue their non-pecuniary purpose. These types of accountability mechanisms could provide non-shareholder private or public stakeholders significant ability to challenge organizational decisions that are not in the interest of patients, in ways that are not available for traditional for-profit or nonprofit hospitals.

The third reason is that PBCs possess some advantageous aspects of for-profit corporate structures. PBCs are non-tax-exempt, possess shareholders, can raise equity, and distribute profits to their investors. Although nonprofit organizations can debt finance, payments on debt must be made regardless of business revenue. Equity financing, which is unavailable to nonprofits, provides less risk for smaller organizations because there is no repayment obligation. Thus, the PBC structure provides smaller organizations more resilience amidst financial challenges or national emergencies, as they are likely able to raise and adjust their total assets more efficiently. For instance, a PBC may attempt to compensate for volume declines in certain outpatient service lines by raising funds from investors and shareholders. The funds could then be used to establish new telemedicine or home-based health services to expand its service area. Moreover, compared to for-profits, PBCs require higher voting thresholds to alter their public benefits or convert their corporation from benefit status to a regular corporation (for example, via reincorporation, mergers, or sale of assets). This provides some level of protection against financial pressures from shareholders leading to reversal of mission interest or PBC structure itself.

Limitations Of PBCs

Despite their benefits, PBCs possess features that could limit their potential as a hospital corporate structure. Firstly, there is little incentive for existing and future hospitals to incorporate as PBCs. The main financial incentive may come from reputational externalities, including increased hiring and retention of employees attracted to the organization’s social purpose. This is likely a small benefit relative to the costs of achieving reporting and accountability requirements. To address this issue, tax incentives or Medicare payments for health care organizations that incorporate as PBCs have previously been suggested. However, policy makers should be cautious to not recreate problems similar to those surrounding tax exemptions and loopholes for nonprofit hospitals. For instance, 340B rebates were originally established in 1992 to help safety-net nonprofit hospitals purchase medications from manufacturers. Yet, many of the hospitals have instead used this program to increase profits without providing greater amounts of charity care. An alternative for PBC hospitals would be to create a “phase-in” incorporation process that provides immunity from BEPs in the first year after incorporation and no required reporting until the end of the second.

Secondly, the value of PBCs to patients and communities is contingent on their accountability mechanisms. If the enforcement mechanisms are not strong or clear enough, PBCs may not have incentive to meet their stated public mission. For example, a PBC hospital may argue that a certain level of market dominance leads to better patient outcomes in certain measures to justify anticompetitive mergers and acquisitions. Unfortunately, accountability mechanisms themselves vary broadly. In certain states, early-stage PBCs are not penalized for failing to meet stated objectives, so long as they meet reporting requirements. Furthermore, since PBCs are still a new model, there are no established precedents for legal remedies available in BEPs. It is not clear whether a PBC hospital that encounters a BEP would be fined, granted injunctive relief, or face a different penalty. Since each of these outcomes could have varying effects on hospital behavior, it is important to consider what legal remedies enable hospital PBCs to deliver high-value care, without bolstering disincentives to incorporate as PBCs. The objectives themselves also vary depending on what third-party standard is used. Thus, to standardize reporting requirements and thresholds, hospital PBCs could be evaluated using existing, risk-adjusted CMS quality indices.

A Promising Alternative

The corporate structure of nonprofit and for-profit hospitals partly constrains their ability to deliver community-centered care. Due to their unique accountability features and potential for meaningful community representation, PBCs may present a promising alternative to for-profit and nonprofit hospital corporate structures. Further research is needed to assess whether PBCs lead to better outcomes for patients, and whether certain forms of PBC regulation are more effective than others at promoting high-value care delivery. Policy makers and hospital leaders should evaluate PBCs as a potential model for health care delivery.