Alliances between community hospitals and university departments of oncology provide potential answers to many of these challenges. University/community alliances benefit patients by providing state-of-the-art care services--including access to innovative and promising research protocols--conveniently and close to home. Alliances assist community providers by enhancing service offerings and market coverage, controlling out-migration of patients for state-of-the-art services, and aiding in the recruitment of providers. Universities benefit from new community-based venues for teaching and research and gain new opportunities for patient care and greater potential for tertiary referrals.
Additional strategic reasons for joining an alliance include:
All alliances should leverage complementary assets of the partners. An alliance works well when each partner offers uniquely valuable assets or competencies to the deal. Partnering has its greatest common-sense appeal when the individual strengths of the partners overcome their individual weaknesses to produce a combined result that is better than could be achieved by any one partner alone.
Each alliance partner must clearly understand what its own organization really wants to achieve from the alliance, and it is useful for the partners to make these individual objectives clear to each other at the outset, so that the alliance can be designe d in the best "mutual gains" sense. Furthermore, the alliance itself is really a new and independent business and needs to operate successfully. Like any well-managed business, the alliance must have its own defined purposes and strategy and must relate t o the market with its own face and succeed in that market on its own merits.
Whenever a university partner is involved, the mission of the alliance must include education and training, research, and public service/outreach components, which legitimize the university's role in the alliance and help serve its mission needs. In addit ion, these components are critical for the alliance corporation that seeks tax-exempt status. Establishing these components will prevent income transferred from the joint venture to the tax-exempt partners from being considered "unrelated," and thereby ta xable income.
SHARED EQUITY AND GOVERNANCE
Alliances can take many forms, from simple contractual relationships to the formation of new joint venture entities. The most rigorous form is the joint venture corporation.
Partners in a health care joint venture that involves community providers and universities in specific regional markets are likely to be collaborators and competitors simultaneously on many different levels with markedly dissimilar organizational cultures . That's why it is well worth any extra effort to assure the joint venture's success by paying attention to building commitment, mutual respect, and trust through well-designed shared equity and governance structures.
The most powerful alliances generally are built by partners who each bring expertise and assets of unique value to the partnership. In these circumstances, each partner institution may naturally tend to value its own contributions somewhat more highly tha n those of the other partners and, therefore, demand a larger equity share or more governance control than others. However, structuring the partnership to provide equal equity interests and equal governance control to all partners instantaneously establis hes an alliance culture in which every partner is equally committed to the success of the venture. As a result, the shared objectives and common purposes of the partnership are significantly reinforced.
This commitment can be further strengthened by establishing a voting structure in which each partner organization casts just one vote (regardless of how many actual seats it may hold on the joint venture's board of directors) and where major governance ac tions require unanimity of the partner organizations' votes (e.g., for dissolving the partnership, admitting new partners, taking on debt, making major business-line changes, making major capital expenditures or commitments, or hiring and evaluating top m anagement). Generally speaking, each partner organization will want to have more than one director's seat on the governing board. This arrangement is often best for the joint venture as well, since each director ideally brings some valuable talent to the table. One vote per partner and unanimous votes for all major actions, however, mitigate against the politics of boardroom coalition formation (when one or more partner organization attempts to recruit individual votes from other partner organizations' di rectors to gain simple majority votes on specific issues). Having these structures in place allows the directors to better represent their own organization's interests, to find mutual gains solutions to major joint venture issues that do not start out wit h unanimous support, and to commit fully to the actions taken by those unanimous votes. These governance and equity structures certainly help accelerate trust building at the front end of joint ventures.
"Treat each other fairly" sounds like advice that is too simpleminded to be valuable in dealing with complex partnerships. However, partners that are both collaborators and competitors must build trust among themselves for their joint venture to work. In a recent Harvard Business Review Caroline Ellis notes that "Strategic alliances require trust, but trust takes time to develop. Increasingly, however, alliances are occurring in high-velocity sectors... Is there such a thing as high-velocity trust building?"1
Another critical concept for trust building is for partners to relate to each other and to the joint venture in fair-market-value terms only. Again, partners are likely to bring very different assets to the joint venture (e.g., real estate; facilities; ex isting programs and market access; medical, technical, management, or legal expertise; operating and information systems). It will be challenging for partners to value each of these diverse contributions. Moreover, each partner may be tempted to seek or t o offer some "special deal" in providing its assets to the joint venture.
Structuring each relationship in terms of its fair market value not only builds trust among the partners, but is also critical in sustaining the joint venture's and the partners' tax-exempt status and avoiding potential violations of Medicare fraud and ab use regulations, federal Stark laws, and various state business ethics, tax, and medical practice laws.
A SOUND BUSINESS PLAN
A thorough and conservative business plan is critical for planning as well as for management. The process of constructing the plan itself (a period-by-period spreadsheet identifying and quantifying revenues and costs and calculating cash flows) provides a context for the partners to share knowledge, become more familiar with the enterprise they propose to undertake, and start thinking as a team. A well-constructed business plan educates all the partners about the requirements for initiating and operating the venture and what to expect as the venture progresses. Following start-up, the plan should provide targets for operational management and benchmarks against which to measure success in meeting critical goals, such as market development, reimbursement or collections, expense control, return on investment, and debt amor tization. Be conservative here. By underestimating revenues and overestimating costs, one has the opportunity to "bias the surprises." When the inevitable surprises do occur, they are more likely to be pleasant than unpleasant.
A well-constructed business plan should also estimate the need for working capital. All too often such calculations are ignored, resulting in early, unpleasant surprises. Working capital needs are always substantial and include capital for land, facilitie s, and equipment generally associated with starting up a new business. In addition, the joint venture requires working capital to pay for supplies, services, payroll, insurance, legal, marketing, and other expenses until sufficient income cash flows can b e established. Three to six months are required to ramp up operations and establish reliable income cash flows.
The initial business plan should include the terms for termination of the partnership. It might seem odd to advise budding partners to think about the end of the partnership almost before the partnership sets out, but in fact this is the best opportunity to do just that. Now is the time that all partners understand the reasons for the partnership, as well as the values used to create and operate it. All parties are best motivated to work together amicably and to solve problems toward mutual benefit. This is also the best time to negotiate and establish the terms for parting company should that need arise. Again, using a fair-market-value approach as the basis for partnership termination conditions at this early stage in the relationship serves to foster t rust building by reinforcing the general notion that the partners intend always to treat each other fairly.
The corporate form, mission, and purposes as expressed in the joint venture's articles of incorporation, governance, and business plan should be flexible enough to accommodate (or at least not preclude) changes in the joint venture's purposes or business lines over time to be responsive to the dynamic environment of health care delivery, technology, and financing.
INCORPORATION AND TAXATION
A basic choice for corporate form of the joint venture is either a stock or nonstock membership corporation. Little functional difference exists between the two. A partner's equity and governance interests in a stock corporation are represented by the qua ntity of shares it owns, and its equity and governance interests in a membership corporation are expressed in the terms of membership (usually in the articles of incorporation, membership agreement, bylaws, or other core corporate document or agreement between the partners). In both cases, each partner typically benefits proportionally or is proportionately responsible for gains or losses of the joint venture. Both stock and membership joint ventures are generally closely held, meaning not publicly traded, and self-impose restrictions on who can own the stock or assume a membership in the joint venture. Both forms may be either taxable or tax-exempt.
The membership form is particularly compatible with the model of equal equity governance and all actions by consensus described above. This "all for one and one for all" concept does not need to provide the flexibility of proportional ownership for which the stock form is best suited. Universities with constitutional or charter restrictions on owning stock in private companies (except for passive investment purpose) may find membership forms to be the better option.
Most health care and educational institutions are not-for-profit and tax exempt under section 501(c)(3) of the U.S. Tax Code, so it makes sense that their joint venture alliance entities also will be not-for-profit and likely to qualify for 501(c)(3) stat us. 501(c)(3) organizations may partner and do business with each other easily. They generally may assume ownership interests in other 501(c)(3) organizations. These organizations may contract with each other for goods or services or for joint working rel ationships (at fair market value). They may disburse cash between themselves, pay dividends, or make grants or loans to each other, especially if the transfers are for purposes related to their tax-exempt missions and are made at fair market value. Not-fo r-profit entities in fact may be quite profitable, but they are legally restricted as to the uses of their profits. Most notably, they may not distribute net earnings to individuals in control of the organization, nor otherwise create private inurement of economic benefit; there is no private ownership in a not-for-profit.
Because of this latter constraint, partnership entities can qualify for tax exemption only as long as all partners in the entity also are each tax exempt. However, the "community" part of university/community alliances may involve a taxable medical practi ce group or one of the growing number of for-profit health care delivery or underwriting organizations. Having just one private party or other taxable entity as a partner obviates the ability of the joint venture to qualify for tax-exempt status, and this reality would normally cool (or kill) the interest of tax-exempt entities from partnering with taxable entities.
Most states offer an alternative corporate form that generally allows partnerships between taxable and tax-exempt entities: the limited liability corporation (LLC). Most LLCs are rather superficially described as "pass-throughs," with net earnings of the LLC tax free as long as they remain within the LLC. Net earnings are then taxed only at each partner's own tax structure and rate when d isbursed to the partners from the LLC. For example, the net earnings of a particular LLC partnership involving one taxable entity and two tax-exempt entities would be taxed only when distributed out of the LLC to the partners. Only the taxable partner wou ld pay taxes on the distribution, with the tax-exempt partners taking their distribution tax free. While this arrangement sounds ideal, the ability of LLCs to act as strict pass-throughs is incomplete and varies from state to state. In Michigan, for examp le, the LLC itself may be liable for local municipal property taxes and is liable for Michigan's single business tax. Because LLCs are a relatively new corporate form, their legal operating characteristics have not been tested fully in court. In fact, whi le Michigan provides an LLC form, a Michigan Circuit Court judge ruled this September that committing charitable tax-exempt assets to a for-profit limited-partnership joint venture is illegal in that state, raising questions about the viability of the LLC form in this respect. Be sure to seek well-informed legal advice when considering this form.
Beyond the direct corporate form, equity, and governance issues, many additional constraints are imposed by institutional charters and covenants, federal and state law, and Medicare, Medicaid, and other reimbursement regulations and payer policies. Each c an affect the choice of form, financing, governance, and contractual relationships, which speaks strongly to the need for competent (very competent!) legal counsel early on and throughout the process of developing these alliances.
Remember the supreme importance of building trust and mutual commitment to shared purposes among the partners. When the partner institutions work together in a positive collaborative manner, their legal resources can also work together to find practical solutions to the alliance's needs, rather than committing their attention solely to the defense of their individual institution's or client's position in the partnership.
CAPITALIZATION
The most common means by which to capitalize a joint venture is for partners to contribute capital in exchange for their initial ownership position. These contributions may be made in the form of cash, property, existing facilities, or equipment.
Another common capitalization mechanism is a commercial bank loan to the joint venture, perhaps guaranteed proportionally by the joint venture's partners.
A third capitalization option that bears consideration is loans to the joint venture by its university and/or community hospital partners. This option has the following advantages:
Since partner loans to the joint venture are made by "friendly" bankers, the repayment terms may be set flexibly to meet the cash flow constraints of the joint venture, perhaps requiring timely periodic payment of interest, but allowing for no repayment o f principal in the first year or so of operation when the joint venture is getting on its feet, and then providing for accelerated principal repayment in later years.
Establishing a university/community joint venture is a complex
undertaking. However, if partners understand each other, have clear goals,
and develop a careful, definitive business plan, an effective and
functional alliance can be developed to bring benefits to each
participant.
REFERENCES1Ellis C. Making strategic alliances succeed: The importance of trust. Harvard Business Review, July/Aug 1996, p.8.
David A. Gift, M.S., S.M., is executive administrator for strategy and management in the Department of Radiology at Michigan State University in Lansing, Mich. Marc A. Halman is director of administration in the Department of Radiation Oncology at the University of Michigan Medical Center, and W. Lee Hladki is vice president for network development at Michigan Capital Medical Center, also in Lansing.
When they square off on the football field, their rivalry is fearsome. But it took an even more foreboding opponent--cancer-- and all the emerging challenges of managed care, for Michigan's two largest universities to joi n forces. In a precedent-setting partnership, Michigan State University (MSU) and the University of Michigan (U-M) formed a joint venture with Michigan Capital Healthcare (MCH), a Lansing, Mich., health system operating two community hospital campuses. Th e goal was to construct and operate a state-of-the-art radiation oncology unit.
Each institution brings important strengths to the partnership. U-M, through its Department of Radiation Oncology, provides the newest 3-D conformal therapy, and a statewide network of radiation oncology facilities providing opportunities for wide-area contracting and shared equipment and technical support. MSU, through its Department of Radiology, offers internationally recognized programs of innovative MRI and information systems development. MCH, with its two community hospitals, has a strong medical oncology program and treats more than 700 new cancer patients each year. (MCH is a community-based training partner institution of MSU's two medical schools.)
The context of the venture was certainly not easy. As with all regional health care markets today, Lansing's is hotly competitive and rapidly restructuring. MSU and MCH collaborate and compete in this changing environment; MSU and U-M have been long-standing competitors.
MSU has medical education relationships with local hospitals; its faculty practice simultaneously collaborates and competes with these same hospitals. U-M did not have clinical/teaching collaborations, but its managed care service, Mcare, is expanding int o the Lansing area and represents a new entrant to Lansing's crowded market. The new joint venture is the first time that MSU and U-M's medical schools will collaborate in practice. This collaboration involves joint faculty appointments at the schools. The new radiation oncology service will benefit the radiology and radiation oncology residency programs of both universities.
All three parties came to the table with just one goal in mind: Collaborate as equals to provide world-class care at the community level. The decision to join forces set the stage for successful problem-solving on all aspects of the complicated venture.
The Michigan Capital Healthcare Experience Physician
Integration
by Valinda Rowe Rutledge, M.B.A., B.S.N., M.S.N.
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