LOOKING INTO THE UC BUDGET  -- Report #17      (e-mail version)

by Charles Schwartz, Department of Physics, University of California
Berkeley, CA 94720.        510-642-4427          June 1, 1995


     The University's vast medical enterprises - its hospitals and 
outpatient clinics - are moving rapidly to expand their operating 
base and secure for themselves a substantial market share in 
California's rapidly changing health care industry.  The UC Board 
of Regents is about to adopt unprecedented changes in their own 
ByLaws to accommodate a fast-track style of medical 
entrepreneurship.  But little or no thought seems to have been 
given to the formidable risks which this challenging business 
venture poses for the rest of the University of California.


     As an introduction to this subject, let me quote from the job
description for a new Vice President position to be filled at UC 

   The UC sponsors the nation's largest health sciences education 
   program (five schools of medicine; two each in nursing, 
   dentistry, and public health; and 1 each in pharmacy, 
   optometry, and veterinary medicine) with an overall enrollment 
   of 12,000 students, including 4,000 medical residents.  In 
   1992-93 the five schools of medicine generated about $440 
   million in federal research programs.
   In conjunction with the health sciences education programs, the
   University operates five academic medical centers at the Davis,
   Irvine, Los Angeles, San Diego, and San Francisco campuses 
   which in total account for a permanent asset base (plant and 
   equipment) of $1.8 billion.  In 1993-94 total operations 
   included 3,144 licensed beds, 103,997 admissions, 642,734 
   inpatient days, 1,662,647 outpatient visits, net revenues of 
   $1.757 billion, and bottom-line gains of $92.264 million.
   The academic medical centers function in highly competitive 
   health services markets with relatively high levels of managed 
   care penetration, maximum pricing leverage exerted by large 
   purchasing cooperatives, declining utilization rates, and 
   accelerating integration and consolidation of providers.  The 
   five UC academic medical centers are pursuing broad ranging 
   strategic and tactical clinical enterprise "business" responses
   aimed at securing sufficient market share to support their 
   financial and academic requirements.
   Responsibilities of the Vice President--Clinical Services 
   Development include providing oversight and coordination for 
   the development of UC's clinical enterprise activities 
   (mergers, acquisitions, partnerships, contracts, product line 
   development, marketing, and related capital and other 
   investment funding, etc.) ...

     Observing the Regents meetings over the past few years, it 
has often seemed to me that the best educational sessions were 
about the University's hospitals; and it seemed that this area of 
UC activities held more interest for many members of the Board 
than any other.  There is the ancient attraction that medicine, 
its practice and research, has held especially for wealthy and 
powerful people in their old age.  There is also the dynamism of 
today's health care industry, which excites many individuals, 
like the regents, who have had successful careers in business, 
law and politics.  

     University medical schools and their teaching hospitals have 
long occupied a very comfortable niche, enjoying academic benefits
from their base in a university, enjoying a variety of generous 
government supports, and at the same time enjoying financial 
benefits from their participation in the business of practicing 
medicine.  All this is changing now.  The enormous growth over the
past decade - growth in research funding, growth in hospital 
construction, growth in the cost of health care for individuals 
and growth in the number of individuals claiming this service - 
has led to an acknowledged national health care crisis; and at 
present the determining drive has been taken by the commercial 
marketplace.  With the collapse of government efforts at health 
care reform, profit-driven business competition is rampant and 
uncertainty is now the rule for providers and providees alike.

     It appears to be the consensus that university hospitals, if 
they are to survive, must enter this fiercely competitive market 
as active players.  No longer can they sit and expect that 
patients will come to them.  They must make business contracts 
with individual primary care physicians, physician groups, HMOs, 
health care conglomerates, whatever is out there signing up the 
supply of patients and potential patients ("covered lives" they 
are called in the new accountancy of managed care.) Thus, you read
in the job description above about the dominion of the new UC Vice
President--Clinical Services Development: "clinical enterprise 
activities (mergers, acquisitions, partnerships, contracts,
product line development, marketing, and related capital and other
investment funding, etc.)"  How strange these words sound to the 
academic ear.

     One theme that arises repeatedly in the papers and talks 
given to the regents is the need for swift action - sign up those
private medical practices to feed into UC's hospitals before some 
competitor grabs them.  Another theme is the need for expert and 
bold leadership, knowledgable executives who are not averse to 
risk-taking. And a third is the need for more flexibility than the
current UC system allows in setting compensation levels for 
effective medical practitioners and managers (rainmakers.)


     In January of this year the UC administration started to 
move.  President Peltason announced a set of administrative 
initiatives - expansion of his own administrative staff, review of
procedures at the systemwide level and with the Chancellor of each
medical school campus, appointment of the new vice president, and 
a new advisory council - and the Board of Regents set up an Ad Hoc
Committee to draft plans for expediting future regental action 
concerning UC's clinical enterprise activities.

     On May 4 I attended the last meeting of this Ad Hoc regents 
committee to see what they were up to.  What I found was a small 
group (two regents and half a dozen administrators) who were all 
enthusiastic about launching a new streamlined enterprise. The 
existing Regents' Committee on Hospital Governance was to be given
a new name (Committee on Health Services) and new powers (detailed
below) and it was expected that regents serving on this committee 
would become very well informed and deeply involved in the
business decisionmaking of the University's academic medical 
centers.  The chief objective, so it seemed, was to cut away the 
existing impediments - many levels of administrative bureaucracy 
and a cumbersome system of regental review and approval - that 
keep the UC hospital directors from acting as the fast-changing 
marketplace demands.

     The recommended changes in Regents' ByLaw 12.7, as presented 
to the Board at their May 18 meeting, give these new powers to the
Committee on Health Services:

(a) Consider and recommend to the Board strategic plans for 
    University clinical enterprise activities and for each 
    academic medical center.
(b) Consider and act upon ... matters related to business 
    transactions affecting the clinical services of University 
    academic medical centers and schools of health sciences ...
(c) Consider and act upon the rates of compensation of University
    personnel holding staff positions in academic medical centers
    whose annual full-time salary rate is at or more than ...
(d) Consider and recommend to the Board the academic medical 
    center capital and operating budgets for each fiscal year. ...

     Paragraph (a) is unobjectionable.  Paragraphs (b) and (c) 
provide for the desired speedy action, allowing this committee to
bypass approval of certain decisions by the full Board (this is 
unprecedented).  Paragraph (d) is a transfer of authority from the
two other Regents' committees that currently are in charge of the 
University's operating and capital budgets (Committee on Finance, 
Committee on Grounds and Buildings.)

     As I listened to the discussion and read the documents at 
that May 4 meeting, I found a number of questions that troubled 
me.  I had a certain perspective: This may all be well and good 
for the hospitals and medical schools, but what consequences 
might this have for the rest of the University?  As far as I could
see, such issues were not being considered and nobody was asking 
this sort of question.

     My first question was rather technical.  What is the 
definition of the term "academic medical center"?  Does this mean 
the same as "University hospital", the term in the old ByLaw 12.7 
or the category "Teaching Hospital" used in UC's budget and 
accounting system?  More likely, "academic medical centers" was 
meant to include not only the hospitals but also the clinical 
practice activities of the faculty and staff of the medical 
schools, which is partly inside the hospitals and partly elsewhere
(speaking in terms of financial rather than physical location.)  
One ought to be clear in specifying the turf being carved out for 
this new and uniquely powerful Regents' committee.

     At the close of the May 4 meeting I tried to speak with 
Regent Peter Preuss, acting chair of the Ad Hoc Committee.  He 
gave me his e-mail address and said I should send him my questions.
I did so right away.  His only response was, "Dear Charles,  Thank 
you for your helpful comments.I have read them carefully."  Then I
attended the Regents' May 18 meeting and spoke briefly of these 
concerns, but got no response at all.  Next I sent an e-mail 
inquiry to Dr. Cornelius Hopper, UC's Vice President for Health 
Affairs, and followed up with phone calls, requests for a meeting 
to discuss these questions, repeated e-mail  -- but I have yet to 
hear any word from him.

     So let me proceed on the basis of what I do understand about 
UC budgets and finances to lay out a number of concerns and 
questions on this topic - ones that UC's leaders have either 
overlooked or decided to keep hidden from public discourse.

                     BUDGET PRESSURE

     First, consider item (d) in the new Regents' ByLaw - the 
shift in budget authority to this new committee of the Regents.  
It is hard to see how this makes sense unless it covers the entire
budget for the medical schools as well as the budgets for the 
teaching hospitals.  The revenues into the "Medical School Fund 
Accounts" (over $400 million annually) come from the clinical 
practice of their faculty and staff; and this money is essential 
to both the instructional and research programs of the medical 
schools, providing the "practice plan" salary add-ons for faculty 
and also providing for "program enrichment."  I do not see how a 
medical school dean could fashion an annual budget plan without 
combining all major sources of funding - state/university general 
funds, extramural research funds, and clinical practice income.

     Let's see some financial numbers for the Health Sciences 
sector of the University, combining all the schools of health 
sciences and the teaching hospitals.

     During the last fiscal year, 1993-94, total expenditures of 
current funds by the University of California (excluding the DOE 
laboratories) amounted to $7.080 billion, and the Health Sciences 
sector of the University accounted for $3.205 billion of that, or 
45%.  If one counts just the academic expenditures in the UC 
accounting system (Instruction, Research, Public Service, Academic
Support and Teaching Hospitals), then the Health Sciences sector 
accounts for 59% of the total.  And if one subtracts out the 
"Restricted" funds (mostly contracts and grants from extramural 
sources), thus looking at those academic expenditures over which 
the Regents have control, then the Health Sciences sector accounts
for $2.527 billion or 62% of the UC total.

     When one looks at the changes that have taken place in recent
years of severe budget shortages for the University, the 
distinction between these sectors becomes sharp indeed.  Comparing
1993-94 data for expenditures of Unrestricted Current Funds with 
those for the year 1990-91, we find that the Health Sciences 
sector has grown by 12%, while the rest of UC's academic program 
(all "General Campus" expenditures) has been shrunk by 6%.  
[See my Report #16 for most of this data.]

     More "technical" questions: What does it mean for part of the
Regents' annual budget to be approved through one committee and 
another part to come from a second committee?  Will UC have two 
budgets or will the whole Board have to reconcile the two parts? 
How will the Legislature treat this bifurcated budget?  The 
Regents' ByLaw for the Committee on Finance states that the budget
they consider shall be prepared by the President of the University;
but the new ByLaw for the Committee on Health Services does not 
say who will prepare their portion of the budget.  Maybe none of 
this matters because the budget is really developed by the 
President and the Chancellors and then submitted to the Board, or 
to any of its committees, for rubber-stamping. But then, why 
bother at all with (d)?

     My sense, regardless of the answers to the technical 
questions raised above, is that what we have here is a significant
shift of power within UC - a coup in which the financial priority 
of the medical sector, already very large in relation to the rest
of the University, will become even greater.

     This new Regents' committee will be an informed, involved and
powerful advocate for the medical sector of the University, 
something which no other academic sector has.  The future of the
medical sector is full of financial uncertainties and dangers, but
so is the future of the rest of the University.  By giving this 
added priority in the budget process to one sector, the Regents 
are unavoidably intensifying the budget pressures to be suffered 
by the rest of the university.

                  RISKS OF THE MARKETPLACE

     Now put aside the details of the previous discussion and 
let's look at even bigger questions.  UC's venture into the 
dynamic and competitive health care marketplace must raise the
issue of financial risk.  Maybe the bold new business ventures for
UC's academic medical centers will all succeed, or maybe there
will be some small setbacks that can be overcome.  But what if 
there are substantial failures: What happens then? Who is at risk?

     That marketplace is populated by big and hungry sharks.  Many
small, medium sized, and big enterprises in commercial health care
fail, go bankrupt or get gobbled up.  How will UC compete?  Some 
private health care conglomerates have large capital reserves and 
aggressive strategies to dominate the market.  They may, as market
forces dictate, seek to outbid their competitors, including UC, in
attaining their objectives.  Their corporate managers are expected
to be smart, bold and successful.  That's what they are paid (and 
often paid extravagantly) to do.  That is what their investors 
expect them to do.  Their financial backers are capitalists 
(public stockholders, private investors, banks and other lending 
institutions) who understand the risks they take with their 
investments and who anticipate handsome profits.

     How does UC fit into that economic jungle?  Perhaps the 
regents and the UC administrators have forgotten that this 
institution is fundamentally different from a private business.  
I am not talking about philosophical values here; I am talking 
about, Whose money is on the gambling table?

     Let's spin some hardheaded scenarios. (I am a novice here. I 
wish professionals were doing this but where are they?  This is 
what regents are supposed to be for: to bring business-world 
experience and common sense to the academic fuzzyheads.)  

     Where will UC get the capital to go into the M&A (mergers and
acquisitions) business?  Apparently, some of this capital will 
come from the profits that UC hospitals have been accumulating in 
recent years and also from reserves in the clinical practice plans
of the medical schools; external financing (loans) and "seller 
financing" are other sources mentioned in UC documents. What if 
one or more of UC's academic medical centers finds itself short of
capital and falling behind in the local market competition - where
will it turn for financial help?  Will not the local Chancellor, 
or the President, be called upon for emergency funds - and where 
will that come from?

     What are the chances for failure? What is the probability in 
this turbulent market for one of UC's academic medical centers to 
lose a sustainable market share, to have the hospital operate in 
the red, to be left high and dry when government funding is cut 
beyond their worst expectations, to have their faculty forego 
their expected salaries, to be unable to meet their debt payments?
And then multiply that probability by five.

     What happens when one of them fails?  Are the bankruptcy 
courts available as a refuge to limit the damage?  Will the other 
UC medical centers pitch in and help?  Will the rest of the UC
budget be available for a bail out? Will the Legislature be there?

     Short of catastrophic failure and aside from the annual 
budget pressures, there are other modes in which the medical 
centers' financial needs can severely impinge on the rest of UC. 
Each Chancellor (and the President) has a most cherished resource
of discretionary funds (from contract and grant overhead, 
undesignated gifts, etc.) which are eagerly sought after by 
faculty members and departments throughout the university, 
especially in these tight budget times.  When a medical center 
finds itself in hot water resulting from the unanticipated risks 
of these new business ventures, will not the Chancellor feel 
compelled to tilt the pot of discretionary funds in that 

     Among all those put at financial risk by the growing 
"clinical enterprise activities" are UC's undergraduate students 
(and their families), who already are being taxed, through 
escalating fees, to fill in the University's funding gap whenever 
Sacramento comes up short of the Regents' request.  One could 
argue that even today student fees paid on the undergraduate 
campuses of UC are helping to subsidize the business expansions of
the medical schools and their hospitals.

     Personally, I am retired and feel relatively secure; so my 
worrying about these risks being piled upon the rest of the 
University is somewhat abstract.  For many others, who see their 
current and future careers tied in with UC's financial health, 
there are so many questions that demand to be addressed by the UC 
leadership.  It is not sufficient for the President, Chancellors 
and regents to pass the buck - to say it is all due to the 
failures of the state and national governments and that they, the 
guardians of this public trust, have no option but to do as they 
are doing.  Their obligation, morally and legally, is to act in a 
prudent fashion to protect the whole of the University.  For them 
to go off half-cocked, as they appear to be doing in this venture,
should not be tolerated.  [The Regents are scheduled to vote on 
this ByLaw change at their June meeting.]

                   ANY ALTERNATIVES ?

     One obvious idea, not original with me, is for UC to spin-off
the whole medical enterprise: give it all over to a separate 
public corporation with its own legal and financial structure, its
own charter and budget from the state, its own board of governors,
and its own freedom of action.  An amicable divorce to be arranged
for mutual benefit.  This ought to be thoroughly discussed; but 
nary a peep is heard in public.  Perhaps one major obstacle to 
such a rational approach is the regents' pride.