Children’s Hospital Bond Act: Behind the Scenes

Four years after winning a $750 million bond measure, children’s hospitals in California will ask voters on November 4 for an additional $980 million in bond funds to help them continue expanding and improving facilities. This time around, however, the state’s fiscal predicament is casting a longer shadow over the debate.

Passage of Proposition 3 would make grant funding available to eight private, nonprofit children’s hospitals and five children’s hospitals affiliated with the University of California for new construction and equipment, remodeling, and other infrastructure needs. The ballot initiative comes amid heavy pressures on these specialty-care hospitals -- declining state reimbursements, increasing costs, and strong growth in demand for pediatric services.

“Recent polling shows that California voters want to help children’s hospitals meet the needs of the state’s most seriously ill and injured children, notwithstanding the failure to enact health care reform and the current state budget deficit,” says Diana Dooley, president and CEO of the California Children’s Hospital Association (CCHA), which proposed the measure.

Whether voters are inclined to look beyond the state’s red ink and cloudy financial future remains to be seen. Although no groups have officially formed to fight Prop. 3, the Howard Jarvis Taxpayers Association says it will oppose this and two other bond initiatives on the ballot.

The taxpayers association believes that the state’s debt ratio is already too high, says Executive Director Kris Vosburgh. “That means all of our bonds are costing more, which means that taxpayers end up paying more,” he says.

Other opponents of the measure argue that administrators and employees at children’s hospitals will benefit personally and monetarily from its passage, that it circumvents the Legislature, and that the initiative is flawed. According to these opponents, 80 percent of Prop. 3 funds would be available to any acute care hospitals that treat children. They also maintain that the initiative is a “back door way” to reimburse hospitals for treating illegal immigrants and indigents, and that Prop. 3’s definition of capital improvements is so vague, the funds could be used to finance any number of projects. Proponents, they believe, are tugging at voters’ heart strings as way to garner more funding at a time of great economic uncertainty and as California struggles to balance its books.

Including principal and interest, Prop. 3 would cost about $2 billion over 30 years. At a joint hearing of the California Senate and Assembly health committees in early July regarding Prop. 3, the state Legislative Analyst’s Office (LAO) reported that because California “has a very low credit rating at this time -- pretty close to the bottom of the pack compared to other states,” it must pay a higher interest rate on the bonds it issues. The state currently services $53 billion in bonds. An additional $68 billion in authorized but unsold bonds are in the pipeline, according to David Vasche, the LAO’s director of economics, revenues, and taxation.

Prop. 3’s interest-related expenses are troubling for the Service Employees International Union, some of whose members work at children’s hospitals. “We have a serious question as to whether these hospitals deserve to be first in line for what is the most extravagant way of getting dollars to them,” Beth Capell, SEIU’s Sacramento lobbyist, told the Senate and Assembly health committees.

To finance infrastructure, the hospitals rely on operating margins, commercial loans, philanthropy, or a combination of these sources. They also are using the $750 million made available through Prop. 61, the bond measure that voters approved by a 58% margin in 2004. Prop. 3 is nearly identical to Prop. 61. According to the California Health Facilities Financing Authority, as of July 2008 the hospitals had used only about $403 million of the $750 million available through Prop. 61. Why do they need more money?

A primary reason, according to the hospitals, is the continuing squeeze on Medi-Cal reimbursements, which means they have little or no operating margins to apply toward infrastructure. The reimbursement situation could deteriorate in coming months. In a replay of previous state budget battles, a feature of this year’s impasse in Sacramento is a much-debated 10% cut in Medi-Cal spending, the second-largest general-fund expenditure.

A second reason children’s hospitals are seeking more grant funds is that planning, state approvals for, and construction of facilities take years to complete; the hospitals are projecting their budget needs well into the future. They expect to spend all of the $750 million, the availability of which expires in 2014.

Third, the hospitals say that passage of Prop. 3 is critical because, as a RAND study (Seismic Safety: Will California’s Hospitals Be Ready for the Next Big Quake? California HealthCare Foundation: January 2007) in 2007 revealed, the cost of building new hospital facilities has soared to about $1,000 per square foot in recent years. It has doubled since 2001 and is now more than three times the cost for new office structures. Expansion of the pediatric intensive care unit at UC Davis Children’s Hospital, funded in part by Prop. 61 funds, exemplifies this inflationary spiral. The new unit had an initial price tag of $19 million but will cost about $30 million by the time it is completed, according to Anthony Philipps, M.D., chair of the department of pediatrics at UC Davis Medical Center.

Testifying at the state hearing in July, Philipps also noted that children’s hospitals must modernize their facilities and purchase state-of-the-art patient care equipment to attract pediatric subspecialists from around the country and to train incoming doctors. Subspecialists are in “exceedingly high demand,” he said.

Finally, there is mounting pressure on hospital capacity as California’s pediatric population grows. The California Department of Finance estimates that the number of children will increase by 35% in the next two decades.

“We’ve had to delay -- sometimes for months -- elective surgery for some patients because there just wasn’t a bed to put them in after the surgery was over,” says Barbara Ryan, vice president for government affairs at 248-bed Rady Children’s Hospital in San Diego. Half of the nearly 143,000 sick or injured children treated there last year were on Medi-Cal. The hospital expects to spend about $66 million of the Prop. 61 funds on completing a 260,000-square-foot acute care wing, remodeling a patient care building that dates to 1954, refurbishing a hematology-oncology clinic, upgrading a helicopter pad for emergency airlifts, and purchasing diagnostic equipment. Gifts and commercial loans are providing additional funds for the new $260 million wing.

“When you are 50% Medi-Cal and the reimbursement is not adequate to cover costs, there’s absolutely no way you can put aside the money necessary to take care of infrastructure needs of all kinds -- and certainly not enough to be able to build a building that costs $260 million,” Ryan says.

Children’s hospitals point out that they play a critical inpatient and outpatient role in California. They provide 88% of all pediatric heart surgeries in the state, 97% of pediatric organ transplants, and 71% of pediatric cancer treatments -- services typically not available at general acute care hospitals. In addition, they house pediatric and neonatal intensive care units, and treat severely injured children. More than 1 million sick or injured children receive care at the 13 California children’s hospitals each year, regardless of their families’ ability to pay.

But the equipment, facilities, and staff -- including specialists and subspecialists such as pediatric gastroenterologists, nephrologists, and hematologists -- necessary to provide these services are expensive. On average, more than 50% of patients at children’s hospitals are enrolled in Medi-Cal, the state Medicaid program for low-income residents, and Medi-Cal reimbursements often do not cover the actual cost of care. The portion of Medi-Cal patients at Children’s Hospital Los Angeles and Children’s Hospital Central California in Madera is even higher -- 70%.

In addition, seismic upgrade deadlines are approaching in 2013 and 2030, when California hospitals must comply with the state’s stringent building standards for earthquake safety. Many of the hospitals will not be able to meet the seismic-upgrade deadlines, according to the 2007 RAND report. Those that don’t upgrade face the risk of closure. Children’s Hospital of Orange County exemplifies some of the pressures. Over the last ten years its average daily number of patients has increased from 65 to 165, a number that Dave Schinderle, vice president of finance, expects will reach 180 in the coming fiscal year. The hospital has used Prop. 61 grant funds to remodel and expand primary care and specialty clinics, build a 22-chair outpatient infusion center that opened in June, and improve its patient records. It was the first children’s hospital in California to adopt a full electronic health record system; such systems improve health care efficiency, effectiveness, and patient safety over the long term, although the up-front cost can be steep.

Schinderle also sees a number of other troubling trends that bode ill for the bottom line at his hospital. Among them are the closure of pediatric services at acute care hospitals in the Orange County region, which shifts a larger patient load onto children’s hospitals; a decline in philanthropy; and the high cost of borrowing.

“Debt options have become complex and very, very difficult because of the subprime mortgage mess that you read about in the paper every day,” Schinderle told the Senate and Assembly health committees. “Without the grant funds,” he added, “many projects like ours might not be possible.”

Aside from the specialty and subspecialty care they provide, children’s hospitals differ from other hospitals in that their services are regional rather than local. If a facility were to close, patients and their families would have to travel many miles to receive similar specialty care elsewhere.

No one predicts that any of the children’s hospitals would close if Prop. 3 failed. Instead, hospital officials foresee possible cutbacks in services and/or staff, or a diversion of resources from one or more services to others, as the facilities try to cope financially. They cite the recent turmoil at Children’s Hospital Oakland, a 191-bed facility where 67% of patients are on Medi-Cal, as an example of what could happen if funding doesn’t keep pace with demand. Voters in Oakland resoundingly defeated a $300 million parcel-tax measure in February that would have given the hospital a sorely needed cash infusion. Subsequently, on July 1, Children’s Hospital Oakland laid off 84 of about 2,600 employees, the same day California began imposing a 10% cut in Medi-Cal reimbursements.

“It’s a challenging time for pediatric health care providers,” Frank Tiedemann, the hospital’s president and CEO, said after the lay-offs were announced.

Prop. 3 qualified in May for the ballot after supporters gathered nearly 685,000 signatures, well more than the minimum 434,000 they needed. As in the months preceding Prop. 61 in 2004, an impetus for Prop. 3 was the Legislature’s indecision about allocating funds for children’s hospitals. Assemblymember Hector de la Torre (D-South Gate) sponsored unsuccessful legislation in 2007 that would have set aside $980 million for that purpose.

Since then, California’s fiscal situation has become more precarious as state revenues plunge in the wake of a severe economic downturn. A political deadlock over how best to close the budget gap, currently hovering at around $15 billion, has caused some nail-biting among officials at children’s hospitals who wonder what impact, if any, the wrangling and ultimate outcome will have on Prop. 3’s fate. Although they are hopeful that the measure’s focus on children’s health care needs will be persuasive, a Field Poll in the second week of July found that an increasing proportion of registered voters -- 68% -- considered the state budget deficit to be a “very serious problem.”

As of late July, the California Children’s Hospital Association had conducted three polls within the previous six months to gauge voters’ sentiment regarding Prop. 3. The ranges of support and opposition in these polls were 51% to 58% and 38% to 41%, respectively, according to Dooley, the association’s president and CEO.

A CCHA campaign to promote Prop. 3 in the months ahead will mirror the successful campaign four years ago for Prop. 61. The association is producing a TV commercial that again will feature actress Jamie Lee Curtis.

CCHA will also host a Web site, which is scheduled to go live earlier in the campaign season than in 2004, to accommodate California’s increasing number of absentee voters. Some individual children’s hospitals are planning local events, such as presentations by public speakers, to garner community support.

The principal opponents of Prop. 3 include Lewis K. Uhler, founder and president of the National Tax Limitation Committee, who held several state posts under former Gov. Ronald Reagan; Edward Costa, president of People’s Advocate, which was founded by Paul Gann, co-author of Prop. 13 in the late 1970s; and Assemblyman Ted Gaines (R-Roseville), a member of the state Banking and Finance, Health, and Labor and Employment committees. Other opponents include James V. Lacy, Director of American Conservative Union and Jon R. Leischman, Publisher of Flashreport.org.

As of mid-August, according to CCHA, about three dozen organizations, elected officials, and prominent individuals in the state had endorsed Prop. 3. They include the California Medical Association, the California Hospital Association, the American Academy of Pediatrics, the Children’s Defense Fund, the League of Women Voters of California, State Treasurer Bill Lockyer, U.S. Representative Jim Costa ( D-California), and Assembly Speaker Emeritus Fabian Núñez (D-Los Angeles), none of which endorsed Prop. 61. Gov. Arnold Schwarzenegger, who opposed but didn’t campaign against Prop. 61, has not announced his stance. Among influential organizations that have not yet officially taken a position on Prop. 3 are the California Association of Public Hospitals and Health Systems, the California Nurses Association, and the California Chamber of Commerce.

Some hospital groups, while sympathizing with the plight of children’s hospitals, may again be reluctant to enter the campaign fray, as they were in 2004, because many types of hospitals, not just those specializing in pediatric care, are feeling pinched and won’t reap any financial gain if Prop. 3 passes. Operating margins at more than half of California hospitals fell below the break-even point long ago, in 1999, according to an analysis published in the journal Health Affairs (Harrison, M.G., and Montalvo, C.C. “The Financial Health of California Hospitals: A Looming Crisis” Health Affairs 2002;21(1): 118–126).

Meanwhile, all eyes are turned to Sacramento as legislators struggle to reach a budget compromise.

Tom Riley, CEO of the Cal Capitol Group, a government and public relations consulting firm in Sacramento, worked on the pro-Prop. 61 campaign in 2004 when the state was facing a budget crisis. But the fiscal situation this year seems especially grim, he says, given the variety of ills on a number of economic fronts.

“It’s bad,” Riley says. “There are a lot of doom-and-gloomers out there.”

The outcome of budget deliberations, he believes, could affect Prop. 3’s fortunes. The big question is whether the impact will be positive or negative.