I’ve been researching the dialysis industry because Berkshire Hathaway owns DaVita (DVA), one of the largest dialysis providers in the US. However, I’m not quite sure why Berkshire Hathaway owns this stock. The for-profits are rarely rewarded for creating value while there are large financial rewards for unethical behaviour. Buffett has been vocal about not owning Lorillard (a tobacco company) so I don’t see why he would be ok with owning DaVita. It is possible that Buffett hasn’t researched the company much as Ted Weschler (probably) made the decision to buy it.
Historically, DaVita has been very rewarding for shareholders ever since Kent Thiry saved it from bankruptcy and turned it around. However, his integrity strikes me as questionable and I’m of the opinion that entrusting your money with unethical people is not a good idea.
The American Medicare system pays for most dialysis patients’ costs. There are a small number of patients whose costs are covered by private insurance. Dialysis clinics are able to charge private insurers significantly more than Medicare (somewhere around three times) as the private insurers have little choice in the matter. The industry generally loses a small amount of money (or breaks even) on its Medicare patients while it makes virtually all of its profits on privately-insured patients.
Currently, the private companies have little incentive to create value. If they improve the lives of Medicare patients, they will not be rewarded for it unless Medicare rules specifically reward it. Unfortunately, this rarely happens since Medicare has been burned by fraud so many times. The largest two companies (Fresenius and DaVita) are constantly under government investigation and have paid out large settlements in the past. It is difficult for Medicare to create rules that both (A) stops fraud that has happened in the past and (B) rewards good behaviour. Another factor is that some of the people creating Medicare rules have financial ties to the for-profit companies. They have incentives to create opportunities for private companies to make a profit.
The end result is that the for-profits primarily focus on a few areas to make money:
- Milking the private insurers. The for-profits will find ways to retain and acquire patients that are privately insured (DaVita used to refer to them as “hippers”). They may provide preferential service to hippers by giving them another patient’s chair if the hipper wants a particular time slot. A positive side effect of this practice is that clinics with multiple hippers tend to offer better service. As well, DaVita clinics tend to improve their quality if they face local competition over hippers.
- Cost cutting. e.g. Pay staff less money and make them handle more patients.
- Kickbacks and conflicts of interest. When DaVita sells a stake in their clinics to nephrologist groups, the kidney doctors will likely to refer their clients to a DaVita clinic (which is also their clinic). By working with Amgen, DaVita overprescribed EPO to its patients and was able to generate more Medicare revenues while enjoying special discounts on EPO due to the higher volume. This practice put its patients at risk as EPO is known to have serious side effects.
To be fair to DaVita, there are some areas where they may be creating value.
- Economies of scale. DaVita tends to pay less money for its supplies due to its negotiating leverage and its scale.
- DaVita has a high percentage of patients with fistulas. A surgically-created fistula leads to better patient outcomes and lowers costs slightly for DaVita (there are less complications and the patients can be setup for dialysis slightly faster). Other countries have fistula rates over 90% while the US fistula rate is somewhere over 60%. Nephrologists who own a stake in a dialysis clinic may have an incentive to encourage their patients to get a fistula.
- Lower staffing levels. One could argue that this is an “efficiency”.
- Anticipating the future and trying to create a business model for Nxstage and home dialysis. Home dialysis improves patients’ health and can save taxpayers money (less hospitalizations, lower costs than in-clinic as the patient or an unpaid helper acts as the lab technician, etc.).
On the other hand, DaVita has engaged in cost cutting that puts its patients at risk. It has paid settlements regarding its over-prescription of EPO and for violating conflict of interest laws (relating to kickbacks to groups of kidney doctors). In general, for-profit clinics often provide the bare minimum level of care (unless hippers are involved). Posters on ihatedialysis.com generally have an extremely strong preference for a not-for-profit clinic. The academic article “The effect of dialysis chains on mortality among patients receiving hemodialysis” finds that for-profit dialysis chains have higher mortality rates than not-for-profits.
Hypocrisy in care
The default treatment for dialysis patients is in-clinic dialysis three times a week. Most kidney doctors would not choose this method of treatment for themselves. They would likely opt for:
- A higher frequency of treatment. (This costs more money.)
- In-home treatment during the evening or while they are sleeping. This allows them to work during the day, avoid commute times to the clinic, etc.
- Longer treatment time. (This goes hand-in-hand with in-home treatment.) More dialysis is better. It improves patients’ health and quality of life dramatically. It allows people to work and to enjoy their lives instead of being physically drained by dialysis.
- Doctors would insert their own needles (self-cannulation). This saves time, arguably reduces complications (because the needle is less likely to miss), and patients who do this find it less painful. In the US, very few dialysis patients have been trained to do this.
- They would not reuse dialysis filters. (The academic article “Single-Use versus Reusable Dialyzers: The Known Unknowns” explains why.) “Reuse” is often seen as a cost-cutting measure. Not all clinics engage in reuse as the overall costs of single-use can be lower.
Overall, there is a big difference in the advice that kidney doctors give their patients and the choice of treatment they would choose for themselves. This is a sign that the current system is delivering sub-par care.
Some of these treatment options are a win-win situation (home dialysis, inserting your own needles, etc.). They save money and improve the lives of their patients. The current medical system has done a poor job at enabling these efficiencies.
Why is this system flawed?
I’m sure that this is a political subject and that there are many varying viewpoints on it. I’ll just give my brief opinion on it. The people who make the rules and the politicians have conflicts of interest. They often have financial ties to the medical industry (e.g. they receive money or other graft from the medical industry for consulting, business trips, employment, etc.).
Part of the reason may be cultural. Americans tend to be litigation-happy. This reduces the drive to innovate and to try anything other than the commonly-accepted standard. There is also the societal expectation that doctors should take care of patients. Many patients don’t want to take responsibility for their own health or medical treatment. There are many patients who don’t try in-home dialysis even though they are aware that it can improve their health and quality of life.
Outlook on DaVita
I think that DaVita’s core dialysis business won’t have that much more room to grow. Government regulators (rightfully so in my opinion) are beginning to limit DaVita’s ability to grow further as its larger size would cause concerns over competition. Dialysis patients often have little choice about their clinic since they have to commute there three times a week. DaVita understands this very well and takes many steps to create local monopolies (e.g. by buying groups of nephrologists and paying them to sign non-compete agreements). Competition is vital for keeping the for-profits’ cost-cutting in check. Because of the threat of competition (or actual competition), there are many DaVita clinics around that are run well and have satisfied patients. I believe that the FTC will have grounds to limit DaVita’s growth in kidney care.
However, Kent Thiry is a very smart guy and may find ways to make more money in related fields. The increase in DaVita’s share price has been phenomenal under his leadership. He may be able to continue that trend. (Some of this growth has been fueled by debt.)
Is DaVita’s CEO ethical?
- DaVita has been creatively putting its patients at risk and finding ways to bilk Medicare. It is an innovator in overprescribing EPO and in billing Medicare for intentionally wasted drugs.
- Publicly, Kent Thiry talks a lot about how DaVita has some of the best patient outcomes. This is a lie. DaVita is just as bad as the other for-profits in terms of mortality rates. He also talks about how DaVita is helping to save taxpayer dollars. Yet DaVita has actively engaged in gaming Medicare.
- Skimming over DaVita’s DEF 14A, I see that Thiry’s salary has growth faster than DaVita’s share price.
DaVita has an internal metric (DaVita Quality Index) for the well-being of its patients. The company uses this metric to claim that their patients are getting healthier thanks to DaVita’s care.
Unfortunately, DaVita employees often game these metrics. They can repeat tests until they get a better number. So, I don’t put much faith in their numbers.
The bottom line
The American medical system is often criticized for being extremely expensive for the level of care delivered. DaVita is part of the problem, not part of the solution.
Great business, terrible ethics.
Please consider organ donation
Kidney disease is a terrible thing to live with. Unfortunately, many people who would be happy to give away their organs don’t sign their organ donor cards!
The Strangest Show On Earth – An interesting magazine piece on Kent Thiry, his bizarre antics, and his critics. His company comes across as somewhat cult-like.
*Disclosure: No position in DaVita or Berkshire Hathaway.