Healthcare Pt. 2: Show Me The Incentive
"Show me the incentive, and I'll show you the outcome."
— Charlie Munger
The truth about the runaway costs of healthcare turns out to be a little more complex than any single source we've named. Hospitals, insurers, private equity, administrators, pharmaceutical companies… pull the thread on any one and we land in the same overextended, bloated, extractive system.
Nobody in this system gets paid more for making us both healthier and cheaper to treat. We are living with a $5.3 trillion industry whose incentive is to increase revenue instead of preventing illness while reducing cost.
For a widening slice of Americans, healthcare is a source of financial stress. As we discussed last week, 48% of working-age adults have gone without needed care because of cost. That means a prescription left unfilled, a test postponed, a specialist never seen.
The problem, as I see it, is misaligned incentives, deeply entrenched special interests, and a system that often ignores stakeholders (as in patients and payors).
Show Me The Money
One of the clearest examples of how misaligned incentives work is what happens when a hospital or nursing home sells the real estate it operates out of. An investor (often a REIT) buys the real estate and leases it back to the operating company. The valuation of the real estate often has less to do with the actual land and buildings, and more to do with the value of the operating licenses and permits. And the lease amount is tied to what the REIT paid to purchase the property, not to what the facility can afford to pay.
Say you own a nursing home built in the 1980’s. What’s the building worth? Picture a building that looks similar to a college dorm (not a fancy new one–more like the boxes you and I lived in at one point, many decades ago). There are long, straight hallways with single rooms on each side. They have a bathroom and a closet, but nothing else. I suppose the building could be converted into a studio apartment complex. Other than that, there aren’t many uses.
In other words, the building isn’t worth much outside of being a nursing home. Yet, you could probably get a healthcare REIT to give you around $10 million for the real estate. If you have a mortgage, that gets paid off in the sale and comes out of your proceeds. What’s left is yours, to do with what you wish. There is often no restriction on this type of transaction, and no requirement that the funds be put back into the operation. It is a cash-out financing. And this attracts the financial engineers.
Sale-leasebacks often do nothing good for patient outcomes or reducing the cost of care. In Illinois researchers tracked 83 nursing-home real estate transactions over two decades. After the facilities sold their properties and leased them back from companies under common ownership, real estate spending rose $1,744 per bed per year — 42% — while roughly $32,827 per bed of asset value got shifted off the nursing homes' balance sheets.[1]
Private equity takes it a step further. A nationwide study covering 4.2 million Medicare patients and roughly 12,400 for-profit nursing homes found that 1,674 facilities were acquired by PE firms across 128 deals. Buyouts brought more debt, higher interest payments, new fees, and sometimes real estate sales that turned property into cash while leaving the nursing home with rent. Interest payments rose 224%, and researchers found an 11% increase in mortality, even as PE-owned facilities admitted lower-risk patients, amounting to roughly 22,500 additional deaths over twelve years.[2]
Another example is when private equity firm Carlyle bought nursing home chain HCR ManorCare for $6.3 billion, mostly with debt. Four years later, it sold the underlying real estate for $6.1 billion, leaving ManorCare paying rent on buildings it used to own. By 2018, to no surprise, the nursing home entity was bankrupt.[3]
And sometimes you don't have to cut anything at all. Just change how the exact same service gets billed. A hospital buys a physician practice, and suddenly their services are considered “hospital outpatient,” and Medicare's payment for a lumbar epidural injection jumps from $255.89 to $740.88. [4]
The financial engineering in health care keeps getting more sophisticated. My friend Jared Dillian runs a website called Short Private Equity. On it, he cites an investigation that found more than 500 joint ventures between private equity-backed companies and nonprofit healthcare providers. Instead of buying the nonprofit outright, a PE-backed company can “partner” with it. Leaving the nonprofit name and structure in place while taking a major economic stake in the business.
For example, Duke LifePoint Healthcare. Duke's name comes first. But PE-backed LifePoint owns 97% of the venture. In other words, private equity doesn't necessarily have to buy the nonprofit to get most of the economics. Here’s how they do it.
You might think there's nothing nefarious about it, but equity groups typically don’t show up out of altruism. Many states are concerned enough that they're writing laws specifically aimed at limiting private equity's role in healthcare.
Regulators Can’t Keep Up
Lawmakers are erecting guardrails on private equity across the economy — with healthcare a particular focus.
Massachusetts had a reason to move. Private equity firm Cerberus bought six nonprofit Catholic hospitals in Boston for $246 million in 2010 and renamed the chain Steward.[5] In 2016, Steward sold its hospital real estate to Medical Properties Trust for $1.25 billion and leased the buildings back. The deal returned Cerberus’s original investment, while leaving Steward paying rent on buildings it once owned. Cerberus ultimately exited Steward in 2021 with roughly $800 million in profit.
Steward filed for bankruptcy in May 2024 with more than $9 billion in liabilities. Roughly eight months later the state barred acute care hospitals from leasing their main campus from a REIT.[6]
I could keep going. About a dozen states have now enacted laws aimed specifically at private equity in healthcare, and roughly as many more have bills in motion.
They can ban sale-leaseback transactions. They can require disclosures and reviews before an acquisition. But the financial engineers are always going to be three steps ahead of the regulators. And the multitude of other perverse incentives remain.
All of which is to say private equity is a clear symptom. As long as there's money to be made off a system that doesn't reward keeping people healthy and cheap to treat, somebody will find the trade, and when a state closes one door, they'll find the next one.
So What’s the Fix?
The pharmaceutical and health products industry is consistently named as a top spender of lobbying dollars in the US. So are insurance companies and health care providers (nursing homes and hospitals). They have your representatives’ ears. This, plus the incredible complexity and size of our healthcare system, make it unfixable as it is.
But there’s hope. The “fix” is to move as much healthcare as possible outside of the current broken system. Technology will play a big part. Changing behaviors and outright circumventing of the existing system could also drive down costs.
The good news, is slowly, it’s starting to happen. The CT scan that screens for lung cancer is covered with no co-pay and no deductible for anyone eligible, yet fewer than one in five eligible adults have had one.[7][8] Colon cancer caught late can cost several times more to treat than when it's caught early.[9] Smartwatches are detecting otherwise silent heart problems; in one recent randomized trial of adults 65 and older at elevated stroke risk, they detected new atrial fibrillation at more than four times the rate of standard care.[10] And AI is beginning to translate the lab and pathology reports sitting in patient portals into language ordinary people can actually understand.[11] AI won’t replace doctors or radiologists – it will help clear the backlog and boost efficiency, which will bring down costs.
The state of Connecticut learned decades ago, the way to get the cost of nursing home care down is to keep people from going into nursing homes. In 2004, CT had 29,801 nursing home beds. As of a year ago, bed count is at 22,173—a reduction of 26%. Believe me, my home state didn’t get any younger over the past twenty years. If anything, the average age is higher today.
Incentives were put in place to keep folks in their own homes longer, with home-based healthcare and earlier interventions, which is a lot cheaper than institutional care. Now, CT is not exactly a bastion of forward-thinking government innovation. Their Medicaid expense was causing a state-wide budget crisis.
They had to make a change. And here’s the hard part, that they got (mostly) right: instead of trying to keep all stake holders whole and bail out operators and REITs, several facilities were allowed to go bankrupt and were closed.
My broader point here is, as behaviors change, and as new technologies in healthcare reduce the need for the legacy healthcare system… let things run their course. Let the bankruptcy system do its thing.
We will always need hospitals, and perhaps insurance companies, but do we need as many as we have today, if technology improves healthcare outcomes and delays (or prevents) the need for critical care? If we try to keep all stakeholders whole, we’ll never get the costs down. That means some investors will feel some pain.
To be clear, I'm not rooting for hospitals to close, especially in rural areas where the nearest ER may already be an hour away. The goal is to build better, cheaper alternatives that make some of the old capacity unnecessary, not eliminate capacity before there's something better to replace it.
Doing this will be difficult, but far easier than trying to shift the beast to something like a single payor system.
In the meantime, we can and should fine tune the system. Get incentives in line with the goals of healthier patients and lower cost.
I once heard Kyle Bass present on the need to get US pharmaceutical costs down. He said pharma companies were abusing loopholes in the patent system to extend the life of their drug patents, which prevents competition. Someone in the audience said, “but their margins will go down.” After Kyle stopped laughing, he said, “cry me a river.”
We can streamline the medical billing process in this country. We can even change the incentives for insurance companies to be more aligned with patient outcomes, if politicians grow a spine, but to really get costs down and “fix” the problem, we need to encourage Schumpeter’s creative destruction. Bring down roadblocks to innovation. Embrace AI’s contributions to diagnosis. Reduce costs tied to drug development, and maybe join the rest of the world in negotiating drug costs. And strive for cures vs. treatments.
That’s the only potential path to improvement I see for healthcare.
Where This Leaves Us
Cheaper tests, better technology, and more accessible information can start to change that equation. And they may have to. A middle class watching housing, education, and healthcare outrun what it earns doesn't simply absorb the difference forever. Eventually, something gives. I think we are seeing the start of that in today’s early primary results.
We’ll dig into the ramifications of all of this further next week. In the meantime,
Let me know what you think — reply to this note or drop a comment.
Thanks for reading!
Ed D’Agostino
Partner & COO
[1] https://www.nber.org/papers/w32258
[2] https://www.nber.org/papers/w28474
[3] https://www.bostonglobe.com/2026/07/30/business/steward-health-care-cerberus/
[4] https://www.medpac.gov/documents/reports/june-2023-report-to-the-congress-on-medicare-payment-policy.pdf
[5] https://app.leg.wa.gov/billsummary?BillNumber=2548&Year=2026
[6] https://www.reuters.com/business/healthcare-pharmaceuticals/bankrupt-steward-health-puts-its-hospitals-up-sale-discloses-9-bln-debt-2024-05-07/
[7] https://www.uspreventiveservicestaskforce.org/uspstf/about-uspstf/methods-and-processes/procedure-manual/procedure-manual-appendix-i
[8] https://pressroom.cancer.org/2025-lung-cancer-data
[9] https://www.tandfonline.com/doi/full/10.1080/03007995.2022.2047536
[10] https://pubmed.ncbi.nlm.nih.gov/41569211/
[11] https://pathology.duke.edu/news/patient-friendly-pathology-reports-transform-patients-access-information
Ed D’Agostino
Publisher & COO
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Pharmaceutical advertising is a huge cost factor. The laxing of the FDA in 1997 on advertising is largely responsible for the cost of drugs. The United States is the only country that allows direct-to-consumer advertising of prescription drugs.
Thank goodness I live in the UK and I don't often say that! Our National Health Service (NHS) is far from perfect but no one is bankrupted by getting seriously ill. There are chronic inefficiencies in a state run service and an aging population is going to force significant change but healthcare is one of the few things I do not envy the USA for and I have a son who has lived and worked in Dallas for over 10 years, hence my interest in this article. We have private healthcare as well which is great for 'run of the mill' illnesses, but as a doctor friend recently said to me, "if you are ever seriously ill, go straight to an NHS hospital and make sure you do not rely on your private healthcare".
Recently started using a CPAP machine. Should have done it years ago but found the whole process ridiculous. First the $600 sleep "study" that confirmed what my watch (and my bladder at 2:00am) was already telling me. Then the trip to the doctor to read the anaysis I already figued out. Then going to the CPAP machine dealer to buy it ($450 out of pocket but at least the insurance company was kind enough to negotiate a lower price for me!). Oh, and after all this still haven't met my annual deductible. For something that should cost $99 at Walmart or $149.99 at Costco.
Yea, but still now I'm sleeping better than I have ever, and not getting up 3 times a night to pee. If you've got sleep apnea get one ASAP.
I think the fix is to remove employers from the system. Make people buy their own insurance. Your boss doesn't pay for your car insurance -even though your transporation to and from work are arguably more important than your health- so why is it required? How about a law that says if an employee ops out of company provided insurance they get the cash equivelent. Then they go shopping for thier own coverage, which would likely look more like car comprehensive policies. No insurance company pays for oil changes, but they will cover repairs and catastrophes. They'd be more likely to keep their policy over much longer periods. And if getting me in to get a CPAP machine prevents a catastrophe, maybe they'll be a little more eager to just cover it to prevent something much worse later. Dead customers don't pay for health insurace.
I don't normally read the comments before writing my own, but did here and recognize very legitimate and thoughtful contributions to the conversation and this search for better medical care and lower costs in our incentive mis-alighned country. My impression of your article is very positive. We all love the idea of single payer system and in years past being in England, for instance, and having an injury and going to the doctor, getting fixed and wanting to pay because you're so grateful, and having the surgeon say it's way too much trouble to bill you, seemed like a altruistic wonderful caring medical system. But the fact is the problems in single payor are legion as that and other systems have run along and mostly down. Wow. It's a mess everywhere and it's alarming that the charts and graphs show that our outcomes are in so many respects among the worse. Bottom line (feedback here on your article), I experience your writing as very sensible, carefully constructed, warm hearted and sincere, fully informed, and I agree overall with your conclusions. Sure you're optimistic about the contributons innovation and AI etc can and we hope will make. I'm glad you are. Let creative distruction take it's toll on the instituions that need to fail. New growth over time. That's the way forward. Looking forward to next weeks installment on the American political mid-terms and beyond. Thanks.
Where to start?
Probably in the 1930's with a Rhode Island politician named Fogarty who realized promising healthcare bought votes.
Then make healthcare a non taxable benefit. And, finally, call it "insurance" but don't treat it that way. There is no requirement to maintain your own health.
Next, create a billing system that neither the provider, the doctor, nor the insured, the patient, know , or care, what the cost is. Thirty years ago Washington ordered the hospitals to publish the costs of their common procedures. There was a great outcry from the doctors when they saw the cost of the test they ordered. The list disappeared shortly thereafter.
I started practice in 1969, when Medicare was starting out. For my first year or two patients asked me what the cost would be. I cannot remember a single patient asking that question since.
Which pending crisis will first bring the country to its knees? Social Security or Healthcare?
Great article
i didnt see anything about health insurance companies who charge 18-20% of premiums for administration. most other countries do not have multiple health insurance providers with in some cases near monopolies. so take them out by having say 3-5 large national network adminstrations. take out the pharmacy care companies with a national drug pricing mfn. and costs go down by 15 % over night. the fragmentation gives all the entities the right to steal under the guise of providng “competition”. we already have the administration mechanism. its called medicare. farm out or create a public private backbone and the costs go down immediately.
any bets on this ever happening. the insurance companies et al have 1.7 trillion a year to bet against you.
The top seven major U.S. health insurance conglomerates collected nearly $1.7 trillion in total revenue and generated over $54 billion in profits. Driven by government subsidies, rising commercial premiums, and market consolidation, total revenues for the largest groups have more than tripled over the past decade
Ed, the best advice I can give is: "Read your own research".
You start out by saying while the system as a whole is a mess, there are some great innovations. You point out the reduction in cost of certain treatments, such as cataracts surgery. And you are correct in that despite these recent innovations, costs continue to skyrocket.
You then get into the meat of the drivers. You cite hospitals charging more because they can. Insurance companies doing the same. Private equity extracting all the value they can out of properties.
That can all be boiled down to the same basic driver: The Profit Motive.
Then at the end, you cite the cure as "innovations". Ed....you started out with innovations. If those didn't stop price increases before, why would they in the future?
There's only one health care system in the world with these problems- the one controlled by for-profit corporations.
The solution is a single payer system. Every other western civilization in the world has come to this conclusion. It's the correct one.
These numbers from the Peterson Foundation tell the story...
Thanks for the article. It makes some valid and important points. However, as written, it can potentially leave the uninitiated reader with the impression that all P.E. is bad.
We know that many fledgling companies cannot get the funding that they need from institutional markets. P.E. is often the only recourse that many have to growing their business.
Yes, there are abuses as this article points out, and we need better ways of controlling such, but let's maintain a balanced perspective on what free financial markets and P.E. can do for us.