Hospital breakup spills into court

Just before Christmas in 2005, Tufts-New England Medical Center chief executive Ellen Zane was in her office, reviewing reports that detailed the hospital's financial challenges.

That's when Zane made a critical decision: She would stop a $1.83 million payment due the following week as part of an agreement with Lifespan Corp., the Rhode Island hospital group that owned Tufts-New England from 1997 to 2002. The reports had convinced her that many of the hospital's problems were the result of Lifespan's mismanagement.

Zane, who had come to the Boston teaching hospital about two years earlier, marched into the office of Jeffrey A. Weinstein , the hospital's general counsel, and told him to call his counterpart at Lifespan, Kenneth Arnold.

"Tell him the money isn't coming," she said.

The battle between New England Medical Center and Lifespan was on.

"At that point," Zane recalled recently, "it was a matter of who's going to sue whom first."

When New England Medical Center agreed to merge with Lifespan in 1997, the deal was seen as a smart way to preserve the best features of Boston's oldest teaching hospital while helping it prosper in an increasingly competitive healthcare market.

"We never envisioned that something as great as this would occur," said Dr. Thomas O'Donnell Jr. , the hospital's chief executive, at the time of the merger.

Now, the dispute between the organizations has spilled into the courts. Lifespan sued the hospital for two missed payments totaling $3.66 million, charging breach of contract. Earlier this year, the hospital responded, claiming Lifespan ignored its oversight responsibilities, paid itself $166 million over five years, and drained the hospital's $40 million reserves to burnish poor financial results. It wants Lifespan to repay its losses from the merger and disgorge profits earned from "wrongful diversion" of assets.

The hospital said it lost an average of $30 million annually when it was part of the Rhode Island group, and operating losses continued for two more years after the break up. Since then, it has recovered, posting an operating profit of $6.8 million in fiscal year 2005, and $2.3 million in the first six months of fiscal year 2006, according to state fil ings.

But talks to settle the lawsuit have failed, Arnold said. They were never about how much Lifespan owed the hospital, he said, but "how much they owed us."

The medical center, founded in 1796, is the teaching hospital for Tufts Medical School. The not-for-profit Lifespan system, founded in 1994, is based in Providence and includes three teaching hospitals.

If the suit goes to trial, it would be the final chapter in a tale of corporate courtship that moved quickly from a whirlwind romance to disillusionment and divorce.

In 1996, New England Medical Center was one of Boston's weaker hospitals. It had gone through a major expansion that left it with $240 million in debt. It was also the only major independent teaching hospital after a flurry of mergers created Partners HealthCare, a network of Harvard teaching hospitals, and Caregroup, which included Beth Israel Deaconess Medical Center and five other hospitals.

New England Medical Center's search for a partner was played out in public. For months, talks with Columbia/HCA Health Care Corp., a for-profit hospital chain in Nashville, made headlines. Lifespan became involved late in the search, but ultimately prevailed. Both organizations were ecstatic when the deal was finalized. At a Jan. 15, 1997, press conference, William Kreykes , chief executive of Lifespan, gave New England Medical Center chairman George W. Carmany III a gift basket of Rhode Island delicacies as a token of the new relationship.

Less than five years later, however, the hospital said it would break away from Lifespan. In return for its freedom, the hospital agreed to make payments totaling $30 million. Both sides said the split was amicable.

Today, neither party is acting amicably.

In its court filing, Lifespan included a Dec. 4, 2002, letter in which the hospital "unconditionally" guaranteed the payments, which were to end with $1.83 million due on both Jan. 2, 2006, and Jan. 2 of this year.

In its counterclaim, the hospital alleges the affiliation was disastrous. Because of "willful misconduct" or "gross negligence," it said, Lifespan mismanaged the hospital, resulting in "substantial losses."

Zane said she noticed financial problems attributable to Lifespan immediately upon her arrival in January 2004. For example, she found that New England Medical Center's contracts with health plans paid it less than what other hospitals received. The contracts also hadn't been renewed during the life of the affiliation, she said. As a result, doctors were leaving for hospitals that paid more, sending New England Medical Center into a "tailspin," said Zane.

She said she also noted that the hospital was paying its bills in an average of 32 days while it took about 84 days to collect payments. That created cash flow problems.

During the five years the institutions were linked, she said, Lifespan channeled the hospital's financial reserves into its earnings reports to falsely enhance Lifespan's performance. The reserves, about $40 million at the time of the merger, dwindled to $2.5 million by the time of the split, Zane said.

"They took this hospital's charitable assets and threw them under a bus," she said. "When I found out how bad things were, I was so furious I had sleepless nights."

The hospital's losses because of Lifespan made its subsequent climb to financial recovery longer and harder, Zane said.

Lifespan officials counter that New England Medical Center experienced 7.7 percent annual growth in patient services revenue during the five years ending Sept. 30, 2002, while patient days grew by an average of 2.8 percent a year during the same period.

Lifespan declined to comment on the specifics cited by Zane and the hospital's lawsuit, but called the claims "groundless and without merit." Arnold, the Lifespan attorney, also said New England Medical Center officials were intimately involved in running the hospital while it was part of Lifespan.

Lifespan was "the parent and they were in charge," Zane insisted.

In the months before the merger was finalized in October 1997, hospital officials lamented their inability to strike a deal with Harvard Pilgrim Health Plan, one of the state's largest health insurers. Lifespan, which had a significant relationship with Harvard Pilgrim, helped negotiate an agreement that gave New England Medical Center access to Harvard Pilgrim patients.

Lifespan officials this week said negotiating that contract was a prerequisite of the original merger, and was worth $20 million a year to the hospital.

Zane scoffed at the notion.

"It was the world's crappiest contract," she said.

Jeffrey Krasner can be reached at krasner@globe.com.