Sutter's Giant Sucking Sound

Sutter Health, which owns one of California's largest hospital empires, is a nonprofit, tax-exempt charity. Critics wonder why Sutter dispenses so little charity, and vacuums so much profit, from the hospitals it acquires.

The following month, Sutter had to make good on its guarantee and pay off the $3.5 million loan from Wells Fargo.

The lab emerged from bankruptcy in October 1997 (after paying the government $2 million to settle a Medicare fraud claim). A New Jersey company purchased 53 percent of Physician's Clinical Lab for $15 million. For its total $5.5 million investment, Sutter wound up with a bunch of stock in a bankrupt company; the stock was worth about 14 cents on the dollar. That's not to mention the more than $186,000 in bills that were left owing to Sutter's hospitals.

The official Sutter explanation for the extremely unusual loan guarantee amounts, essentially, to a plea of financial stupidity.

"We were hopeful at the time that a buyer would come forward and that we wouldn't be required to make that last investment," says Sutter's Gleason. "Hindsight is always 20-20. We had confidence that the company would rebound. That obviously didn't happen."

It's not against the law to make a bad business deal, unless it represents such a significant loss and such a flouting of ordinary prudence that Sutter directors could be considered to have breached their fiduciary duties to protect the nonprofit corporation's assets. And strangely enough, Sutter is so big that a $3.5 million bad loan does not likely qualify as "significant."

The transaction does, however, leave critics scratching their heads. They wonder why Sutter would risk millions for the benefit of a sinking public company. And they wonder whether the loan guarantee had anything to do with PCL stock options held by directors who sat on the boards of both the nonprofit Sutter and the for-profit PCL.

It is also legal for a nonprofit organization that exists to "enhance the health and well-being" of a community in California to have subsidiaries in the Cayman Islands. Whether what's legal can be said to be reasonable is another issue entirely.

According to IRS filings, Sutter and three of its nonprofit affiliates collectively own Northern California Indemnity Ltd., a firm that provides liability insurance to some of Sutter's hospitals. In 1996, the company, which gives its address as a post office box in Grand Cayman, Cayman Islands, listed assets of $9.6 million. Its board members include Sutter VP Gary Loveridge, Chief Financial Officer Robert Reed, Marin General Hospital CEO Henry Buhrmann, and that hospital's chief financial officer, John Martin.

Sutter spokesman Bill Gleason explains Sutter's use of an offshore financial haven this way: "This locale gives the organization more flexibility in tailoring the product to fit the need of the owner."

In fact, along with Bermuda, the Cayman Islands is a favorite tax haven for offshore investment, especially insurance companies. Gleason says that Sutter has saved about $1 million in liability premiums by insuring itself in the Caymans, where regulations are more favorable to the company. But just because maintaining an insurance company in the Cayman Islands is good for Sutter doesn't necessarily mean that arrangement is good for Sutter's patients. The state and federal insurance regulations that Sutter avoids by creating an offshore insurance company were designed for a reason -- to protect consumers who might be trying to collect in a case of malpractice or other malfeasance.

One reason the Cayman Islands are a popular home for certain kinds of corporations centers on the country's laws and cultural penchant for corporate secrecy. Corporations doing business in the Cayman Islands are required to disclose virtually no information about ownership or financial status. It is no accident that drug-money launderers and (for example) the shadowy figures who ran the Iran-Contra Affair would use companies and banks nestled in the absolute secrecy of the Caymans. But critics ask why a nonprofit like Sutter Health would seek -- or need -- that kind of secrecy.

There are few regulations that deal directly with the details of the business activities of nonprofit organizations like Sutter. Most of the regulations that do exist are aimed at curbing lavish excess among organization leaders.

The question, of course, always comes down to this: What is excess? The government relies on vague measures like "appropriate for the responsibilities of the position" and "industry standard" to determine if a director or executive is looting a nonprofit corporation that enjoys tax-exempt status. Sutter and other medical nonprofits argue that executive pay packages are in line with industry standards, and that they must offer the stratospheric salaries their for-profit competitors often pay, or lose the race to attract quality administrators.

As Elliot Brilliant, an Ernst & Young accountant who works on Sutter's finances, told a legislative committee in December: "The problem in comparing nonprofit and for-profit compensation is that there are no stock options in a nonprofit. You don't want to offer someone $50,000 a year to run a $2 billion company. You won't get the right man for the job."

But, as one of the largest health care players in the region, Sutter helps to set the market for executive pay. And it is clear, at least, that Sutter executives are compensated at a level that could reasonably be seen as out of line with a public service mission.

Sutter Health CEO Van Johnson makes $830,000 a year in annual salary and other compensation. Henry Buhrmann, head of the formerly public Marin General, made nearly $500,000 in total compensation in 1996.

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