While private players are keenly entering this "social" infrastructure sector, innovative measures are needed to improve financial performance.

The last decade has seen a significant increase in private sector participation in healthcare delivery. Existing players such as Apollo, Wockhardt, Manipal, Care Hospitals and Narayan Hrudalaya have expanded aggressively.

New players such as Fortis, Max, Sterling, Global Hospitals, AMRI, Ruby Hall and Reliance [Get Quote] ADAG have entered the sector with plans to establish national and regional presence. International players such as Elbit, Columbia Asia and Parkway have also entered India with plans of establishing a network of hospitals.

These corporate players together operate around 25,000 beds across the country. Healthcare providers have also attracted investments from private equity players such as IDFC [Get Quote], Apax Partners, Actis, Indivision, ICICI [Get Quote] Ventures, and Trinity Capital.

My colleague Monika Sood is an acknowledged thought-leader and strategist in the healthcare space. Over a long fireside-chat, she explained to me the dynamics of the private healthcare market.

Healthcare delivery can be segmented into primary, secondary and tertiary care. Primary care constitutes treatment on an out-patient basis. Secondary care refers to hospitalisation for "non-critical" ailments. Tertiary care relates to treatment of critical ailments and requires high-tech and expensive facilities and equipment.

As of now the corporate sector is focused on tertiary care. The opportunity exists because of the lack of adequate facilities, high investment requirement (which becomes an entry barrier for smaller players), higher revenue realisation per patient, less competition from doctor-entrepreneur led facilities as well as an ability to differentiate product offerings.

Five key factors are currently driving private participation in "for profit" healthcare delivery.

Increasing population base - Population growth of 1.7 per cent per annum for the next five years will result in a need for approximately 30,000 new beds every year.

Increasing income - The number of households with income greater than Rs 2,00,000 per annum is likely to increase from 95 million (8 per cent of population) to 404 million (32 per cent  of population) by 2015.

Rising insurance penetration - Private medical insurance penetration has increased from 0.4 per cent of population in 2001 to 1.5 per cent of population in 2006.

Increasing incidence of "lifestyle" diseases - Cardiac ailments, diabetes, and the like result in an increased requirement of tertiary care beds.

Increase in the number of senior citizens - Driven by higher life expectancy, from 59 to 63 in the last decade, senior citizens (around 4 per cent of population) constitute around 20 per cent of in-patients at hospitals.

The above drivers are likely to result in an annual increase of 10-12 per cent in the size of the healthcare delivery market over the next five years.

However the financial performance of players has not been very encouraging. Average operating margins have been less than 18 per cent (and declining), and Return On Capital Employed has been less than 15 per cent. This is a key area of concern.

This rather lacklustre financial performance has been due to:

High capital expenditure per bed: Capital expenditure of Rs 50-75 lakh (Rs 5-7.5 million) per bed for tertiary care and Rs. 25-30 lakh (Rs 2.5-3 million) for secondary care, is essentially driven by high cost of land as well as high cost of medical equipment.

Given the importance of location while establishing a new facility, providers are forced to pay a high cost for acquiring land especially in the metros and Tier I cities.

Medical equipment typically comprises 30-40 per cent of project cost. State-of-the art medical equipment is being deployed to attract "star" physicians as well as being used as a marketing tool. Given the large share of imported equipment, providers have to pay dollar prices on par with international players thus increasing capital costs.

Increasing customer expectations have also resulted in an increased spend on hospital interiors and services.

Ongoing capital expenditure: Significant investment is required on an ongoing basis given the high obsolescence of medical equipment.

Limitations on revenue realisation per bed-night: Revenue realisation per bed-night has been limited by increasing competition especially in metros and Tier I cities. For example, the average price increase in competitive markets over the last five years has been only around 5 per cent per annum.

The large share (greater than 40 per cent) of secondary care patients at most tertiary care hospitals also results in low realisation per bed-night. Thus, while the facility has been created for tertiary care (high capex), it is being sub-optimally utilised to offer secondary care (low realisation).

Increasing share of bulk buyers (insurance, corporates etc.) also limits the ability to increase realisation significantly. The limited size of the population that can afford high-end tertiary care also restricts revenue growth.

Increasing operating costs: While most players in competitive markets have not been able to increase prices significantly, their operating costs have gone up disproportionately. This increase has been driven essentially by increasing human resource costs due to a shortage of trained personnel and increasing competition for talent.

At a key tertiary care hospital in Delhi while the revenue has increased by 5 per cent per annum over the last five years, personnel costs have increased by 14 per cent per annum. High costs associated with attracting and retaining "star" physicians (since they continue to be key drivers of patient volumes) have resulted in high fixed operating costs, especially for new players.

High costs incurred on marketing the facility over and above developing a referral network have also increased operating costs for most players.

High gestation period: High fixed operating costs and slow build-up of occupancy results in operating losses in the first few years. Patients have shown a preference for established facilities and physicians and are reluctant to try new facilities especially for critical ailments, thus increasing the gestation period for a new facility.

High capital expenditure, constrained revenue realisation per bed-night and increasing operating costs have resulted in shrinking operating margins (average range 10-18 per cent) and low asset turnover ratios.

Clearly, innovative measures are the order of the day to improve financial performance. Such measures would include:

• Better planning at the time of conceptualisation: Reducing capital expenditure through innovative hospital design, "optimal" selection of medical equipment, phased rollout, right choice of location, specialty-mix etc.
• Leveraging scale to reduce procurement price - for capital equipment as well as consumables.
• Having the "right" doctor engagement model and building an "institutional" brand.
• Focus on untapped opportunities - geographic locations as well as undeserved segments.

The burgeoning Indian market, if handled smartly, offers a challenging opportunity for value creation.

Healthcare, then, would definitely turn out to be a healthy business!

The author is the Chairman of Feedback Ventures. He is also the Chairman of CII's National Council on Infrastructure. The views expressed here are personal