By PAUL LEVY

Like moths to a flame, private equity investors are quick to pounce on those sectors of the economy that have the potential for higher than average returns. Such investors also have an appetite for the higher risk that accompanies those sectors. In this manner, private equity can serve a useful role in capital formation for the economy. It also helps money managers who want a portion of their portfolio to be in that part of the risk-reward spectrum.

Health care is a fertile field for private equity. You might not think so because of concern about rising costs, but as someone once said, “One person’s costs are another person’s income.” Let’s look at it this way. First, more people will have access to insurance to pay for diagnosis and treatment because they will be newly eligible for private insurance under the national health care reform law. Second, demographic changes in society are producing an ever-increasing demand for health care services. Longer lifespans and the aging population offer a growing number of people with cancer and the other diseases that are more likely to occur with age. The number of Medicare beneficiaries is projected to rise from 46.6 million today to 78 million in 2030. (It was 40 million in the year 2000.)

It is with this background that we should consider the growing interest by private equity in proton beam facilities. You have heard before about my real concern about the cost impact of rapid expansion of the number of such facilities.

I want to expand on that today and give you a sense of how the dollars work in this kind of investment. I have pointed out how the Medicare rate-setting process contributes to its profitability. Let’s look at this in very rough form.

First, the revenues. Let’s assume we have a facility that can serve about 1500 patients per year, with an average reimbursement of $50,000. We generate annual revenue of $75 million.

On the cost side, let’s say a new facility costs $125 million and is financed with 60% debt; is depreciated over 20 years; is in leased space; and has personnel and other expenses. Total expenses will be in the range of $30 million.

Net profit (pre-tax) is about $45 million per year. The private equity investors have put in about $50 million in cash. This starts to look pretty good.

That’s just one projection, and I am not privy to real pro forma’s so I might be a bit off track. This article has a more conservative view of the numbers. For now, ignore the variability in the assumptions. Instead, note this all-important introductory line from the article:

Proton beam therapy gets a 9% reimbursement increase for 2011. . . .With the new CMS payment level, reimbursement for simple treatments is now $1,031 (APC 664), up from $942 in 2010. More complex treatments are reimbursed at a rate of $1,349 (APC 667), up from $1,232 in 2010. Depending on the cancer, a protocol of 10 to 15 treatments may be required per patient.

You can understand why the moths are flocking! In an era of flat Medicare payments to hospitals and doctors, these payments are going up at three times the rate of inflation.

But now, compare these actions by CMS and the resultant private equity gold rush with important scientific and public policy concerns, set forth in a 2008 US News and World Report article:

But certain doctors—not to mention the occasional patient who has experienced side effects from proton therapy—wonder whether the high-tech allure of protons hasn’t outpaced the science. “Because of Internet buzz, the morbidity associated with proton beam therapy is underappreciated,” says Anthony Zietman, a radiation oncologist at Mass General who specializes in prostate cancer. Many of his patients, he says, are surprised to learn that proton beam therapy exposes the bladder and rectum to high doses of radiation and does, in fact, carry a significant risk of causing impotence. Although preliminary research has suggested protons may be superior to conventional radiation for prostate cancer, there’s a lack of randomized studies (the type doctors consider most rigorous) comparing the two—and standard radiation techniques are improving all the time.

…The lingering questions about prostate cancer are helping to fuel a debate over the location of new proton beam centers and the pace of expansion. Experts who believe prostate cancer should be widely treated estimate there could be a need for scores of new centers. Others contend that five to 10 evenly distributed academic research centers could better serve the rare patients who most need protons—and help determine whether the therapy should be extensively used to treat prostate and other common tumors.

We never learn when it comes to health care. Old patterns repeat. A new technology is invented. Sure, it has some good therapeutic effects for some patients; but it really takes off when marketeers or investors prey on people’s fear of disease to suggest that it should be available to everybody in their backyard. A new bolus of costs is then added to the system without proper evaluation.

It feels like the last line from The Great Gatsby:

So we beat on, boats against the current, borne back ceaselessly into the past.

Here’s the deal, though. If you believe that there is some overall, sustainable level of health care expenditures for a country, every dollar that goes into expanding the number of facilities like these proton beam machines is one less dollar for primary care, cognitive specialists, palliative care, and the like. If we permit the “rule of rescue” to drive our health care expenditures, we will never focus on the most cost-effective and compassionate aspects of the care delivery system.

Some of my best friends work in private equity. But I don’t trust them to make the right decisions for our health care system. I would like to think I could trust CMS, but it appears to have become complicit in the medical arms race. Other parts of government remain silent as this occurs.

In 1961, President Eisenhower said:

This conjunction of an immense military establishment and a large arms industry is new in the American experience. The total influence — economic, political, even spiritual — is felt in every city, every statehouse, every office of the federal government. We recognize the imperative need for this development. Yet we must not fail to comprehend its grave implications. Our toil, resources and livelihood are all involved; so is the very structure of our society. In the councils of government, we must guard against the acquisition of unwarranted influence, whether sought or unsought, by the military-industrial complex.

Change a few words and see if this doesn’t describe many aspects of our health care system, fifty years later.

Paul Levy is the former President and CEO of Beth Israel Deconess Medical Center in Boston. For the past five years he blogged about his experiences in an online journal, Running a Hospital. He now writes as an advocate for patient-centered care, eliminating preventable harm, transparency of clinical outcomes, and front-line driven process improvement at Not Running a Hospital.