Chief financial officers of large integrated delivery systems are managing a risky passage from fee-for-service to capitation.
The capitation movement represents the greatest transformation in hospital finance since 1983, when the federal government introduced diagnosis-related groups of illnesses.
With capitation, the incentive to fill beds is eliminated. Hospitals and physicians become cost centers. Every hospital admission or physician visit represents money out of providers' pockets. CFOs, whose main activities have been crunching profit and loss figures, must be prepared to provide the data, systems and strategies needed to stretch treatment dollars.
Although certain integrated systems generate a third or more of their revenues through capitated arrangements, very few of the nation's total healthcare expenditures are capitated. A number of providers have cut their capitation teeth on Medicare. A total of 200 Medicare risk contracts nationwide cover 2.6 million of the nation's 36.6 million beneficiaries.
With the growth of managed care, capitation is slowly seeping into other markets across the country. Most hospitals are anticipating an increase in capitated business. But Guy Masters, senior manager of the Camden Group, a Torrence, Calif.-based managed-care consulting firm, said the percentage of hospitals' revenues under capitation won't change much in the coming years. He sees more HMOs capitating physician groups to act as gatekeepers and case managers for physician services and hospital care.
According to J.X. Reynolds & Co., a New York-based consulting firm specializing in the creation of integrated financing and delivery systems, significant waste remains in the healthcare industry.
Based on the "best practices" of providers in mature managed-care markets, hospitals could eliminate $187 billion in expenses related to excess utilization and avoid $5 billion in spending on excess capacity, said James X. Reynolds, the company's president. Squeezing out the oversupply of physicians, primarily specialists, could generate $58 billion in savings, he said.
Indicators needed.To get everyone thinking as gatekeepers of service, CFOs will need to develop new financial indicators. Instead of concentrating on profit and loss figures, CFOs will define and monitor "per-unit costs," which show how much is being spent. Department directors and physicians will need such information to help them make educated decisions about how to better utilize healthcare resources.
HealthEast, St. Paul, Minn., is updating its budgeting process now in anticipation of increased capitation. In the next fiscal year, department heads will receive reports showing average-cost-per-case figures adjusted for volume and case mix. Contribution to overhead, a closely watched indicator under fee-for-service medicine, will no longer be included.
Part of the CFO's role is to educate the people who operate the hospital, said Doug Fenstermaker, HealthEast's vice president and CFO. The revamped budget reports are intended to give managers the information they need to improve efficiency, he said.
There are many ways the new reports can be used. For example, the head of housekeeping can track the cost per square foot cleaned. That cost will serve as a target for reduction through productivity improvements.
The data also can be used to monitor components of costs in a particular DRG. The radiology department at a hospital could look at its cost within a DRG and compare it to radiology costs within the same DRG at HealthEast's other two acute-care hospitals.
Eventually, HealthEast plans to create multidisciplinary teams of healthcare workers that will examine costs within the top 10 high-volume, high-cost DRGs with the intent of finding ways to do things less expensively, Mr. Fenstermaker said.
HealthEast invested about $100,000 on the software that allows it to manipulate cost data to produce these reports. It also has hired someone who will be responsible for analyzing and explaining the data and helping department heads make behavioral changes.
It's part of the CFO's job to make the information as meaningful and useful as possible. At Sharp HealthCare, San Diego, where 38% of the business is capitated, per-unit measures remain a subject of discussion and refinement, said Ann Pumpian, Sharp's senior vice president and CFO. "We took a year and a half to agree on the definition of a patient visit," she said. Sharp's various medical groups debated such minute details as whether a patient visit includes one specialist referral, two or more referrals and a next-day lab test, she said.
Tracking costs.Changes in healthcare technology and delivery also can skew data, she said. For example, if supply costs are measured against patient days, the cost per unit will rise as more services move to lower-cost outpatient settings.
Until last year, Henry Ford Health System in Detroit-which generates 48% of its income through capitated contracts-struggled with the kinds of reports to provide its physicians and department directors, said Thomas F. McNulty, senior vice president and CFO. It finally decided on a "control-direct-expense" report. The CDE omits fixed-cost expenses.
Only those items relating to controllable expenses, such as productivity and resource consumption, are included.
For example, nursing directors will see complete breakouts of every cost in their departments. The reports include actual expenditures for items such as benefits, salaries, contract nursing costs, travel and education expenses, to name a few. By totaling up every expense incurred, managers can decide where to reduce spending, Mr. McNulty said.
Next year Henry Ford will expand the CDE to include new statistics, such as the differences in pay by nursing shift and nursing experience. Creating a "more analytically directed" report is intended to make healthcare managers aware of efficiencies that can be achieved, he said.
One possible efficiency is the use of other facilities. Under a capitated system, it may be cheaper to house patients at hospitals outside of the Henry Ford system, Mr. McNulty said. That's something managers would glean from the data, he said. Last year Henry Ford, which had net patient service revenues of $643.5 million, spent $150 million on contracted hospital and ambulatory-care services, he said.
Under capitation, it may be less costly to rent or lease services from the competition than to provide services directly, said Daniel M. Cain, a partner with Cain Brothers, a healthcare capital advisory and investment banking firm based in New York.
Rebundling.He also predicts that many providers who unbundled services in the 1980s will begin bundling them back up. To cover fixed costs, hospitals will have to recapture revenues generated outside of the hospital, he said.
For example, under the old payment models, home healthcare boomed because of the huge potential to generate additional revenues. When providers capitate, it'll be cheaper to send a cab to pick up patients and bring them back to a central place, he said.
"Under a risk-based program, we're getting the same dollars whether they're in our hospital or not," said Edward Prunchunas, vice president of finance at Cedars-Sinai Medical Center in Los Angeles. So it's the CFO's duty to help healthcare managers understand the most cost-effective way to spend those dollars.
Mr. Prunchunas, who previously served as CFO at Northridge (Calif.) Hospital Medical Center, part of the Burbank, Calif.-based UniHealth America system, helped develop patient transfer methodologies after one case that involved an expensive misuse of resources.
The case involved a ventilator-dependent female patient who no longer needed to be in an acute-care setting. Case managers seemingly made the appropriate decision to move the patient to a skilled-nursing facility. But because she remained hooked to the ventilator, she wasn't able to take a cab to the hospital for daily radiation therapy. The six-week recovery period cost Northridge $50,000 in ambulance bills. "Nobody asked the question, `Is there any other cost?'*" he said.
A case management process that begins before a patient is admitted and continues after the patient is discharged is one of the most important aspects of a capitated system, he said.
providers who enter capitation contracts already have those kinds of managed-care systems in place. That's why Legacy Health System in Portland, Ore., part of a 3,000-enrollee managed-care network, felt comfortable taking on more risk.
Last April, the five-hospital system began providing services under a three-year, fixed-rate demonstration contract with Precision Cast Parts, a local defense contractor. Accountable for 6,000 enrollees, the capitation contract, which is separate from the managed-care network, is Legacy's first major foray into the full at-risk arena. For competitive reasons, Lowell W. Johnson, the system's senior vice president, CFO and treasurer, wouldn't disclose the value of the contract.
The system also has several smaller Medicare risk contracts, but so far capitation represents less than 10% of its total business. Legacy has net patient revenues of $420 million.
"Capitation for us clearly has not been any better or any worse than our HMO business," Mr. Johnson said. "It's very much like a managed-care product," he said. "The only difference here is you as the provider...are assuming the risk in its entirety."
Early on, utilization creeped higher than system administrators anticipated. They suspect a significant number of enrollees who needed to choose new primary-care physicians were diagnosed for previously undiscovered health problems. But in recent months, utilization has leveled off to predicted levels.
To keep people healthy and utilization in check, Legacy is investing about 5% of the capitated amount in stress management, smoking cessation and other preventive maintenance programs. It's something Legacy does for all its managed-care patients, Mr. Johnson said.
Managing capitation is no big stretch, he said. "It's just further down the evolutionary trail of managed care."