Responding to pressure from employers and mounting competition among health plans, HMOs nationwide are cutting premiums. But in order to preserve their profit margins, they also are reducing payments to hospitals and physicians.
Providers are doing more than fuming. They've been fighting back by negotiating "global" or full-risk contracts, which give them more of the total capitation employers pay HMOs (July 25, 1994, p. 44 ; Oct. 9, 1995, p. 77).
In full-risk contracts, which have come under fire from some state regulators, HMOs transfer to a physician group, hospital or physician-hospital organization the risk and the capitation payments for both physician and hospital services for a specific population. In simple capitation contracts, the payments are for either hospital or physician services.
"Providers are asking why they shouldn't take more of the middleman's profit in a restructured delivery system and be able to address patients' needs more aggressively," said Paul Viviano, senior vice president and chief operating officer at Orange, Calif.-based St. Joseph Health System, which operates eight acute-care hospitals in California and three in Texas and various affiliated clinics.
Providers are especially sore at for-profit HMOs that take, in the form of profits and administrative costs, up to 30% of the capitated payments they receive from employers. That would give those HMOs a lean 70% medical loss ratio.
"Providers are tired of that, and (of) hearing about high profit margins, the valuation of stock (and) the enrichment of some executives at HMOs," Viviano said.
Providers not only want a bigger chunk of capitation dollars, they want more control over how care is delivered. In their view, HMOs' proper role is marketing and administration.
If physicians and hospitals all over the country are chafing under the yoke of managed care, in California they are raw. One reason is that full-risk contracting is largely prohibited in the state where HMOs have achieved the greatest penetration-covering almost 40% of the population-and where for-profit HMOs dominate. The exceptions are a few big integrated systems, such as Friendly Hills Healthcare Network and MedPartners/Mullikin, that received regulatory approval some years ago for full-risk contracts.
Some California HMOs refuse to even capitate hospitals for their services, let alone give them full-risk contracts. Only 60% of St. Joseph's HMO contracts are capitated. "We hope to change that," Viviano said.
The California Healthcare Association (formerly the California Association of Hospitals and Health Systems) estimates that capitated contracts make up only about one-third of the business at urban hospitals in California, said Duane Dauner, the association's president.
So the squeeze is hardest on California providers.
On one side of the vise, such big purchasers as the California Public Employees Retirement System and the Pacific Business Group on Health, a large-employer coalition, wring premium decreases from HMOs. In turn, HMOs use their clout to ratchet down provider payments.
For example, Woodland Hills-based Blue Cross of California has established a system under which it will steer its enrollees toward "first-tier" hospitals that it says were chosen on the basis of cost and quality. But hospital officials say Blue Cross selected the 158 hospitals chiefly on the basis of cost and that hospitals had to agree to large rate decreases to get into the first tier.
San Francisco-based Blue Shield of California announced a similar program but is still choosing the hospitals.
On the other side of the vise is California's Knox-Keene Act, which licenses HMOs. It was enacted as a result of rampant abuses in prepaid health arrangements in the state in the early 1970s. In 1987, the California Department of Corporations established a policy based on that act, prohibiting health plans without Knox-Keene licenses from entering full-risk contracts.
As a result, HMOs have "separated the risk and the accountability among the various providers, and therefore the only potential integrating force is the health plan," said Robert Margolis, M.D., managing partner and chief executive officer of HealthCare Partners, a medical group in Los Angeles. "The accountability for healthcare is often left to a 1-800-NURSE police."
He added: "We think honestly that is an unnecessary infringement upon patient rights and consumer access to good healthcare and is clearly not cost-effective in the long run, though it serves the insurance company well. It puts them in a position of ultimate control, and that's one of the areas consumers and providers have been complaining about."
David Langness, a spokesman for the Healthcare Association of Southern California, said: "It used to be there was a partnership between the provider community and the HMOs, who were not-for-profit. But that partnership is developing large amounts of animosity. The goodwill that HMOs once had in the provider community is evaporating.
"The crux of the issue is HMOs' conversion to for-profit status," he said. All but two of California's major HMOs-Blue Shield of California and Lifeguard-have converted to for-profit status. "Everybody sees that there's huge money in this thing in California. You can take in premiums and have to pay only 70% of those premiums out," Langness said.
With HMOs gradually dominating more markets, observers say it won't be long before providers across the country feel just as frustrated as those in the Golden State.
John Lewin, M.D., president of the California Medical Association, believes the "revolution" of California providers seeking to regain control of healthcare will spread throughout the country.
He predicts that the CMA's provider-owned and -operated managed-care network, called California Advantage, will be a catalyst for change in the state (See related story, p. 28). By providing patient-focused care at less cost to payers, Lewin said, California Advantage will gain enough market share to affect the behavior of other HMOs.
The HMO industry in Florida, with 20% of market share, doesn't enjoy the high market penetration that California's does. But that's expected to change.
"We would expect Florida to catch up with California within two years," said Bill Bell, general counsel of the Florida Hospital Association. "That's why we're educating the commissioner of insurance about direct contracting" and the need to license hospital-based networks separately from HMOs to provide the full spectrum of care, he said.
Because there's no prohibition against it, some providers in Florida are in full-risk contracts, but they're not yet pervasive, Bell said.
In Washington state, where most HMOs are not-for-profit and full-risk contracts are not prohibited, "relationships between providers and plans are not quite as contentious" as in California, said Richard Cooper, CEO of Everett (Wash.) Clinic, a multispecialty group practice about 20 miles north of Seattle. "There is friction."
Because of "intense premium competition," Cooper said, HMOs are cutting provider payments. About 25% of Everett's business is in full-risk contracts, and it will seek more. Everett has to negotiate hard to win full-risk contracts from HMOs. "The allocation of the dollar is in question," Cooper said, as HMOs' market share in Washington continues to grow.
Noah Rosenberg, an attorney based in Beverly Hills, Calif., has negotiated physician and hospital contracts, including full-risk contracts, with HMOs in 20 states. Most providers "are not getting the percentage of premium they need to support good healthcare," Rosenberg said. "They realize they're retaining a very small percentage of the capitation.
"My goal is to get physicians and hospitals a greater percentage of premium," he said. "Our goal has always been that the greatest percentage of the premium dollar is spent on healthcare."
Rosenberg said he is "aggressively" working to get hospitals capitated, although health plans don't want to convert hospitals from per-diem to capitated payments. "The survival of physicians and hospitals is dependent on their being premium partners with health plans," he said.
Just how much of the premium dollar goes to healthcare vs. overhead? A recent report by InterStudy, a Minneapolis-based managed-care research firm, shows the median medical loss ratio for 276 HMOs in the fiscal year ended Dec. 31, 1994, was 84.9% and the median margin for administrative expenses and profit was 15.1% (See chart, p. 25). But several large insurer-sponsored HMOs were not represented in this sample.
Significantly higher administrative and profit margins for individual HMOs have been reported in other studies. Don White, a spokesman for the Group Health Association of America, a Washington-based managed-care trade group, said HMOs can be expected to have higher administrative expenses than indemnity insurers or providers because HMOs combine both payer and provider functions, and thus "bear a larger administrative load."
And those who follow the industry closely-including large employers-say an HMO can't be evaluated on its medical loss ratio alone. The bottom line is that the percentage of premium an HMO spends on healthcare is "not terribly relevant," White said. What matters is that many studies show employers and other purchasers are getting value for their premium dollars, that HMOs' quality is as good or better than indemnity plans', and that HMO patients are satisfied, he said.
Plan of attack.
California providers are banding together to change the status quo. In an unprecedented alignment, the California Healthcare Association has admitted 50 physician groups as members and has placed four doctors on its 35-member board.
At the association's annual meeting in Palm Springs last October, a physician group CEO addressed hospital executives for the first time as a fellow member.
"Please don't be frightened," David Hartenbower, M.D., told hospital executives. Hartenbower is president and CEO of United Physicians Association of Santa Monica, an independent practice association, and chairman of the California Healthcare Association's physician groups council. "We*.*.*.*believe in the integrated view of the future espoused by this association," Hartenbower said. "We believe integration is a foregone conclusion because aligning the financial and patient-care incentives of hospitals and our physician groups is the only logical way to get us working together."
But, he warned, "if hospitals want to own and dominate physician groups in order to fill their beds, integration won't work."
The California Healthcare Association and the Unified Medical Group Association together are sponsoring legislation to allow the state's providers to accept full-risk contracts. The UMGA is a Seal Beach, Calif.-based trade group that represents capitated medical groups in several states. The associations have a "preliminary commitment" from a legislator to introduce the bill, Dauner said.
The proposed legislation, which Dauner expects to be modified in coming weeks, is different from that involving physician-sponsored networks. Certain federal budget plans call for PSNs to bypass HMOs and directly contract for Medicaid and Medicare services but not for commercial health plans.
The California Healthcare Association/UMGA proposal would allow physicians, hospitals or PHOs to take full risk. "Most hospitals would prefer the joint entity," Dauner said. "We think that is the best way to align incentives of the physicians and hospitals."
Under state law, a Knox-Keene-licensed plan must maintain a tangible net equity of $1 million or more, depending on formulas based on premium revenues. The plan also must have $300,000 in the bank.
The California Healthcare Association/UMGA draft legislation would require providers in full-risk contracts to maintain tangible net equity equal to a certain percentage of the HMO enrollees they serve or $500,000, whichever is greater. Dauner said he expects that requirement will increase.
The California Association of HMOs opposed full-risk contracts for providers as they were being considered by the Department of Corporations several years ago. "This type of payment arrangement would put providers-physicians, hospitals or both-into the HMO business*.*.*.*(and) allow integrated delivery systems to operate as health plans without a license," said Myra Snyder, executive director of the CAHMO.
Although Snyder said she had not seen the proposed legislation, it is not substantially different from the full-risk proposal CAHMO opposed before.
Nevertheless, provider representatives are meeting with the CAHMO to try to allay HMOs' concerns. They stress that full-risk contracting would be voluntary on the part of HMOs and that providers aren't trying to eliminate HMOs.
"I think HMOs are more in the picture than they've ever been," said James Hillman, UMGA director. "Our medical groups in California average 14 HMOs that they contract with. That's 14 people marketing for them."
HMOs such as Kaiser Permanente, whose physicians are captives of one organization, "have only one marketer. It doesn't make any sense (for providers) to go into the HMO business," Hillman said.
"We don't want to get into (HMOs') business. But we don't want them to take too much of the healthcare dollar for what we do," he said.
Global capitation is simply more effective, he said. "It's taking all of the dollars earmarked for providers and managing them through one integrated delivery system unit-instead of having separate contracts for hospitals and doctors, drug carve-outs and carve-outs for behavioral health." Separate contracts create "more layers of inefficiency, which affects quality," Hillman said.
The promise of full-risk contracting has intrigued Gary Mendoza, commissioner of the California Department of Corporations. Although last year he said he could not proceed as a regulator to allow full-risk contracting, he encouraged providers to pursue their goal legislatively.
Still, Dauner conceded, under full-risk contracts, HMOs' share of premium "could drop down to 22%. HMOs don't want to give up that amount of profit." But HMOs recognize there is a public backlash against managed care, and they may now be willing to let more dollars flow to providers, he said.
"I think we're optimistic. We wouldn't be doing this if we weren't," Hillman said.
Dauner predicted that if the legislation passes, the "vast majority" of groups taking full risk will be either physician groups or joint ventures between hospitals and physicians. Very few full-risk contracts will be sought by hospitals, he said.
The question remains, how will the traditional antagonism between physicians and hospitals play out under full-risk contracting?
Albert E. Barnett, M.D., chairman and CEO of Friendly Hills, sees tension beneath the talk of integration. "I really don't see fundamentally the hospital and physician groups being together. This is going to open up a lot of wounds," Barnett said. Friendly Hills, one of California's largest integrated providers, includes 40 clinics, 650 physicians, a hospital and other facilities.
Physicians clearly want the leading role in full-risk contracting, Hillman said. "The more physicians are involved in managing capitation, the better chance we have for quality results," he said.
But Barnett cautions that some physician groups might take full risk and use capitation simply to get the lowest rates from hospitals.
In another wrinkle, Friendly Hills has learned it has to have a Knox-Keene license after all. The Department of Corporations said it must apply for the license to take hospital capitation payments for some of the Cigna HealthCare clinics Friendly Hills recently acquired. Some of the Cigna clinics are far from Friendly Hills' La Habra headquarters and are considered out-of-area facilities. To serve enrollees in other geographic areas, a provider needs a Knox-Keene license.
Friendly Hills is applying for the license, but with a waiver stating it will not do marketing like an HMO.
Will the license give Friendly Hills an advantage if PSNs are allowed on the scene? That is just another one of the questions raised by an evolving market, Barnett said.