The boom in for-profit healthcare companies might soon succumb to a lethal mix of plummeting Medicare reimbursement, the need for costly long-term management infrastructure and investors' short-term orientation.
It's no secret that publicly traded healthcare companies differ from their not-for-profit counterparts in their reliance on investor capital. Maintaining that capital base requires an unrelenting drive to satisfy quarterly earnings expectations. But in the changing healthcare market, stockholders' desires might be increasingly incompatible with the needs of healthcare businesses. Oxford Health Plans and MedPartners both recently experienced significant single-day plunges in stock price that clearly demonstrate investors' expectations of a predictable return. Without short-term performance, investors won't tolerate longer-term strategies.
But changing from a niche-based, fee-for-service business to a full-continuum organization that can manage risk -- as almost every healthcare company must do to survive -- requires considerable investments in infrastructure.
What's more, the demographics of healthcare finance have caught up with us. Medicare recipients historically devour 16 times what they pay into the system. Taxpayers can't indefinitely finance that resource consumption.
Congress' recent Medicare funding cuts -- $115 billion over the next five years -- are a step to reining in costs. The reductions will end cost-based reimbursement for long-term-care providers, expand the prospective payment system to the ambulatory and post-acute sectors, and accelerate the growth of Medicare HMOs.
Come July 1998, cost-based reimbursement's replacement, PPS, will pay Medicare providers a fixed amount and require them to manage their expenses. For most providers, the resulting reimbursement will be significantly less and generate lower margins. According to the Prospective Payment Assessment Commission, the changes in Medicare spending will hold hospitals' overall profit margins on Medicare to 15.3% by 2002, instead of the 24.2% Medicare profit margins otherwise projected (Sept. 29, 1997, p. 2).
Meanwhile, Medicare HMOs will recruit a growing percentage of enrollees and, by competitive bidding, drive down their reimbursements to near the levels of the most aggressive commercial contracts. Companies managing these plans will achieve these reductions just as they have in the commercial managed-care sector.
Medicare HMOs will favor firms that are price-competitive and offer a wide array of health services, the same qualities preferred under commercial managed-care arrangements. These new reimbursement structures will further encourage organizations to come together to gain operational efficiencies and bundle services for global contracting arrangements.
Knitting together a smoothly operating full-service health system out of pieces that previously stood alone is expensive and technically complex, but the integration process is essential to long-term competitiveness and requires a robust infrastructure. Infrastructure development requires centralizing many common functions -- like information systems, human resources, purchasing, marketing and contracting -- and linking each component with the whole. Sooner or later, organizations that fail to develop these capabilities almost certainly will be compromised.
What we have, then, are two conflicting, monumental forces: declining financial performance and a pressing need to invest in long-term management infrastructure. The managers of the large publicly traded firms, particularly the long-term-care companies, are perched on the horns of this dilemma.
On one side are dramatic declines in per-patient Medicare revenues, which will make it harder for public companies to meet quarterly earnings projections. As the numbers falter, investors will flee to more lucrative industries, eroding capital support and diminishing competitiveness. On the other side is a need to buy skill and tool sets to integrate business units and create full-continuum health systems. Unfortunately, while infrastructure development will drive long-term competitiveness, it is expensive and often risky and won't pay the immediate returns that satisfy investors.
We have had innumerable conversations with senior executives at long-term-care organizations who acknowledge the need to develop an enhanced full-continuum management structure but "just don't have the money right now." Often, they invest instead in acquisitions that provide immediate revenues but do nothing to ensure long-term marketing positions and operational viability.
Some organizations will work within the financial constraints to develop management solutions. For example, Paragon Health Network (formed last year through the merger of GranCare and Living Centers of America) is pursuing collaborative strategies to distribute the costs of developing managed-care competencies. If these collaborations are constructed to align and balance the interests of all constituencies, they will distribute the risk and cost of infrastructure development, diversify the service platform and become a significant advantage in a restructured marketplace.
More than a few publicly traded companies, however, will be unable to sustain their financial performance, and with no real system infrastructure, they will be poorly positioned to compete in the future. The weakening of major public companies will benefit chiefly organizations with relative independence from and immunity to the caprices of the public financial markets: privately held for-profit companies and local provider-based health systems. These power shifts will be most pronounced in mature managed-care markets where providers have developed risk-management capabilities.
In the coming era, the firms that dominate American healthcare will have conquered two challenges. They will have found a way, alone or collaboratively, to invest in infrastructure that allows them to competitively manage health and financial risk. Equally important, they will have made sure everyone's business interests are balanced and will have cultivated cooperation and productivity by favoring mutual empowerment instead of total control.
Without an alignment of interests, particularly with physicians, organizations simply won't be efficient enough to manage care within the financial constraints. But by coming to these new capabilities and values, the American healthcare system will find its own way back to health.
Klepper and Smithers are principals of Healthcare Performance, a Jacksonville, Fla.-based consulting firm that helps organizations develop managed-care capabilities.