The physician practice management industry is having some growing pains, pains keenly felt by those doctors who are stuck with a fistful of stock and unfulfilled promises from financially weak PPMs.
No one is predicting the demise of the industry, which manages the practices of an estimated 5% to 7% of the nation's 650,000 physicians, and certainly most companies are not leaving their doctors in the lurch. But many entrepreneurs and analysts are betting that the PPM model developed by pioneer PhyCor, and further popularized by the seemingly steroid-enhanced growth of MedPartners, is on its way out. Existing PPMs would argue that point, although they would also say they're not above tweaking their models to ensure they give the services they promised to doctors.
It's not like all this just happened yesterday. Many PPM stocks reached their peak in mid-1996, collectively falling 40% in value over the next year, before a 12% upswing the last six months of 1997, according to Boston-based Advest.
But a major industry cataclysm in January made it clear the days of easy money are over, for doctors and for PPMs. With the breakup of the PhyCor-MedPartners deal came the revelation that MedPartners needed to take $145 million in charges related to practice integration problems and to its failure to set aside enough money to cover unpaid bills. Other PPM stocks were dragged into MedPartners' wake as its shares fell nearly 50% in one day (Jan. 8).
High-flying growth followed by a quick downturn can happen in any new industry: Ask those who invested in Internet companies during that sector's stock-buying frenzy of 1995-96. Of course, losing with a PPM is more personal; no one signed a 40-year deal to give up his or her future to a browser company.
Though PPMs aren't facing a slew of lawsuits from unhappy physicians, there has been grumbling about how some failed to follow through on promises to upgrade marketing, billing or technology services in favor of acquiring more practices -- an attractive option when PPM stocks were practically paper gold.
Analysts are confident PPMs are a viable means for physicians to thrive in a managed-care environment. But they say it won't be as easy as it looked during the first 10 years of the PPM industry's existence.
"This is a business that has huge potential," says Todd Richter, a healthcare analyst for Morgan Stanley, Dean Witter & Discover Co. in New York. "But it's a tough business."
Physicians are going to notice the following trends emerging from the PPM industry as it tries to turn itself around:
The new mantra: "same-store growth"
In retailing, the phrase same-store growth is used to describe the essential strength of a chain. Opening or buying new locations automatically adds revenues, but the sales growth of existing locations from one year to the next tends to say more about whether a company knows what it's doing.
The same thing applies to PPMs. MedPartners' revenues shot from zero to $6 billion in four years, but that mostly was due to acquisitions. Where MedPartners ran into trouble was figuring out how to follow through on uniting its practices. As far as many in the industry were concerned, MedPartners' eyes were bigger than its stomach, and it wasn't the only PPM affected.
"It was a gorge," says Dan Ratner, chief financial officer of Atlanta-based MD Alliance, a privately held multispecialty PPM. "You see someone going through the smorgasbord line, you figure the most aggressive eater has three plates. (MedPartners) was having 10 plates. And what they were eating didn't make sense. They were paying too much, and they took on too much."
The dive MedPartners' stock took after it announced its charges related to practice integration "is a wake-up call to others in the industry that they not focus too much effort on buying things," says Lawrence Marsh, a healthcare analyst at Salomon Smith Barney in New York. MedPartners executives were unavailable for comment, although in press releases they have said the company's focus would shift away from acquisitions toward expanding its practices.
Analysts say the best way for PPMs to figure out what to do with their practices is to study what services are most important to doctors.
PPMs need to figure out whether a particular practice needs, say, help in marketing, billing or information systems, rather than assume that every practice has been run by bad businesspeople and needs a thorough cleaning, Richter says.
"Two years ago, (the saying) was that doctors were a bunch of bad managers, so if you do a few simple things, voila, the practice would be twice as good," Richter says. "People thought it was like McDonald's, like a cookie cutter, but it's not."
With a new emphasis on PPMs to show same-store growth, Richter says, "now we're going to see who's good and who's bad."
Say goodbye to the windfall
With pressure on PPMs to slow down their acquisition pace, there won't be a gaggle of companies scurrying to acquire whatever they can. So, analysts say, physician practices won't see their prices skyrocket in a bidding war.
Or, as PhyCor CFO John Crawford puts it: "What we're witnessing is a better and more rational pricing for transactions. It's good for our whole industry sector. Where pricing is rational and reasonable, transactions can be done in a way that can add value better. It's an odd benefit of the recent market change in the PPM sector."
Translation: It'll be a lot easier to show same-store growth when PPMs aren't paying scads of money for practices.
"The PPM has to deliver infrastructure and value-added services," Crawford says. "It's becoming more essential than cash and stock up-front."
The average cost-per-physician paid by PPMs in 1997 is expected to be greater than the $500,350 paid per primary-care doctor and $478,500 per multispecialty practice doctor in 1996, says Stanford Steever, an analyst with Irving Levin Associates in New Canaan, Conn.
But, he adds, "there probably is a little softening in the market," especially as large PPMs cut back their acquisition pace. Steever says smaller PPMs are likely to be more active in acquiring the assets of practices.
Troubles with integrating practices aren't the only reason analysts see acquisition activity slowing down. The Securities and Exchange Commission is putting in place rules that will make it more difficult for PPMs to count practice revenues, as well as management fees, as company revenues, because most practice revenues never make it to the company level. That rule has the effect of making a company look smaller, thereby taking away the veneer of quick growth that helped many PPMs become Wall Street darlings.
The new rules, which also include greater hits against earnings for "goodwill" paid for acquiring the assets of practices, are scheduled to take effect by November.
As it turned out, the so-called windfall from cash and stock was mere paper in many cases. Often, physicians agreed to lower incomes, figuring the value of their stock would make up for the loss of take-home pay.
"Part of the economic benefit was stock and the appreciation of stock," says Jeff Peters, president of the Harvey, Ill.-based consulting firm Health Directions. "As the stock price goes down, the value of the acquisition goes down. (Doctors) never really saw that the stock would deteriorate. I don't think the physicians understood the way that practice management charged for their services. They didn't realize take-home income was at risk and could go down."
The new-look PPM: We don't want your assets anymore
Douglas Badertscher, president of Sarasota, Fla.-based Pendulum Practice Management, has one word for physicians' assets: "worthless."
Most PPMs buy the assets of a practice and then strike 40-year management deals to lock in the practice. But Pendulum and a small but growing number of other PPMs believe taking all the business control out of physicians' hands kills their entrepreneurial attitude and creates disenchantment. So Pendulum, instead of taking the usual fee of 25% to 35% of profits, takes 5% off the gross to manage the business operation. Instead of a long-term deal, physicians can terminate the arrangement with 30 days' notice if they decide the company's services aren't sufficient.
"The key is not thinking you can control physicians, but collaborating with them," Badertscher says. "Otherwise, you create a victim mentality. By leaving the assets and goodwill in place, we're stimulating their responsibility to be involved as a stakeholder."
Pendulum has taken over management for 50 doctors since it began linking with practices in October 1997. The company is negotiating with practices worth a combined $1.4 billion in annual revenues. Because the company doesn't buy assets, it doesn't have to lavish doctors with cash and stock to get in the door.
Four-year-old GeriMed, a Denver-based PPM that focuses on geriatrics, also does not acquire assets. Instead, it puts together disease management networks of physicians, social workers and even priests to focus on reducing costs by managing patients' health. For example, a GeriMed social worker might make a home visit to a patient to check on dietary habits or see if the patient's house needs items to prevent a fall, such as railings on the walls. GeriMed has 51 physicians at 27 facilities in nine states.
"We don't believe operating efficiencies will successfully lead to a long-term business," says GeriMed President Jim Riopelle, M.D. "If it isn't about changing the delivery of healthcare and doesn't have a long-term strategy, it won't work."
However, these strategies haven't shown themselves to be big moneymakers yet. GeriMed, for example, expects about $15 million in revenues this year, about $5.9 billion less than MedPartners earned at the same stage. Still, more PPMs are starting with the idea that taking the focus away from controlling the physicians and their practices is a better long-term strategy, even if it doesn't bring in a lot of revenues right away.
Such a concept sounds promising, but like every other PPM model, it has yet to be proved over the long haul. The only thing physicians can bank on is that giving up their business functions to a PPM doesn't mean they can stop worrying about the bottom line.