Health System Renaissance: The Impact of Reform on the AMC Business Model

1. Health System Renaissance:The Impact of Reform on the AMC Business Model

3. What’s On The Horizon • Beginning in April 2012, launches accountable care organizations (ACOs) as part of the Medicare Shared Savings program • Beginning in October 2012, implements a budget-neutral hospital value-based purchasing (VBP) program to withhold payments unless quality scores exceed benchmarks • Also in October 2012, establishes hospital readmission policy to reduce payments for “excess” readmissions • Beginning in January 2013, establishes bundled payment pilots to include inpatient, physician, and post-acute care services • Beginning in October 2014, reduces hospital payments if rate of hospital-acquired conditions exceeds threshold

4. ACOs 101 • Not a new idea…organized delivery systems have existed for years (IDNs, IPAs, PHOs, etc.) • Per CMS, ACOs are defined as “groups of doctors, hospitals, and other health care providers, who come together voluntarily to give coordinated high quality care to the Medicare patients they serve” • Goal is to generate savings by reducing costs, unnecessary care, duplicative services and medical errors • Savings to Medicare = revenue reduction for providers • Managing utilization, meeting quality targets, reducing direct costs and minimizing ACO’s administrative expenses will be necessary for providers to share in savings

5. ACOs: Risky Business • Shared savings concept includes bilateral risk option • Risk-free corridor too narrow for all but largest ACOs • At 5,000 lives threshold, unwarranted bonuses and unearned penalties more likely than not • 20% of ACOs with 10,000 attributed lives would incur penalties averaging $1.5 million in any year during which they had no impact on population costs whatsoever • After 3 years, the worst 20% of ACOs with 25,000 attributed lives would absorb penalties averaging $3.2 million despite having no impact on population costs • After 3 years, the worst 10% of ACOs with 50,000 attributed lives would see penalties averaging $5.2 million if they had no impact on population costs • To virtually eliminate the probability of an undeserved penalty, an ACO needs 100,000 attributed lives

6. CMS Incentives More Stick Than Carrot • Value-Based Purchasing • AMCs less likely to fall into bottom quartile of nation in core measures…also less likely to be among top quartile, but best performing AMCs are • One in three AMCs in bottom quartile for patient satisfaction – fewer than 10% make top quartile – two-thirds of AMCs below national median • Up to 2% of Medicare revenue at risk for underperformers • Readmissions • Neither superior nor poor performance systemic in readmissions…not uncommon for both extremes to coexist within an AMC • Up to 3% of Medicare revenue at risk for hospitals with higher than expected readmissions • Hospital-acquired conditions • HACs shift from high revenue outliers to financial risk – worst performers will lose 1% of total Medicare revenue

7. How Much Is At Risk? Beginning in FY2013, AMCs not meeting national quality benchmarks may see Medicare revenue decline by $5-10 million 1 Excludes IME, DSH, and outlier payments

8. The AMC Business Model – Core Vs. Commodity Inpatient and Outpatient Net Income by Patient Percentiles Top 5% $205 million Core Bottom 5% <$154 million> Commodity Top 25% Middle 50% Bottom 25% $263 million $900,000 <$207 million> Source: UHC Midwestern Member, January 2010 – December 2010

9. Payment Reform Has Commodities In Cross Hairs Percentage of total Medicare spending on episodes Bundled pricing focused on 20 commodity episodes addresses 60% of CMS spending…over 100 times the amount spent on AMC core business Source: MedPac, June 2010 Data Book

10. Health Reform: Short Term Imperatives • Payment reform creates two short-term imperatives… • Reduce costs to restore margins as unit prices fall • Grow core to maintain ability to subsidize commodities • …long-term inflation lag may require “game changers” • Health system scale to dilute AMC fixed costs and rationalize commodities/diversify margins • Episode management to re-engineer care processes, extend cost reduction beneath existing floors

11. High Total Costs… Variable Costs Crucial Under Bundled Payments or ACO Strategy Adjusted cost/discharge1 • Total cost/discharge (adj.) 16% above UHC median • Labor cost/discharge (adj.) 12% above UHC median • Adjusted total cost/discharge increased only 2% from 2010 to 2011 UHC rank in 2011 57/73 54/73 1 Total expense/discharge adjusted by CMI and wage index Labor expense/discharge adjusted by CMI and wage index Source: UHC Operational Data Base (Reporting periods for the 12 months ending September of the stated year)

12. Core diagnoses – 70% of insured patients with these diagnoses are consistently in financial core Complex care – 40% of cases with charges ≥ 3x AMC’s average are in financial core Patients with severity of illness levels 3 or 4 are nearly 3 times as likely to be in core vs. patients in SOI levels 1 or 2 Transfer cases twice as likely as non-transfers to be in core Patients from ≥ 50 miles away are twice as likely to be in financial core as patients from ≤ 10 miles away Core Growth Levers • Less prevalent cancers (brain, head/neck, GI, liver, pancreas, myeloma, leukemia) • Cerebrovascular conditions (intracranial/subarachnoid hemorrhages) • Acute kidney failure • Digestive diseases (chronic liver disease, colitis, enteritis) • Endocarditis (valves) • Trauma

13. How We Compare Percent of Inpatient Admissions (Urban AMCs) Source: UHC Clinical Data Base, January 2010 – December 2010

14. Reducing Readmissions Creates Room At The Inn Beds consistently filled by related readmissions Median = 26 beds University Hospital-UMDNJ (5.7% of capacity) AMCs Related readmissions consume 4% to 8% of the typical AMC’s inpatient capacity…median = 5.5% Source: UHC Clinical Data Base Q3 2010 – Q2 2011

15. Readmits Look More Like Commodity Business Operating margin per discharge Source: UHC Clinical Data Base; UHC Financial Data Base

16. May Still Be Work To Do To Succeed Under VBP VBP snapshot as of October 2009 – September 2010 • Core Measures and HCAHPS focus in year 1…outcome and efficiency measures to be added in future years • Select opportunities for improvement in Core Measures • Like other AMCs, efforts should continue to improve patient experience • UMDNJ ranks at UHC median but trails national median at last snapshot • A portion of VBP funding may be at risk Highest observed 75th percentile Median UMDNJ 25th percentile Lowest observed Source: UHC Clinical Data Base; Hospital Compare

17. Overall, Strong Coding And Documentation… Select Opportunities for Improvement • Above UHC median in 9 of 15 service lines for capturing any comorbidities/complications • 2 service lines in the lowest UHC quartile merit attention: cardiac surgery (relatively low patient volume) and trauma • 9 of 15 service lines near or above UHC median in capturing major comorbidities/complications • 3 service lines in the lowest UHC quartile, each with relatively low patient volumes, merit attention: medical oncology, surgical oncology and urology

18. Reducing costs increasingly important as any new fixed costs come on line and reimbursement methodologies change Some core growth opportunity, particularly in region outside 50 miles and transfer cases Continuous attention on Core Measures and HCAHPS necessary to ensure forward progress – reduces risk for VBP penalty Performance in mortality continuing to improve – strong coding/documentation recognize severity Performance Recap

19. Health Reform: Game Changers • Payment reform creates two short-term imperatives… • Reduce costs to restore margins as unit prices fall • Grow core to maintain ability to subsidize commodities • …long-term inflation lag may require “game changers” • Health system scale to dilute AMC fixed costs and rationalize commodities/diversify margins • Episode management to re-engineer care processes, extend cost reduction beneath existing floors

20. Next Stop: Health Systems UHC member survey: “We are (or will be) part of a multi-hospital system” 60% are part of systems today Today 88% of AMCs in systems today are the dominant component of their systems…of members expecting to be in systems 5 years from now, 91% say they will be the dominant component

21. AMC helps community build/strengthen complementary clinical programs, lower acuity cases migrate to community hospital partners Relocated commodities fill vacant community capacity – contribution margin falls to bottom line Higher commodity margins due to lower variable costs in community Vacated AMC capacity backfills with higher acuity, higher margin cases if access open and actively managed Overall increase in volume dilutes fixed costs if AMC part of system Moving Commodities Creates Scale Diverting commodity business to a community hospital partner creates capacity at AMC that fills with marginally better business…relocated commodities profitable at lower community costs

22. Systems, Not Networks, This Time Around • 1990s “integrated delivery networks” formed to aggregate size, develop bargaining clout with insurers – efficiency and genuine care coordination largely unmet promises • Payment reforms will hammer down price and narrow loopholes for profiting from waste • Health systems must do what networks didn’t • Evolve central nervous system • Standardize care processes efficiently • Rationalize distribution of services • Align physicians and hospitals • Create sustainable incentives/compensation

23. A Measured View Of ACOs • Health system development intuitively suggests readiness for population risk…a careful examination of random claims fluctuation urges caution • Small ACOs (5,000 lives) look a lot like roulette – roughly equal chance of random gain or loss • Moderately-sized ACOs (10,000 to 25,000 lives) face annual risk of $2 million to $6 million unwarranted penalty • Health system development addresses market consolidation without assuming population risk • AMCs will always depend on broader referral bases than own ACOs can ever provide • Until reliably capable of reducing population cost, AMCs should defer risk-sharing or limit participation to a level comfortable absorbing unearned financial penalties should they occur

24. Health Reform: Game Changers • Payment reform creates two short-term imperatives… • Reduce costs to restore margins as unit prices fall • Grow core to maintain ability to subsidize commodities • …long-term inflation lag may require “game changers” • Health system scale to dilute AMC fixed costs and rationalize commodities/diversify margins • Episode management to re-engineer care processes, extend cost reduction beneath existing floors

25. Bundled Pricing Inverts Profitability Average revenue and cost per knee replacement (Inpatient and Outpatient Hospital and Physician) Traditional fee-for-service Bundled pricing Bundled pricing reallocates revenue away from adverse outcomes toward “typical” cases…fundamentally changes profitability of complications Note: Assumes bundled price reflects weighted average (complicated and uncomplicated) based on median complication rates Source: UHC Clinical Data Base; UHC-AAMC Faculty Practice Solutions Center

26. Things To Keep In Mind Under Bundled Payments • Wide cost variation among AMC’s own cases – top decile 2 to 3 times AMC’s median • Community will cherry pick low cost cases, turf high cost outliers to AMC • Avoid “one size” pricing – segment cases by cost • No way to avoid revenue reduction – CMS has to save money • Mitigating losses will require case management – reducing variation in supply/Rx cost, eliminating avoidable complications • Shared savings outside bundles (e.g., related readmissions) can restore revenue

27. Meeting The Unmet Promise • Balance economic value with ideology – “why” is as important as “whether” to build/expand a system • Optimize use of capacity – until core growth exhausted, move commodity business to community partners • Embrace the national imperative for higher efficiency and value • Leverage innate AMC advantages to realize clinical integration • Experiment with care coordination to drive episode costs below currently practical floors