Preparing for Reinvention

A new business model is rapidly emerging for health care, replacing the model under which hospitals have operated for nearly 45 years. Accelerated by the evolving private-insurance market, the financial crisis and now reform legislation and ensuing regulations, this model signals a fundamental shift away from activity-based reimbursement to payment that rewards providers for quality, outcomes and cost-effectiveness. Success under the new model likely will require transformational change.

Given uncertainties related to new care-delivery and payment systems, hospitals and health systems are asking important questions:

• What impact will care-delivery changes have on our hospital?
• How will reform affect our financial performance?
• What will be required to succeed in our specific market?
• What are our strategic, financial and operating risks?
• What arrangements should we be pursuing with physicians?
• How should we organize our service-distribution system?
• What size and scale will be required to get where we need to go?
• How ready is our organization to make the changes required for success in the next decades?

We have been working closely with senior executives nationwide to help them assess their readiness for the post-reform environment and to recommend repositioning strategies. Areas of focus include physician strategies, service distribution, cost management, financial and capital capacity, and allocating capital in a changing operating environment. Here is what we've learned.

Readiness Defined, Observed

Eight organizational competencies will be required for preparedness and success under this new business model. These competencies are different from those needed under a fee-for-service model. They are hospital-physician integration, care-coordination capabilities, information systems sophistication, service-distribution balance, rigorous cost management, scale and market essentiality, managed care-contracting capabilities, and capital capacity and financial strength. Organizational Preparedness, page 15, outlines core-competence characteristics observed in the best prepared organizations.

Awareness of an organization's current level of preparedness is critical to effective repositioning plans. Few organizations have an accurate understanding of how well-prepared they are relative to the "best prepared." Organizations with this understanding are able to establish repositioning plans that direct resources to areas of greatest strategic need and value.

Hospital readiness varies widely but leans toward less prepared. Organizations that link care quality and outcomes with financial rewards are in the lead but they are relatively few in number. However, even "best prepared" organizations state that they have significant work to do.

Hospital leaders, for the most part, seem to be aware of the overwhelming amount of work to be done. Leaders who truly are not being objective about readiness could put the organization at significant risk. Specifically, inaction or inadequate action could impair the hospital's ability to reposition itself for the longer term.

Scale and market essentiality may be the most critical attributes of organizations for the future. Based on a national perspective, we believe that scale will be required to meet the new competency requirements, particularly those related to hospital-physician integration and service distribution. Market pressures under the new model will be much greater than in the past.

Essentiality in specific marketplaces will be achieved by organizations that can differentiate their services and provide care for patients across the continuum. Significant financial resources will be required to develop the needed clinical programs and execute strategies on a broad geographic basis at a comprehensive level.

Organizations without a physician alignment strategy or capital resources are going to struggle. Those that have a good strategy but are short on capital also will struggle. We estimate that only about 10 percent of organizations have both a sustainable integration strategy and the financial resources to sustain it. Many hospitals are actively assessing options that include partnering with other organizations.

Physician Strategy

The current model isn't sustainable for physicians or for many health care organizations. Declining reimbursement, increasing expenses and sophisticated technology worry most physicians and hospital executives. Across the country, doctors express acute awareness of their growing risks. They also are unhappy having change forced upon them, rather than achieved with them.

Most organizations express a high degree of awareness that close physician-hospital integration and collaboration are critical in a value-based payment system, and that physician strategy must drive both improved quality/ outcomes and cost reductions.

Today's voluntary medical staff model likely will be ineffective in the post-reform marketplace. Doctors and hospitals must find new ways to work together because current adversarial relationships, often inherent in the medical staff model, will thwart needed improvements. Rapid integration is occurring with greater ease where leaders are transparent with physicians about strategic direction and quality and financial objectives.

Physician employment or significant contractual arrangements will be required. Given the economic trends for physicians, many hospitals and systems experienced a surge of employment and acquisition appeals from physicians. As a result, we're seeing aggregation of physicians into groups and programs, but not as much progress as needed in making these structures cohesive or in aligning physician objectives with those of the organization. Much remains to be done in the areas of aligned compensation models, efficient joint contracting, simpler business practices and physician-performance optimization.

Multiple points of entry facilitate physician alignment. The entire physician community is unlikely to migrate immediately to a hospital-employment model. Offering physicians alternatives will speed integration. In some markets, physicians are just beginning to move into employment-dominated models, and it may take many years for this transition to occur. In other locations, the majority of physicians practicing in the hospital already are employed. The Physician-Hospital Integration Matrix, above, identifies selected strategies hospitals can pursue, either proactively or reactively.

Many organizations and markets lack meaningful physician leadership. There are two key barriers: first, some practices may be reluctant to refer patients if a competitor is installed in a leadership position; and second, the hospital shares little of its vision and strategic direction with physicians, which discourages them from assuming leadership roles.

Clinical programs that have shared clinician-administrator responsibilities exist in many organizations and are serving as the testing ground for a new level of shared leadership.

Successful integrated physician organizations share key attributes. Hospitals that have high-functioning and effectively integrated physician organizations describe the attributes of such organizations as follows:

• Strong physician governance and leadership across multiple physician constituencies
• Strong practice-management capabilities in revenue cycle, contracting and compensation models
• Strong criteria for physician selection and continued participation
• Financial incentives tied to volume, quality of care and "citizenship"
• Significant investment in technology to enable all employed faculty and independent physicians to operate on a common platform, either directly or via interfaces
• Adherence to quality guidelines

Care Coordination and Service Distribution

Patient-care coordination is in the emergent stage. In many hospitals, care-management protocols and clinical order sets for high-cost clinical procedures and high-incidence/impact chronic conditions are still in development or early implementation stages. In most organizations, physician and staff buy-in about protocol use lags; as a result, work-arounds are common and tolerated.

We're seeing significant variation in clinical practice (cost, length of stay and outcomes). Variation in the management of traditionally high-cost patients (those with chronic diseases or big-ticket procedures) remains problematic. Successes in reducing practice variation tend to be isolated to specific conditions or programs. Readmission rates vary widely by hospital.

Organizing and coordinating care outside the hospital will be one of the most significant operational issues in this next decade. There is limited or no patient-centric management or coordination beyond the hospital doors. Patients and families often are left to navigate transitions on their own.

Current hospital connections with post-acute providers are less formal and well-organized than will be required to support effective coordination across the continuum. The economics of post-acute operations are different from hospital services, and many providers have struggled to manage these businesses successfully. Developing management skills with post-acute services and establishing effective partnerships with independent post-acute providers will be critical to future success.

Many organizations are not achieving a balanced service-distribution system. A well-organized and balanced distribution system allows more efficient, rational access for patients. Patient-centric—as opposed to hospital-centric—service-distribution models should give patients seamless and easy access to services, either physically or virtually. The CEO of one market innovator told us that patients can access his system in 195 different physical ways.

In contrast to these desired states, we see the mother ship approach, which requires patients to travel to the main campus for any type of care.

In multihospital systems, expensive services often are duplicated without sufficient volume to justify program costs or drive value at any one hospital. For example, systems with multiple hospitals in contiguous geographies frequently make heavy capital and operational investments in each hospital's clinical programs in the name of providing care locally. Desired outcomes are achieved through repetition of processes and procedures. Often, however, the duplication of programs divides what would be an adequate patient population if served in one location into a population too small to provide sufficient case loads to drive desired outcomes.

We're working with a number of systems to develop rational, geographically distributed approaches to offering primary care, specialty care and outpatient diagnostic and testing services in specific regions. Only the most highly specialized technologies and clinical resources for the most complex care are centralized to support quality and cost considerations.

Accepting Risk

Many hospitals are rethinking their relationships with commercial payers. Because care delivery and payment in the longer term may be headed toward the sharing of risk for the care of a defined population, some organizations with strong market positions and payer relationships are discussing risk sharing with payers and employers. Some systems with the scale necessary to fulfill many insurer functions even are considering direct contracting with employers. Barriers to entry are high; financial and intellectual capital, brand recognition, broker relationships and other attributes are required.

Numerous organizations without strong payer relationships are seeking participation in traditional care and disease management programs, as well as such advanced care-delivery models as medical homes offered by commercial insurers. Their expectation is that participation may enable them to be ahead of the curve in their markets.

Cost Management and Financial Performance

Hospitals are concerned about the financial impact of reform and other changes. However, only some hospitals are beginning to assess the effect on revenue growth, profitability, liquidity and leverage by modeling different volume and payment scenarios. Those equipped with sophisticated planning analytics and scenario-management software already are seeing the impact of changes to forecasts and plans; those without access to such analytics may underestimate the financial impact of reform and marketplace changes.

Delivering services at the lowest possible cost is a common goal. Many are moving slowly, don't yet know which metrics to use, and may not have the business tools to meet rigorous cost and budget planning, monitoring and reporting requirements.

Many executives agree that payment for services will decline significantly, with the overall average rate likely to approach Medicare's rate. For large organizations, the implications of such changes could approach $100 million or more. Hospitals will need to bend the cost curve dramatically. Simple cost management will be insufficient; organizations will need to reconfigure their operating cost structures dramatically by redesigning care processes to ensure best-practice cost outcomes in everything they do.

In the interim, many organizations are trying to establish new cost metrics and eliminate operational inefficiencies while meeting quality and outcomes targets. Accurate and trusted metrics to be used as benchmarks remain an issue in most organizations.

Planning and analysis matter more now than ever before. Robust planning, modeling, budgeting and reporting systems must guide decision-making related to cost structure redesign, strategic repositioning and all other organizational objectives.

2011 and Beyond

Future care delivery will require a basic reinvention of the hospital. Hospitals will need to change their focus from acute care to the management of patient health across care-delivery settings. This transformation will be achieved more rapidly by those with the scale, clinical and management talent, market essentiality and financial resources required for success.

The year 2011 is the beginning of one of the most exciting periods in health care in more than 50 years. The challenges are immense, but the opportunities are remarkable.

Brian Fuller (bfuller@kaufmanhall.com) is a vice president, Mark Grube (mgrube@kaufmanhall.com) is a managing director and Kenneth Kaufman (kkaufman@kaufmanhall.com) is CEO at Kaufman, Hall & Associates Inc., Skokie, Ill.