Chapter 6 Revenue Determination

5–3 Learning Objectives Define basic methods of payment for health care firms Understand the general factors that influence pricing Define the basic health care pricing formula Determine if prices are defensible List some of the important considerations when negotiating a managed-care contract 2

Alternative Payment Systems Payment systems can be categorized by 2 dimensions –Payment Basis –Unit of Payment 5–4 3

Payment Basis The basis of payment defines how the actual payment will be made. There are 3 primary methods- 1.Cost 2.Fee Schedules – e.g. DRG’s 3.Price Related – e.g. 75% of billed charges 5–5 4

Unit of Payment Unit of payment defines how the services provided are consolidated into an actual claim. There are 2 primary methods- 1.Specific Services – Individual items that are listed in a claim are paid 2.Bundled Services – Specific services listed in a claim are paid on some aggregated basis – such as a DRG or per diem 5–6 5

5–7 Health Care Payment Methods 6

Factors Influencing Pricing Pricing includes the establishment of CDM prices and the negotiation of managed care contracts Three factors drive pricing policies –Required net income –Competitive position –Market structure 5–8 7

5–9 Figure 6–1 Factors Influencing Pricing 8

Setting Actual CDM Prices There are 4 factors that must be “mathematically” reflected in prices Failure to incorporate these 4 factors will impact financial survival. 5–10 9

5–11 Four Elements of Pricing 10 Average costs  Losses on third-party fee-schedule payments Medicaid Medicare Other  Write-offs on billed-charge patients Self pay Commercial  Reasonable return on investment Sustainable growth

5–12 Pricing Example Given the specified volumes, costs, desired profit, and other assumptions, what is the required charge per visit (i.e., price)? 11

5–13 Pricing Example, Income Statement Approach Given the specified volumes, costs, desired profit, and other assumptions, what is the required charge per visit (i.e., price)? Solve for this 12

5–14 Pricing Formula General Pricing Formula Pricing Formula Applied to Example 13

5–15 1. Increase in costs 2. Governmental programs that pay less than cost 3. Managed-care plan fee schedules that do not pay at levels above cost 4. Increases in required profit, such as debt- service obligations or capital replacement 5. Reductions in charge-paying patients 6. Increases in uninsured patients Factors That Tend to Increase Prices 14

Assessing Reasonableness of Prices Many healthcare providers, especially hospitals, have been criticized for unreasonable prices. One web site compares prices based on markups for all hospitals in US. A Maryland hospital (Johns Hopkins) is selected because Medicare + Medicaid pay close to 100% of charges which keeps Maryland hospital prices very low. 5–16 15

5–17 1. Return-on-Investment (ROI) adequacy 2. Comparison with other health care firms Reasonableness of Charges Two Generic Ways of Assessing: 16

5–18  Is ROI at Case Hospital reasonable?  Are costs at Case Hospital reasonable?  Is investment at Case Hospital reasonable? ROI Method, Case Hospital Example Three Issues: 17

5–19 Figure 6–3 Return on Assets (Net Income/Assets) 5-Year Average – 2004 to

5–20 Figure 6–4 Return on Equity (Net Income/Equity) 5- Year Average – 2004 to

5–21 Reasonableness of Costs, Case Hospital Example Cost Assessment Methodology: 20

5–22 Figure 6–5 Hospital Cost Index –

Figure 6–6 Medicare Cost per Discharge CMI & WI Adj) –

Figure 6–7 Cost per Medicare Visit (RW & WI Adj) –

Figure 6–8 Fixed Asset Turnover (Net Revenue/Net Fixed Assets) –

5–26  Case Hospital is not realizing excessive profits  Costs at Case Hospital are consistent with expected values and are reasonable  Investment at Case Hospital is reasonable and not excessive  Therefore prices must be reasonable ROI Method—Summary, Case Hospital Example Conclusions: 25

5–27  Compare with similar hospitals and/or  Compare with hospitals in the same region Comparison-of-Charges Method, Case Hospital Example General Methodology:  Compare with all academic centers in California  Compare with regional average for academic medical centers (cost-of-living adjusted) Case Hospital: 26

Figure 6–9 Hospital Charge Index –

Figure 6–10 Medicare Charge per Discharge (CMI & WI Adj) –

Figure 6–11 Average Charge per APC (RW & WI Adj) –

Figure 6–12 Medicare Inpatient DSH % Average Value –

Negotiating Managed Care Contracts Contract negotiation is critical to continued financial solvency Contract negotiation involved 2 key areas –Contract language –Payment rates 5–32 31

5–33 Managed-Care Contract Negotiation 1.Remove contract ambiguity 2.Eliminate retroactive denials 3.Establish a reasonable appeal process 4.Define clean claims 5.Remove most favored nation (MFN) clauses 6.Prohibit silent PPO arrangements 7.Include terms for outliers or technology-driven increases 8.Establish ability to recover payment after termination 9.Preserve the ability to be paid for services 10.Minimize health plan rate differentials 10 Important Areas of Managed-Care Contract Language: 32

Average Commercial Contract Rates to Hospitals 2009 ServicesAverage INPATIENT SERVICES All IP services Paid at %80.1% MS-DRG$7,781 Medical-per diem$2,076 Surgical-per diem$2,228 Psych$868 SNF$761 Normal vag Del case rate (or 2 day stay) $3,669 C-Section case rate (or 3 day stay)$4,780 Nursery Level 1- Boarder-per diem$740 Stop Loss: Threshold$100,212 Stop Loss Charges paid at %:63.5% Rate Increase Limit %5.8% 5–34 33

Average Commercial Contract Rates to Hospitals 2009 Outpatient Services All OP services Paid at %79.8% Emergency Department Paid at %74.5% Emergency Department-Case Rate$667 Observation Paid at %73.5% Observation case rate-per hour$65 Physical Therapy Paid at %74.6% PT case rate-per visit$147 MRI OP Paid at %76.4% MRI OP-case rate$1,009 Outpatient Surgery Paid at %74.7% OP Surgery Group-case rate$2,569 OP Surg Group 1-case rate$1,280 OP Surg Group 2-case rate$1,632 OP Surg Group 3-case rate$2,011 OP Surg Group 4-case rate$2,448 OP Surg Group 5-case rate$2,894 OP Surg Group 6-case rate$3,116 OP Surg Group 7-case rate$3,964 OP Surg Group 8-case rate$4,718 OP Surg Group 9-case rate$5,875 5–35 34

Summary Revenue generation is critical to financial solvency Revenue generation is impacted by 3 areas: –Pricing –Contract negotiation –Coding and billing Inadequate payments by many government payers force healthcare providers to “cost shift” 5–36 35