The marriage of risk management and the process of patient care.

To understand the requirements for successfully running a capitated business, it is important to realize that it is a complicated business, one that requires application of management techniques from two undertakings that are in themselves complex. Let's start with the first axiom of the capitated provider business: Upon accepting a capitation contract, a provider of care is ipso facto in the risk management business and must adopt the management techniques of insurers.

As challenging as this may be, the good news is that there exists a good body of knowledge and practice regarding managing risk and insurance operations and a growing body of knowledge and practice on how to run a capitated provider enterprise. The bad news (from a management perspective) is that a capitated provider enterprise is even more complicated than an insurance company, because success under managed care is even more about taking good care of patients! This means:

* Taking care of patients better: Improving their health over time. * Taking care of patients faster: Doing it right the first time. * Taking care of patients cheaper: Using the least costly interventions and settings to achieve optimal health outcomes.

Accepting the fact that the business of capitation is complex, what are the keys to success? As management guru Peter Drucker has said, business has only two basic functions: marketing and innovation. This is as true for the capitation business as it is for high-tech manufacturing. In fact, success in the capitation business revolves around only a few parameters:

* Effective marketing and growth. * Integrated, innovative management of risk and cash flow, die process of care, and clinically meaningful information.

Business Requirement One:

Marketing and Growth

If marketing and growth do not ensure success in managed care, they certainly make it possible. The fact of life is that capitation is reliant upon effective marketing and growth for three reasons:

* The law of large numbers applies to capitation. All else being equal, risk declines as the number of covered fives increases. This is a statistical fact. Variance and standard deviation vary with the inverse of "n," so larger numbers are more stable, more predictable, and less risky. * Cash flow increases with growth. In a well-managed capitated group, this means greater ability to afford sophisticated infrastructure, better coverage of fixed costs, and greater potential profitability. * Growth produces greater cash flows from the provider organization itself through physicians' practices and therefore generates greater attention and loyalty to the group.

Three keys to successful marketing and growth stand out: * An attractive primary care base. Primary care physicians constitute the enrollment capacity of the capitated provider organization and are the single most crucial element in a competitive marketing strategy. Offering exclusive access to a primary care base comprising physicians with good reputations, in geographically accessible areas, and with a cultural and gender mix reflective of the preferences of the potential patient base is the building block of a growth strategy. * A Value-added Posture. Capitated provider organizations will grow because they offer differential value in the marketplace. Added value may arise through excellent customer-patient service, through excellent support and training of office staff; or through "add-on" benefits that not only help the group manage care, but also are attractive to patients. An example of a value-added service that also serves an important management function is the case management system described below. * Effective Promotion. Offering added value is great, but it will not result in much growth without active promotion. It is probably true that the most effective promotion is word-of-mouth from satisfied patients, but it does not hurt to nudge that process along with some careful promotional strategies. Promotion can range from newsletters to participation in health forums, to media advertising. Each has a different purpose and, of course, price. The most prevalent advertising strategy currently in use is die "Intel Inside" strategy: "Be sure the HMO you choose has XYZ Medical Group on its list of fine physicians and hospitals."

Business Requirement Two: integrated

Management of Capitation

As is shown in figure 1, page 11, managing a capitated provider enterprise is like managing simultaneous equations in three general areas:

* Risk and cash flow. * The process of care. * Clinically meaningful information, supporting both risk management and management of the process of care.

Management of Risk

Managing the business of capitation starts with management of three general types of risk imposed by the acceptance of a capitated contract. Each of these risks can be managed through the application of specific management techniques. The three types of risk are:

* Risk of selection. * Risk of statistical variance. * Cash flow risks.

The Risk of Selection. Because capitation rates are predicated upon the actual enrollment of a population with expected costs in a bell-shaped curve centering on a mean value, a capitated provider group is at risk if the actual population enrolled has a mean demand in excess of the assumed mean. That is, the actual enrolled population may have higher health needs than predicted.

Because health plans, not the capitated provider organization, actually enroll patients, the techniques to control this risk center on contractual terms between the two parties. Specifically, capitated provider organizations should negotiated for risk-adjusters in the contract. The most prevalent risk adjuster is age/sex. Although age/sex adjustments account for only a portion of health use variance, they are the only adjusters currently available that are easy and cheap to use.

The Risk of Statistical Variance. The risk of statistical variance is the risk that bad things happen: rare (and expensive) events can happen in small populations. The best technique to manage the risk of statistical variance is to enlarge enrollment: the larger the n," the smaller the variance and standard deviation. Beyond growth, the best technique readily available to manage the risk of statistical variance is to purchase reinsurance from the health plan or an outside carrier. Reinsurance is intended to protect the capitated provider organization from health costs that exceed a fixed deductible per patient per year. These deductibles are typically set between $7,500 and $10,000 for the professional component and between $20,000 and $30,000 for the institutional component. Costs in excess of those levels are reimbursed according to a fee schedule.

Cash Flow Risks. Cash flow risks arise from uncontrolled variance in cash flows into and out of an enterprise. Three cash flow risks are specific to the capitated provider organization.

Capitation Payment Accuracy. Capitation payment from most health plans is a complicated event. Actual capitation rates vary by benefit plan type (a health plan may sell a dozen different mixes of benefits and copayment levels) and by age/sex category (of which there may be 20). This will create a matrix with 240 cells (12 benefits plans times 20 age/sex cells). The actual payment due from the health plan should accurately sum the payment rates associated with the cells to which the patients belong. It is not uncommon for the actual payment to be lower than that actually owed. Therefore, the only way to ensure proper payment is to reconcile actual payments with payments due. This is a complicated process that can be performed via an automated system or on spreadsheets.

Out-of-network Contracting. Few provider organizations contain all services necessary to care for their capitated patients. Typically, services that must be sent out of the network are low-incidence/high-cost tertiary services. Pediatric oncology and neurosurgery are two common examples. If the provider organization that is at risk for these services does not have effective contracts with favorable rates in place with the out-of-network providers, serious demand can be put on the cash of the capitated organization. The solution is effective contracts for set fees (not discounts from charges) or, where volume permits, subcapitation agreements.

Unpaid Liabilities. Perhaps the most common and most dangerous cash flow management challenge for capitated provider organizations arises from unanticipated liabilities, i.e., unpaid claims. In fact, unpaid claims (and incurred but not reported expenses, known as IBNR) have caused capitated IPAs to fail and have left their member physicians holding a bag full of uncompensated services. The best management technique to control the risk of unpaid liabilities is to adjudicate and process claims accurately and rapidly. By rapidly getting claims into its computer, the capitated provider organization will be able to forecast and plan its cash needs.

The utilization management process can also be an integral part of anticipating unpaid liabilities. With the right system, referral and admission authorizations can be the starting point for identifying events that will result in a claim, and therefore a demand on cash.

Finally, there is the problem of "true IBNR": events that are not known to the organization but that will have to be paid for. The best way to control IBNR is to become aware of events as quickly as possible through the authorization process, through the claims process, or through required notice of emergency admissions. Beyond that, IBNR forecasting techniques, based on historical performance and statistical modeling, should be incorporated into the financial management of the capitated provider organization.

Management of the Process of Care

Success of a capitated provider organization seems to be due at least as much to managing the process of care as it is to managing risk. Managing the process of care means reducing the variance in outcomes among practitioners with similar patients. This entails a need to define and measure outcomes and to define and measure meaningful differences among patients. These, in turn, depend on having clinically meaningful information available for analysis and on clinicians motivated to use the information. The key components of management of the process of care are as follows:

Physician Decision Support. The fundamental building block of management of the process of care is the provision of support for physician decision making. Although many physicians tend to think of electronic algorithms with real-time information when they hear of decision support systems, as a practical matter, such systems are not currently ready for affordable and timely adoption by most capitated provider organizations. In this regard, it is important to bear in mind that support systems for physicians are not limited to electronic systems; systems, more broadly construed, are constituted by information flows from paper, people, and electronic sources. Some examples of practical steps most capitated provider organizations can take in order to manage the process of care:

Utilization Management (UM). Although UM has frequently evolved as an intrusive "1-800-NURSE-NO" process, authorizations of referrals and admissions, especially for expensive out-of-network services, can serve as an education and support system if built around clinical guidelines or pathways that have been developed by the physicians themselves. Thus, rather than being an externally imposed intrusion on clinical autonomy, UM can become a support system assisting physicians to implement guidelines to which they have agreed.

Consultations. Consultations among physicians, particularly if done informally over the phone or in the halls of a hospital, are an essential support system for physician decision making. And because capitation, if properly implemented, can eliminate the need to produce billable events, referral care physicians can become an important support system for primary care physicians.

Education. Education based on clinically meaningful information can be used by physicians to help each other learn to manage care in a way that reduces variance in outcomes among physicians and that works toward inculcation of "best practices" guidelines. Education should focus far less on money than on the decisions that seem to produce the best patient outcomes. Cost is relevant, but only as a "tie breaker" where two or more alternatives vary only in cost.

Patient Disposition Options for Physicians. It is one thing for physicians to know that a patient no longer needs the level of care he or she is receiving; it is quite another thing to have alternatives readily available. Therefore, a critical management function is to make available to physicians a broad range of patient disposition options and support for accessing those options. At its best, the business of capitated provider organizations should encompass - by ownership, partnership, or contract - the entire continuum of care. Further, the business should employ professionals to manage this continuum of care: case managers. These resources are particularly important for chronically ill capitated populations, such as seniors, or patients with HIV/AIDS.

As is illustrated in figure 2, page 12, this support system should contain the following elements in some mix:

Universal Health Risk Assessment. Each member from an at-risk cohort, such as seniors, should be given a written health risk assessment, and the organization should ensure 100 percent compliance. For those who do not return written forms, phone follow-up should be done by case managers. For those who still do not respond, home visits should be considered. Those who do not comply should engender the most concern. On the basis of the health risk assessment, patients can be placed into risk categories, with early physician visits and treatment plans done for those in the highest risk categories.

Family/Social Setting Evaluations. For patients in higher risk categories, early evaluation of their living situations and personal support systems (family and others) can help the provider organization augment support where indicated and to have a baseline of information for early discharge planning as that becomes needed.

Early Discharge Planning. Planning for discharge is a care process management function and should begin as soon as admission is contemplated. Early discharge planning helps avoid unnecessary hospital days and can better set expectations and smooth the transition for the patient and family.

Ready Availability of Step-Down Units. Successful management requires arrangement for ready access to SNFs/ICFs, rehabilitation units, and recovery units. This means weekend admissions to SNFs.

Linkage to Community Care Resources. Most communities have an array of resources, such as nutrition, housing, transportation, and counseling, available to citizens. Such services constitute an important part of the continuum of care and are supported through tax dollars and donations. Case managers should develop strong linkages to such services as a way to give better care, support stable social settings, and broaden the range of disposition options for physicians.

Required Management Resources

At its core, the capitated provider business requires two things:

* Information that is accurate, timely, and clinically meaningful * The right people with the right skills sets.

Information. With the current state of available technology, information for management of risk and management of the process of care is largely derived from the CPT coding on claims or encounter forms. Thus, to develop a database, the capitated provider organization must have a way to process claims and encounters for all its providers and all its health plan contracts. To leave this to the health plans both fragments the provider's database across health plans and puts the provider in a disadvantageous position with respect to control of the quality, timeliness, and use of the information.

Fortunately, there is an increasing number of hardware and software systems available for provider organizations to manage their capitated business. These run from PC-based systems costing 60,000 - 75,000 that can do managed care only and have covered life capacity in the 50,000 to 75,000 range to larger systems costing $2 million and up that can support practice management in addition to managed care and have covered life capabilities of several hundred thousand members. The bad news is that none of these systems is perfect. Each has strengths and weaknesses that need to be carefully assessed prior to a commitment.

Systems can also be accessed in three general ways:

Purchase/Lease. Most systems can be purchased or leased directly. This means that the provider organization owns and operates the system. The advantage is control. The disadvantages are timeliness of installation and cash requirements.

Service Bureau. Some system vendors offer service bureau services, where the vendor does all the processing and reporting under contract with the provider organization. The advantage of this is relatively rapid start-up and (usually) lower upfront costs. On the downside, transaction costs can be substantial, and control is more problematic.

Time Share. Occupying the middle ground between ownership and service bureau is time share, offered by several high-end vendors. With time share, the provider organization essentially rents space on the vendor's hardware and software and does all data input and information management locally, with local terminals and personnel. Advantages are greater local control and lower upfront costs. Disadvantages are that there still can he substantial set-up fees and higher transaction costs than under ownership, especially at higher volumes.

Personnel Requirements: All business run on people, and the capitated provider organization is no exception. As illustrated in figure 3, page 14, a typical [PA management structure comprises two basic functions: management of risk and management of the process of care. Experienced personnel for a capitation-capable provider organization are, unfortunately, in increasing demand and, therefore, more expensive. Key functions typically are:

CEO. The job of the CEO of a capitated provider organization is to provider leadership and direction with the board of directors and to select, guide, and motivate excellent personnel. In smaller organizations, the CEO will also frequently handle health plan negotiations personally. The CEO can be either a physician or an nonphysician; the important thing is talent and dedication.

Medical Director. The medical director oversees the development and implementation of clinical policies, particularly around quality and utilization. Depending on experience and skills, the medical director may or may not directly supervise case managers and the UM/QA department.

Case Managers. Case managers, typically master's degree-trained nurses or MSWs, are accountable for managing the continuum of care outlined above.

Operations Manager. The operations manager is responsible for running the claims and capitation payment system; the computer system; and, typically, customer and provider relations.

Controller Function. Financial management is usually supplied by an outside accounting firm for smaller capitated provider organizations. PHOs frequently rely upon the hospital finance department, while larger IPAs and multispecialty groups employ financial executives and staffs.

Summary

The business of successfully running a capitated provider organization requires a skillful marriage of the business of risk management, which is typical of insurers, with management of the process of care, particularly by assisting physicians to make better decisions through information and broad patient disposition options. This is a complicated business, and it requires excellent marketing and growth; accurate, timely, and clinically meaningful information; and skilled and experienced personnel pulling together under excellent leadership.

John S. Ray, MHA, is President of The Clearwater Group, Ltd., a health care consulting company in Los Gatos, Calif.,