Transitioning to Risk- Getting Over the Straddle

This week I gave a presentation on “transitioning to risk” at a great meeting with a large group of seasoned healthcare executives in Nebraska.
One of the points I made was this:  it is important to remember that when transitioning to risk from fee-for-service, a healthcare organization has to expect a period of poor financial performance before the financial benefits of the new risk contracts emerge.    These health systems are going to need to figure out how to float the organization across this period before things pick up again.

I received a number of questions after the talk that were quite thought-provoking.    Let me explain this idea a bit further in this post.

As organizations take on risk contracts they will see a decline in fee-for-service revenue.  The decline comes from 1) decreasing reimbursement from the insurance companies 2) declining volume due to the purchasing habits of risk-bearing partners, and 3) tighter internal prescribing and utilization habits as organizations begin to taste their first risk-based contracts.

At the same time, these organizations need to invest heavily in infrastructure, electronic records, care management, analytics, etc.  This is not an insignificant cost, and it can’t be done in lockstep with the revenue from risk contracts: the infrastructure needs to be built before there are any margins from risk contracts.

This combination of declining fee-for-service revenue, absent risk margin and high infrastructure costs to succeed in risk means that most organizations will go through a few lean years, which I’ve called the straddle period.   Health system executives and boards need to understand that the significant investments in risk infrastructure are critical for future success and they need to take a long-term view during this straddle. (Some health systems may elect to invest capital dollars in this infrastructure to keep operating margin intact– but most of these expenses (being FTEs and recurring IT expense) are generally operating expense.

Path to Risk.001

FFS margin falls as revenue declines and expenses related to building risk capacity increase. Margin from risk takes time to emerge and arrives in phases. Companies need to be able to survive the “saddle” period

The returns on the investments in risk don’t mirror the FFS losses:   There are four distinct periods and two distinct bumps in the margin returned on risk contracts:

  • Period 1:  Building Risk:   this is the period just after organizations have decided to build the infrastructure necessary to succeed in risk contracts. This includes myriad back-office functions, analytic teams, IT, necessary to thrive in risk. As I have written about before, this is a period of subsidization to the insurance company: You are doing better case management on your fee-for-service population, and benefits accrue to the risk holder, i.e.. the insurance company.
  • Period 2: Learning risk: this is the period when organizations start figuring out how to function in risk environment. The physicians become more disciplined in their prescribing habits. There’s a thoughtful approach to value. The organization is starting to become familiar with using analytics to guide decisions. There is a modest return on the risk infrastructure.
  •  Period 3: Returns from Aggressive Patient Management:  This is the first real bump in margin for many organizations. It’s the period when aggressive case management, utilization review, peer review and the like wring waste from the system.   There is a pronounced uptick in the organization’s financial performance as the low hanging fruit gets picked quickly.
  • Period 4: Prevention Payback: this is the point at which all of the hard work a risk bearing organization does to manage its population’s health through aggressive prevention efforts, screening,  chronic disease management and the like begins to bear fruit.   This period is where the savings from avoided strokes, avoided heart attacks, avoided falls, etc. begins to accrue and is where the real savings opportunity lie.   This can be 10 to 20 years from when the organization first steps in to its risk contracts.

Several of the participants at the meeting asked me if there was a “tipping point” of FFS/risk ratios when significant investment in risk bearing infrastructure was suddenly worthwhile.  I don’t think so.  I would make the argument that it is to every organization’s advantage to push the risk building infrastructure as far to the left of the above chart as possible, when you still have fee-for-service revenue available to fund the cost of the expensive build.   You will dampen your margins, but you also avoid the risk of being caught in a real hole in the future, forced to run big deficits as retool your factory with next to no FFS dollars coming in.  One way or another, you need to buy time, lost margin and understanding as you wind down one way of doing business, and scale up another.

Photo: Farrukh via FLikr, cc license

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