Todd Fitz

As an increasing number of physicians opt for the relative stability of employed positions over private practice, hospitals and health systems nationwide face a challenge in creating physician compensation plans that are both sustainable and competitive. 

The structure and ongoing management of physician compensation are critical to successful physician engagement and overall organizational financial performance. Unfortunately, most compensation models commonly used today are ill suited to address the rapid and significant changes under way and on the horizon in the U.S. healthcare market. Salary-based models, for example, underperform as declining utilization and reimbursement leave organizations with less income to cover fixed compensation costs.

Compensation plans based on net income are better able to negotiate shifts in payment, but are not easily adaptable to value-based payment models. According to recent data from the Medical Group Management Association, organizations lose an average of $176,000 per year for every physician they employ—a figure that has trended upward in recent years and likely will continue to increase. As organizations struggle with these mounting losses, the importance of effective physician compensation grows exponentially.

To reverse this trend and strike an appropriate balance, healthcare leaders developing physician compensation models must: 

  • Determine the level of physician compensation that is sustainable for their organization, and adhere to those limits
  • Establish a productivity-based plan that incorporates the appropriate amount of non-productivity/value-based elements
  • Ensure that contract terms allow for flexibility to change with the market and organizational needs

Setting Limits and Mixing Metrics

For most hospitals and health systems, physician employment is an 'investment' that loses money on a direct basis, but is necessary to the ongoing business and go-forward strategy. Understanding the current and future costs of the physician enterprise is essential. Organizations should both develop a thorough financial projection and define thresholds for physician investment to guide efforts to establish a compensation plan structure and manage the plan going forward.

Productivity-based compensation models are beneficial in ensuring patient access and helping to align physician compensation with revenues. Such models often measure productivity using work relative-value units (wRVUs), which are set by Medicare and are easy to measure and benchmark. Although these metrics were sufficient on their own under a fee-for-service business model, they now are better paired with non-productivity metrics.

Plans that incorporate both types of metrics should begin as largely productivity based and then increase the proportion of compensation tied to non-productivity metrics over time. As organizations see greater portions of their revenue derived from value-based arrangements, the compensation approach should evolve accordingly. Having 10 percent of physician compensation tied to non-productivity elements provides a good starting point for most organizations and markets—we have observed that allocations lower than 10 percent struggle to be material enough to influence physician behavior. 

Ensuring Adaptability

A strong compensation model also requires the ability to adapt physician compensation levels and structure as the market evolves. This does not mean that compensation can be changed without solid reason, but that reasonable triggers and timeframes are built in to balance the organization’s financial responsibility with the physician's need for clarity and stability. An example may be allowing for adjustments if physician losses exceed a certain dollar amount or if Medicare payment changes by more than 5 percent.

The question of how to effectively employ and manage physicians always has posed challenges for hospitals and health systems. Those challenges are compounded by health care's transition to the new value-based business model. Even so, organizations that adhere to the key elements outlined here can develop successful and sustainable physician compensation models that benefit both health systems and employed physicians. 

Todd Fitz is a vice president in the strategy practice at Kaufman, Hall & Associates Inc., Skokie, Ill. 

Publication Date: Monday, September 23, 2013