Christopher J. Donovan
Margery Mazoh
James P. Brown
Sarah Moore
Christi Skalka

A pricing model can be designed to not only create competitive advantage for a healthcare organization but also provide value to its patients.


At A Glance

  • Healthcare organizations can develop a value-based pricing strategy that benefits both patients and the organization.
  • The value-based pricing strategy of the Cleveland Clinic is based on five key components of value-relationship to cost, payment considerations, quality, market tolerance, and consistency.
  • Seven interrelated work streams can be used to align pricing inputs around the five components of value-based pricing.

"Patients want good outcomes, but they also want more ... They want to be welcomed, respected, and given the information they need to make the best decisions for their health."
-Cleveland Clinic 2006 Annual Report

"Patients first" is the long-held mission of the Cleveland Clinic. When the organization's leaders determined a need to revise their approach to pricing, they knew the strategy had to support their mission to patients. That decision three years ago has led the organization on a journey to develop a new value-based pricing strategy.

For the past two decades, healthcare pricing policies have evolved not in response to market interactions, but rather to myriad overlapping and often contradictory forces, including a complex relationship with healthcare insurers and prospective payment structures. This relationship is largely unique to health care and has had a significant impact on provider charging practices. But it is no longer sustainable. Traditional pricing and payment policies cannot support today's consumer-driven healthcare market.

Needed: A Different Approach to Pricing

The Cleveland Clinic's pricing project had several desired outcomes. First, the pricing strategy had to support the organization's "patients first" philosophy-the ability to provide meaningful and useful price and quality information to patients was a primary goal. Second, the strategy had both to address short-term pricing issues and to position the Cleveland Clinic as a leading-edge, proactive player in the area of healthcare pricing. To achieve these outcomes, the organization established one-, three-, and five-year goals. Finally, the development process had to be holistic in nature-driven by a cross-organizational, multidisciplinary team representing finance, contracting, patient financial services, and operations.

In 2006, the Cleveland Clinic developed a new pricing strategy based on five key attributes of value-relationship to cost, payment considerations, quality, market tolerance, and consistency.

Relationship to cost. To establish reasonable prices for their services, healthcare providers need to accurately determine the cost of those services. Although providers typically consider entity-level costs in their payment strategies, they do not routinely analyze the detailed, line-item costs of the services for which they charge. However, being able to capture, integrate, and communicate line-item cost information can allow a healthcare organization to offer consumers another way to manage their care choices. A provider's ability to measure and compare costs at the line-item level is dictated by the accessibility of appropriate information. This ability, in turn, is affected by technology, internal processes, and the organization's willingness to invest time and resources to develop detailed cost standards. The ability to produce accurate and timely cost information ultimately drives the provider's overall pricing strategy.

Exhibit 1 depicts a framework for segmenting a provider chargemaster into groups for which cost-related charge methodologies might be developed. This framework segments a chargemaster into seven components for which cost-related charge methodologies can be developed.

Exhibit 1

exhibit-1-Surviving in the Age of Price Transparency

Payment considerations. Understanding the existing arrangement with insurers is a complex, but essential, component of any effective pricing strategy. Forward-thinking providers are working with their major payers to better align prices and payment. If this alignment can be achieved, subsequent streamlining of payments and methodologies could dramatically reduce workloads for both payers and providers and pave the way for significantly improved consumer interactions.

A value-based pricing approach seeks to share cost, quality, and consistency information with insurers to streamline the bill-to-payment process and improve overall efficiency. Meaningful consumer information, such as out-of-pocket cost and deductible balances, would provide a platform where patients could have access to critical decision-making information.

Quality. Superior quality metrics and outcomes should be considered when establishing value-based pricing for nonroutine services and products. To be defensible, pricing needs to be measurable and generate perceived value.

For consumers to justify paying a premium, they need to perceive a service to be superior to what is generally available in the market. A perception of quality may result from the use of special technology or cutting-edge procedures, from board certification of physicians and nurses in their specialties, or from outcomes that are better than the market's average. Primary care physicians also play an important role in the patient's perception of value by communicating other possible markers of quality, including the organization's reputation among peers and the experiences and opinions of colleagues and clinical specialists.

Market tolerance. A value-based pricing strategy should consider the competitive and consumer markets in which the provider operates. Many hospitals previously employed "strategic" pricing initiatives that targeted a specific market price position that may not have been stable or reliable. Using a market benchmark as the primary factor in establishing a pricing point may have led to irrational swings in prices year over year. Where a hospital should fall within the market for select services should be a function of the other value-related inputs associated with the service.

In a value-based strategy, service lines and the market may be segmented in different ways to capture more targeted comparisons. To identify a market as the basis for comparison, management might consider relative size, case mix, location, rankings, and quality/outcomes data among its identified benchmarking group. Further segmenting by service line allows for differentiation among routine services for which consumers may shop and specialized services for which the provider may have advanced technology or experience.

Consistency. The final component of a rational, defensible pricing strategy is consistency. Consistent charge structures and protocols-along with standardized formulas for combining market benchmarks, cost data, payment considerations, and quality-are fundamental to a value-based pricing strategy. Many hospitals and health systems have initiated more consistent charge structures through chargemaster standardization, often driven by the implementation of a clinical information system that requires a single chargemaster. Standardizing the chargemaster presents a tremendous opportunity to develop a consistent approach to charging and pricing.

When consistent charge structures and protocols are present, market benchmarks, cost data, and payment calculations can be applied appropriately and uniformly across the health system. This state will verify that the same procedure is not priced differently within the system simply because of how it is charged; it does, however, allow for different prices for the same service across the health system when such variations are deemed appropriate due to cost or market differences. When all five components have been incorporated into a provider's pricing strategy, the strategy should be rational and defensible. Integrating these concepts into an approach balancing the organization's financial and operating needs while considering the other factors described takes it even further, into a value-based strategy.

From Principle to Implementation

Through extensive analysis, discussion, and consensus-building, the Cleveland Clinic detailed a desired future state using a value-based approach to pricing. The process to arrive at this point included the development of an executive-level steering committee and a tactical work team. As the guiding principles were established by the executive steering committee, the tactical team worked to develop meaningful, actionable work streams to be completed over the five-year time frame. As depicted in Exhibit 2, the team identified seven interrelated work streams to realign pricing inputs around the five components identified earlier in this article. Seven interrelated work streams are used to realign pricing inputs around the five components of value-based pricing.

Exhibit 2

exhibit-2-Surviving in the Age of Price Transparency

The team developed the interrelated work streams knowing that they will require investments in technology, process, and resources to achieve the desired state. With this vision in mind, the team developed project charters for each stream to lay out tactical, as well as long-term, work steps and milestones to support the value-based pricing strategy. The Cleveland Clinic chartered a project management office to manage the implementation of the new pricing strategy and work streams. The Cleveland Clinic created one dedicated position, a senior project manager, and hired someone from within the clinic who was previously in a revenue cycle manager role focused on pricing and chargemaster. Additional support for the office comes from leveraging existing resources across the health system for each work stream, which also reinforces the integrated nature of the approach. Effective deployment against these streams requires the involvement of the clinic's major functional areas, including finance, clinical, and IT.

A description of the seven work streams and their linkage to the five components follows. Although these descriptions apply specifically to the Cleveland Clinic, their underlying goals and capabilities would be similar for most provider organizations.

Competitive pricing. Linked to market tolerance, this work stream seeks to identify services that need to be priced more competitively due to consumerism and other market forces. Implementing the competitive pricing work stream includes developing decision criteria to define and identify competitive services and developing a standard methodology for pricing them. Once the criteria are identified, a line-item review of the chargemaster will be completed to identify specific services across the organization to which the criteria should be applied. These criteria may include percentage of self-pay, services for which patients travel specifically to the organization or shop extensively locally, and any number of other factors. The project team will work with the Cleveland Clinic's managed care team to examine contracting options and will perform revenue analyses to determine the financial impact of changes to pricing approach.

Cost accounting. Linked to relationship to cost, this work stream seeks to address differences in the cost accounting system regarding cost allocations and chargemaster alignment across the hospitals in the Cleveland Clinic system. When the original cost accounting system was implemented at the different hospitals, indirect and direct cost allocations were not implemented uniformly. This situation prevented the Cleveland Clinic from performing a true "apples-to-apples" cost comparison across its hospitals to establish cost corridors for setting prices. Standardizing this information will allow better analysis of the revenue and consumer implications of using variations on direct and fully loaded cost for setting prices.

Item master/chargemaster alignment. Linked to relationship to cost, this work stream seeks to directly map the Cleveland Clinic's supply chain item master to its chargemasters to facilitate standardizing pricing formulas, and to more quickly identify new items and cost changes on current items. Historically, supply chain and chargemaster/pricing operations have been decentralized and disconnected from each other, which has led to outdated costs and prices for supply and implant items. Improving these linkages is one of the most important and potentially complicated steps in the process as the organization moves toward further integration and standardization of systems and processes. Cost containment pressures make understanding and managing the supply chain critical for any provider, and the charging implications of supply chain projects need to be clearly understood before implementation to avoid unintended consequences.

Managed care coordination. Linked to payment considerations, this work stream seeks to apply a heightened awareness of pricing strategy in contract negotiations and payer relations to realize the Cleveland Clinic's value and competitive pricing objectives. This strategy includes developing a policy and procedure to incorporate pricing approach changes into contract negotiations. In addition, it includes developing a protocol to verify that prices and quality indicators published by payers are accurate and comprehensible. The goal is to ensure that the pricing project team is working in concert with the managed care team as it negotiates and administers contracts.

Net revenue analysis. Linked to payment considerations, this work stream seeks to strengthen the capability for modeling the net revenue impact of pricing changes. The Cleveland Clinic's current model calculates net revenue impact in the aggregate, but is based on a line-item pricing approach. This analysis does not provide adequate insight into the impact that line items may have in the aggregate on claims, such as whether more cases will move into outlier status or other specific contract terms might be triggered. Additionally, this line item modeling may under- or overestimate the impact of price changes, particularly price decreases, by assuming more or less actual impact from that one line item. The contract modeling system currently being implemented will be leveraged to model price changes against actual claims and contract data.

Pricing formula standardization. Linked to consistency, this work stream seeks to standardize how like items or services are priced across the Cleveland Clinic's hospitals. Previously, mark-ups and thresholds for implants and supplies were developed separately for each hospital. Supply chain management has now been unified, so each item purchased has a single acquisition cost. With the completion of the item master/chargemaster alignment work stream, it will be possible to compare items across the hospitals, determine and implement a single markup methodology and charge threshold, and assess revenue impact. Similarly, with the completion of the team's cost accounting work, the Cleveland Clinic will be better able to determine the cost bases for time-based and other noncoded charges and look to develop formulas for these.

Charge structure standardization. Also linked to consistency, this work stream has become the foundation for implementing the Cleveland Clinic's entire pricing strategy. One clear outcome of this work stream is a standard corporate chargemaster. More significant is the ability to align and compare services across the enterprise. Until 2006, the health system had no common chargemaster processes, systems, or information. In 2006, it implemented a chargemaster software product across the enterprise, and in 2007, it integrated all hospitals into a shared file for corporate chargemaster linking and management. This shared data capability, paired with extensive review and analysis, is enabling the Cleveland Clinic hospitals to develop a shared, leading practices chargemaster.

Bringing It All Together

Three years into its five-year strategy, the Cleveland Clinic has made significant progress on several of the work streams identified above. The clinic's leadership quickly determined that the work streams related to consistency and cost would be the foundations upon which the organization could build toward progress in its other work streams. These became the organization's primary focus, and it is now targeted to substantially complete its chargemaster standardization, cost accounting, and supply chain work streams by the end of this fiscal year. Leadership also recognized that to truly address the issues around value-based pricing, the managed care work stream needs to be expanded into a second initiative with its own set of guiding principles and subsequent work streams. They have recently begun the visioning process for this new project and expect to have one-, three- and five-year goals identified soon.

The Cleveland Clinic's ability to execute on its vision depended upon several factors:

  • Consistent support and involvement of the executive team is essential. The initiative has been driven primarily by the organization's CFO office and supported by several C-suite executives, including members of the medical staff.
  • The standardization and consistency efforts described above required the establishment of a dedicated project management office to monitor progress across multiple, simultaneous work streams.
  • Time to completion for the "building block" work streams was key to the organization's success, and compatibility with the consultant was essential to its ability to complete the project within a reasonable timeline.
  • The organization recognized that this vision is not a quick fix. The current pricing and payment environment took decades to develop, and changing the situation requires short- and medium-term measurable goals and milestones, driven by a long-term vision and goal.

In summary, Cleveland Clinic has developed an approach and a strategy that will position it as a leading player in healthcare pricing for the foreseeable future. Although the individual work streams are not in and of themselves necessarily innovative or new, the overall strategic focus and concurrent, interrelated implementation make the organization's value-based approach unique. Ultimately, it will be a mechanism by which the organization can provide significant value to its patients, create a competitive advantage for the organization, and serve as a catalyst of much-needed change to the payment model for health care in the United States through the delivery of potential solutions.


Christopher J. Donovan is senior director of fiscal services, Cleveland Clinic, Cleveland, and a member of HFMA's Northeast Ohio Chapter (donovac@ccf.org).

Margery Mazoh is a senior project manager, fiscal services, Cleveland Clinic, Cleveland, and a member of HFMA's Northeast Ohio Chapter (mazohm@ccf.org).

James P. Brown is a principal, Deloitte Consulting LLP, Life Sciences & Health Care Industry, Cleveland (jbrown@deloitte.com).

Sarah Moore, JD, is a senior manager, Deloitte Consulting LLP, Life Sciences & Health Care Industry, Boston (smoore@deloitte.com).

Christi Skalka is a manager, Deloitte Consulting LLP, Life Sciences & Health Care Industry, Austin, Texas (cskalka@deloitte.com).

Publication Date: Wednesday, October 01, 2008

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