Myriad, simultaneous shifts in health care have many provider organizations looking to retool their revenue models.
Healthcare organizations are contending with myriad changes—including declining government payment, regulatory changes on the state and federal levels, shifting demographics, and changes in payment structure—any one of which could cause dramatic shifts in their revenue models. Taken together, these changes could cause havoc for an organization if not anticipated and navigated correctly. Increasingly, providers are identifying these changes as key factors in a trend toward revenue degradation and significant margin challenges. Beyond creating significant risks, however, the uncertainty around revenue drivers presents providers with an unprecedented opportunity to redefine and shape their revenue models for the years to come.
The forces affecting the healthcare industry across the country are compelling administrative and clinical leaders to make critical strategic, financial and operational decisions with respect to how and where patient care will be delivered in the future and how their organizations will achieve the margins required with a shifting (and often deteriorating) revenue mix. Such trends will increasingly require leaders to consider how their organizations will be paid for patient care services by site of care as well as how they will maintain operating margins.
A provider’s revenue model represents the operating framework that it uses for generating revenues. For providers, the primary source of operating revenue comes from health plans (both public and commercial), and it is more generically referred to as their payer mix by fiscal class.
The complexity of changing rates and shifting volumes and demographics has created increasing uncertainty for provider organizations regarding their current and future revenue models. The revenue model has become even more complex with the introduction of value-based payment and its wide-ranging impact on provider organizations’ overall operating and care delivery models.
Any provider that lacks a well-defined revenue model strategy integrated with clinical operations will almost certainly have difficulty maintaining margins, investing in growth, and sustaining operations. Conversely, a provider that has a well-defined, strategically aligned, and forward-looking revenue model plan in place is in a position to manage future transitions profitably and predictably. Such a plan can empower a health system to maintain or improve margins, invest in strategic growth opportunities, and sustain overall enterprise economics.
Challenges Affecting the Model
From an enterprise perspective, a healthcare organization’s revenue model should have strategic parity with the organization’s operating and clinical care models, combining to represent the organization’s enterprise business model. The high level of variation in this type of model has led to margin management challenges for all types of provider organizations, including hospitals, post-acute care providers, physician practices, and ancillary service providers. These challenges typically arise from one or more of the following organizational factors.
Separate business processes instead of enterprise-level thinking. Organizational operating, clinical care, and revenue models should be aligned in a manner that provides the necessary core “systems thinking” building blocks. An organization that lacks such alignment will be poorly prepared operationally for a dynamic marketplace, in which it must seek to optimize the total cost of care delivery, market growth, and revenue yield across commercial health plans.
Prioritization and sequencing of business model strategy components. The revenue model should be designed to support the organization’s future operating and care delivery models. Other organizational initiatives should be designed and implemented with full consideration of the dynamic nature of the revenue model and how the revenue model will change over the next three to five years.
Revenue portfolio management. In the historical, purely fee-for-service (FFS) payment environment, the general portfolio management strategy to meet margin targets has been to increase charges and negotiate higher payment levels with managed care payers. These historical FFS payer contracting strategies and tactics, however, will continue to become less applicable and sustainable in 2017 and beyond with broader implementation of value-based payment models, market-competitive pressures, and payment model changes implemented by insurers, providers, and product distribution channels. As such, revenue model investments and associated ROI increasingly will be measured by the level of risk-and-return opportunity within each investment or revenue source and across each insurer financial class, as illustrated in the exhibit below.
Third-Party Revenue Model: Optimize Patient Revenues Today and Into the Future
Strategic planning focused on the past. When engaged in an enterprise strategic-planning process, providers should incorporate the most likely and most plausible scenarios for how their revenue model will change in their marketplaces over the next three to five years. Review of past operational, competitive, and financial performance across a largely FFS and volume-driven acute-care-centric business model will be a poor predictor of future performance. To prepare for the future, providers must first understand where, when, and how their revenue model will evolve as well as which sources of revenue are at increased risk and then develop stratagies to mitigate those risks.
Within each major fiscal class and throughout different geographic regions of the country, there will be variations in payment methodologies and payment rules across a revenue model’s top three patient market segments (i.e., managed care, Medicare, and Medicaid). That variation will exist in the Medicaid segment is a given; however, three key questions likely will apply to providers in all three types of third-party insurer agreements:
- What is the organization doing to be accountable for the total cost of care for patients?
- What is the organization doing to improve and sustain quality and patient outcomes?
- What is the organization doing to identify, capture, and deliver better value ?
The answers to these questions will have an impact on overall enterprise revenue model strategies as well as negotiations with managed care insurers. Prior to value-based payment models, addressing these questions with clear and strong initiatives was not a high priority for many providers. But with the emergence of value-based payment models, addressing how an organization will answer these questions has become a strategic imperative for senior leadership.
Although the questions are relatively simple to answer at a high level, executing initiatives based on the answers is extremely complex because successrequires a level of disruptive financial-clinical-operational system transformation. Providers must be proactive in embracing the disruption necessary for business model transformation to a sustainable, value-based business enterprise.
The Enterprise Revenue Model Planning Process
Given the administrative and technical complexity of payment models and rules for both FFS and value-based payment agreements, the enterprise revenue model strategic-planning process must incorporate a range of factors that can affect provider margin management strategies and net operating income. Therefore, it is essential that providers apply the same level of planning discipline to the revenue model planning process as they would in developing strategic-growth or diversification plans, long-range financial plans, capital plans, and operating budgets. The enterprise revenue model planning process can be categorized into three major steps:
- Revenue model strategy formulation
- Tactical game plan development
- Strategy implementation
The exhibit below illustrates the entire enterprise revenue model planning process.
Revenue Model Portfolio Strategy Across Segments Strategy Formulation
As the first step, strategy formulation is key to the success of any revenue model development plan. This process consists of four key steps:
- Performing a root-cause analysis
- Engaging in payment benchmarking
- Undertaking market segment research and market segmentation
- Setting business goals and objectives
Root-cause analysis. Providers today are challenged with several competing narratives on why and how their revenue is changing. For example, an organization may observe that overall revenue growth is stagnating, but executives may formulate significantly different conclusions from the same data on the root cause of the problem. Without clear answers, a senior finance executive cannot make strategic decisions to improve the organization’s financial outlook.
To build a clear and undisputable fact base for responding to changes in their revenue picture, providers must look deeper within their data than ever before in an effort to isolate the key levers and the subdrivers of change. Examples of the latter include market growth, commercial and government payment rates, and denials. This data analysis can provide a new opportunity to develop clear actionable and tactical choices to mitigate revenue challenges (see the exhibit below).
Sample Analysis of Health System Risk by Revenue Source
Benchmarking. To set an appropriate goal and make the case to the insurer as to why a certain rate is deserved, provider senior leadership and managed care executives must understand how their rates compare with the market averages. Organizations can employ two useful methods to approach this fact-based initiative: standard managed care benchmarking and insurer-specific benchmarking.
With standard managed care benchmarking, a provider can determine how its payment rates compare with the prevailing rates within its market or markets. Using data from a large national claims data set as benchmarks can enable a provider to observe relativity of its current contract rates compared to prevailing rates at the market median, market premium, or a custom-defined market threshold.
By contrast, insurer-specific benchmarking to marketwide benchmarks will help support an unbiased fact-based analysis of a provider’s rates compared with market rates among providers and also show the provider’s actual price parity among its insurers. Despite working together on shared savings arrangements, value-based care, and other items, insurers and providers are bound by legal restrictions and competitive interests from sharing actual competitor rates with the other party. Such market-based analyses however, often conducted as a “black box” analysis by an independent third party, can help build trust between insurers and providers to ultimately broker a deal at a mutually agreeable level.
The same types of analytic assessment processes also could be applied for Medicare and Medicaid patient sources of revenue (e.g., a two-sided alternative payment arrangement with Medicare or a risk contract with a managed Medicaid plan).
Market segment research and market segmentation. As is the case with any strategic-planning initiative, providers must gain an in-depth understanding of the market segments that should be targeted for pull-and-push marketing strategies. Within the context of an organization’s revenue model, all providers require, at a minimum, an understanding of the following:
- Clinical services—the range of services offered to managed care, Medicare, and Medicaid patients relative to their care-access and clinical care needs, and the completeness of varied service line offerings (i.e., acute, post-acute, and ambulatory) with respect to covering a complete service line episode of care
- Patient volume—the inpatient, outpatient, and ambulatory service volume growthdrivers for different patient demographics and for each fiscal class, and how these will change over the next three to five years
- Care and payment model innovations—emerging care delivery and payment models in the market that an organization must address to remain competitive and minimize volume, price, product-exclusion, and site-of-care substitution risks, both today and over the next three to five years
- Competitor initiatives—relative to enterprise revenue model strategies and tactics, the potential risks to patient market segment volumes from key competitors (e.g., a narrow- network risk contract with a payer tied to a specific commercial product or a Next Generation Medicare ACO that would change referral patterns)
- Market speed of the transition from volume to value—the speed at which the market is transitioning from FFS to value-based payment models, with which insurers, and for which patient or revenue model market segments
- Strategic pricing/planning by market segment—an undertaking that involves a relatively deep dive into strategic pricing relative to services to be offered, combined with market share growth considerations
First steps for the strategic pricing and planning for each market segment involve looking at historical paid claims data across managed care insurers (i.e., commercial health plans, Medicare, and Medicaid) and categorizing inpatient-outpatient-freestanding ambulatory services in one of three categories:
- Commodity—price sensitive with a high risk of volume decrease/site-of-care substitution
- Mixed commodity-proprietary—price sensitive with a moderate risk of volume decrease/site-of-care substitution.
- Proprietary—limited price sensitivity and typically inpatient and high-end/complex on-campus outpatient, where the focus is on total cost of care and patient outcomes versus unit price
Providers should build the above factors and market data into a straw financial model with different sensitivity drivers to determine the best pricing strategy for inpatient-outpatient-ambulatory services to use in insurer contract and payment negotiations.
Once a combined quantitative and qualitative fact base is established for understanding potential revenue model risks and opportunities, providers should apply a risk-level rating to each key revenue lever across each major revenue model source of patient revenues. A sample framework is shown in the exhibit below.
Sample Revenue Portfolio Growth and Margin Management Strategy Framework
Business goals and objectives. Goals and objectives for the enterprise revenue model strategy are similar to those that might be developed for a provider’s overall corporate strategy. Using a service-line comparison to illustrate aspects of a revenue model strategy, instead of looking at market factors to determine which clinical services to offer as part of a traditional service line strategy, could help providers understand which revenue and payment model strategies will best support their service-line strategy goals and objectives.
One effective approach to address the above considerations is to establish goals and objectives for revenue model strategy across three strategic dimensions: enterprise, business unit, and functional.
In the enterprise dimension, decision making is focused on the overall business model and its three major submodels: revenue, operational, and clinical care. An enterprise revenue model strategy should support a provider’s current and future operational and clinical care models. Senior leadership should be engaged in forward-looking enterprise strategy development with an eye on strategic repositioning for five years out. For example, a stand-alone academic medical center might later seek to reposition itself to be the high-end tertiary-and-quarternary-level hospital within an integrated delivery system.
The business unit dimension represents a provider’s strategic business units (SBUs), including core clinical service lines (e.g., cardiac, neuro, women’s) and separate businesses (e.g., a hospital’s physician enterprise, post-acute care skilled nursing facility, or ambulatory surgery center). An SBU notably competes at the product and market segment level. An example of the revenue model connection might be the need to develop an alliance strategy with a Medicare Advantage plan and enter into a risk-sharing arrangement designed to secure current patient volumes and increase market share with Medicare patients across several clinical service lines.
Functional-level strategy in the context of the overall revenue model enterprise strategy could best be thought of in terms of attaining operational readiness and establishing organizational competencies to pursue the full range of revenue model opportunities. For example, an organization might need to determine whether it has the IT infrastructure to manage patient populations across networks of care and the finance capabilities to track, monitor, and distribute funds from risk-sharing contracts.
For each of these dimensions, a provider must identify its goals and objectives, which—seen through the lens of each of the different dimensions, along with the strategies and tactics the organization develops—are necessary to support an overall enterprise strategy for the organization’s go-to-market business model.
Tactical Game Plan Development
Once an overall enterprise revenue model strategy has been developed to address revenue diversification, optimization of revenue yields, risk mitigation, and tactics for margin improvement, the provider must incorporate all of these associated strategies into its tactical game plan. The game plan will focus on prioritization, capabilities development, and resource allocations to pursue short-term goals and objectives across the organization’s revenue model.
To illustrate, if under the Medicare Access and CHIP Reauthorization Act of 2015, an organization decides to transition from an existing Medicare Shared Savings Program (MSSP)Track 1 accountable care organization (ACO) to an alternative advanced payment model such as a MSSP Track 3 ACO or Next Gen ACO, it must, in the very least, prepare a detailed tactical plan for meeting all Medicare filing requirements, adapt policies and procedures for its new risk model, and update and modify provider agreements. A detailed blueprint is essential for the organization to execute its Medicare ACO strategy.
Implementation of enterprise revenue model strategies also should be aligned with other aspects of an overall business model. Strategic implementation of revenue, operating, and clinical care models involves the introduction of a great deal of change to an organization. The organization must create a workable transition plan to successfully implement its strategies at the enterprise, SBU, and functional levels.
All too often, enterprise revenue model strategies lose momentum and end up not being implemented. This outcome can occur for a number of reasons, including a lack of clarity in vision, insufficient resource allocations, undeveloped but necessary new capabilities, insufficient physician engagement and buy-in to achieve necessary changes in clinical processes and capture value, and a general reluctance to move away from known (FFS) to unknown (value-based) payment models. Organizations that avoid these missteps and prepare for and shape the future will be better positioned for success as the inevitable changes take hold.
Christopher J. Kalkhof, MHA, FACHE, is director, strategic solutions, Navigant Consulting, Inc., Chicago.
Richard Bajner is managing director, strategic solutions, Navigant Consulting, Inc., Chicago.
Jeffrey Leibach is director, strategic solutions, Navigant Consulting Inc., Chicago.