Hedging Inpatient Revenue Loss with Medicare Bundled Payments

Submitted by jonpearce on Tue, 2013-05-14 21:17

Note – this paper is a thought experiment into the unintended consequences of various payment systems. The authors do not encourage the actions described in this paper, which do not follow the goals of readmission reduction, BPCI or accountable care. Also, participation in BPCI is limited to current participants, so no new organizations can participate.

One of the major dilemmas facing hospital financial executives today is the current initiative to reduce readmissions. Under current Medicare rules, hospitals with an excessive number of readmissions in selected DRGs may face a 1% reduction in Medicare payments, with that percentage increasing next year. Most analysts appear to agree that the revenue derived from these readmissions currently exceeds the penalty amount, but in future years that balance will swing in the opposite direction. Therefore, hospitals are faced with a certain revenue loss, either from reductions in fee-for-service revenue derived from readmissions or from payment of the penalties.

There is, however, an opportunity to avoid both of these situations and retain the readmission revenue while avoiding the penalty. This opportunity is created through participation in the Medicare Bundled Payment for Care Improvement (BPCI program). Under the BPCI program, participating hospitals pay a fixed percentage of the total episode costs (2% or 3% depending on the length of the episode) to CMS as the cost of participation. For the DRGs in which the hospital is participating, targets are established for the episode payment amounts based on the historical cost of the episodes. These targets include the cost of readmissions occurring during the base time periods from which the target rates were developed. If during the participation period the number of readmissions decreases, the hospital’s episode costs will fall below the target (all other factors remaining equal) and Medicare will repay the difference. (There are, of course, many other features of BPCI that are not relevant to this article.)

This arrangement will avoid both of the negative aspects described above. The actual readmission rate will fall, hopefully below the penalty threshold, and thus the penalty may be avoided. But the hospital will not lose revenue from the readmissions reduction since it is no longer being paid on a fee-for-service basis for those readmissions, but rather on a bundled payment basis against the target that included the historical readmission amounts.

In a sense, the hospital could look at the discount paid to CMS for participation in the BPCI program as if it was an insurance premium. The hospital pays a fixed price of 2-3% of the episode cost in return for protection against revenue loss due to reductions in readmission rates.

Hedging against accountable care organizations

A hospital financial manager’s worst nightmare may be the creation of an accountable care organization by a local group of primary care physicians. The financial goals of these organizations are to create “savings” by reducing the number of healthcare services provided to their members.[1] For these organizations, the “low hanging fruit” is generally a reduction in hospital services, and in particular reductions in readmission rates. If these organizations can reduce the number of readmissions, a portion of the inpatient revenue lost by those hospitals will accrue to the ACO, with the remainder going to Medicare. In an ACO owned exclusively by physicians the hospital will share in none of those savings. The most desirable way for the hospital to mitigate the situation is to join the ACO and participate in the shared savings; however in some situations this may not be possible.

Fortunately for the hospitals, the Medicare BPCI rules have specified that BPCI takes precedence over an ACO in the calculation of savings. If readmissions are reduced in a DRG for which a hospital is participating in BPCI, those reductions are governed by the BPCI rules and do not create savings for the ACO (much to the chagrin of the ACOs). Therefore, a hospital could "immunize" itself from the effect of readmission reductions created by an ACO through participation in BPCI for the DRGs most likely to be targeted for ACO readmission reduction initiatives, such as for chronic diseases. The readmission reductions may occur but the hospital will be financially insulated from their effect because it’s now effectively being paid on an episode basis in which readmissions are included, but with target rates established from historical data that included the historical readmission rates.

Revenue protection vs. participation discount

Here are some sample numbers from one hospital (rounded).

DRGs

Number of Episodes

Total Episode Cost

Discount Amount at 2%

Total Readmission Cost

Heart Failure (291-3)

375

$10,000,000

$200,000

$2,000,000

COPD (190-2)

125

$3,250,000

$65,000

$500,000

 

As can be seen, the revenue from readmissions is about 15-25% of the total episode cost for these DRGs (it's lower for surgical DRGs.) The percentage reduction in readmissions that would be necessary to cover the discount amount is about 10 to 15%. This means that if the hospital anticipates that readmissions would be reduced at a higher percentage than these amounts, the savings in inpatient revenue alone would cover the discount amount required for participation in BPCI. From a purely financial perspective, these hospitals might decide to participate in BPCI even though they had no intention of actually attempting to manage episode costs. The participation would purely be a hedge against lost revenue from readmissions reduced by the ACO or other readmission-reduction activities.

Conclusions

The situation described above illustrates the unintended consequences when multiple payment systems clash. Obviously, BPCI was not designed as a hedging strategy, but when combined with the reimbursement penalties and the shared savings incentives of ACOs it could be an effective tool for mitigating hospital losses created under those programs.


[1] These initiatives are generally described as reducing "unnecessary" services; however the financial effects of any service reductions (necessary or not) result in reduced revenue to the providers who provided the services. This generates the "savings" for the ACO.