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Market Instability Puts Future of HMOs in Question
Community Report No. 03
Over the past two years, hospital and physician contract disputes with health plans have disrupted the Seattle health care market, causing considerable instability in provider networks and threatening the viability of many managed care products. In 1998, expected growth in health maintenance organization (HMO) enrollment attracted national health plans to Seattle, raising concerns about potential erosion of the health care markets local nature. Since then, two national plans have left the area after failing to achieve substantial market share. Meanwhile, hospitals and physicians have abandoned risk-based contracting with health plans, leaving the future of HMOs in doubt.
Other significant developments over the past two years include:
Contract Disputes Led to Instability in Provider Networksontract disputes plagued Seattle-area health plans over the past two years, causing considerable disruption for consumers. In an effort to obtain higher payments and less burdensome contracting arrangements, significant numbers of providers contested their health plan contracts and many discontinued them altogether. As provider contracts lapsed, people enrolled in closed-network HMOs were threatened with diminished choice of providers, while those enrolled in open-network preferred provider organization (PPO) and point-of-service (POS) products were threatened with additional out-of-pocket costs to see providers who were no longer included in their health plans networks.
The rash of disputes and terminations in Seattle was precipitated largely by providers poor financial performance under contracts with health plans. Risk-bearing contracts had failed to deliver the revenue that many providers had anticipated. At the same time, those paid under fee-for-service arrangements suffered as well because fee schedules remained flat, while provider expenses for labor, pharmaceuticals and new technology were rising. Poor profitability and high overhead costs led to the insolvency of several large physician organizations, adding to the markets instability.
Seattles providers began to push back on health plans during 1999 and 2000 by terminating or assertively renegotiating their contracts. The growing popularity of open-ended PPO and POs insurance products strengthened providers negotiating leverage, because these products allowed patients to see out-of-plan providers.
One of the earliest and most visible provider contracting disputes occurred in 1999, when three large medical groups and two major hospital systems terminated their contracts with PacifiCare, citing inadequate capitation rates and dissatisfaction with claims payment and information management. The organizations involved-600-physician University of Washington Physicians, 30-physician Evergreen Medical Group and 300- physician Northwest Health Partners, along with the University of Washington Medical Center and Virginia Mason Medical Center-were among the most prominent providers in the region.
In another highly publicized dispute, 150 specialists cancelled their contracts with Regence BlueShield because of the plans intention to adopt Medicares recent resource-based relative value scale, thereby lowering payment rates for most surgical services. One large employer actively pressured Regence BlueShield to bring the specialist groups back into the network, diminishing the health plans leverage with these providers.
As a result of this recent turmoil, network stability has become an increasingly important element of health plan competition in Seattle. Several large employers have established performance guarantees regarding network stability in their contracts with health plans, and provider retention has become a more important consideration in health plans contracts with providers. This trend promises even greater leverage for Seattle providers in their future negotiations with health plans.
Providers Abandon Risk Contracting, Cost Control Erodest the same time that they pushed back on health plan contracts, providers also have moved away rapidly from risk arrangements, stripping HMOs of their most effective mechanism for containing health care costs. Providers unwillingness to enter into risk contracts has left health plans HMO products with substantial financial and administrative difficulties. Plans that had relied heavily on providers to perform utilization management are now faced with developing their own infrastructure and expertise to accomplish these tasks. Yet, even with appropriate infrastructure, plans generally have been unsuccessful in controlling utilization under fee-for-service contracting arrangements.
The dissolution of several large physician organizations hastened the move away from risk contracting. Two of Seattles largest individual practice associations (IPAs), Cascade IPA and Puget Sound Physicians Association, failed financially and were disbanded in early 2000. In addition, the owners of the Seattle markets largest medical group, Medalia Health Care, drastically cut the groups size through a series of practice sales in 1999 and 2000, creating several smaller medical groups. Failure of these prominent physician organizations reduced the opportunities for risk contracting and contributed to providers fears about the potential consequences of these arrangements.
In response to physicians resistance to risk, several health plans in Seattle have launched new contracting arrangements designed to limit the financial risk borne by providers while retaining some incentives for efficient clinical practice. PacifiCare of Washington, for example, took over administration of two large IPAs when they became insolvent in early 2000, moving them from a full-risk capitated payment arrangement to a modified fee-for-service payment schedule. The fee schedule is adjusted up or down, depending on the physicians collective utilization experience during the preceding three months. Utilization targets, as well as maximum and minimum fee schedules, are established through annual collective negotiations with the group of physicians. Regence BlueShield has negotiated a similar contracting arrangement with this same group. Whether these new arrangements with providers are effective in controlling health care utilization and costs remains to be seen.
Hospitals Gain Leverage with Physicians and Health Planss independent physician organizations faltered, and plans struggled with network stability over the last two years, Seattle hospitals gained considerable market leverage. Contributing to this phenomenon was the recent consolidation of two major downtown Seattle hospitals. Unlike other markets, Seattle has seen little hospital merger activity in recent years, which many attributed to its already high hospital occupancy rates and limited excess capacity. However, one of Seattles major hospitals, Providence Health System-Washington, struggled with low occupancy and the substantial debt it had accumulated, in large part, from its efforts to build capacity for managed care contracting. In July 2000, its downtown Seattle hospital facility and nine primary clinics in King County were acquired by Swedish Medical Center, the largest hospital in the state. Because other leading local hospitals (the University of Washington and Virginia Mason) have closed staffs, the acquisition left Swedish as the primary admitting hospital for community physicians, giving the system substantial leverage with health plans and independent physicians.
Some fear that the Swedish-Providence merger will have unintended consequences for the uninsured. Before the consolidation, Providence and its primary care clinics had been considered important sources of charity care in Seattle. Because the consolidation agreement did not guarantee that Swedish would keep Providence facilities open and intact, some respondents questioned whether the agreement might lead to a reduction in safety-net capacity within the community.
Others speculate that the acquisition gives Swedish the additional capacity necessary to accommodate growing inpatient volume. Hospital competition in Seattle has been limited to some extent over the past two years by inpatient capacity constraints. All three major hospital systems have been forced to close admissions periodically due to full occupancy. To address this problem, the University of Washington has taken steps to increase clinical capacity by establishing a number of new clinical facilities in partnership with other organizations, including a regional cancer center, a heart institute and an outpatient surgery center. These expansions could help to meet growing inpatient demand in the market and may spur more competition between the University of Washington and Swedish hospital systems.
The two hospital systems also have continued to compete for a more profitable patient mix by strengthening specialty service lines such as cardiology, oncology and orthopedics. Both the Swedish and University of Washington hospital systems have developed strategic alliances with suburban Seattle community hospitals to capture additional referral volume for specialty service lines. Under these arrangements, intensive services such as cardiac surgery are delivered at the dominant hospitals, while supporting services, such as diagnostic and rehabilitative care, are performed at the suburban hospitals. By delivering intensive services only at the high-volume hospitals, these arrangements may improve clinical quality and patient outcomes. Moreover, these arrangements may allow the two dominant hospital systems to strengthen their negotiating leverage with health plans and specialists further and to reduce competition from the smaller suburban facilities.
Insurance Options Dwindle for the Poor, Elderly and Uninsuredn the past two years, health insurance options for the poor, the elderly and individuals without group health benefits in Seattle have dwindled. Health plans seeking to improve their financial performance have either reduced or discontinued their participation in business lines that provide insurance for these populations.
Medicaid. Several health plans have reduced or discontinued their participation in Healthy Options, the states Medicaid managed care program, and there are concerns that access to care may decline as a result. Over the past two years, the state has taken aggressive steps to contain health care costs in its Healthy Options program, including establishing maximum allowable premium levels for its 2001 health plan contracts. Citing an inability to secure provider participation under the allowable premium rates, Regence BlueShield withdrew completely from the program, despite its status as one of the largest participating plans, with more than 50,000 Healthy Options members statewide. Two other large plans withdrew from the program in Snohomish County for the same reason, and a fourth plan, QualMed, withdrew from Healthy Options when it left the market altogether. Although the entry of a Medicaid-only plan helped to offset these withdrawals, Healthy Options recipients were left with five participating plans in King County and only one in Snohomish County as of January 2001.
The unwillingness of Seattle providers to enter into risk contracts also has contributed to the withdrawal of commercial plans from Healthy Options. Commercial plans typically have been unwilling to participate in public programs without substantial risk-sharing from providers. As risk-sharing has declined in Seattle, Medicaid enrollment has become increasingly concentrated in Medicaid-only plans, such as Molina Health Care and the Community Health Plan of Washington, a plan formed by community health centers. Both of these Medicaid-only plans rely heavily on safety net providers for delivery of care. The withdrawal of plans with broader provider networks jeopardizes one of the programs original goals-expanding low-income Medicaid beneficiaries access to private providers.
Medicare. Plan participation in Medicare has also declined precipitously since 1998, dramatically reducing choices for Medicare beneficiaries. In 2000, six of the eight participating plans in Seattle announced their intention to withdraw from the Medicare+Choice program, leaving seniors with only two Medicare managed care plans statewide. The possibility of severe capacity constraints has raised serious doubts about Seattles seniors continued access to managed care options. The two plans still participating in the Medicare+Choice program have reduced their Medicare service areas over the past two years, citing their inability to develop sufficient provider networks with the low payment rates offered through the Medicare+Choice program. Both plans also have experienced reductions in their Medicare+Choice provider networks due to hospital and physician contract terminations.
Individual Insurance Market. The individual insurance market in Seattle has experienced considerable turbulence since 1998, as well. Washington State policy makers phased out the component of the states Basic Health Plan that offered insurance to individuals and families with incomes too high to qualify for subsidized coverage. People who lost coverage through this policy change were expected to obtain insurance coverage in the individual market. During 1999, however, the three major insurance carriers that sold individual insurance policies in Washington State closed their products to new enrollment because of financial losses. Plans attributed their losses to rate-setting limits and adverse selection stemming from state-mandated limits on waiting periods.
In an effort to preserve access to insurance coverage, Washington State opened its high-risk health insurance pool to all state residents who were unable to purchase individual policies. In early 2000, the state legislature passed a law designed to encourage the states insurance carriers to reenter the individual insurance market. The new legislation removed the state insurance commissioners authority to review and deny rates for individual insurance products, and it extended the maximum waiting period for preexisting conditions to nine months. The law also permitted health plans to reject coverage for the sickest 8 percent of applicants, using a health status risk-assessment tool developed by the state, and to channel these applicants into the states high-risk insurance pool. The legislation was viewed as an important victory for the health insurance lobby, and all three insurance carriers resumed selling individual insurance policies in December 2000, after the reforms were implemented. Concerns remain that individuals without employer-sponsored coverage may not be able to afford insurance policies now that the states rate-approval authority has been removed.
Budget Pressures Drive Health Policy Makingashington State health policy makers have continued to face growing budget pressures since 1998 due to the combination of rising health care costs and state ballot initiatives that have placed strict limits on state spending. These limits may force public officials to make tough choices to contain health care expenditures, despite a large surplus in state revenues. There are growing concerns among providers, plans and policy makers that this looming state health care budget crisis may necessitate substantial cuts in both coverage and care for the states most vulnerable populations.
A 1993 state ballot initiative (Initiative 601) imposed a spending cap that has prevented state health care spending from keeping pace with the steady growth in underlying health care costs. Over the past two years, the spending cap has forced state policy makers to take aggressive steps to constrain payment rates for health plans and providers participating in government health programs such as Healthy Options and the Basic Health Plan. State cost-containment efforts have hastened the exit of commercial health plans and private providers from government health programs, raising concerns about access to main-stream medical providers for Seattles low-income populations.
The effect of another state ballot initiative passed in 1999 (Initiative 695) was to eliminate a significant permanent funding source for local public health services. This initiative has prompted public health agencies to find new sources of funding and develop new service delivery arrangements. King Countys local public health agency, for example, experienced a $1.2 million budget cut in 2000 because of the initiative. The agency responded by cutting staff, reducing its primary care services and developing alliances with private providers to ensure access to care.
Safety net providers for the uninsured have remained strong in Seattle, despite state budget pressures. Community health centers and other safety net clinics have expanded their revenue base through aggressive efforts to enroll previously uninsured patients in public insurance programs such as Healthy Options and the State Childrens Health Insurance Program. Moreover, federal funding available to federally qualified health centers has helped these providers avoid financial difficulties. Nonetheless, there are concerns that continued state efforts to constrain Medicaid and Basic Health Plan payments to health plans and providers may begin to erode funding for safety net providers. Similarly, there are concerns that the continued exodus of private plans and providers from government health insurance programs eventually may overwhelm the capacity of Seattles safety net providers to serve both publicly insured and uninsured populations.
Issues to Trackontracting disputes and terminations between health plans and providers have disrupted Seattles health care delivery systems considerably. Health plans have responded with new contracting arrangements and higher provider payment levels, along with increased health insurance premiums. In the midst of this change, two of Seattles predominant hospitals merged, and several large physician organizations were dismantled.
As the market continues to unfold, the following issues will be important to track:
Seattles Experience with the Local Health System, 1997 and 1999
Background and Observations
The Community Tracking Study, the major effort of the Center for Studying Health System Change (HSC), tracks changes in the health system in 60 sites that are representative of the nation. Every two years, HSC conducts surveys in all 60 communities and site visits in 12 communities. The Community Report series documents the findings from the third round of site visits. Analyses based on site visit and survey data from the Community Tracking Study are published by HSC in Issue Briefs, Data Bulletins and peer-reviewed journals. These publications are available at www.hschange.org.
Glen P. Mays, Mathematica Policy Research, Inc.
Sally Trude, HSC
Lawrence P. Casalino, University of Chicago
Patricia Lichiello, University of Washington
Leslie A. Jackson, HSC
Ashley C. Short, HSC
President: Paul B. Ginsburg
Director of Site Visits: Cara S. Lesser
Director of Public Affairs: Ann C. Greiner
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