6 Hurdles to Bundled Pricing

Bundled pricing represents an alternative approach to fee-for-service that shifts the risk of extraordinary costs from payors to providers, and it creates incentives for providers to make cost effectiveness a factor in clinical decisions. Both of these outcomes are attractive to payors, who increasingly have an interest in containing healthcare cost inflation. That's why this idea is likely to rise to the top of agendas for payors and providers alike.

Even if you're not sure that you will need or want to go down the bundled pricing path, building the necessary infrastructure positions you for better managing your costs, and there's no question that you will need to go down that road.

So building the infrastructure makes sense, even if you're just hedging your bets. But you should know that, to do it right, there are some challenges along the way you should anticipate and prepare for.

In theory, developing a bundled price is simple: set a price that is at least as much as would be reimbursed under current payment mechanisms. In reality, healthcare organizations developing bundled prices face several key hurdles.

Hurdle 1: Making the case for bundled pricing

One of the biggest hurdles many providers face in developing bundled prices for the services they offer — and the required infrastructure to reduce variation and increase predictability in the costs to the hospital — is resistance from clinicians. Thus, any initiative to develop bundled prices will have to start by making the case internally.

Given looming deficits in Medicare and broad resistance to continuing private insurance premium increases, payors must find new payment models that lower utilization and improve costs. Bundled pricing represents a more market-based approach than accountable care organizations, and comes with less regulatory overhead. From that perspective, it's just a matter of time before payors demand bundled prices.

There are other reasons to get started. By building the infrastructure for bundled pricing, healthcare organizations significantly advance their ability to manage core production process (i.e. diagnosing and treating patients). In healthcare, clinical decisions drive the majority of costs. These decisions have generally been seen as the purview of physicians alone. Implementation of bundled pricing, however, requires that managers and clinicians discuss clinical decisions in aggregate, and at the individual physician level. Monitoring variation in clinical decisions and associated costs is essential to ensure that reimbursement continues to exceed expenses.

Since there is a significant learning curve for developing bundled prices, management is being prudent by undertaking that process now. The decision to offer a service at a bundled price hinges on a number of factors, but developing the tools to control core production costs makes sense in any case. Ultimately, successfully managing of costs will be critical in the face of shrinking reimbursements.

Hurdle 2: Determining what services to bundle

The decision regarding which services to bundle can have long-term implications for the organization. Does it make sense to start with obstetrics or cardiology, mental illness or substance abuse? There are a few factors to consider:

• Payors. Payors are interested in bundled pricing for high-cost, high-volume services. Bundled payments for these types of procedures enable payors to reduce their liability significantly. Organizations should consider focusing on these services.

• Competitive considerations. Early adopters of new payment models will have a competitive advantage over others in their markets. If others in your market are already moving toward bundled prices, you will want to be sure you aren't lagging behind and that you can offer a service that improves on your competitors'. Maybe you can perform a surgery with less time in the OR, improving the cost of the surgery, or maybe you can demonstrate a consistently lower infection or complication rate, improving outcomes and downstream costs. In any case, whether you are first to market or entering an already competitive space, you will need to make sure that you have data to demonstrate the value — both clinical and economic — of your services to payors.

• Capacity/Volume considerations. With greater predictability in pricing, incentives for appropriate utilization and accountability for quality, payors and employers will likely try to drive patients toward institutions with a bundled offer. Additionally, consumers — increasingly liable for more of their healthcare costs — may find a pre-defined, up-front price persuasive. Providers need to be sure they are ready to handle the likely increase in volume. Conversely, the desire to increase volumes for certain services, especially profitable ones, can help determine which services to bundle.

Determining which services to bundle can be a complicated task, and it's important that organizations consider each of these factors.

Hurdle 3: Defining the episode of care

Standard definitions for an episode of care generally don't exist but may be forthcoming. The national Medicare bundled pricing pilot has defined an episode of care as the three days prior to a hospitalization for an applicable condition, the hospitalization, and up to 30 days post-hospital discharge. As payors seek to standardize their bundled pricing contracts, they are likely to look to CMS and its experience for guidance in this regard.

A key consideration in defining the episode of care is the ability to identify beginning and end points. These points may be defined in terms of time, such as all of the care provided for a chronic condition within a three month period, or they may be defined in terms of events, as with prenatal care and delivery. Generally, physician and hospital services will be included, but in some cases, services such as outpatient care, home health services and skilled nursing services may also be incorporated.

Hurdle 4: Building consensus on predictive care paths

Once you've defined your episode, the next challenge is to identify what specific services are essential for diagnosis and treatment. The answer must represent consensus among the physicians who do the work. This highlights the second component to this hurdle: gaining agreement by physicians on the practice protocols (or predictive care path) that should be followed.

A care path is a graphic representation of the actions and decisions that encompass treatment most patients with the specified diagnosis. Care paths should be consistent with relevant professional organizations' guidelines and should incorporate the latest generally accepted evidence based medicine. They should be flexible enough to accommodate necessary variation but sufficiently structured to enable the modeling of costs and revenues and accommodate differences in severity.

Care paths are essential to the development of a bundled price because they enable the organization to monitor the care provided against a standard. Care paths allow the organization to assess variation in clinical practice. This is a critical function for the successful implementation of a bundled price and should not be omitted.

While developing care paths is by no means easy, the biggest challenge is getting physicians to actually use them. Attention must be paid to involving physicians in the development of a care path and ensuring their buy-in, because that treatment approach is the one that they are explicitly agreeing to use in their work.

Hurdle 5: Developing a price

Somewhat obviously, bundled pricing requires analysis to determine what fixed rate a provider should charge for a given set of services. Just like any other business, a hospital that sets a price lower than the cost of production won't make up the difference on volume. Therefore, providers must consider the costs associated with the bundle. Comparatively few organizations use activity-based cost accounting that associates direct and indirect labor and capital costs with each service, so systematic approximations to this reference point are needed.

Data will also be required from any external provider whose services will be included. Hospitals will need to negotiate contracts with each entity included within their bundled offering, specifying the payment, baseline service delivery parameters and quality metrics.

Another important area of analysis is around whether costs for the treatment of co-morbid conditions should be included within the bundled price. To maintain simplicity for both the patient and the billing department, the organization might choose to spread the cost of these illnesses over the population of patients paying the bundled price rather than billing separately for such services.

Hurdle 6: Managing variation

So now that you have your bundled price, what's next? Meeting the quality commitments you've established, without exceeding your budgeted costs, will be critical. This means proactively managing variation in costs and quality. Fortunately, the predictive care paths described above can help. Since you've defined the key decisions involved in the service you've bundled, you can monitor compliance with the care path.

Of course, monitoring is only half the story. When variation from the care path is identified, it will have to be analyzed. What went wrong? Was this variation necessary? Does the care path need to be updated? And should you determine that the variation was unnecessary, it will require a difficult conversation with the team member responsible for the decision that led to the variation. Having these types of conversations is certainly not easy, but organizations that want to implement a successful bundled price offering must find a way to do it. With the right data presented in the right format, healthcare leaders can influence the decisions that staff members make toward better outcomes and greater consistency in the cost of care.

Waiting to change is leaving money on the table

Developing a bundled price offer is a challenging undertaking, with several hurdles beyond the inherent determination of the price itself. In addition to these early complexities, providers preparing to compete under new payment models must also be ready to measure and deliver against higher quality standards, as well as define and demonstrate the economic and clinical value of their services.

However, thinking differently about managing costs and quality — and differentiating your organization in the eyes of patients, payors, and physicians — can translate into meaningful financial benefits today. Efforts by leading institutions such as Geisinger Medical Center in Danville, Pa., and preliminary results from the Acute Care Episode demonstration project have already shown the value of making such changes, but they can be realized even without actually introducing a bundled price.

Michael N. Abrams, MA, is managing partner, and Simone Cummings, PhD, is a research analyst at Numerof & Associates, Inc. NAI is a strategic management consulting firm focused on organizations in dynamic, rapidly changing industries. For more information, visit www.nai-consulting.com. Mr. Abrams and Dr. Cummings can be reached via email at info@nai-consulting.com or by phone at (314) 997-1587.