Dynamic tension: Where providers and insurers share common ground

There is a general tug-of-war between healthcare providers and insurers, and the uncertain state of the Affordable Care Act (ACA) furthers this tension.

But this is also where, over the long-term, insurers and healthcare providers are likely to find common ground. Based on this sweeping (and on-going) legislation, both are now seeking a similar goal: an industry transformation with focus on overall population health and more efficient care delivery models.

Executive compensation consultancy Peal Meyer works with organizations across the healthcare spectrum. Many of these boards and management teams are employing similar strategies in their use of executive incentive plans to help reinforce changes in their business model, although the goals and metrics vary widely.

Two leading healthcare industry consultants discuss the similarities and the differences they are seeing with provider and insurer clients. In the conversation below, they discuss how each group is structuring executive pay with an eye to industry transformation, while managing current expenses and expectations.

Q: The Affordable Care Act has dramatically altered the economics for the healthcare industry. When this kind of upheaval happens to an individual company, they may completely change the business model or bring in a team known for achieving turn-arounds, and compensation almost always plays some role. Have you seen this dynamic in healthcare?

A: Steve Sullivan on providers –
For the first several years following the passage of the ACA, healthcare system management teams and boards began to identify transformational goals for themselves specific to ACA-driven future care models.

For example, some providers began to measure their ability to diagnose and treat ambulatory cases correctly, thereby avoiding the negative financial impact of unnecessary inpatient admissions and (hopefully) improved patient experience. Many initiated plans to expand their capacity to treat outpatients, and to improve access to such care. Still others initiated risk-managed insurance plans and took on the associated risk by encouraging their patients to enroll. The owned and managed plans allowed the organization to exert greater control over the delivery of care, thereby improving efficiency and quality.

Healthcare providers making these types of changes to traditional care models often needed to hire executives with expertise in insurance and actuarial science, outpatient care delivery, hospitality, and other disciplines, and so C-suites and compensation plans have become much more diverse.

A: Ed Steinhoff on insurers –
Many healthcare insurers have also transformed their organizations following the passage of the ACA. Their business strategies now incorporate diversification—both geographic and in terms of the products and services offered. Both strategies are intended to mitigate the negative impacts of the ACA on their financial results and enable them to continue to provide high quality products and services to their customers.

Given this entry into new areas, many insurers have broadened the expertise of their executive teams—usually not by replacing the existing team but adding to the existing team individuals with backgrounds in the areas into which the company is expanding. Given the strategic importance of these extended business strategies, many executive compensation programs have also evolved to incorporate performance measurement that supports the evolving strategies of the company and rewards the executive team for successful achievements in these areas.

Q: Both short and long-term incentives can help any organization achieve its goals. Which has been most important and useful in healthcare since the advent of the ACA?

A: Steve Sullivan –
While annual (short-term) incentive plans have been a part of healthcare for a long time, it’s important to note that long-term incentive plans for executives were not prevalent among most non-profit and public healthcare systems prior to five or six years ago.

As board members (especially those from public, for-profit companies) began to understand the transformational challenges faced by provider management teams, the idea of multi-year incentives, similar to those used in for-profit enterprises, began to make sense. Programs are now being designed to reinforce a sustained collaborative effort by the entire management team over an extended period of time. This multi-year focus is often needed to execute the strategic, organizational, financial, market-based, and care-centered changes that are required to succeed in this new fee-for-value environment that has not fully taken shape.

It’s not uncommon to see healthcare system boards designing annual incentive plans based on financial, quality, and service measures. In many cases, providers have started adding a measure of employee engagement to these plans based on the organizations’ increasing reliance on those employees who can successfully execute broad change initiatives.

A: Ed Steinhoff –
Both short-term and long-term incentive plans have been part of the insurer executive compensation landscape for many years and have been used to help drive organization performance and reward executives for the achievement of key business goals. That’s true for both publicly-traded and nonprofit organizations.

Among publicly-traded insurers, the measures in both programs tend to focus on a balance among profitability, quality, and membership criteria. The long-term incentives tend to be a significant portion of the total executive compensation package and are most frequently provided in the form of stock. Performance shares (which vest based on the achievement of specific performance criteria), restricted stock, and stock options are all quite prevalent. Common short-term incentive metrics include net income, revenue growth, progress on the achievement of strategic initiatives, and individual performance. Common long-term incentive metrics include net income or earnings per share, revenue growth, total shareholder return, and return on capital. These measures have not really changed since the ACA went into effect.

Among nonprofit insurers, short-term incentives will incorporate financial and strategic measures similar to publicly-traded insurers but also focus more heavily on membership growth, quality, and member satisfaction. Long-term incentives are cash-based and typically focus on broad financial measures such as earnings growth or risk-based capital and may also include mission-specific metrics, typically structured as initiatives to further the delivery of quality healthcare in their coverage areas, and measures which reflect the successful achievement of diversification and growth strategies. The diversification-related metrics are a result of the ACA.

Given developments in 2017 and the uncertain state of any future ACA legislation, have boards and management teams made changes over the last year in their approach to executive compensation strategy?

A: Steve Sullivan –
The unsteady federal legislative climate has caused healthcare provider boards to question their management teams’ assumptions regarding revenue and reimbursement on a monthly basis. Overall, and regardless of any future proposals, most boards anticipate steady and serious declines in Medicare and Medicaid reimbursement.

While private non-profit providers are often better able to “choose” whom to care for than their public provider counterparts and thus may often be in better shape financially, there is general unease across the industry regarding the downtrend in reimbursement rates. Those organizations able to generate reasonable margins are in a better position to invest in business add-ons or modifications capable of capturing new streams of revenue. They are incorporating their various strategies into compensation programs, some more prominently within long-term incentive plans, as these strategies may often be prospective and not have a history on which to base predictive targets. The organizations that are struggling financially anticipate that their struggling will only get worse.

Those providers that are unable to invest in new lines of business are nonetheless modifying variable compensation program eligibility, award opportunities, and financial assumptions. Many are increasing incentive plan dependence on measures of financial and operational efficiency, while still balanced by clinical and service quality. Since the retention of executive talent is increasingly at a premium, their boards may be open to loosening plan funding requirements to allow nominal incentive awards for lesser financial performance than that previously required (for example - a positive margin).

A: Ed Steinhoff –
Insurers are taking several different approaches to their executive compensation strategies in light of industry uncertainly. The foundation of most programs continues to be a fairly traditional focus on improved financial results, coupled with a continued focus on quality. Membership strategies vary, with insurers recognizing—and structuring their incentive plans to reflect—that not all members contribute equally to the organization’s success. Some insurers therefore may weight certain types of membership more heavily than others in their incentive plan goals, while others are experiencing a rebalancing of their membership structures and may even incorporate somewhat lower membership levels in their incentive targets going forward.

Many insurers rather than having a specific “target” level of membership which, if achieved, would result in a target incentive award, are creating target membership “bands” (e.g., a target payout would result if membership were between 800,000 and 900,000 members). This approach recognizes the ongoing uncertainty in the industry and may in some cases be used for financial measures as well. Lastly, with regard to the more traditional measures, we are seeing insurers implement somewhat wider performance ranges than they may have in the past (e.g., a threshold payout is made for performance 15% below target rather than 10% below target), to reflect the uncertainty around projecting financial results for the coming year.

Insurers, however, are not just taking a reactive stance to the ongoing uncertain state of future healthcare legislation and are actively incorporating changes in their business strategies into their executive compensation programs, particularly in the implementation of growth strategies in diverse businesses; initial performance measures in these areas are typically more “milestone” or initiative-based. We often see insurers initially implementing more action-based measures than outcome-based measures, with the intention of transitioning more to outcome-based measures over the longer-term as the business strategy becomes more well-defined and as potential performance outcomes become less uncertain.

Q: If this uncertainty persists, how will you advise your clients?

A: Steve Sullivan –
It is more difficult to successfully administer variable compensation programs in an uncertain business environment, chiefly because goal-setting becomes more difficult. The meaningfulness of incentive compensation plans is diminished when metrics are constantly changed.

Whether the ACA is replaced or repealed, the future of healthcare delivery will have the “Triple Aim” as its foundation. There is no way the United States will be able to reduce the cost of healthcare delivery without simultaneously improving 1) clinical quality, 2) efficiency, and 3) patient experience. Healthcare provider boards must make sure that any variable compensation program they consider is designed to incent constant improvement across all three of these goals, and never one or two at the expense of the others.

I try to encourage clients to consider simple approaches in complicated times. Provider organizations that anticipate a long-term erosion of reimbursement should strip down their incentive programs to focus on the ways they can drive the “Triple Aim.” To the extent that they can realize gains in efficiency without sacrificing quality or patient service, plan funding should occur, perhaps based on non-traditional levels and/or types of financial performance.

A: Ed Steinhoff –
Designing executive incentive plans that provide motivation to executives and reward them for financial and operational results is much more challenging when the process is complicated by external uncertainties. My advice to my clients in these times is to remain focused on key core metrics such as strong financial results, achievement of high quality outcomes, and member satisfaction. These core measures can then be supplemented by actions defined by each insurer’s business plan that are being taken to become more resilient to external influences through the diversification of business lines.

Organizations also need to ensure in these challenging times that their executive compensation programs are designed to not only reward for the achievement of organization performance but should also be flexible enough to reward for high levels of individual performance. Strong executive talent is at a premium in the healthcare insurance industry, and executive compensation programs need to ensure that high performers are retained and rewarded commensurate with their contributions to the company’s successes in the short-term and in the long-term.

Ed Steinhoff is a managing director in Pearl Meyer’s Chicago office. He has more than 25 years of experience in executive compensation and works with the boards of directors and senior management teams of public and private companies, ranging from small and middle-market firms to multi-billion dollar corporations, to design pay programs that drive business performance and value creation, secure high-performing executive talent, and withstand external scrutiny. He has particular expertise in pay programs for the healthcare and insurance industries.

Steve Sullivan is a principal with Pearl Meyer’s Houston office. He has more than 20 years of consulting and industry experience assisting clients in executing their strategic human resources and compensation initiatives. His focus has been in the areas of executive compensation program benchmarking, design, and oversight in the healthcare industry and for tax-exempt businesses. Mr. Sullivan also advises clients in the areas of sales and performance incentives, recruitment, motivation and retention, strategic compensation program design and implementation, and organizational change.

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