Managed Care Contracting -- Ancillary Contracting

This is the ninth article in the Managed Care Contracting "Signature Series" by Managed Care Resources, Inc. -- articles on topics in managed care written by experts in the field. The author of this article is Paula Nelson.

Increasingly, the managed care industry is demanding that all its health care providers demonstrate their ability to provide cost-effective, quality care that is easily accessible and well coordinated between the various providers. Ancillary providers are the subset of those providers, who provide skilled nursing, home care, outpatient rehabilitation, and transportation, plus facility-based services such as ambulatory surgery, dialysis, laboratory and diagnostic imaging. The impact of managed care is such that all providers must learn to deliver services in a new way, often for decreased compensation. With the advent of risk contracts, ancillary providers have had new demands placed on their ability to compete and manage their services. This article examines trends, discusses ways for ancillary providers to respond to them, and provides strategies for developing successful risk arrangements with managed care payers.

Future articles will explore issues specific to individual types of ancillary contracts including the categories mentioned here, and carve out services such as Behavioral Health and Dental.

Trends in Ancillary Contracting

Ancillary providers, just like the rest of the health care industry, have seen their share of changes in referral patterns and in the sources and forms of reimbursement. Many ancillary provider sectors have seen unprecedented growth in the volume of services provided within their respective sectors. The shift in payer emphasis from higher-cost inpatient to lower-cost home care and outpatient services has created opportunities for ancillary providers. However, as acute care costs are being brought under control, aggressive contracting and discounting have followed within the category of ancillary contracting. Examples of early modifications to reimbursement have included rates tied to Medicare rates or RVRBS, flat rates, case rates, and per diems and tiered rates based on the intensity of service. Inevitably, as more and more referrals become contract driven, and preferred and exclusive contracting arrangements predominate, ancillary providers will be competing for capitation contracts. While still relatively new within this category, capitation is increasing within all sectors of ancillary services as various payers seek to transfer risk to the provider of services and thereby more accurately predict their costs.

As physicians increase their participation in group practices and contracts, non-contract referrals become less common as a source of revenue. Government incentives to Seniors to join prepaid plans along with State initiatives to move their Medicaid beneficiaries to prepaid plans, encourage contract-based referrals to a smaller pool of providers. In this environment providers must identify and maintain the key relationships that control their referrals, or risk losing substantial business.

Strategies for Success

How do ancillary providers go about securing successful arrangements in a managed care environment? There are many strategies to be considered, but all of them have as their basis the recognition that traditional approaches for marketing services and providing care must be modified.

Working with MCOs requires a shift in thinking. In capitation, the provider no longer views services as revenue generating. Instead, the provider must consider services as costs. Any strategy that helps the provider use resources appropriately, such as standardization of services, will contribute to the success of the arrangement. However, providers should not assume that payers are only looking for the lowest contract reimbursement cost. Instead, providers must recognize that payers, both provider and non-provider, will also be looking for quantifiably high quality service. Therefore, the provider who can demonstrate through good and easily obtainable data that its services are both cost-effective and of measurable quality will always be at an advantage. A provider which has defined its services through practice parameters, clinical pathways and standardized care plans, may also be able to integrate its services in such a way that the provider demonstrates to the payer that overall costs have been reduced.

With these concepts in mind, ancillary providers must recognize their unique role within the continuum of health care services and adopt strategies such as the following:

  1. Identify and pursue realistic marketing goals. Assess its own strengths and weaknesses in the context of the payer's requirements. Examples of this include the ability to provide a full service product, niche abilities (e.g. pediatric services), geographic reach, and ability to provide carve-out services.
  2. Form networks or alliances to develop the best competitive position for negotiating contracts with MCOs or other payers such as IPAs. Concentrate on ways in which the alliance can achieve cost efficient and effective services. Structure the alliance so that provider participants are afforded exclusive benefits that are unavailable either through other associations or on their own.
  3. Develop management information systems that identify costs, patient outcomes, and patient satisfaction levels, and provide productivity information. Develop an understanding of how the service provided fits into the continuum of care in order to gain more control over costs and demonstrate improved quality and value to the payer.
  4. Develop utilization control and monitoring systems.
  5. Understand how payer and various provider incentives can be aligned, and utilize data to develop flexible pricing arrangements and innovative contracting strategies.
  6. Redefine and/or expand services to incorporate innovative ways of providing more cost-effective care.
  7. Educate staff on their role in contributing to quality and cost control.
  8. Obtain the appropriate certifications and/or accreditation recognized by the industry. For many providers this will be JCAHO accreditation.
  9. Continually emphasize quality efforts to both payers and patients.

Preparation for Capitation Bidding

The ability to bid effectively on and administer managed care risk arrangements, including capitation, is essential to any ancillary provider wishing to be a long-term player. There are many advantages to these arrangements, including the ability to build long-term relationships with major referral sources. Through the exclusivity built into these arrangements, providers can secure market share. A predictable cash flow, and the opportunity to capture non-capitated business are other positive factors. However, the need to prepare appropriately for bidding and managing risk cannot be overemphasized. Each managed care capitation arrangement will contain unique characteristics that will affect the provider's position and the appropriate response.

The goal of a successful capitation arrangement should include the sharing of appropriate risk. This means that the provider should acquire the most accurate and consistent information possible from the payer prior to negotiations. In this way the information can form the basis for critical contract decisions that support effective risk management. Providers are financially accountable under capitation, and in order to do this effectively they first need key information. A successful capitation arrangement should also be a partnership where the value of the relationship is consistently apparent to both parties. Thus any information that enables a provider to clearly evaluate potential risk will help to prevent future dissatisfaction over an enforceable contract with a managed care payer. A list of such essential information and questions might include the following:

  1. What are the payer's goals? Financial? Other? How has the payer budgeted for the service to be capitated?
  2. Who are the current providers? How do payers regard them? What is their reputation in the industry? What can be learned from their experience with the payer?
  3. What membership and benefit plans will be covered under capitation? What risks are associated with each?
  4. What historic utilization information is available? If the current information is not reliable, is there a method for obtaining reliable information? What are the future utilization projections? What are these projections based on? Are they valid?
  5. What is the service area to be covered? How is out of area service defined? What are the provider's explicit obligations in this regard?
  6. What are the covered services? Can the payer explicitly define them? Under what conditions is emergency care the responsibility of the provider?
  7. What are the conditions for coverage for each plan being covered by the contract? Are there legal requirements for coverage, such as HCFA requirements?
  8. What are the demographics of the current membership? How will this affect utilization? What are the demographic projections for the future?
  9. What are the provider's accessibility requirements?
  10. What procedures does the payer utilize for patient dissatisfaction and payer grievance? What procedures can be established to improve referring provider and patient compliance?
  11. What are the authorization procedures? Who is responsible for care plan decisions? What is their level of sophistication with managed care? Will the current procedures make the provider vulnerable to excess referrals and lack of utilization controls? How might the procedure be modified to control provider risk and still provide necessary services?
  12. What is the potential for co-payment revenue? What is the current anticipated revenue from co-payments? Is it expected to change? What procedure will be used to communicate this benefit information to provider?
  13. What stop loss coverage is the payer willing to provide?
  14. How good are the provider systems for timely and accurate communication of member enrollment?
  15. What are the payer's requirements for utilization and quality data?
  16. What additional administrative costs might result from a capitated relationship with a payer?
  17. What is the relationship between this contract and other contracts? How vulnerable will the provider be to changes in other contractual relationships, such as changes in payer hospital affiliation, physician coverage, etc.? How might these changes affect the provider's ability to control costs under the contract?
  18. What are the accreditation/participation standards required by the payer? How easily can the provider comply?

Reliable responses and thorough analysis of each of these issues will go a long way in helping structure acceptable financial terms and a successful partnership with the payer.

Managing Capitation Risk

Once accurate and reliable information has been gathered and analyzed, the provider is ready to negotiate contract terms that will reduce risk.

Beyond the need to analyze utilization and other data to determine the right capitation rate, providers can incorporate many other contract terms in order to manage risk. The most common way that capitation contracts limit risk is through exclusions from covered services. This strategy allows the parties to exclude from capitation those services whose frequency may be unpredictable, such as a service that is rare but costly, or a service that falls outside the standard list of services provided. Typical exclusions will include new pharmaceuticals, new technology, services not covered by the MCO plan, services interpreted to be beyond the benefits of the MCO plan, custom items, and services of a low incidence but high cost. Providers should think very carefully about what items to exclude, and then negotiate fee-for-service reimbursement for those services. A carefully considered list could definitely mean the difference between success and failure of the capitation arrangement.

Negotiating separate capitation rates for different covered populations or plans is a very effective and prudent approach to controlling capitation risk. In capitation contracts that include Medicare or Medicaid HMO members, separate capitation rates are commonly negotiated that reflect the higher expected utilization of these populations. Contracts that cover different regional areas should also reflect historical regional differences in the utilization of services.

Providers may also wish to incorporate minimum enrollments for the contract, so that if enrollment in a covered plan is reduced below an agreed-upon threshold, the capitation rate either increases or no longer applies. Establishing a threshold that is acceptable to the payer is a difficult but important negotiating point.

Similarly, the contract should provide very specific information regarding eligibility for services under the capitation arrangement. Ancillary providers are typically very vulnerable to over utilization of their services through inappropriate referrals. One way to set the tone for a successful partnership is by establishing through the contract terms the eligibility criteria for admission to the ancillary provider and the methods by which a member will be authorized and discharged from services. This encourages the payer to be a partner in the contract.

Providers should be aware in structuring the capitation reimbursement method, that they should consider other reimbursement options besides a full risk capitation. In fact, the full risk capitation option (fixed per member per month rate with no risk-reducing terms) lies in the middle of the whole spectrum of options to be considered. There are various options that reduce the potential financial risk inherent in the contract, and there are other options that increase it: At the low risk end is accompanied by limited compensation, while the high-risk end offers the potential for greater reimbursement.

Low risk options include arrangements with risk bands. In these arrangements providers are at risk only up to a stated level of service (floor) and will typically also have an upper limit of reimbursement to which they will be entitled (ceiling). These arrangements are often tied to fee-for-service equivalents. For example, the arrangement might be structured such that if the capitation payment is less than an agreed-upon percentage of the provider's full charges, then the provider is entitled to the difference between the floor and the capitation payment. These arrangements are usually unsatisfactory to payers because they may not provide reasonable incentive to the provider to control utilization. On the other hand, there are ways to structure these arrangements fairly so that the provider only accepts financial exposure for the elements of utilization over which it has control.

Stop loss is another contract option that decreases risk. Under this option, the provider may receive compensation over and above the capitation payment, when a stop loss situation occurs. Stop loss can be specific, such as charges or service units per specific patient, or aggregate, such as total charges or service units for an agreed-upon period of time.

In performance-based capitation, the provider is paid capitation, but a withholding or bonus payment also applies. In either of these options, final compensation will be based on the provider's meeting specific performance goals or outcomes. These arrangements work well when the goal or outcome is easily understood and measurable, and the provider is empowered to meet the incentive goal.

The most satisfying arrangement for the provider and payer will be when objectives have been so aligned that both parties share in additional reward for meeting common objectives. Reductions in hospital days, referrals, service units, spending, and total costs, with increased member compliance with disease specific criteria are a few examples of such objectives. Where objectives are not aligned, often due to less-developed managed care systems either on the part of the payer or provider, providers will seek to incorporate more risk-reducing criteria.

Beyond the contractual terms, ancillary providers should be prepared to provide training and education to referring parties to better ensure appropriate use of services. The development of critical paths and standardized care plans, or written guidelines regarding performance expectations are mechanisms designed to meet payer expectations regarding quality while lowering the costs involved in providing services. However, providers must be prepared to collaborate with all parties involved in the care of their patients, in both the development of such plans and guidelines, and their implementation throughout the term of the contract.

This article was written by Paula Nelson. As a Vice President of Managed Care Resources, Paula provides client assistance in the areas of network development, including the negotiation of payer/provider agreements, organization design and operations management. Paula has worked over 20 years in health care management with extensive experience both on the provider and payer sides.

For more information on Managed Care Contracting please contact us at (630) 325-6543 or by email at .


I hope that you will join us as we explore all of the elements of managed care contracting in the coming months. In addition, we also offer a "Signature Series" on "Medical Management Under Managed Care". We hope that the two series combined will lessen the mystery of managed care and help level the playing field between providers and payers.

Ira H. Rosenberg

Ira H. Rosenberg

President, Managed Care Resources, Inc.

The Managed Care Resources, Inc. team has over 150 years of combined experience in the development and implementation of managed care services. Please visit our home page to learn more about how we can assist you with your managed care needs. We also invite you to contact us with questions or comments.

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