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Chapter 4 of TAP 16: Purchasing Managed Care Services for Alcohol and Other Drug Treatment: Essential Issues and Policy Issues

Chapter 4–Financial Considerations

Fee-for-service reimbursement is a system in which payment is based on actual services rendered. Until recent years, this system has been the mainstay of most reimbursement for privately funded alcohol and other drug (AOD) treatment services. However, fee-for-service reimbursement has inherent incentives–both financial and clinical–to overutilize services and to overtreat clients. Because every additional unit of service generates additional revenue, there is little incentive to monitor treatment more tightly or to lower costs. The result can often be waste and inefficiency.

Most individuals who work in the AOD treatment field want to provide quality care to those whom they treat. To the degree that financial incentives strongly encourage both high quality and cost-efficient treatment, most provider systems will deliver treatment that is good for clients, for taxpayers, and for health care in general. Effective reimbursement systems attempt to tap these good intentions.

Capitation 23

Capitation is a method of reimbursement in which a fixed sum of money is paid per enrollee by the purchaser to the provider. This sum of money is expected to cover specified services for every enrollee for a defined period of time. Capitation agreements attempt to create a system in which those delivering care are financially motivated to deliver the highest quality care and to achieve the best outcomes in the most clinically and cost-efficient way possible.

A shift in the financing of behavioral health care toward capitation models is rapidly evolving. This represents a major policy shift from retrospective to prospective reimbursement systems. Payment is gradually moving away from fee-for-service and toward risk-based payments–either per case fees or capitation payments. Often, these risk-based payments are linked to performance on specified measures (Oss 1992, 1993).

The essential components of a capitation contract include:

• Prepaid care to cover all clinical and administrative costs

• A contracted provider who is at full or partial risk

• Financial incentives to manage care wisely

• Payments tied to a specific risk pool

• Increased emphasis on outcomes rather than on amount or level of treatment

Capitation creates clear financial incentives to minimize hospital use through the development of a comprehensive continuum of treatment services. This continuum of services has the advantage of facilitating the treating and maintenance of enrollees within their community, where they will receive ongoing support for recovery (Christianson 1989). Capitation requires establishing clear performance criteria in such areas as accessibility, treatment appropriateness, customer satisfaction, individual outcomes, and outcomes for the enrolled population as a whole. Capitation thus focuses attention on the achievement of specified results rather than on the mechanisms of process.

Capitation engenders strong emotions for those in the field. Christianson (1989) summarized the polarization around the issue when he wrote, "Proponents of capitated financing foresee cost savings and better integration of a relatively fragmented service delivery system. Skeptics fear that capitated arrangements will lead to access barriers, the channeling of patients to inappropriate providers, and cost-shifting."

Most agree that capitated reimbursement models can, if implemented properly, create increased clinical accountability for individual and aggregate outcomes. This level of clinical accountability cannot easily be duplicated in a fee-for-service environment. Fiscal and clinical incentives encourage the capitated party to consider all available options for meeting client needs in the most efficacious way. These fiscal and clinical incentives can foster innovation by encouraging the use of treatment settings that are not traditionally purchased in fee-for-service financing (Dangerfield and Beitt 1993).

However, depending on the nature of financial incentives built into the contract, capitation can create strong short-term incentives to underprovide care as a cost-cutting measure. Monitors of a capitated system must therefore develop an expanded set of concerns, skills, and systems to maintain the integrity of the treatment system and to ensure appropriate access to treatment (Schaller et al. 1986). In many situations, the State AOD authority is well positioned to be such a monitor.

Risk Management

Risk management refers to a health care organization's desire to minimize the financial risk of delivering services in a capitated system. The financial risk may be borne by the provider, by the managed care organization (MCO), or by the entity that is purchasing the managed care service, or the risk may be shared in agreed-upon ways. Adverse selection–having an unfair and disproportionate number of expensive-to-treat enrollees–is avoided whenever possible. Management of this risk is a key challenge in most managed care systems.

In any pool of enrollees, there will be subgroups who utilize treatment services differently. Some groups will be more expensive to manage and some will be less expensive. It is essential to understand the clinical and treatment characteristics of the populations served. For example, in the behavioral health field, it has been estimated that 40 percent of all mental health/AOD expenditures are made on behalf of just 2 percent of the population (Frank 1994). In most cases, this is related to individuals with severe mental health problems who have AOD problems that exacerbate the condition.

When provider organizations compete to attract enrollees in &nbsp;capitated systems of care, there are strong financial incentives to limit, discourage, or disenroll those individuals who can be expected to incur higher costs. Providers who attract a disproportionate share (i.e., adverse selection) of such persons face serious financial risk unless they are protected by some form of adjustable capitation payment, shared risk, or stop-loss mechanisms. Reinsurance or other "stop loss" provisions are ways to protect against unforeseen costs. Providers under such an arrangement are protected from financial loss beyond a certain predetermined level (Mechanic 1993).

Benefit Package

The benefit description (i.e., what treatment services must be available in the plan) needs to be clearly defined. Any capitation payment must be substantial enough to support delivery of these defined services. If there are services that fall outside of the domain of the MCO, certain requirements will be needed. These include:

• A mechanism must be provided for the client to receive these services.

• Some assurances are needed that there will be timely access to these services.

• Assurances are needed that these services will be coordinated with the MCO.

Capitated health care systems must incorporate effective checks and balances to ensure that short-term incentives to undertreat do not overwhelm the longer term incentives. For positive outcomes, checks and balances are critical because they support longer term goals–to build quality services and improve overall health status. To offset short-term incentives to undertreat, important balances include (1) sufficient funding for the services required, (2) clear performance indicators, and (3) longer contracts (e.g., 2­5 years) that increase the incentive for MCOs to seek longer term positive outcomes.

Before the advent of managed care, financial exposure was limited by such means as placing maximum individual limits on the amount, duration, and/or type of treatment. Such limits are largely unnecessary in a managed care environment. However, use of such limits still prevails, despite the fact that they can result in denials of treatment that are clinically unsound and financially counterproductive.

The contracting agency makes the final determination regarding the benefit package that the MCO must implement. Depending on the situation, the MCO may or may not be able to influence this decision significantly. Thus, service coverage within a managed care system may include a number of benefit limitations that need careful examination. These benefit limitations may include:

• Restrictions on the number of available hospital days or ambulatory visits

• Copayments, deductibles, or other enrollee-paid fees

• Supplemental benefits available only for an additional monthly charge

• Mandatory periods of time (e.g., 90 days) between treatment episodes

• Limitation of sufficient resources (e.g., facilities and/or personnel)

• Annual or lifetime payment limitations

• Arbitrary "fail first" policies

In developing or evaluating the terms of a managed care contract, it is imperative that the benefit package be closely examined. Attempts should be made to minimize or eliminate any arbitrary limits of care that are not well grounded in clinical practice.

Cost-Shifting

Cost-shifting occurs when the care of a particular condition is "shifted" inappropriately to another treatment facility, State agency, or other entity. Cost-shifting is a common problem in any systems development. It is imperative that developers aggressively consider how to minimize incentives for shifting costs. What incentives will there be for the MCO to transfer care (and therefore cost) to other State agencies? How will care and responsibility for individuals be determined between the MCO and other agencies? What kind of interagency agreements should be developed to guide these decisions? How will possible cost shifts between the MCO and medical services be monitored?

With today's healthcare reform of publicly supported clients, many MCOs are now placed in the position of becoming the provider of services to the indigent (i.e., the provider of last resort). There are no other resources or providers to whom MCOs can shift costs. State AOD agencies need to consider contract benefits and responsibilities from this perspective.

Actuarial Analysis

In any capitated situation, it is essential to understand the case mix (i.e., the clinical characteristics) of the pool of enrollees and to determine the likely per-person cost of treating each group. Actuarial companies are companies that specialize in analyzing past utilization data for specified groups and then, using assumptions when necessary, estimating likely future costs for treating each group.

There is considerable "art" in the science of actuarial prediction. Good actuarial work needs to be thoroughly attuned to the real world, so that any assumptions are grounded in logic and represent the field as it is currently practiced. Actuarial analysis is only as good as its sources, and therefore depends on the quality of the historic cost data, the accuracy of the demographic data, and on the validity of its assumptions.

An actuarial analysis is the basic tool used by insurance firms to determine how much to charge for a policy that would pay for a defined benefit package. State agencies need to estimate how much the State should expect to pay for the services it proposes to contract through a managed care firm. States employ actuaries to prepare such analyses. The final analysis combines a variety of estimates, calculations, and assumptions as the basis for computing the cost per covered person per month, the "PMPM" (per member per month).

Whenever possible, actuarial analysts will base estimates on concrete data and, when necessary, will make assumptions to compensate for missing, incomplete, or inaccurate data. During negotiations, actuaries will usually tend to estimate conservatively and err on the side of a high PMPM. In order to stretch limited funds, it is usually in the interest of the State purchaser and the State AOD authority to lower the PMPM to the lowest level that can still support a quality care system.

In working with actuaries, it is thus very important to provide them with appropriate assumptions. To the extent possible, one should try early in the discussion to define what assumptions the actuaries are actually using. Model building for PMPM should accompany or precede actuarial analysis. Such model building will force explication of what the payer wants, in what volume, and for what populations.

The importance of providing assumptions for the actuaries cannot be emphasized enough. Experience in healthcare reform at the State level has shown that battles about benefit packages ultimately end up in actuarial wars between competing sets of numbers. These competing numbers are used by opponents as reasons to reduce benefits for appropriate and cost-effective services.

It is important to understand the actuarial process and to question aggressively the actuaries who establish the capitation rates. The critical question is whether the rates being proposed are sufficient to guard against undertreatment. If the capitation rate is insufficient, undertreatment of substance abuse problems will result.

During the actuarial process, it is important for decision makers and actuaries to be knowledgeable about the many cost offsets related to AOD treatment. This knowledge can be a driving force for creating financial incentives to provide efficacious levels of treatment.

Overall actuarial studies should be tailored to the options that the State is considering for controlling costs (C. Hansen, Washington State Division of Alcohol and Substance Abuse, personal communication, 1994).

Last Updated 11-7-02