IHC Program June 25, 2006 MAKING NEW AND BETTER MISTAKES USING THE PAST AND PRESENT TO PREDICT THE FUTURE. Hypothetical

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1 IHC Program June 25, 2006 MAKING NEW AND BETTER MISTAKES USING THE PAST AND PRESENT TO PREDICT THE FUTURE Hypothetical In 1979, Memorial Hospital, a nonprofit, IRC 501(c)(3) entity, was a 125-bed general acute care hospital on the fringe of Anywhere, USA, a city of 100,000 people. There were three other hospitals in the city and the immediately surrounding areas. Memorial s operations soon began to include a skilled nursing facility, home health agency, hospice, DME Company, and a nonprofit foundation. It embarked on a divisive reorganization in the early 1980s at the suggestion of its outside law firm to enable it to maximize reimbursement, and have many more corporate entities. After its experience with its outside counsel that initiated its divisive reorganization, Memorial Hospital retained new outside counsel who advised Memorial that it should become bigger by acquiring other hospitals and building new ones, and developing its own managed care organization to enable it to participate in the new world of managed care. Of course, Memorial complied. It bought one of the other hospitals in town and built one in the suburbs. Memorial s location in Anywhere, USA soon became part of the city proper as the Anywhere population grew to 250,000. Memorial was soon called Memorial Health System (MHS). MHS health plan strategy was interesting. It had no knowledge of how to operate a health plan, but it committed the necessary money to do so and thought it hired the right people to operate it by deploying some of its hospital executives who wanted to do something entrepreneurial. Unfortunately, MHS did not realize that the commercial health plans in town would not welcome the new competition. Soon thereafter, the health plan was spun off. Well

2 maybe it was not spun off soon enough. It experienced multi-million dollars in losses in each year of operations, and it took many more millions of dollars to close it. In the mid 1980s, physicians began to combine into Independent Practice Associations (IPAs) for managed care contract purposes. Hospitals aligned with such IPAs by creating Physician Hospital Organizations (PHOs) and Management or Medical Services Organizations (MSOs). Although MHS participated in this wave earlier than most hospitals, MHS model never really became effective in developing or replicating an integrated delivery system that was effective from a managed care contract perspective. Perhaps, it should have waited until the mid 1990s or so when the PHO/MSO model peaked in many areas of the country. By the late 1980s, out-of-town physician practice management (PPM) companies were coming to town. MHS decided it did not want to lose its medical staff to a soon-to-be publicly traded corporation. It retained new specialty legal counsel with expertise in this area to assist it in its integration strategy. MHS was able to successfully purchase a significant number of the primary care and specialty practices, employing physicians, and creating a physician practice division. Fortunately, it had the money to outbid the PPMs. (It had a good valuation company.) MHS also thought it had the money to provide lucrative guarantees for three or more years to the physicians. Unfortunately, there were no productivity incentives. Some physicians appeared to retire upon employment by MHS, but they did not remember to tell the MHS executives running the new physician practice management division. Of course, these were the same executives, in large part, who had previously operated the Health Plan that was spun off. After staggering losses, outside counsel changed again and the physician practices were spun off. Originally, it had been thought that the physicians practice management division would 2

3 help with MHS s managed care contracting strategy. Unfortunately, MHS later learned that some integrated delivery systems did not spin off their physician practice divisions and it now had to compete with them. With no health plan and no physician practice management division, MHS started to extricate itself from its capitated managed care contracts and embarked on a complicated set of partnering arrangements with the managed care companies for their beneficiaries in Anywhere, USA. In 1995, MHS decided to hire its first General Counsel (GC). She was recruited from another part of the country and welcomed the opportunity to come to Anywhere and be responsible for what is now a five-hospital Healthcare Delivery System (which had been created through a merger of equals with a religious competitor). MHS no longer had any health plan or any owned physicians. The GC sought to develop alliances, relationships with other suburban and rural providers through joint venture arrangements and contractual relationships because unfortunately, the merger of equals did not produce financial improvement, but only an antitrust investigation and a clash of cultures. She envisioned the emergence of more joint venture opportunities, and assisted in the development of an ambulatory surgery center, and in 1998, the development of an IDTF. The year 2000 was upon her and MHS got on the bandwagon for its internet and e-health strategy. Unfortunately, this was just as the internet bust occurred. Prior outside counsel suggested that MHS bond with its medical staffs and enter into a series of joint ventures. It had complied by entering into an imaging center joint venture, an ambulatory surgery center joint venture, and joint ventures in the areas of sleep labs, physical therapy, etc. (You know the list.) It later 3

4 decided to buy all the physicians out of the joint ventures at a premium that was justified by the right valuation consultant, and thus the time was ripe to joint venture again. With losses in the stock market and a declining bond rating, the GC figures this is not the time to ask for greater staffing or to reject her new role that the CEO gave her as Compliance Officer. She also was the Chief Risk Manager and Safety Officer. Soon, she also would be the HIPAA privacy officer. She began to long for the days of associate life in a large law firm where she could bill her 2,400 hours each year and just go home. MHS began to realize that other hospital systems integrated delivery strategies were working. The regulatory labyrinth had made physician recruitment more difficult, and being the right form of integrated delivery system helped. MHS knew it needed to revisit its physician practice management strategy. Unfortunately, the Board was tired of mounting losses and it retained a slash and burn turnaround firm. The President and CEO, CFO, General Counsel and Outside Counsel were let go. A search ensued and Jeff Sconyers was hired from Children s Hospital in Seattle to be the new General Counsel to figure out a strategy to compete with Kaiser. His first day included a strategic planning meeting which made him yearn for the 120 th day of rain in Seattle. He also made his first substantive decision: No, we are not doing a Participating Bond Transaction, and an interesting observation, why would we care about competing with Kaiser. They are not in our market. He then declared I am interested in considering strategic joint ventures as a cornerstone to our new direction. In my prior life, I just completed a cancer care alliance joint venture with a cancer research center where we contributed the money and the cancer care research center had the expertise. We also lent our expertise with respect to Neonatal Intensive Care Units (NICUs) to a 4

5 number of community hospitals in the context of joint venture NICUs. Let me think cancer center, heart center, alternative and complimentary medicine. I have it DeMuro and since you re from California, you will appreciate this the Flakes & Nuts joint venture clinic. Also, you might want to republish your book, The Fundamentals of Managed Care and Network Development, which I understand is now out of print. It seems likely many of your wacky predictions have come true, and I would rather you think through all these ideas, put them in your updated book and give me a complimentary copy. Doug, don t you sit on some high powered board or commission, the Board on Health Care Services of the Institute of Medicine? Why can it not figure out a series of strategic directions for us to consider without charging us? Let s see gentlemen... where do we go from here...? It cannot be the AHLA reception. It is not even the noon hour.... Paul R. DeMuro Doug Hastings Jeff Sconyers 5