Healthcare Services: Alternate Site Providers

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1 April 1, 2015 Healthcare Services: Alternate Site Providers BPCI - The Next Big Thing; A Closer Look Into Medicare's Bundling Initiative CONCLUSION We believe Medicare's bundling initiative, known as BPCI, could provide a meaningful, long-term opportunity for several of our healthcare services companies. The government has made it clear that reimbursement will continue to gravitate toward valued-based models, and the Bundled Payments for Care Improvement (BPCI) initiative is a way to lower the cost of care without sacrificing quality. We think hospitalists, integrated physician practices, and post-acute providers will play an important role in the BPCI model and companies under our coverage with the greatest exposure include: FMS, IPCM, and EVHC, while AMED, LHCG, and DVA have some exposure, but to a much lesser extent. AFAM is not involved in BPCI, but is participating in Medicare's Shared Savings Program (MSSP) and we think TMH and AMSG could eventually get involved in Medicare's valued-based reimbursement programs. What is BPCI and how does it work? BPCI is Medicare's bundling initiative known as the Bundled Payments for Care Improvement (BPCI) initiative. Essentially BPCI is a way for Medicare to reduce the cost of care through episodic care in the acute and postacute setting with bundled reimbursement. Healthcare providers and facilities act as episode initiators and have a convening organization that acts as a general contractor for Medicare. There are four BPCI models under which providers can bear risk or not bear risk. Details about the BPCI models can be found in the body of this report, however most of our covered companies are participating in Model 2 (retrospective, hospital plus post-acute) and Model 3 (retrospective, post-acute only). Kevin K. Ellich Sr Research Analyst, Piper Jaffray & Co , kevin.k.ellich@pjc.com Cairn K. Clark Research Analyst, Piper Jaffray & Co , cairn.k.clark@pjc.com Related Companies: Share Price: AFAM AMED AMSG DVA EVHC FMS IPCM LHCG TMH RISKS Risks include reimbursement and regulatory pressures, competition, integration risk, attrition, cost inflation, government investigations, and lower utilization. Which companies are involved? The majority of our healthcare services coverage are involved with the BPCI initiative. Based on the number of Phase I BPCI episodes found in Medicare's analytic files, FMS had the greatest exposure with 12,960 episodes or 4.2% of the Phase I total of 310,677 episodes. IPCM had the second largest exposure with 7,200 episodes or 2.3% of the total, while EVHC had 3,553 episodes accounting for 1.1% of the total. AMED had 1,056 episodes, while LHCG had 201 and DVA only had 50 episodes. It is important to note that BPCI exposure can vary as companies change which bundles to participate in, e.g. the Phase II deadline is approaching on April 13th and providers must select which bundles in each geography they want to participate in. Additionally, some companies like DVA, EVHC, FMS, and AMED are also conveners, which provide a different type of exposure to BPCI. Financial implications: We do not expect any meaningful contribution from BPCI until at least 2016 as Phase II will commence later this fall. We also believe it is difficult to quantify the potential impact given the early nature of the initiative and companies have not been able to provide specific financial guidance on BPCI's potential, even though we expect to receive greater disclosure over the next couple of quarters. If providers are able to provide care at a lower cost than historical averages, they would be able to keep the savings, which would be split between the physicians, facilities, and conveners. While we do not have specific estimates for the potential benefit, we think the biggest BPCI beneficiaries, based on magnitude, are: IPCM, EVHC, FMS, and AMED. Regardless of the financial benefit, which remains relatively uncertain at this point, we view early participation in BPCI as a positive since it provides experience with Medicare's new reimbursement programs, which are clearly here to stay given the shift to value-based reimbursement away from fee-for-service. Piper Jaffray does and seeks to do business with companies covered in its research reports. As a result, investors should be aware that the firm may have a conflict of interest that could affect the objectivity of this report. Investors should consider this report as only a single factor in making their investment decisions. This report should be read in conjunction with important disclosure information, including an attestation under Regulation Analyst certification, found on pages of this report or at the following site: Page 1 of 19

2 AN OVERVIEW OF THE BUNDLED PAYMENT S FOR CARE IMPROVEMENT ( BPCI) INITIATIVE Given the growing involvement in Medicare s Bundled Payments for Care Improvement (BPCI) initiative, we thought it would be a good time to provide an overview and deep dive into the program, while reviewing participation of our healthcare services coverage. Meaningful contributions to financial results are probably at least a year away and it is still too early to quantify with detail what the potential impact the program will ultimately have, but we think quarterly commentary by company management teams will increase and there are at least six of our covered companies already participating in the program in some form, including EVHC, IPCM, FMS, DVA, AMED, and LHCG, and more could follow. While the program has recently been gaining more momentum, BPCI has been around for a while as it was originally announced in August of As of December 2014, the Centers for Medicare and Medicaid Services (CMS) projected that the program would serve 130,000 Medicare beneficiaries. The BPCI program offers four different models for managing various types of bundled payments and we believe the focus for most of the companies in our services coverage will be model 2 and model 3 which are retrospective and cover various acute and post-acute care episodes. Models 1 and 4 are much smaller in comparison based on the number of participating providers. Thus, our brief overview will focus on models 2 and 3. Key BPCI Terminology Below is a list of key terms that are frequently used when discussing the BPCI program: Episode Initiator Program participants that begin the actual care of the patient. An episode initiator can be a physician group practice or an acute care hospital. Convener Helps facilitate participation in the program by providing services such as data analytics and CMS compliance. Awardees Medicare providers that bear risk for episodes they initiate Awardee Conveners participants that apply with partners and bear the risk for all of the partnered episode initiators. Facilitator Conveners only facilitate risk taking by other organizations. PAC Post-Acute Care Episode The condition or reason for initiating treatment (e.g. congestive heart failure) Bundle the services provided under the episode of care DRG Diagnosis Related Group FFS Fee For Service Discount Providers offer Medicare a discount, usually 2-3%, on the episode cost which is essentially an entry fee for participating in the program Target price This is based on the discount and historical cost for the episode Prospective payment bundling pre-determined payment made for the bundle of services to be provided Retrospective payment bundling payments are made at the usual fee-for-service rates (actual cost) then aggregated and compared to the target price BPPO Bundled Payment Participating Organizations Page 2 of 19

3 The basic retrospective payment concept is Medicare takes an approximate 2-3% cut off of the top of the care cost for managing the episode and providers are set with a target price for each treatment group. If the provider beats the target price, then it is eligible for a reconciliation payment, but if it falls short, a repayment to Medicare may be required. Gains are split between the different groups involved in the episode of care, including the episode initiator, the facility (e.g. hospital), and a convening organization. CMS contracted the Lewin Group to evaluate and monitor models 2, 3, and 4 and in February 2015 the Lewin Group released the first annual report which covered quantitative analysis for Phase 2 participants during 4Q 2013 which was the first quarter of the program. Qualitative analysis also covered the first two quarters of the program. The Lewin Group was unable to make any significant determinations regarding the program s impact because of the small time frame and sample size, but we expect future reports to deliver a much higher level of insight. Financial implications for participants will depend on a wide range of factors: The number and type of diagnosis related groups (DRGs) the company decides to participate in Whether the participant is a Convener or Episode Initiator Participation in Model 2 or Model 3 Whether the company is focused on inpatient care or post-acute Company involvement will likely change over the next few years as experience grows with the various payment models. Without internal details on participation, it is difficult to estimate what the potential revenue and EBITDA impacts will be on a company-bycompany basis, however now that the program is fully on the Street s radar, our view is that specific financial guidance is probably a few quarters away. While it is hard to quantify the potential benefit for our covered companies, we compiled a qualitative list of individual company participation, which is found in the exhibit below. Greater details about BPCI and the models are found in following pages of this report. The following exhibits illustrate our healthcare services coverage exposure to BPCI based on the number of Phase I episodes. We analyzed the Medicare analytic files and our analysis may not have captured episodes for all subsidiary operations, which could be meaningful. Exhibit 1 P J C H E A L T H C A R E S E R V I C E S C O V E R A G E E X P O S U R E T O B P C I (Based on the number of Phase I Episodes) # of % of Ticker Episodes Total FMS 12, % IPCM 7, % EVHC 3, % AMED 1, % LHCG % DVA % Total Phase I Episodes 310,677 Source: Piper Jaffray and the Centers for Medicare and Medicaid Services (CMS) Page 3 of 19

4 Exhibit 2 P J C H E A L T H C A R E S E R V I C E S : B P C I P A R T I C I P A T I O N O V E R V I EW Ticker Company BPCI Model / Convener IPCM IPC The Hospitalist Company 2 Details from CMS BPCI files: Remedy BPCI Partners, * 66 organizations registered with IPCM's address NaviHealth * 7,200 episodes all in Phase I with end date of 9/30/15 Liberty * 2-3% discount rate Notes and other details: * IPCM is an episode initiator & a partner to facilities that are initiators * IPCM is managing $2.5 billion of care * started to see cases in 3Q14 EVHC Envision Healthcare 2 & 3 Details from CMS BPCI files: Remedy BPCI Partners * 73 organizations/locations with Evolution as the convener or listed under the address Evolution Health for Emergency Medical Associates * 3,553 episodes all in Phase I with end date of 9/30/15 * 2-3% discount rate Notes and other details: * episode initiator and convener (Evolution Health) primarily for its own services, but may offer services to interested parties FMS Fresenius Medical Care 2 & 3 Details from CMS BPCI files: Liberty, NaviHealth * 262 locations registered under Sound, Cogent or their addresses Remedy BPCI Partners * 12,960 episodes all in Phase I with end date of 9/30/15 & Medsolutions, Inc. * 2-3% discount rate Notes and other details: * Sound Inpatient Physicians is preparing to participate in multiple markets DVA DaVita HealthCare Partners 2 & 3 Details from CMS BPCI files: * 3 locations * ~50 episodes all in Phase 1 with end date of 9/30/15 * 2% discount rate Notes and other details: * HealthCare Partner's subsidiary, The Camden Group, is acting as a convener for: -Summa Akron City and St. Thomas Hospitals (Ohio) -Summa Berberton Hospital (Ohio) -Glendale Memorial Hospital and Health Center *Locations and episode counts are based on our search of associated organizations and locations. There could be additional episodes not captured in our database checks. Source: Piper Jaffray, company filings, transcripts, and CMS The Camden Group AMED Amedisys * Model 3 participant * Model 2 convener Details from CMS BPCI files: * Remedy BPCI Partners * 83 locations registered with Amedisys name as a Model 3 participant for Model 3 * 1,056 episodes all in Phase I with an end date of 9/30/15 * AMED is a convener for 672 * 3% discount rate Model 2 episodes Notes and other details: * AMED was a model 3 convener in 2014 but terminated due to an unfavorable risk profile LHCG LHC Group 2 Details from CMS BPCI files: * two locations under Ochsner and one under West Tennessee Health * ~201 episodes all in Phase I with end date of 9/30/15 * 2-3% discount rate Notes and other details: * Two separate model 2 projects * Hospital partners incclude Ochsner and West Tennessee Health System NaviHealth AFAM Almost Family N/A Notes and other details: * not participating in BPCI * participating in Medicare's Shares Savings Program (MSSP) Page 4 of 19

5 Company Commentary Within our healthcare services coverage, five companies have discussed BPCI participation on calls or in filings and we have uncovered participation from six companies in total. We performed a number of searches in the available CMS databases in order to obtain some rough estimates for the level of involvement by company. Many of organizations registered for the initiative are listed under various subsidiary names and addresses, so there could be a substantial number of episodes and locations not captured in the groupings below. Additionally, the information in our summary table in Exhibit 1 and in the comments below could be stale, as the data is based on the information from Medicare s website and databases and the companies may have changed which episodes and sites they plan to participate in going forward, which might not yet be reflected in the available information from Medicare that we analyzed. Fresenius Medical Care companies Sound and Cogent comprise the largest number of locations at over 250 organizations while AMED, IPCM, and EVHC each have between 50 to 75. As noted below, the DVA locations represented are related to its subsidiary, The Camden Group, which is a convener for Models 2 and 3. The episode count paints a somewhat similar picture with FMS taking the top spot in our coverage, but based on episodes, IPCM has a much higher count than either EVHC or AMED. For volume reference, the CMS database contains around ~6,660 locations and around 313,000 episodes indicating that our covered companies only account for a fraction of total participants. Exhibit 3 N U M B E R O F O R G A N I Z A T I O N S / L O C A T I O N S B Y C O M P A N Y *DVA locations are those related to its subsidiary The Camden Group acting as a convener Source: Piper Jaffray and the Centers for Medicare and Medicaid Services (CMS) Page 5 of 19

6 Exhibit 4 N U M B E R O F L I S T E D E P I S O D E S B Y C O M P A N Y *DVA locations are those related to its subsidiary The Camden Group acting as a convener Source: Piper Jaffray and the Centers for Medicare and Medicaid Services (CMS) IPC The Hospitalist Company (IPCM) IPCM is an episode initiator and may be managing around $2.5 billion of care. Management indicated the financial opportunity could be extremely significant. We think the company did a good job of explaining its role in the program during its last earnings call discussing that in its episode initiator role, the primary physician admits the patient with a certain diagnosis (DRG) that has an assigned average cost from Medicare. If IPCM beats the cost, gains can be shared with its partners which could include facilities, specialists, or post-acute facilities. IPCM could also participate as a partner to facilities that are acting as the primary episode initiators. While there is some substantial risk for participating in the BPCI program, the company has pointed out some key aspects should make it feasible: 1) IPCM will share the risk of increased costs with the convener, 2) IPCM gets to pick which DRGs and geographic areas it participates in, and 3) IPCM can opt out within 90 days of selected DRGs where the risk is too extensive We found a total of 66 organizations registered with IPCM s address and based on the CMS analytic file from late March 2015, IPCM s affiliated organizations are using NaviHealth, Remedy BPCI Partners, and Liberty Health Partners as conveners for 7,200 episodes. All episodes are currently in Phase 1 with an end date of 9/30/2015 and discount rates of either 2 or 3%. At this point, we believe it is hard to say what type of impact the program will ultimately have over the next few years and IPCM has not included any assumptions for BPCI in its 2015 guidance. While cases should start to begin in 3Q15, the company has pointed out that since it is operating with 90 day risk profiles, it will not be able to fully evaluate data until 4Q15. We performed a back-of-the-envelope, basic, high level analysis to estimate potential revenue and EBITDA impacts for a wide range of Model 2 scenarios (in the exhibit below) which we think is appropriate given that outcomes are largely unknown. The net payment / repayment percentage is the net payment IPCM could receive after it has made repayments to CMS for episodes where cost exceeds the target price. While there will be expenses associated with program participation, we expect a much higher EBITDA flow-through for BPCI payments than the company s 2014 margin of ~10.5% because IPCM is already providing the care regardless of BPCI involvement. We expect to gain more insight into the company s overall progress during its next update. Page 6 of 19

7 Exhibit 5 I P C M : E S T I M A T E D B PCI F I N A N C I A L I M P A C T ($ in millions) IPCM Medicare discount High end of overall payment / repayment Dollars under care range Factor 2% 20% Dollar value $2,500 $50 $500 Base case sensitivity Source: Company transcripts, CMS, and Piper Jaffray estimates Net payment/repayment % Bull Base Bear EBITDA % 3% 5% 7% 10% 13% 15% 18% Net Payment / Repayment % 15% 10% 5% 10% $2.5 $4.1 $5.8 $8.3 $10.7 $12.4 $14.9 Dollar value $375 $250 $125 15% $3.7 $6.2 $8.7 $12.4 $16.1 $18.6 $22.3 % received after split with other parties* 33% 33% 33% 20% $5.0 $8.3 $11.6 $16.5 $21.5 $24.8 $29.7 IPCM Revenue $ $82.50 $ % $6.2 $10.3 $14.4 $20.6 $26.8 $30.9 $37.1 EBITDA Margin 25% 25% 25% 30% $7.4 $12.4 $17.3 $24.8 $32.2 $37.1 $44.6 IPCM EBITDA from BPCI care $30.94 $20.63 $ % $8.7 $14.4 $20.2 $28.9 $37.5 $43.3 $ % $9.9 $16.5 $23.1 $33.0 $42.9 $49.5 $59.4 *Assumes 3 way split between hospital, episode initiator (IPCM), and convener Management Commentary on BCPI Management commentary from the fourth quarter 2014 earnings call: "The financial opportunity for IPC could be extremely significant, since our workforce is uniquely positioned at the forefront of impacting costs, associated with both acute and post-acute care. While we have not included any assumptions for BPCI incentives in our 2015 guidance, we are actively evaluating initiative to determine the extent of our involvement." "To put some bands around it, again, we do not have all the details yet of the program, but at IPC's size and given that we are primary admitters of patients, in most of the care that we deliver on the acute side, we look to be managing about $2.5 billion of care on to the Medicare program that would be applicable to this program." - Adam D. Singer, CEO Envision Healthcare (EVHC) EVHC is a convener and plans to be an episode initiator for Models 2 and 3. The company is highly confident in its ability to choose appropriate episodes with its data analytics capabilities and is acting as a convener for all of its own services and could eventually offer services to other interested parties. CEO Bill Sanger discussed EVHC s efforts in more detail than perhaps any other company in our coverage during the 4Q14 conference call noting that the opportunity for EVHC is significant. Mr. Sanger talked about some of the history behind bundled payments in successful procedure areas such as hips and that there will be some differences now that things are moving towards medical care. He also called out some of the differences between the BPCI initiative and Accountable Care Organizations (ACOs), specifically the requirement to engage physicians with bundled payments, which led to the comment that BPCI could ultimately challenge ACOs in terms of what role they play in reducing costs and improving outcomes. He also mentioned the intensive care unit as one of the areas he sees as key to being successful in the program and that EVHC could be taking a serious look at that specialty. We found a total of 66 organizations/locations and 3,553 episodes associated with either Evolution Health acting as a convener or Emergency Medical Associates (EMA) address. Page 7 of 19

8 EVHC acquired EMA in January 2015 along with Scottsdale Emergency Associates and EMA is using Remedy BPCI Partners as the convener for ~3,260 episodes. All episodes associated with EVHC are currently in Phase 1 with an end date of September 30, 2015 and discount rates of either 2 or 3%. The company sees 2015 as more of a preparatory year for its role in the BPCI program as it evaluates each individual hospital and figures out the best episodes of care to participate in moving into 2016 and 2017 when the impact will be more significant. Mr. Sanger also discussed some of the many unknowns in the program since it is still in the early stages and there could be some cherry picking by providers. He mentioned that CMS could eventually mandate certain episodes and expects Medicare to rebase after the first round of improvements which could introduce some risk into the program if it is successful. Management Commentary on BCPI Management commentary from the fourth quarter 2014 earnings call: "I do believe that this whole initiative towards bundled payment may be one of the most transformational things that Medicare has done since, frankly, prospective payments." "We're also cautious because it's a new program and we know it's going to morph over time. But I do believe that the numbers are substantial going into 2016 and 2017." "I think this is completely different than ACOs. Number one, you have to engage the physicians. We have information by hospitals through CMS as to how our physicians treated different episodes of care. I think the bundled payment program would be the precursor, and frankly, I think, ultimately, may very well challenge ACOs in terms of what role they play in reducing costs and improving outcomes." - William A. Sanger, CEO Fresenius Medical Care (FMS) Management Commentary on BCPI We believe Fresenius Medical Care has been playing its cards closer to the vest than most regarding the BPCI initiative and the company s involvement, but it has disclosed that its hospitalist business, Sound Inpatient Physicians and Cogent will be participating in the program in While FMS has selected its convener and has a plan in place, for now management did not disclose any further details and mentioned that the program is already very competitive. The company did discuss that it was expecting the program to start January 1, 2015 but that CMS delayed the start until the second quarter. We examined the CMS database and found 262 locations registered under Sound Inpatient Physicians, Cogent, or either of their corporate addresses. There were around 12,960 episodes all in Phase 1 with either 2% or 3% discounts and FMS appears to be using a number of conveners including Liberty, NaviHealth, Remedy BPCI Partners, and Medsolutions Inc. Management commentary from the fourth quarter 2014 earnings call: "We know who the convener is going to be, we know what we're going to do. But I think I'm just going to let it stay at that. As you could imagine, this is pretty competitive." - Rice Powell, CEO "Our preparations began in 2014, expecting the program to begin January 1, 2015; CMS has delayed the start of the program until the second quarter." - Mike Brosnan, CFO Amedisys (AMED) AMED participated as a convener under Model 3 throughout 2014 mostly through two sites and ended up terminating at the end of the year. After the company looked at its ongoing risk responsibility under its 90 day episodes of care, it determined that the risk profile was not favorable enough to continue involvement. Vice Chairman Ronnie LaBorde mentioned Page 8 of 19

9 on the fourth quarter 2014 earnings call that inside the bundled payments, around twothirds was accounted for by other providers while the remaining one-third was attributable to home health. While the company was able to make some improvements in its focus area by trying to reduce readmission costs, the bundle profile was ultimately too risky. Amedisys recently indicated it is continuing participation in the BPCI program through Model 2 based on a single relationship where AMED is not the convener. We examined Medicare s BPCI database for instances where Amedisys was mentioned and found 83 locations associated with the company s name or listed as doing business as Amedisys and there were a total of 1,152 episodes with Remedy BPCI Partners listed as the convener for Amedisys. All episodes are currently listed as Model 3 in Phase 1 with a discount rate of 3% and an end date of 9/30/2015. Separately, we found 672 episodes where Amedisys is listed as a Model 2 convener for a number of organizations such as Clark Memorial Hospital, Baton Rouge General, and the Georgetown Memorial Hospital. While this finding is somewhat inconsistent with company comments, we assume the episodes in the CMS file are either related to old programs or new under-takings. Management Commentary on BCPI Management commentary from the fourth quarter 2014 earnings call: "Obviously it's very early stage from a CMS perspective and certainly from a provider perspective of how do you dip your toe in the water and begin to take on risk and participate in different reimbursement alternatives. On the Model 3 work in 2014: "And while we made some progress, we just weren't moving that needle far enough. We had some positive clinical care redesign, we worked hard, but it was more of a financial risk profile that we decided not to go forward with." - Ronnie LaBorde, Vice Chairman LHC Group (LHCG) Management Commentary on BCPI LHCG is participating in two separate Model 2 projects, is using NaviHealth as its convener, and management described the savings opportunity as a split between all three parties (the third being the hospital) but could not disclose the percentage breakout for each participant. The company talked about two hospital partners and we found two locations associated with Ochsner Health and one under West Tennessee Health System for a total of 201 episodes all in Phase 1 with discount rates between 2-3%. Separately, LHCG is also involved in 4 different ACOs and recently discussed that the main benefit for those programs is currently volume enhancements coming from being the preferred provider and that the same type of volume benefits are expected to exist with the BPCI arrangements. Management commentary from the fourth quarter 2014 earnings call: "Right now, we're not taking a lot of we're not taking any risk really in ACO models. It's just really a volume play. By becoming the preferred provider, we increased our volume at Medicare or higher rates." "And the same applies to the two bundled payment arrangements. I mean those we have a defined stake in the upside and the same thing on the volume play. So all of the volume comes to us, because we're in the bundle. Our interim reimbursement is at Medicare levels. And the savings we generate are from the patients moving downstream to home care, out of more costly inpatient settings in those bundle arrangements. And then we are we have the opportunity to share on the backside in those savings we generate." - Keith G. Myers, CEO Page 9 of 19

10 Key Convening Organizations We analyzed CMS list of BPCI conveners by organization/locations and found Remedy BPCI Partners to be the largest convener by a wide margin (not shown in the bar chart below due to size differential. Below we highlight a few of the key conveners for companies in our coverage universe. Exhibit 6 T O P 1 5 C O N V E N E R S H A R E B Y P A R T I C I P A T I N G L O C A T I O N S Source: Piper Jaffray and the Centers for Medicare and Medicaid Services (CMS) Exhibit 7 T O P C O N V E N E R S B Y N U M B E R O F P A R T I C I P A T I N G O R G A N I Z A T I O N L O C A T I O NS * Remedy BPCI Partners has 3,520 participating locations and was excluded from this chart due to the scale * Organizations may have same name but different location or BPCI Model Source: Piper Jaffray and CMS Page 10 of 19

11 Remedy BPCI Partners Remedy BPCI Partners is the largest awardee convener and has operations in all 50 states partnering directly with both physicians and participating organizations such as episode initiators. SEC filings show that in July 2014, Remedy filed for $35.9M in equity funding from unspecified investors. In addition to data management and analytics, Remedy provides a wide range of services that also include risk pooling and re-insurance, custom contracting, and CMS compliance. The company coordinates care data from the hospital, health plan, and other providers and through its Episode Connect software. Remedy has a full time patient navigator (nurse) at every one of its partner hospitals that provides a point of continuity throughout the hospitalization and for 90 days after discharge for each patient. From start to finish, the navigator helps to manage the care process which includes the patient receiving a tablet after discharge that helps them track their medicines and care plan, receive alerts, and contact the physician team. Additionally, all of the patients previous diagnostic test results are available on the tablet in order to prevent any duplication during follow-up doctor visits. Remedy has a full, 24/7 call center and also connects with all of the physicians and additional providers to ensure that every party involved in the episode has current information on the patient s health status. NaviHealth The Camden Group With approximately 228 organization locations, NaviHealth is the fourth largest convener and a partner to many of the companies under our coverage. The company is owned by private equity firm Welsh Carson Anderson & Stowe and initially announced that it would be participating in Model 2 in early 2013 with five different organizations. Broadly, NaviHealth focuses on post-acute care (PAC) and provides BPCI partners with services ranging from initial analysis of potential opportunities to selection of the best DRGs and CMS contract negotiation. The Camden Group, a subsidiary of DaVita HealthCare Partners, is a national healthcare consulting firm that offers a wide range of services such as business planning, financial advisory and transactions, hospital operations, advisory services for physician groups, and accountable care consulting. The company assists more than 2,000 healthcare organizations nationwide and in the CMS BPCI database is listed as DNH Medical Management Inc. doing business as (DBA) The Camden Group with 50 episodes all in Phase 1. The Camden Group is acting as a subsidiary for a number of groups including multiple Summa hospitals in Ohio and the Glendale Memorial Hospital and Health Center. The company has bundled payment expertise with not only Medicare, but also with commercial payors and markets a 100 percent approval rate for BPCI applications to the Center for Medicare and Medicaid Innovation (CMMI). Page 11 of 19

12 BPCI Overview Payment bundling has been gaining momentum in recent years as more providers join Medicaid trials and a number of commercial payors also implement various programs with the goal of lowering overall costs while improving the quality of care. At the heart of the payment bundling push is the Bundled Payments for Care Improvement (BPCI) initiative which was developed by the Centers for Medicare and Medicaid Innovation (CMMI) in 2012 through the Affordable Care Act. The initial participating providers were announced in 2013 and since then the program has expanded significantly. BPCI includes four different bundled payment models (exhibit below) with one of the key differentiators between the models being whether the payments are prospective or retrospective. Exhibit 8 B P C I M O D E L S Model 1 Model 2 Model 3 Model 4 Episode Services included in the bundle All acute patients, all DRGs All Part A services paid as part of the MS-DRG payment Source: The Centers for Medicare and Medicaid Services (CMS) Selected DRGs, hospital plus postacute period only Selected DRGs, post-acute period Selected DRGs, hospital plus readmissions All non-hospice Part A and B services during the initial inpatient stay, post-acute period and readmissions. Up to 48 episodes. All non-hospice Part A and B services during the post-acute period and readmissions. Up to 48 episodes. Payment Retrospective Retrospective Retrospective Prospective -364 participants -240 participants -7 participants Phase 1 participants -47 conveners -33 conveners -1 convener -2,038 providers -4,646 providers -8 providers -60 awardees -20 awardees -8 awardees Phase 2 participants -1 convener -18 conveners -8 conveners -1 convener -12 providers -142 providers -81 providers -8 providers Total providers 12 2,180 4, Episode length 30, 60, or 90 days Services must begin within 30 days of discharge and end 30, 60, or 90 days after the initiation of the episode All non-hospice Part A and B services (including the hospital and physician) during initial inpatient stay and readmissions Covers inpatient stay and related readmissions for 30 days after the hospital discharge -acute care hospitals (ACH) -skilled nursing facilities (SNFs) -acute care hospitals (ACH) paid -physician group practices (PGPs) -long-term care hospitals (LTCHs) under the Inpatient Prospective Episode initiators -inpatient rehab facilities (IRFs) Payment System (IPPS) -home health agencies (HHAs) -physician group practices (PGPs) A prospective payment is essentially a single payment for a bundle of services to be provided under an episode of care. The hospital will split the payment between the various internal providers who submit no-pay claims, and if the services are provided at a cost less than the payment, then there is a benefit for the provider. The retrospective option allows providers to continue billing under the fee for service (FFS) model while the care is provided to the patient. Afterwards, the payments are reconciled with the bundle price to determine whether the provider owes Medicare a payment or vice-versa. For models 2-4, participating providers move through the program in two phases. Phase 1 is the period where participants get ready to take on risk, receiving monthly beneficiary-level claims data, as well as baseline pricing information which helps to identify potential opportunities. Before moving to Phase 2, CMS will conduct a comprehensive review and extend an agreement to the awardee which allows them to take on risk and continue to receive the monthly claims data. Awardees can also then use certain fraud and abuse and payment policy waivers. Page 12 of 19

13 There are a few key players in the BPCI program that take on different roles and include Episode Initiators (EIs), Conveners, and Awardees. CMS describes awardees as Medicare providers that bear risk for only episodes they initiate. Awardee Conveners are those participants that apply with partners and bear the risk for all of the partnered episode initiators. On the non-risk bearing side, Facilitator Conveners do not assume any risk themselves, but help to facilitate risk taking by other participants. Episode initiators are the participants beginning the actual care of the patient and for Model 2 would include acute care hospitals (ACH) and physician group practices (PGPs). For model 3, initiators would include skilled nursing facilities (SNFs), long-term care hospitals (LTCHs), inpatient rehabilitation facilities (IRFs), home health agencies (HHAs), & physician group practices. Exhibit 9 B P C I P A R T I C I P A N T R O L ES Source: Centers for Medicare and Medicaid Services, December 2014 Organizations have many decisions to make with respect to evaluation of participation in the initiative. Not only do the costs for the various treatments vary widely from episode to episode, but the variance of cost is much higher for some episodes vs. others which creates both an opportunity and a risk. Additionally, the source of the variation is key depending on the initiator and providers involved. For example, the majority of cost variation in some episodes might be concentrated on the post-acute care provided whereas others could be more weighted towards the physician or readmission. The projected benefits have to balance attractively against the risks within chosen episodes for a given organization to consider profitable involvement. While Model 1 has a larger range of available episodes at 181, Models 2 through 4 are limited to a total of 48 episodes that include multiple DRGs (Diagnosis Related Groups). Orthopedics and cardiac are two key groupings in the episode list, but there is also a fairly wide range of other conditions such as diabetes, renal failure, and bowel procedures. Page 13 of 19

14 Exhibit E L I G I B L E C L I N I C A L E P I S O D E S F O R B P C I M O D E L S 2-4 Source: Centers for Medicare and Medicaid Services For example, congestive heart failure includes three different DRGs with varying degrees of complications or comorbidity. In total, there are 179 DRGs. Exhibit 11 C O N G E S T I V E H E A R T F A I L U R E D R G S 291 Heart failure and shock with major complications or comorbidities Congestive heart failure 292 Heart failure and shock with cardiac catheterization Heart failure and shock without complications or comorbidities and 293 major complications or comorbidities Source: Centers for Medicare and Medicaid Services Page 14 of 19

15 Below is the 2015 Phase 2 timeline. Throughout the year, there are key months where participants can transition episodes from the Phase 1 risk preparation stage to Phase 2. Phase 1 concludes in October. Exhibit 12 P H A S E 2 B P C I P A R T I C I P A T I O N T I M E L I N E Source: Centers for Medicare and Medicaid Services December 2014 The Post-Acute Care Opportunity Last July, Milliman released a briefing paper (here) examining the breakdown for overall costs as well as specific post-acute care (PAC) benchmarks using 2012 Medicare data. The 179 DRGs included in the BPCI program are fairly expansive as they cover the majority of Medicare expenses that come from all inpatient DRGs (40% of total Medicare costs vs. 57% of total costs, respectively). Based on Medicare Parts A and B costs for all 179 DRGs, hospital inpatient admissions make up for 21% of Medicare spending while days 1-90 PAC comprises 19% of spending for a total of 40%. The study found that on average, 48% of the bundled claims cost is contributed by the 90-day PAC period vs. 52% from the inpatient stay. While the percentage of total Medicare costs is fairly equal for both the inpatient and the post-acute care DRGs, the post-acute care period represents a more significant part of the BPCI cost savings opportunity because of the potential to reduce big expense drivers such as readmissions. The inpatient period is somewhat more restricted on cost savings because the admission is mandatory and a large proportion of the expenses are unavoidable and comprised of components such as facility fees. Exhibit 13 % C O N T R I B U T I O N T O T O T A L A N N U A L M E D I C A R E P A R T A & B C O S T S Hospital Inpatient 1-30 day PAC 1-60 day PAC 1-90 day PAC Total Inpatient and 90-day PAC BPCI 179 DRGs 21% 10% 16% 19% 40% All Inpatient DRGs 32% 13% 20% 25% 57% PAC costs do not exclude BPCI unrelated readmissions. Source: Milliman analysis of the 2012 Medicare 5% Sample data Source: Milliman, Inc., 2014, Fitch, Pyenson, Berrios, Engel Page 15 of 19

16 Models 2 and 3 Overview Model 2: Acute + Post-Acute As can be seen in exhibit 8, Models 2 and 3 have experienced a much higher level of interest compared to Models 1 and 4. Part of this may be due to the retrospective nature of the payment scheme. Because providers can continue billing under the FFS model, this is less of a change from the traditional FFS systems and makes it easier to participate. This past year, the Advisory Board also pointed out that Model 2 has the benefit of being more expansive with respect to post-discharge care and readmissions which introduces a much broader continuum of care component and offers the chance for more cost savings. Model 2 includes 48 episodes and a number of episode lengths spanning 30, 60 or 90 days. The defining feature of Model 2 is that it covers both the acute inpatient hospital stay and the post-acute care period. With Model 2, physician group practices and acute care hospitals act as episode initiators and all of the services and items covered by Medicare that are provided during the hospital stay and post-discharge period are included in the episode. In order to participate in the program, the awardees must give Medicare a discount based on the episodes historical cost. This is used to come up with a predetermined target price which is compared to the actual cost of care after the episode has finished. The difference between the target price and actual expenses are either received by the awardee if they beat the benchmark or paid to Medicare if the opposite occurs. One of the recent changes to the Model 2 program limits for payments and repayments as follows: +/- 20% of the sum of the target price and Medicare discount, aggregated across all episodes of care that initiate for the awardee in each performance quarter. Source: CMS Innovation Center Report to Congress Potentially in a sign of the early nature of the program, Medicare also waived the requirement to repay any negative amounts at the episode initiator level for 4Q 2013 and every quarter in Below is an example timeline for a 30 day Model 2 episode that begins with an initial hospitalization, includes a 2 nd admittance after a complication, and finishes with the retrospective claim reconciliation versus the target price. Exhibit 14 B P C I M O D E L 2 T I M E L IN E E X A M P L E Source: Centers for Medicare and Medicaid Services, March 2014 Page 16 of 19

17 As can be seen by the maps below, Model 2 facilities have expanded significantly over the past year as there are now 2,038 Phase 1 providers and 142 Phase 2 providers. Exhibit 15 M O D E L 2 M A R C H F A C I L I T I E S M A R C H F A C I L I T I E S Source: Centers for Medicare and Medicaid Services Model 3: Post-Acute Exhibit 16 Model 3 episodes are focused solely on the post-acute care phase and can begin within 30 days of a patient s discharge following a period of inpatient hospitalization. Here, the initiators do not include acute care hospitals, but rather facilities such as, long-term acute care hospitals, skilled nursing facilities, inpatient rehab facilities, and home health agencies, as well as physician group practices. Similar to Model 2, the payment method is retrospective and all of the Medicare eligible FFS expenses are compared to the target price after the episode is finished to determine the potential gain-sharing. Model 3 facilities have also expanded significantly over the past year as there are now 4,646 Phase 1 providers and 81 Phase 2 providers. M O D E L 3 M A R C H F A C I L I T I E S M A R C H F A C I L I T I E S Source: Centers for Medicare and Medicaid Services Page 17 of 19

18 April 1, 2015 IMPORTANT RESEARCH DISCLOSURES Distribution of Ratings/IB Services Piper Jaffray IB Serv./Past 12 Mos. Rating Count Percent Count Percent BUY [OW] HOLD [N] SELL [UW] Note: Distribution of Ratings/IB Services shows the number of companies currently in each rating category from which Piper Jaffray and its affiliates received compensation for investment banking services within the past 12 months. FINRA rules require disclosure of which ratings most closely correspond with "buy," "hold," and "sell" recommendations. Piper Jaffray ratings are not the equivalent of buy, hold or sell, but instead represent recommended relative weightings. Nevertheless, Overweight corresponds most closely with buy, Neutral with hold and Underweight with sell. See Stock Rating definitions below. Analyst Certification Kevin K. Ellich, Sr Research Analyst Analyst Certification Cairn K. Clark, Research Analyst The views expressed in this report accurately reflect my personal views about the subject company and the subject security. In addition, no part of my compensation was, is, or will be directly or indirectly related to the specific recommendations or views contained in this report. Page 18 of 19

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