Tulsa Memorial Hospital is a community hospital in Tulsa, Oklahoma. Recently, the hospital and its affiliated physicians formed Tulsa Memorial Healthcare (TMH), a physician-hospital organization (PHO). TMH is close to signing its first contract to provide exclusive local healthcare services to enrollees in SoonerCare (the Plan), the local Blue Cross Blue Shield of Oklahoma HMO. For the past several years, the Plan has contracted with a different Tulsa PHO, but financial difficulties at that organization have prompted the Plan to consider TMH as an alternative. In the proposed contract, TMH will assume full risk for patient utilization. In fact, the proposal calls for TMH to receive a fixed premium of $200 per member per month from the Plan, which it then can allocate to each provider component in any way it deems best using any reimbursement method it chooses. TMH's executive director, Dr. Randy Wilson, a cardiologist and recent graduate of the University of Oklahoma Nonresident Program in Administrative Medicine, is evaluating the Plan's proposal. To help do this, Dr. Wilson hired a consulting firm that specializes in PHO contracting. The first task of the consulting firm was to review TMH's current medical panel and estimate the number of physicians, by specialty, required to support the Plan's patient population of 50,000, assuming aggressive utilization management. The results in exhibit 3.1 show that TMH's medical panel currently consists of 249 physicians, whereas the number of physicians required to support the Plan's patient population is only 61. Note, however, that TMH physicians serve patients other than those in the Plan. Thus, the total number of physicians required to treat all of TMH's patients far exceeds the 61 shown in the right column of exhibit 3.1.

The second task of the consulting firm was to analyze TMH's physicians current practice patterns. Clearly, utilization, and hence, cost is driven byTMH's physicians and that variation in practice patterns. Results of the analysis show significant variation in practice patterns, both in the physicians' offices and in the hospital. For example, exhibit 3.2 contains summary data on hospital costs by physician for three common diagnosis related groups (DRGs). Consider DRG 470 (major joint replacement). The physician with the lowest hospital costs averaged $12,872 in costs per patient, the highest-cost physician averaged $24,638, and the average cost for all physicians was $14,999. The consulting firm commented that reducing this variation is important because TMH is at full risk for patient utilization.

The third task of the consulting firm was to recommend an appropriate allocation of the premium dollars to each category of provider. Specifically, the contract calls for TMH to receive $200 per member per month, for a total annual revenue of$200 x 50,000 members x 12 months = 120 million. To reduce potential conflicts about how to divide the 120 million among providers, the consulting firm proposed a "status quo" allocation that would maintain the current revenue distribution percentages shown in exhibit 3.3.

The final task of the consulting firm was to recommend provider reimbursement methodologies that create appropriate incentives. In the contract, TMH assumes full risk for patient utilization, so the consulting firm recommended that all component providers be capitated to align cost minimization incentives throughout TMH. Furthermore, capitation of all providers would eliminate the need for risk pools, a risk-sharing arrangement that TMH has never used. In addition to the consulting firm's report, Dr. Wilson decided to ask TMH's new operations committee for a short report on the current line of thinking among TMH's major providers. The committee provided the following information.

Tulsa Memorial Hospital

Historically, the profitability of Tulsa Memorial Hospital has been roughly in line with the industry. Last year, when the hospital received about 75 percent of charges, on average, the hospital achieved an operating margin of about 3 percent. However, hospital managers are concerned about its profitability if the Plan's proposal is accepted. The managers believe that controlling costs under the full-risk contract would require extraordinary efforts and that the most effective way to control costs is to create a subpanel of physicians to participate in the capitation contract. When asked how the subpanel should be chosen, the operations committee recommended choosing the physicians who would do the best job of containing hospital costs.

Primary Care Physicians

Many of the primary care physicians are dissatisfied. On average, primary care physicians receive only about 60 percent of charges and are concerned about being penalized by accepting utilization risk for the Plan's enrollees. Primary care physicians know that they are paid less and believe that they have to work much harder than do the specialists. Furthermore, primary care physicians believe that the specialists supplement their own incomes by overusing in-office tests and procedures. Some primary care physicians are even talking about dropping out of TMH to form their own contracting group, taking away the entire capitation payment from the Plan and contracting themselves for specialist and hospital services.

Specialist Care Physicians

The specialists believe that the primary care physicians refer too many patients to them. The specialists do not mind the referrals as long as their reimbursement is based on charges because, on average, they receive 90 percent of charges. However, if they are capitated, the specialists want the primary care physicians to handle more of the minor patient problems themselves. Also, whenever the subject of subpanels is raised, many of the specialists become incensed. ''After all," they say, "the whole idea behind the PHO is to protect the specialists." Both sets of physicians-primary care and specialist-agree that the hospital is hopelessly inefficient. Said one specialist, "No matter how much revenue the hospital receives, it still seems to barely make a profit."

Assignment Instructions

To respond to the Plan's proposal, Dr. Wilson and TMHs executive committee must decide whether to accept the recommendations of the consulting firm. You have been hired to advise Dr. Wilson and the executive committee regarding these challenges. Because your report will serve as the basis of TMH's implementation plan if it accepts SoonerCare's contract, the report must address the concerns raised by the physicians and the hospital. Furthermore, the report must include specific recommendations on how to implement these changes.