revenue risk and price transparency in hospital-based laboratories

Hospital finance leaders should prepare for a potentially adverse revenue impact from impending changes in payment for laboratory services and increasing demand for greater price transparency regarding such services.

Amid rising healthcare costs, increased regulatory and reporting requirements, higher levels of consumer engagement, and a dynamic and competitive market, health systems across the United States are preparing for a major paradigm shift toward greater access to and transparency in pricing information. Priorities for healthcare executives have historically focused on revenue optimization under fee-for-service payment, cost reduction, physician integration, patient quality, and support for their organization's community mission. Growing demands for price transparency will force executives to prioritize development of a strategic plan to address the financial and service-delivery impact anticipated over the next five years.

With spending on clinical laboratory services estimated at $75 billion annually, this segment of the industry has the potential to be one of the areas hardest hit by price transparency and healthcare reform.3 Given that hospital-based laboratories control 63 percent of this market through inpatient and outpatient testing, and that those services have traditionally been included in global outpatient contracts with payers, hospital leaders face stiff challenges in maintaining the premium outpatient laboratory payment level that their organizations have enjoyed over the years. Amid the push for price transparency, Medicare Part B payment reform implemented by the Centers for Medicare & Medicaid Services (CMS) will reduce Part B laboratory payment by as much as 65 percent from 2017 through 2022. These reductions, along with the potential impact on managed care payment, will be felt on the bottom lines of hospitals across the country.

The Demand for Price Transparency

It is no secret that scrutiny of healthcare prices is on the rise in all public forums. In its 2014 report Price Transparency in Health Care, the HFMA Price Transparency Task Force examines this phenomenon of growing demand for meaningful, easy-to-use information that allows patients to understand the total price of healthcare services and what is included in that price. Clearly, the public's attention has been captured by a rise in patient cost-sharing, spurred by double-digit premium increases and plan design changes that, based on the Millman Medical Index, have caused out-of-pocket costs to triple since 2001.

The Affordable Care Act (ACA) has added to the pressure for healthcare providers to disclose prices by requiring each hospital to establish and make public a list of its standard charges for items and services. In a hospital inpatient payment regulation issued in August 2014, CMS outwardly supported price transparency by reminding hospitals of the ACA requirement to post or otherwise make their charges available to patients and the public.b Individual states have joined in this effort as well, enacting or considering laws requiring providers to furnish clear and accurate prices for procedures and services to patients. For example, a Massachusetts statute that went into effect Jan. 1, 2014, requires that the contractually agreed amount paid by a health plan to the hospital be revealed upon patient request." In this highly charged atmosphere, hospital and health system executives will ftnd disparities in prices for the same procedure between regions and facilities more difficult to defend. Hospital prices that carry little to no relationship to cost will continue to be dissected by consumers and the media.

The Impact of Price Transparency on Laboratory Revenue

As consumer awareness increases, the expansion of online resources for investigating healthcare pricing and employer initiatives for managing healthcare costs substantiate the potential impact of the public's desire for useful price information. A study published in October 2014 found a link between employees researching out-of-pocket expense via a private online comparison tool, Castlight Health, and payments for those services.d In comparing searches for laboratory tests, advanced imaging services, and clinician office visits-the most frequently obtained, elective outpatient services-the researchers concluded, "Patient access to pricing information before obtaining clinical services may result in lower overall payments made for clinical care."

Employers are actively exploring strategies for offering more affordable care options, including making provider networks narrower and using price transparency to give employees incentives to seek out providers with more competitive pricing." Unfortunately, they are impeded in these efforts by the tools currently available for researching price, which tend to lack accuracy, completeness, and simplicity. However, the quality of these tools can be expected to improve dramatically in the near future, as employers continue their efforts to guide employees to lower-cost care.

Payers also are using price transparency in an attempt to steer business away from hospitalbased laboratories, highlighting to their members the accessibility of and potential cost savings from using a national laboratory such as Quest Diagnostics or LabCorp. These laboratories have negotiated deeply discounted provider rates with payers that typically result in patient out-ofpocket expenses that are lower than those associated with hospital laboratories. Capitalizing on this advantage, national laboratories are expanding their presence in local markets by offering wide-ranging networks of convenient service-center locations for specimen collection. This strategy includes partnering with select hospital-based laboratories, posing an even greater threat to hospitals with laboratories that are not part of such networks. To confront this threat, hospitals should assess whether their existing outpatient laboratory business and revenue are at risk.

The exhibit above illustrates how patients have a disincentive to use a hospital-based laboratory when they have the option to use a lower- cost provider for the same services. The disincentive is twofold, encompassing both a significant disparity between the average hospital and commercial laboratory charges and a payment premium that hospitals have enjoyed through the years. This premium comes at a cost for patients, in the form of increased out-of-pocket expenses. With these expenses rising, price transparency will make hospital laboratory prices and the underlying patient disincentive a key concern for patients and their physicians.

Considering that the top 20 tests constitute about 56 percent of the total laboratory spend, it is likely that price transparency tools will easily be able to discern disparate pricing for the same laboratory tests across the provider spectrum.f Clearly, this likelihood, coupled with developments regarding payment discussed in the following section, makes it incumbent on hospital executives to closely examine the impact on laboratory revenue and create a plan of action.

The Impact ol Medicare Payment Reductions on the Laboratory Industry

With Medicare spending for clinical laboratory services totaling $9.7 billion and $7.0 billion in 2013 and 2014, respectively, it is not surprising that the federal government has identified this area as a prime cost reduction target.8 The Protecting Access to Medicare Act of 2014 (PAMA) represents the most disruptive change to laboratory payments in decades because the current laboratory payment rates, which are based on 1984 cost data (updated sometimes for inflation), will be replaced with market-based rates, defined as the calculated weighted median private payer rate for each test. The new rates will begin on Jan. 1, 2017, with large rate reductions phased in over several years. These reductions have the potential to substantially affect hospital operating revenue.

The focus on reducing Medicare payments for laboratory services was prompted by findings of a June 2013 U.S. Department of Health and Human Services (HHS) report, which determined that Medicare could have saved $910 million, or 38 percent, in 2011 on the top 20 high-volume and/or high-expenditure laboratory tests had it been afforded the lowest payment rate in the region.h Legislation was subsequently passed as part of the ACA to establish laboratory payment based on regional market rates.

Beginning Jan. 1, 2016, applicable laboratories will be required to report data on private payer rates for each test. CMS will calculate a weighted median private payer rate for each test, which will determine the new rate for tests paid on the Medicare Clinical Laboratory Fee Schedule (CLFS). It appears that most hospital laboratories will be excluded from the applicable laboratory reporting group due to one of the proposed revenue tests for applicable laboratories (i.e., more than 50 percent of the entity's total Medicare revenues must come from the Physician Schedule or CLFS). Such exclusion is likely to have a negative impact on the median rates, because hospital-based laboratories historically have been compensated more favorably than independent clinical laboratories. However, the deeply discounted rates that large commercial laboratories agreed to will bolster the push for significant reductions in clinical laboratory payment.

As noted above, the median payment rates calculated under PAMA will go into effect Jan. 1, 2017, and will continue through 2022Payment reductions will total as much as 10 percent per test from 2017 through 2019 and 15 percent from 2020 through 2022. CMS estimates that reductions to the CLFS will total $5.14 billion from 2017 through 2026. The consequences of these actions, summarized in the exhibit below, will be considerable, making it incumbent on health system leaders to understand and quantify the potential losses for their organizations.

For CY16, CMS is proposing a 2 percent reduction to the conversion factor under the outpatient prospective payment system (OPPS) to address excess payments in CY14 that resulted from overestimating the amount of laboratory testing that would be included in packaged OPPS payment rates. CMS determined in its review that approximately $1.0 billion in laboratory test payments that were projected to be packaged into OPPS payment rates continued to be paid separately in CY14. Based on the above and other adjustments, CMS estimates that facility payments under the OPPS (with facilities including general acute care hospitals, children's hospitals, cancer hospitals, and community mental health centers) would decrease by $43 million compared with CY15 payments.1

With the looming twin challenges of reduced laboratory payment and heightened interest in and obligation to provide price transparency, hospital finance teams should make sure their organizations are ready to confront these threats.

Preparing for Price Transparency and Reimbursement Challenges

In the foreseeable future, price transparency and payment pressures will persist from various sources, including patients, payers, and market conditions. Hospitals and health systems should develop proactive steps for responding to these pressures in a way that also promotes long-term organizational growth and sustainability. To overcome these hurdles, hospital leaders should take the following steps.

Determine the laboratory's role in hospital and/or systemwide price transparency strategies. As the call for transparency intensifies, hospital and health systems should implement methods for clear and consistent communication of accurate pricing information. Hospital-based laboratories should contribute to these efforts by developing repositories of well-defined and validated laboratory service pricing data.

Investigate possible market share loss among laboratory outpatients and outreach as a result of price transparency. Physicians often are the first to hear patient concerns and criticism about pricing, especially in the provision of laboratory services. Amid growing patient demand for price transparency-and frustration with high costs- hospital executives should be prepared to defend laboratory pricing through their physician network.

Assess the risk of managed care reductions for laboratory services due to price transparency. Hospitals have been paid a premium over their commercial competitors for years. In light of increased scrutiny from consumers and the media, hospitals should assess whether that premium is at risk.

Understand the price gap. The price difference for the top 20 laboratory tests across the region between hospital-based and commercial laboratories should be analyzed to determine the threat posed by a patient disincentive to use the hospital laboratory as a result of higher cost.

Quantify the impact of Part B payment cuts on hospital operating revenue. Consistent with the 2013 HHS report, hospitals should estimate the impact of a 38 percent reduction in market rates for Medicare hospital outpatient laboratory payment to get a clear picture of resulting revenue loss. The findings will inform further strategic action to prepare for and offset the reduced payment.

Consider the addition of test volumes through laboratory outreach. Laboratory services are unique in that a hospital has considerable latitude in adjusting the scale of its strategic response to cost reductions and its effort to spur revenue growth. Given the existing investment in technology, equipment, and staff, for example, laboratories can generate new revenue with minimal incremental cost and increase volumes through patient outreach programs to offset lost revenue. More than 90 percent of hospitals perform some outreach work, but the vast majority of programs are small, underfunded, and run as sideline businesses rather than treated as separate, mission-critical business units to achieve their full revenue potential.

A hospital laboratory outreach program provides employed, affiliated, and unaffiliated physicians with a testing alternative to independent laboratories (e.g., LabCorp, Quest Diagnostics) for individuals defined as nonpatients (neither hospital inpatients nor outpatients) who are seen outside of the hospital. These programs can provide the hospital with significant incremental operating margin and help to maintain continuity of care across both ambulatory and acute care settings.

Benchmark the laboratory to ensure it is operating at peak capacity. A crucial step in preparing for price transparency is to determine actionable opportunities for expense and productivity improvements in the laboratory. Benchmarking a facility in comparison with its market and competitors is critical to understanding current performance. Effective benchmarking often can uncover opportunities for improvements in productivity, as well as supply expense and reference testing expense, given that these areas constitute as much as 80 percent of laboratory operating expenses.

Evaluate the impact of test utilization control initiatives. Healthcare reform places an emphasis on preventive measures to avoid costly hospital stays and treatment. The Mayo Clinic estimates that 60 to 70 percent of all decisions regarding a patient's diagnosis and treatment, hospital admission, and discharge are based on laboratory test results. Utilization of testing will be critical to healthcare delivery in the future, with an increased focus on eliminating redundant testing, ensuring appropriate testing, and optimizing diagnosis and treatment procedures.

Health insurers are taking aggressive actions to control the cost of clinical laboratory testing in response to an aging population that demands more testing, physicians who order more tests to identify disease early, and an industry that is routinely introducing more expensive genetic and molecular tests. Initiatives to control the cost of laboratory testing typically include preauthorization requirements and/or advance notice.

The most advanced utilization program to date is a laboratory benefit program introduced by UnitedHealthcare (UHC). The program requires physicians to give UHC advance notice when ordering any of the 82 clinical laboratory tests covered by the program. Other health insurers are following UHC's example with preauthorization requirements for high-cost genetic testing.

What does this trend mean for hospital-based laboratories? Hospitals are compelled to address growing demands from payers for test utilization controls. One such control might be to establish a lab test formulary for send-out testing, with a tiered approach similar to that used by pharmacy benefit managers for medications. For example, in 2001, Rochester Medical Center in Rochester, Mich., established three tiers for its laboratory send-out testing protocol, where Tier 1 tests can be ordered by any providers at any time, Tier 2 tests can be ordered only by designated specialists, and Tier 3 tests are not on the formulary. Physicians may order Tier 3 tests, but the laboratory diagnostics committee would need to review such orders to ensure that they are medically necessary.

The use of test utilization dashboards for ordering physicians also has proven useful because such dashboards enable physicians to compare their utilization statistics with those of peers.

With value-based payments gaining prevalence, increased emphasis on test utilization can eliminate redundant testing and unnecessary send-out testing costs.

Hospital Leaders: Take Notice

Among the many compelling business priorities that demand executives' attention in today's changing healthcare environment, the hospital laboratory should not go unnoticed or be considered a side note. Price transparency and deep payment reductions to the Medicare Part B fee schedule have the potential to dramatically affect hospital operating margins. For decades, hospitals have operated under a fee-for-service arrangement for clinical laboratory services, often garnering a premium of two to three times more in payment than their commercial counterparts.

Those circumstances are changing. With the top 20 laboratory tests constituting about 56 percent of the laboratory expenditures, healthcare executives will find differences in pricing for the same test difficult to defend. In light of the consumer and legislative environment, the potential for managed care contracts to eliminate the premium on laboratory payment is a real risk that leadership must address to avoid a severe financial impact.

In sum, changes in payment for laboratory services call for deliberate action from hospital leaders, including understanding the operating margin impact of Part B clinical laboratory fee reductions and formulating a plan to mitigate revenue loss through cost containment and/or volume growth via new services.

AT A GLANCE

Two developments with important revenue implications for hospital laboratories demand the attention of hospital finance leaders:

> Significant differences in pricing between higherpriced hospital-based laboratory services and lower-priced services delivered by commercial laboratories give patients a disincentive to use the hospital-based services.

> Hospital operating revenue will be substantially affected beginning in 2017 by deep, statutory cuts in payment for the highest-volume tests on the Part B Clinical Laboratory Fee Schedule.

a. G2 Intelligence, U.S, Clinical Laboratory and Pathology Testing 2013-2015: Market Analysis, Trends, and Forecasts, 2013.

b. CMS, 'CMS Issues Hospital Inpatient Payment Regulation,' press release, Aug. 4,2014.

c. Payers also typically provide this information on the explanation of benefits notices that they send to patients.

d. Whaley, C, Schneider Chafen, J., Pinkard, S., Kellerman, G., Bravata, D., Kocher, R., Sood, N., 'Association Between Availability of Health Service Prices and Payments for These Services," JAMA, Oct. 22/29,2014.

e. Goozner, M., 'Tying Price Transparency to Incentives is Necessary to Change Consumer Behavior," Modern Healthcare, Jan. 18,2014.

f. CMS, National Claims History Part B Carrier File, 2012.

g. Medicare Payment Advisory Commission, A Data Book: Health Care Spending and the Medicare Program, June 2015; and HHS Office of Inspector General, Medicare Payments for Clinical Laboratory Tests in 2014: Baseline Data, Data Brief, September 2015.

h. HHS Office of Inspector General, Comparing Lab Test Payment Rates: Medicare Could Achieve Substantial Savings, June 2013.

i. See CMS, "CMS Proposes Hospital Outpatient and Ambulatory Surgical Center Policy and Payment Changes, Including Proposed Changes to the Two-Midnight Rule, and Ouality Reporting Changes lor 2016," fact sheet, July 1,2015, and Department of Health and Human Services, ?Medicare Program: Hospital Outpatient Prospective Payment and Ambulatory Surgical Center Payment Systems and Quality Reporting Programs; Short Inpatient Hospital Stays; Transition lor Certain Medicare-Dependent, Small Rural Hospitals Under the Hospital Inpatient Prospective Payment System," proposed rule, Federal Register, July 8,2015.

About the author

Jeffrey H. Myers, CPA,

is CFO and vice president, financial services, Chi Solutions, Inc., Ann Arbor, Mich., and a member of HFMA's North Carolina Chapter [email protected]).