Thought Leadership

Payor – Provider Contracts: Where Do We Go From Here?

By Revive
posted May 3, 2022

There is an expression that is said to be a translation of a traditional Chinese curse: “may you live in interesting times.”

Well, I think we are definitely living in interesting times when it comes to contracts between payors and provider organizations.  The big question is, where do we go from here?

Let’s start by analyzing the current situation. Provider organizations of all types and sizes have endured unprecedented disruption and financial decline as a result of COVID-19. The underlying costs of care have skyrocketed — especially drugs and labor costs — even as payors have applied unrelenting pressure for providers to do more with less: demanding rate reductions, imposing onerous contract terms and new policies, and pushing new limits with authorizations and denials. 

A recent article in CNN Health sums up part of the challenge. “While the strain on the US hospital system directly related to treating Covid-19 patients has been significantly reduced, experts say that many hospitals are still burdened by staffing shortages and other patients who are coming in sicker after postponing care during the height of the pandemic.”

Let’s examine the labor situation more specifically. Labor costs make up more than half the cost structure of the typical hospital, and an even greater percentage for physician practices and other providers. The massive uptick in labor costs hit at the worst possible time (during COVID-19), but these costs continue to rise, with no end in sight.  Meanwhile, hospitals have seen lower surgical volumes and a swap of less profitable (or unprofitable) patients for their most profitable surgical patients.  Even hospitals who have seen strong volumes are still experiencing significant margin compression from higher drug and labor costs.  This unprecedented convergence of factors – higher costs coupled with lower revenue and less profitable customers – calls the obvious question. Where do we go from here?

The options depend a lot on the organization.

Independent physicians and small physician groups will be faced with lower incomes unless they sell to private equity or hospital-owned physician enterprises.  There is no real leverage they can use to extract better rates from health plans, nor does there seem to be any appetite among health plans to support independent physicians.

Larger physician groups will push for higher rates, and they will continue to consolidate independent and small groups. For the foreseeable future, bigger will be better.

What about small hospitals and even smaller regional IDNs? There are really three options: improve your rates with payors, sell to a consolidator, or close the doors. They will need to fight for better contracted rates with payors to maintain independence. The reality is, without better contracted rates, they will have difficulty sustaining their future. Low rates are the product of years and years of payor-enforced “starvation diets.”  It won’t be easy to reset in this environment, but it also won’t get easier.

And what about strong regional IDNs and big systems? Those who have not yet centralized their payor contracting function will move that way, and there will be more enterprise agreements that allow sophisticated providers to shift rate increases between different hospitals and different markets. Big systems will get bigger, building larger physician enterprises to fight off the rapidly growing threat posed by Optum and other vertically integrated payors. The big will get bigger, and consolidation will continue. This is the natural outcome of a system designed by payors to benefit themselves at the expense all other parties in the system – including consumers.

So where do we go from here? We should expect a few years of very challenging circumstances and a growing number of battles between providers and payors. That’s because unless payors reverse course and decide to support providers, labor costs will pose an existential threat to providers over time, and most organizations will opt to fight rather than sell or close.

Right now, providers have tremendous public sympathy and people recognize the sacrifices clinicians have made. There is also a broad level of public understanding around the escalating wages for nurses and other caregivers. We have a strong story right now, and if we can shape the narrative, we have a strong chance of winning these battles. We must also explore innovative and consumer-friendly legislative and regulatory remedies with our statehouse allies, including new ways to protect access and avoid unexpected financial burden without further harming providers.

After all, we stand on the side of angels. The payors? Well…