Impact of Repealing the Sustainable Growth Rate

As the summer heat subsides and the leaves are starting to brighten, the debate over healthcare reform in Washington only continues to heat up.  Last week, the Medicare Payment Advisory Commission (MedPAC) released a draft proposal that recommended to Congress to repeal the Sustainable Growth Rate (SGR), which had previously proposed to cut physician reimbursement by 30% as of January 1.  The SGR has been at the center of the debate over Medicare reimbursement since 2005 when the first cuts were recommended by MedPAC.

The conflict with the SGR has always been that it does not account for the rising costs of providing care, nor does it have any mechanism for inflationary adjustment.  As such, for the past few years, Medicare has been forced to recommend payment cuts to Congress, which were prevented only by legislative action to prevent the cuts from going into effect.

With the elimination of the SGR and the prevention of the 30% cuts, this means that there will be a negative revenue impact for the federal government, according to a report published by HealthLeaders Media.  MedPAC has estimated that the government would risk up to $300 billion in lost revenues once this proposal goes into effect.  In order to make up for these losses, along with eliminating the SGR, Medicare has proposed to freeze payments to primary care physicians for up to ten years.  Likewise, specialist physicians would see cuts of almost 6% annually for three years, after which their reimbursement would be frozen for the remainder of the ten years.

Even with these adjustments, however, the estimated savings to the federal government would only cover one-third of the projected losses.  As such, the government would have to cut payments in numerous other healthcare services, in order to make up the rest.  These areas that would be cut include clinical labs, medical equipment vendors and certain long-term care facilities.

As MedPAC opened the discussion up to the public encouraging feedback on the plan from healthcare industry stakeholders, it did not take long at all for the industry to come back with harsh response to this proposed solution from the government.  Indeed, this was bittersweet news for those within the healthcare provider community.  With all of the work that this sector has been doing to repeal the SGR and replace it with an equitable payment model for the past seven or so years, freezing payments for another ten years would likely be just as bad as keeping the SGR in place.

Many physicians argued that this proposal is not just a negative short-term solution, but that it would actually end up being much worse than leaving the model as it currently is structured.  Some stated that this proposed solution would ultimately put the industry back in the dark ages, figuratively speaking, as it related to healthcare reform.  There is no doubt that such a drastic and long-term policy such as this could set medical provider reimbursement back decades, which is no doubt detrimental in today’s environment when many physicians already cannot afford to stay in private practice for much longer.

The healthcare provider community also argued that a 10-year outlook of frozen physician payments would significantly add to the challenge that the industry already faces with declining numbers of new providers coming into the medical field.  Furthermore, it would only continue to drive the increasing number of physicians that are reasonably close to retirement age who are leaving the practice of medicine, due to the growing financial and administrative burden the system has on their ability to maintain a profitable practice.

In response to the many economic pressures that physicians have been experiencing for the past five to ten years, many providers have shifted their operating models to affiliate and align more closely with health systems.  This trend has become known as “clinical integration” or “hospital-physician alignment” within the industry, and as the burdens for physicians only continue to escalate, we can expect them to consider alignment as a more attractive alternative for years to come.

As such, these newly proposed solutions for Medicare reimbursement to continue driving physicians towards greater alignment with hospitals, such as employment and/or employment-like arrangements, which have already become very popular.  This is particularly the case for specialists, such as cardiologists, radiologists and OB/GYN physicians, which have already made significant shifts toward integration, due to the impact that reimbursement cuts have had on their ability to make money in private practice in the past three to five years.

Further, we can now expect this alignment trend to continue expanding to other specialties, even those that have historically had favorable payment models, such as orthopedic surgeons, gastroenterologists and plastic surgeons.  Further, as hospitals try to maintain a reasonable allocation of primary care physicians and specialists within their employed medical staffs, these proposed changes would most likely increase the rate at which these physicians are affiliating with hospitals.

Whether this increased push towards greater clinical integration is one of the government’s objectives with this proposal remains to be determined.  However, the impact that the medical provider community would likely experience if such a plan were to take place is overall negative, with very little upside, particularly within the 10-year timeframe in which this model would be executed.  There are other outcomes related to these proposed changes that are also worth considering.  So, with the upcoming elections in 2012, we can expect this issue to remain front and center of the domestic policy debate, both at the federal and state levels.

To read more of Coker’s analysis on clinical integration, hospital-physician transactions and the impact of Medicare cuts on physician compensation, click here to request Coker’s industry briefings and white papers.

Mark Reiboldt is an economist and investment banker at Coker Capital Advisors, where he is co-leader of the Financial Advisory Services group specializing in mergers, acquisitions and valuations for hospitals, health systems and healthcare provider organizations.  He can be contacted at markreiboldt [at] cokergroup [dot] com.

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