Hospitals exploring the potential and pitfalls of becoming insurers

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In 2012, MedStar Health, like many large employers, struggled to keep up with rapidly rising health care costs. For three years, the company held down premiums for its 19,000 employees by absorbing the increases itself.

Most employers would have had no choice but to raise premiums -- in this case, by about $550 for a family -- and cope with frustrated employees. MedStar, one of the Washington area's largest health systems, saw another option: It would launch its own health insurance plan, offering it first to its employees.

Patients would be limited to MedStar-affiliated providers and, as a result, pay lower premiums. In time, MedStar could compete with the Aetnas and Blue Crosses of the world, offering insurance to the public.

"By putting in the new health plan, we had the ability to give them an option that actually allowed savings," said Eric Wagner, a MedStar vice president. "People who enrolled in MedStar Select got a lower premium than they had the year before."

All of a sudden, the health system did not just send out insurance claims; it also received them. This was, for the health industry, revolutionary. Insurance plans and hospitals are typically at loggerheads. They squabble over claims the hospitals submit and insurers sometimes deny. "They make their money by not paying for health care to be delivered," Mr. Wagner said of health insurers. "We make our money by delivering care. There's always been a natural tension."

For years, hospitals have accepted that tension as a cost of doing business. Insurers have decades of experience in the complex work of setting premiums, which requires anticipating how much care patients will need in the coming year.

Now, a growing number of large hospital systems are betting that, with a little help, they can do that just as well -- or even better. Seeing health insurance firms as the middlemen, these hospitals are only too eager to squeeze them out.

To do so, hospitals are turning to a small start-up in northern Virginia named Evolent Health. It promises to teach them everything they need to know about building a health insurance plan from the ground up.

Twenty minutes outside Washington and across the Potomac River, the Arlington County offices of Evolent Health could be a movie set for a Silicon Valley start-up -- the kind that starts with millions in venture capital funding, not in a founder's grungy garage. On a Wednesday morning, employees were working, many with headphones on, at rows of gleaming metal desks.

Evolent has no offices, not even for its top executives. "We wanted a sort of Steve Jobs feel," Evolent co-founder and president Seth Blackley said, explaining the open landscape.

With Frank Williams and Tom Peterson, Mr. Blackley launched the company two years ago while they worked at the Advisory Board, a hospital consulting firm. As legislators on Capitol Hill were debating health overhaul, Mr. Blackley was flying around the country, hearing from hospitals what they thought the future of medical care would look like.

That's where the idea of helping hospitals launch their own health plans started. If hospitals could collect premiums directly from patients, the thinking went, they would have more freedom.

"The biggest advantage for hospitals is that they can take all the premium dollars and invest them in the most logical ways, instead of getting paid for each claim by an insurer," Mr. Blackley said. "If they do this well, they're going to stay viable and have a chance to deliver higher quality."

But launching a health insurance firm is no small task. It requires physical infrastructure, including an army of call-center agents to handle claims and replace lost insurance cards. It also demands the ability to predict the future: One of insurers' most crucial tasks is setting a monthly premium to cover subscribers' costs. If a health insurance plan sets its premiums too high, the price tag may scare away consumers. If it sets the price too low, it could come up short, with revenue not covering medical bills.

At the time, Mr. Blackley didn't know much about running a health insurance firm, but he did know that a growing number of hospitals wanted to get into the market. With health insurance premiums growing by 8 percent to 10 percent annually, employers have begun to look for less expensive options. Restricting patients' choice to a small number of providers affiliated with one health system is one way to bring down costs.

President Barack Obama's health care law has also pushed large systems in this direction. In 2011, it began funding "accountable care organizations," in which a big network of doctors accept a flat fee to care for Medicare patients. If doctors do a good job of managing care, the hospital and health insurer -- in this case, Medicare -- share the amount left over as profit. More than 400 hospitals have signed on as accountable care organizations, or ACOs.

Hospitals such as MedStar are pushing the model even further; some health care consultants describe these hospitals as "ACOs on steroids." Instead of sharing the profits with insurers, they think they can run the plan themselves and keep all the profits.

In 2014, the health law will create another big incentive for hospitals to get into the insurance business: Millions of Americans will begin buying health insurance coverage using federal tax credits.

Twenty-eight percent of hospitals expect to launch their own health insurance plan within the next five years, according to a survey conducted last month by the Advisory Board, a co-owner of Evolent. Currently, 18 percent of hospitals own such insurance companies.

Three years ago, Mr. Blackley was crisscrossing the nation, looking at the handful of hospitals that ran health plans successfully. "We went around and studied a number of the health delivery models that exist, from Kaiser Permanente in California to University of Pittsburgh Medical Center," he said. "These folks have taken on full risk, meaning they have big upside and downside for making this work."

University of Pittsburgh Medical Center's plan stood out. Launched in the early 1990s, UPMC Health Plan is the nation's second-largest hospital-owned health plan.

Perhaps most impressive, though, is its ability to hold down medical costs. Among UPMC's employees, most of whom use the hospital-run health plan, the cost of medical services has increased annually by about 2 percent. The rest of the nation, meanwhile, typically sees increases of 5.5 percent to 7 percent each year.

"This might sound mundane, but a lot of what this comes down to is building the right technology," says Diane Holder, president and chief executive of UPMC Health Plan. "The health care system is so fragmented. Most of the time, doctors don't know where their patients have been. We're in the hospitals, and we're able to follow patients."

Over two decades, UPMC went from a tiny start-up to the dominant health plan in Western Pennsylvania. It, in many ways, proves that a hospital can successfully launch its own insurance product.

UPMC Health Plan and Advisory Board co-founded Evolent in 2011, investing $20 million in the venture. UPMC Health Plan had proprietary software that it could license to other hospital-run plans, alongside the infrastructure to run a health plan.

Advisory Board, meanwhile, worked with a network of potential customers. Over the past two years, Evolent has signed up 14 hospitals across the nation as clients. MedStar Health was one of the first clients and came on board after executives took a trip to Pittsburgh to get a better sense of UPMC's plan.

"We spent the whole day with the group there," Mr. Wagner recalled. "We left very excited."

Not everyone is confident that these hospitals will succeed. Insurance plans are especially skeptical that hospitals have the know-how to compete against plans that have been in this business for decades. "I always take pause when people talking about doing something better that they've never done before," said Karen Ignagni, president of America's Health Insurance Plans. "Maybe that's just the mother in me."

Ms. Ignagni's trade association includes hospital-owned health plans that successfully transitioned into a new business segment. But she's also familiar with the hospitals that have failed because they did not set their premiums quite right or have a big enough network of doctors to meet patients' needs.

Hospitals have especially worried about how patients will react to a more limited network. Many hospital-run health plans folded in the mid-1990s, when patients revolted against the bureaucracy and the special authorizations necessary to see a specialist or go outside the network.

At MedStar, Mr. Wagner acknowledged those pressures, but contended that his hospital system would penalize patients only when they sought care that wasn't necessary or could have been provided within the MedStar network.

"You can't ignore them," he said. "If you don't need to go to the emergency room, but you go, and they send us a bill, we're going to deny that bill. Every payer will, and we can't be different from other payers. It's not good for your health to get your care through the emergency room. That's part of the signal we need to send people."

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