The Employment of Doctors by Hospitals – Indentured Servitude or Practice Salvation

Nathan Laufer, MD
November 2011

“We always overestimate the change that will occur in the next two years and underestimate the change that will occur in the next ten. Don't let yourself be lulled into inaction.”

Bill Gates

Hospitals are showing renewed interest in employing physicians. They have moved down this path before. Many hospitals acquired physicians' practices in the early '90s and, after multimillion dollar losses, divested them before the end of the decade.

The earlier wave of physician employment was almost entirely focused on primary care physicians. And most of it was done for defensive reasons. Health systems felt that owning a network of primary care physicians would put them in a strong position for negotiating managed care contracts. It was an era in which the experts said the primary care gatekeeper at the high end of the food chain was the wave of the future. Of course, things didn't quite work out that way.

Now, while many hospitals recognize that primary care physicians are important referral sources, they are also looking at the physicians who support their most profitable inpatient and outpatient services. This includes surgeons and other proceduralists, particularly cardiothoracic surgeons, cardiologists, neurosurgeons, orthopedic surgeons and general surgeons.

In the past, specialists had little interest in being employed. But that's changed as well. Specialists with high medical malpractice exposure are increasingly looking at hospital employment as a way out. Today, it is more often the specialists than the hospital executives who are initiating discussions about employment.

When hospitals think about their relationships with physicians, they quite naturally tend to think in terms of their current relationships, not their future relationships. As attractive as employment has become today for some, it is future fitness that may prove to be its greatest advantage. It is very difficult these days to find young physicians right out of training who have much interest in entering private practice and battling the government, health plans, hospitals, colleagues and trial attorneys. They are interested, understandably, in making a good living with a minimum of hassles. They are happy to leave the entrepreneurial glory to their predecessors.

When hospitals and physicians begin to consider forming multispecialty group practices, they default to role models, such as the Mayo Clinic and The Cleveland Clinic. However, hospital administrators rarely understand, at even a basic level, what they are contemplating.

The Mayo or Cleveland Clinic models represent the most advanced form of medical enterprise in the world. It has taken them more than 100 years to reach their current state, and they are so culturally different from most hospitals and physician practices that they might as well be from Mars. Every physician in them has embraced a high level of personal commitment to organizational goals - a foreign concept to physicians in private practice and even in many group practices.

In the Mayo and Cleveland Clinic model, the hospital is subordinate to the physician enterprise. There really isn't a demarcation between physicians and hospital. At the heart of most sustainable multispecialty group practices, there is a mingling of incomes and collegiality that will make many currently independent physicians uncomfortable. Higher-earning specialists transfer income to lower-earning colleagues. Physicians contemplating being part of a multispecialty group practice or hospital practice need to understand and accept this reality. (1)

As you can see from Graphic 1, the physician and hospital cultures are very different. These differences can lead to a very difficult integration process and poor job satisfaction for physicians:

Graphic 1  
The Physician Professional Culture:
"Expert Culture"
The Hospital Administration Culture:
Collective Culture"
AutonomyEmbraces organizational mission, values, vision
Need for rapid decision-makingAvoids conflict
Flat structures resists hierarchyUnlikely to take risk
Consensus in group decisionsRespects hierarchy
Training: Biomedical ScienceTraining: Social and Management Science

Trained to work independently

Trained to delegate and work in groups

Nevertheless hospitals and physicians seem to be coming together. A recent issue of the New England Journal of Medicine (2) examined the trend of hospitals employing physicians. What was once more commonly viewed as two types of enterprises, hospitals and physician groups, is now, more often than not, more correctly viewed as one, hospitals and their employed physicians.

Graphic 2


Clearly from Graphic 2 (from the NEJM paper), the movement toward hospital-ownership of physician practices and away from physician-ownership has been going on for at least a decade. The health reform law will provide incentives to create ACOs (accountable care organizations), and encourages healthcare organizations to integrate across provider types. It can only accelerate the trend depicted in the figure above.

After the current cycle of physician-practice acquisitions, it will be harder for these physicians to revert to private practice if relationships sour, since new payment structures and care models will make it increasingly difficult for traditional private practices to remain profitable.

Interestingly, according to the authors, hospitals lose between $150,000 and $250,000 per physician per year in the first three years of employing a physician. There has got to be some compelling, longer-term rationale for integration in order to accept that level of loss. The authors suggest that hospitals are trying to position themselves to capture more referrals. Hospitals, therefore, are hiring primary care physicians out of fear that physicians will become competitors by aggregating into larger integrated groups that direct referrals and utilization to their own advantage. Hospital-employed PCPs generally direct patients to their own hospitals and to specialists affiliated with them. In addition, by employing physicians, hospitals retain maximum flexibility in the market, should health plans change their reimbursement structures to require providers to bear risk and manage population health.

The authors note that different payment schemes suggest different hospital hiring strategies. On the one hand, if fee-for-service payment systems continue, hiring more specialists is advantageous as it will allow the hospital to capture a greater care volume and revenue across a wider range of specialty services. It will also increase a hospital’s power to negotiate higher prices.

On the other hand, if ACO-like models predominate, having a large outpatient network at one’s disposal would facilitate the shifting of patients from high- to low-cost settings. A hospital that succeeds in doing this would be able to retain more of the bundled payment or receive higher cost-based incentive bonuses. Having an army of specialists on staff eager to perform more services would not be as consistent with this strategy. It favors the hiring of more primary care physicians (PCPs). So far, hospitals are hedging their bet. They’re hiring more of both specialists and PCPs.

In the long run, any pricing distortions derived from market power and friction associated with changing the role and behaviors of physicians are likely to dissipate and be outweighed by improved productivity, improved outcomes, and better patient experiences.  More efficient healthcare markets may translate into lower prices over time.

That is the best possible spin on integration, but it is not a guaranteed outcome and far from likely in the near term. One thing learned by the history of healthcare in America is that things rarely evolve according to plan. (3)

There are going to be profound challenges and tensions ahead in physician-hospital integration:

1. With the new payment plans, hospitals will have to turn themselves inside-out to shift from revenue center to cost center. This will be difficult and will take time. The initial major change that has to occur is in the mindset of the hospital Board and top management. There are many further layers of systems, policies and procedures that have accumulated over decades of operating under the old model of physician bringing revenue to the hospital. How quickly can hospitals change? Today’s successful integrated delivery systems such as Geisinger, Kaiser, and Intermountain Healthcare have been built over the course of decades, not years.

2. Many hospitals don’t have in-house expertise to manage physicians' practices.

3. Hospitals already lose money on direct costs of physician employment. The losses decrease by approximately 50% after three years but do persist thereafter.

4. Healthcare reform initiatives likely will reduce hospital profitability. As a result of these marketplace changes, the prediction is that the percentage of net hospital patient revenue from commercially insured plans will drop by more than half while Medicaid, the most unprofitable payer for most hospitals will expand 10%. It is also predicted that the percentage of total reimbursements from Medicare will grow approximately 15%, driven by seniors aging into the program. Thus reform will place significant financial pressure on hospitals and health systems, transforming them from slightly profitable entities today to operating at annual net losses in the future. Current discussions in Washington DC to resolve the national debt crisis could target even further cuts for hospitals and physicians.

5. Physicians don’t trust hospitals due to the following:

• Competing goals

• Not enough physician leadership and/or representation on the Board

• Lack of transparency

• Lack of communication among physicians and hospital administrators

• Incentives are not aligned

6. Hospitals are being conflicted between the need to affiliate with physicians and the need to increase productivity. Many hospitals recognize that hiring a physician is only a first step and that it will take time and effort to assimilate them into the team. Hospitals are providing management training to physicians, requiring that they serve on hospital committees, and exposing them to leadership development. All this takes time, putting further pressure on physicians’ abilities to be productive and take care of patients. The risk here is that the hospital will change from being the physicians’ workshop to becoming the physicians’ sweatshop.

7. Employment of physicians by hospitals does not guarantee long-term lock-in. At best, employment is a short-term lock-in, even in the case where there is a non-compete clause. Also, the formula for successful “lock-in” of physicians is changing. In the past, the economic incentive for hospitals to lock-in physicians was increased revenues from patient referrals. We wonder how much of today’s physician employment trend is reflexive behavior based on outdated assumptions.

8. Hospitals are driven by pressures of urgency. Hospitals employing physicians is a faster and easier option than other alternatives such as ACOs, joint ventures, and gain sharing programs to align incentives that take more time to develop. The immediacy of the current forces is driving the most prevalent form of integration seen in the market today which is physician employment by hospitals and health systems.

There are many impediments to a happy physician-hospital marriage. The recent purchase of doctors’ practices by many hospitals is much more a short-term, economically based marriage of convenience than a marriage based on true love (4).

As logical a response to current economics as the trend toward physician employment may seem, that doesn’t mean that all of these arrangements are destined to go well. Employing physicians is not the same as integrating those physicians into the hospital enterprise.  It remains to be seen how effective hospitals will be in working with their physicians - whether employed or voluntary - to provide higher-quality, better-coordinated, more cost-effective healthcare.

There are major downsides to integration, especially in costs. Much of the consolidation in health care is motivated by the desire to lower the cost of care. However, The American College of Cardiology’s director, Jack Lewin predicts that the unintended consequence of, for example, cardiologists’ becoming employed by hospitals, will be “higher costs for Medicare, large increases in copays for seniors, and likely resulting access gaps” when seniors can no longer find a practicing cardiologist outside a hospital outpatient setting. Private payers, meanwhile, are growing increasingly concerned that the tighter and more powerful hospital-physician connections will lead to higher prices.

Once again, the only constant in the future of healthcare appears to be change. Will there always be a place for the private practice of medicine? I think so, however, with some level of alignment with hospitals, in order to be part of a healthcare delivery system that can coordinate contracting, bundled payments, and monitoring of quality and outcomes. These alignments can vary from loose affiliations to co-management agreements to full employment. Clearly the best alignments are those where physicians are treated as equals in leadership positions, with professional freedom to practice quality medicine, rather than as another hospital cost center.

As always, I welcome your comments at nlaufer@mcmsonline.com

Nathan Laufer MD
President



1. Originally published in Hospitals & Health Networks Online
2. Kocher R, Sahni N: N Engl J Med 2011; 364:1790-1793, May 12, 2011
3. http://theincidentaleconomist.com/wordpress,  April 4, 2011
4. e-CareManagement blog: Physician-Hospital Relationships: The Hospital Morphs from Revenue Center to Cost Center Posted by Vince Kuraitis on July 19, 2011