The do-it-yourself guide to setting cap rates

By Elizabeth Gallup, MD, JD, MBA

It goes without saying that it is dangerous to accept a capitation rate presented by an HMO at face value without performing a careful and appropriate analysis. (See related story, p. 180.) So where do you start in developing an appropriate cap rate to counter an offer by an HMO?

The best analysis and recommendations come from actuaries who specialize in health care. These actuaries can take any given population and determine what utilization of medical services is likely to occur, based on tables that are developed from years of statistical research.

This provides the actuary with an estimate of the overall costs of the services provided on a per-member-per-month basis. The overall cost of medical services is then divided between what is provided in the hospital or other institutions and what is performed by the physician in his office or in an outpatient setting.

Service overlap makes allocation difficult

After this is determined, then the actuary determines, based on community standards, which physician performs which services. The next step is to divide the capitation dollars, on a per member per month basis, between the differing specialties. This can be quite tricky where there is potential overlap of services being provided by two separate specialty areas.

For instance, is it the cardiologist who performs a cardiac echo, or is it the radiologist, or both? Is it the vascular surgeon who performs the arteriogram, or the radiologist, or both?

Then, based on the size of the population that is likely to sign up with physician in the different specialty areas, a capitation rate is determined. This is an involved and expensive process. Because it is expensive, most individual physicians and most IPAs do not get an actuarial review of capitation rates, much less pay an actuary to determine the capitation rates for them.

I am not necessarily an advocate for actuaries. More than once I have been in a position as executive director of an IPA where I would have liked to get an actuarial opinion, but could not afford one. In that situation, I had to resort to the next best alternative, which has been to figure out what is a reasonable capitation rate for the various specialty areas based on information acquired from the local practitioners and from national statistics.

Always look at scope of services

Here’s how I have done it: First, I gather all the information I can about capitation rates in the geographic area in which I am working. This involves not only the actual rates, but also the services that are covered under each rate. In the case of specialists, this means I have to ascertain whether a capitation rate includes the professional component of the service alone, or the professional and technical component.

This is especially true in the areas of radiology and cardiology. For primary care, I try to determine the base capitation rate in the community for the most limited scope of services covered. It is from this base that numbers can be added as the scope of services increases.

Also, this alerts me to always look at the scope of services an HMO’s proposed capitation rate covers. Forgetting this is a common error in evaluating a proposed rate offered by a payer.

With this base rate determined, I then go to published statistics regarding capitation rates for comparison. Again, it is essential in this step to make sure I am comparing apples and apples; in other words, I am comparing capitation rates for the same scope of covered services. This comparison allows me to know how a market compares with a national norm and to make sure the capitation rates in the community I am evaluating are not either low because no one challenged them before or high because the physicians formed an IPA and became hard negotiators. (Unfortunately, the latter is relatively rare.) By obtaining these numbers, I have a basis on which to evaluate a proposed rate or to propose a rate to an HMO.

In any case, the most important lesson to take away from this is that capitation rates must be scrutinized carefully to make sure they are adequate to cover the cost of providing services while allowing for a responsible measure of profit for the practice.