Strategy Lowers CalPERS’ Price of Joint Surgeries

California’s CalPERS ran pilot program to tackle large variability in prices for orthopedic surgeries

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CEO SUMMARY: Probably the most-watched reference pricing program in healthcare to date was initiated by CalPERS. It focused on the variability in the prices of knee and hip replacement surgeries. Just as Safeway experienced a drop in clinical lab test prices of 32% in its reference pricing program, CalPERs paid 30% less for these surgeries at the end of the first year of the program. These outcomes were realized with no measurable negative change in quality or patient experience.

I N THE UNITED STATES, REFERENCE PRICING is still in its infancy. Most physicians, hospital administrators, and lab executives are unfamiliar with the details of this healthcare cost-cutting tool.

However, in the short life of reference pricing in this country, there is one example of the program that has attracted national news coverage and plenty of attention with the provider and payer communities. In 2011, CalPERS, which manages the retirement and benefits programs for California state employees, implemented a reference pricing program that targeted joint replacement surgeries.

This example of reference pricing is instructive because it shows clinical lab executives and pathologists how this strategy is used to lower prices for high-cost clinical services. It is at the other end of the spectrum from Safeway’s use of reference pricing to lower the prices of clinical laboratory testing, a much less expensive clinical service than joint replacement surgeries.

There were two reasons why CalPERS’ reference pricing initiative got wide publicity. First, orthopedic surgeries were a big cost driver for CalPERS’ health benefit program. At 13% of total healthcare spending, muscle and bone disorders were the single biggest spending category and the increase in spending was 39% just for the years 2005 to 2008. Hip and knee replacements made up about a third of this spending.

Controlling Healthcare Costs

Second, with 1.38 million members in its benefit programs, CalPERS is among the largest such organizations in the United States. It is considered an innovator in how it approaches managing healthcare and controlling the cost of care. That is why its successes are regularly studied and copied by other big employers.

A third reason why this reference pricing program was closely-watched is that joint replacement surgeries are big money-makers for most hospitals and health systems. Thus, any attempt by a large employer to reduce the prices paid for these procedures could be a direct threat to the financial resources of these hospitals.

To create a baseline for comparing costs, CalPERS worked with its PPO, managed by Anthem Blue Cross. A study determined the average costs for hip and knee replacements among California hospitals.

High Degree of Variation

Data provided by Anthem showed a high degree of variation in negotiated hospital prices for hip and knee replacements. The range was from a low of $15,000 to a high of $110,000. The next step was to develop sufficient coverage by those hospitals that also met a certain cost threshold. The program set a maximum of $30,000 for these surgeries.

Next, CalPERS included 46 medical institutions as providers in the reference pricing program. This network allowed access to patients throughout the state.

At the end of 2011, the first year of the reference pricing program, Anthem determined that CalPERS had paid 30% less per surgery, compared to the base year of 2010. That generated savings of $2.8 million.

Quality for these patients was comparable to the base year. HealthCore, a research division of Anthem, compared readmission rates for CalPERS patients who underwent these surgeries in 2010 versus 2011 and found no significant difference in quality outcomes.

Employers Taking Steps To Use Reference Pricing

ALTHOUGH REFERENCE PRICING has been under the radar of most lab administrators and pathologists, it has already caught the attention of a sizeable number of employers.

In 2014, Aon Hewitt conducted its annual Health Care Survey. A total of 1,230 employers covering more than 10 million employees participated. One interesting finding was that 52% of employers confirmed that their “current health strategy is focused on traditional cost-mitigation approaches such as employee cost-shifting.” However, only 21% of respondents believed this would be their preferred approach in three to five years.

What might be their alternative healthcare cost control strategy? Aon Hewitt wrote that, “Instead, employers are considering new tactics that require employees to take more action. For instance, the survey found that 68% of employers said they plan to adopt reference-based pricing, while 10% had already adopted this approach.”

Use of reference pricing has also been given a green light by the current federal administration. The Robert Wood Johnson Foundation issued a report, “Exploring the Use of Reference Pricing by Insurers and Employers.” The authors wrote, “The Obama Administration recently indicated that the use of reference pricing by large group and self-funded group plans does not violate the Affordable Care Act’s cap on patients’ annual out-of-pocket costs. Some experts say this guidance is likely to encourage additional employers to adopt reference pricing strategies.”

These developments provide evidence that reference pricing is gaining favor among the nation’s large employers. Organizations such as CalPERS and Safeway are the first-movers and their successes will encourage other employers to use the reference pricing strategy.

Prices Dropped 19%

How did patients respond to the financial incentives of the CalPERS reference pricing program? During 2010, the baseline year, 47% of CalPERs patients went to designated hospitals. That increased to 63% in 2011, the first year of the program.

At the end of the two-year study, it was determined that there was a 21% increase in use of preferred hospitals by CalPERS members. Hospitals responded by dropping their prices. It was reported that CalPERS’ average cost for these joint replacements dropped by 19%, from $35,408 to $28,695 per admission.


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