Differing Views About Capitation Rate Trends

Anecdotal evidence indicates that laboratory capitation rates in California may be rising

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CEO SUMMARY: Laboratory executives in California believe that capitated rates for laboratory services in the state may soon increase. But no one knows for sure, and no documentation about specific capitation rates for newly signed laboratory services contracts has yet to become public.

COMBINING BRAVADO AND BLUFF in one move, Unilab Inc.’s letter-writing blitz to managed care plans to renegotiate contract rates now sets the pot boiling in the California laboratory marketplace.

As the largest single provider of clinical laboratory services in the state, Unilab holds contracts with a large number of managed care plans. These plans range from huge HMOs and insurers to local IPAs (Independent Physicians Associations).

Apparently some of Unilab’s letters were blunt: if rates cannot be renegotiated, then consider this to be 90-day notice of termination per the contract. Managed care plans reacted to Unilab’s message by contacting competing laboratories to see if they could bring in a new lab at the same prices for which Unilab was contracted.

Unilab’s Strategy

When managed care companies began contacting competing laboratories on a widespread basis, the laboratory industry was alerted to Unilab’s rate renegotiation strategy.

Unilab’s actions represent bravado because the laboratory cannot afford to lose certain key contracts. Unilab depends on high volume to support a low average cost per test. For this reason, Unilab is probably unwilling to walk away from key contracts if they fail to obtain significant rate increases from the managed care plan.

Financial Problems

The bluff in Unilab’s strategy relies on the fact that individual managed care plans do not fully understand the desperate financial problems facing both Unilab and the entire clinical laboratory industry in California. Unilab hopes that discrete negotiations on an individual basis will allow them to “divide and conquer.” Unilab’s renegotiation strategy loses its power if the managed care plans collectively understand the financial dilemma and want to play hardball themselves.

“We are contacted regularly by man- aged care plans which would like us to bid on contracts for laboratory services,” said Edward J. Kramer, CEO of Pathology Associates Laboratories in West Los Angeles. “From day one we always structured our proposals to closely reflect our cost of testing. That helped us to avoid the losses that Unilab and the larger laboratories experienced.

“It would be difficult for me to comment on whether capitation rates are beginning to climb,” he continued. “But I can say that managed care plans are starting to realize that fewer laboratories are willing to bid 20¢ to 30¢ PMPM (Per Member Per Month). However, so long as any laboratory continues to offer services at pricing which is below the cost to provide tests, capitation rates will not rise dramatically.”

Should Unilab and other California laboratories succeed in raising capitated rates for laboratory services… it will establish an important precedent.

Kramer’s opinion was echoed by Stan Schofield, who was Chief Operating Officer at Cedars-Sinai Laboratory Services in Los Angeles for the last three years. “I find there is a credibility gap between public statements and actions by laboratories in California. When laboratory executives talk to each other, they deny they are bidding contracts at discounted rates. However, when I call and try to obtain a written copy of a contract that shows pricing or written confirmation of the higher rates, such documents are always unavailable.”

Still Intense Competition

“There is still intense competition among laboratories for managed care contracts in Southern California,” continued Schofield. “Lowball capitation rates will not disappear until all laboratories refuse to provide testing at unprofitable prices.”

Interviews with other laboratory executives in Southern California confirm the opinions of Kramer and Schofield. There is talk among laboratories that each refuses to bid new contracts at ridiculously low pricing, but there is virtually no public evidence that con- firms contract prices for lab tests are increasing.

Referring to Unilab’s renegotiation strategy, one laboratory owner spoke bluntly. “The reality is that, from the beginning. there was only one laboratory (Unilab) which drove pricing down. It wasn’t SmithKline. It wasn’t LabCorp. It wasn’t the smaller regional labs in this state. Unilab made this market. Now they cry the blues that they cannot operate profitably unless more rational pricing returns to the marketplace.”

California’s unique leadership role as the most progressive managed healthcare marketplace in the United States makes the success or failure of Unilab’s renegotiation strategy relevant to every laboratory. Over the last five years, Unilab attempted to gain dominant market share in California through highly discounted pricing. It now must process a high volume of specimens which are reimbursed at rates which do not recover costs.

Important Precedent

Should Unilab and other California laboratories succeed in raising capitated rates for laboratory services to economically rational levels, it will establish an important precedent. Methods used to renegotiate such increases with managed care plans can be adapted and used by laboratory executives in other parts of the country to meet the needs of managed care in their local region.

Regardless of whether Unilab succeeds with its renegotiation strategy, its actions now trigger a new competitive cycle among all laboratories in California.

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