A Primer on Direct Contracting

My thoughts on CMS’ new model, from the perspective of a New Entrant

Page 49 of Clover’s SPAC docs show projected DC growth eclipsing # of MA lives

Much hubbub has been made about Direct Contracting, a new payment model from CMS. As healthcare companies are born and die by the stroke of the government’s pen, this excitement makes sense. It’s especially salient because CMS, through the issued documentation, seems to be incentivizing New Entrants, as well as the tackling of greenfield doctors (i.e. non-ACO docs).

Current companies (see Clover’s chart, above) are already racing to enter the space, and no doubt there will be a flurry of new companies as well — netting out a handful of winner and a lot of losers.

I wrote the below to develop my own understanding of the space — as always, would love your feedback/comments. Find me on twitter @Rsiddhanti.

Startup Thesis for New Entrant (NewCo) in Direct Contracting (DC)

Background for Thesis

• The ACO program has had mixed success at best since launching in 2012, mostly because 80%+ providers have no downside risk — noting this, CMS overhauled the program in 2018, accelerating the mandatory path-to-risk from a six to a two-year timeline, and introducing new models of care and payment delivery in Medicare FFS
• Current and future CMS leaders are looking to accelerate America’s shift from volume to value, noting that the Medicare FFS system as it stands today won’t scale financially with the population size, and Medicare Advantage (MA) alone cannot suffice as that shift
• Healthcare businesses often rely on the stroke of the pen to create their business opportunity — the DC program is the latest in a long line of such new opportunities; the new regulation is the culmination of ~8 years of lessons learned by CMS and feedback garnered from industry
• There are ~52M non-disabled Medicare Beneficiaries in the US, a number which is projected to reach 70–80M by 2030 (~60k seniors age-in to Medicare, daily)
• Of the current 52M, ~22M are in MA and ~30M in FFS — of the 30M, ~10M are in ACOs which can be converted to the DC model over time, with ~20M currently in pure FFS

Thesis on why enter the space

• The DC model is Medicare FFS’ answer to MA and hopes to see similar levels of across-the-board adoption over time, albeit with a stronger government push; while ACOs were originally supposed to be that answer, they were riddled with issues — compared to the ACO model, DCs are designed to decrease the regulatory and reporting burden, offer greater flexibility and most importantly increase skin the game for providers
• The currently slow but steady march to value will be accelerated with the DC (and other) programs — to this effect, CMS has set aggressive growth targets for Medicare FFS payments tied to value til ’30 — this decade marks healthcare’s push to become more aggressive and Darwinian
• The initial Performance Years (PY) for this program are 2021–2026, so the race is on create DCEs — the MA market may serve as a leading indicator for market trends (e.g. richer benefits, lower copays) as well as beneficiary adoption/penetration over time
• Short-term exit: Successful NewCos can be purchased by larger ACOs-turned-DCEs or Insurers looking to increase their risk-based Medicare footprint, during the initial five PYs (‘21- ‘26)
• Longer-term exit: NewCos that can grow to >50k beneficiaries are viable for larger acquisitions, growth equity investments, or as a long-shot to even go public (see: Clover Health had 54k members as of Jan 2020 according to SPAC docs)

Regulatory tailwinds for New Entrants

• Not more than 50% of Participant Providers may have prior experience in an MSSP/ACO, so brand-name and startup New Entrant DCEs alike will be going after the same pure FFS Providers
• For Performance Years (PY) 1–3, claims-aligned beneficiaries cannot exceed 3k, making it harder for more well-know New Entrant DCEs to win through scale alone (assuming low Voluntary Beneficiary enrollment)
• Defined path-to-risk with room to accelerate: The DC program offers multiple risk and capitation types as organizations grow in scale and capacity (e.g. 50% → 100% risk from Professional to Global)
• Protection from too much downside loss: DC program has built-in mechanisms to incentivize organizations to take on more risk (e.g. the Shared Savings rate is not tied to the Quality Score, Medicare takes on a greater portion of gains/losses as they increase)
• [Not sure about this] DCEs will largely compete against themselves: Unlike ACOs which operated as more of a zero-sum game, the mechanics are such that DCEs are largely compared against their own performance (“experience”) rather than the markets’; this new model penalizes NewCos to a lesser extent than the ACO model did

Qualitative tailwinds for New Entrants

• FFS Medicare Providers, especially PCPs and often-seen specialists (e.g. Cardio, Endo) are incentivized to join a risk-based model as they recognize this as the wave of the future
• These providers see with upsides in joining a DCE model that include but are not limited to: a more predictable revenue inflow (monthly payments), financial upside that is largely in their control, better patient care through coordination, and increased referral volume
• Pre-Covid, PCP visits were already down YoY for many years running — in a post-Covid world, surviving PCPs and associated in-network docs are even hungrier for referrals and willing be more willing to join networks which provide badly-needed volume

How to win

• Successful New Entrant Direct Contracting Entities (DCE) must (1) rapidly scale a PCP network in a core service area, (2) support it with a minimal underlying technology stack, and (3) demonstrate cost and quality-effective treatment within their initial performance years
• After demonstrating initial success, as with MA, a DCEs must have the capacity and willingness to take on more risk for more reward — the model favors aggressive growth from DCEs
• The program offers a 7% capitation monthly payment for enhanced primary care services — startups that know the essential patient-facing (e.g. telehealth) and back-end (e.g. care coordination) offerings needed within this service set will likely succeed
• As in most parts of healthcare, the Direct Contracting market is a scale/concentration game within the Core Service Area — DCEs must sign up providers/practices one-by-one and/or utilize innovative partnerships to sign on providers en masse
• While Voluntary Beneficiary Alignment is a possibility, it’s unlikely that a NewCo has the budget/presence for sufficient marketing and outreach for this bottom-up enrollment

Most salient risks

• Given DC is a new payment model with significant downside risk, Providers may favor orgs with a strong record of managed care and significant infrastructure, rather than NewCos
• Buying the business: Cash-rich Standard DCEs (likely MA plans or Managed Medicaid orgs) may be willing to take a significant loss on their DCE programs in the early years in order to rapidly gain providers/beneficiaries and begin to master the mechanics of the DC program
• Entry of network companies: Progressive-thinking HMO and PPO stand-alone network companies may realize they have the capabilities to play in DC, and begin walling-off their doctors from NewCos,or at the very least favoring existing players (e.g. large insurers)

As always, I’d appreciate your thoughts and feedback. Drop a comment here, or find me on twitter @RSiddhanti.