A win-win situation for everyone involved?

By Paul Kengor, Ph.D.

Published April 1997

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Health America, one of the region’s largest HMOs, recently completed a deal that will make it strictly an insurer. The group sold its 115-member Penn Group Medical Associates—80 of whom are in primary care—to Allegheny Health Education and Research Foundation (AHERF). It is the largest acquisition of a medical practice in the Pittsburgh region. The deal includes a 10-year partnership and risk-sharing arrangement between AHERF and Health America in which the latter will pay the former a percentage of its premiums to manage 80,000 Health America patients treated by AHERF-affiliated physicians.

But the deal represents more than a three-party transaction. It seems to highlight contrasting approaches between two major health insurers in the region: Thomas Murray, the president of Health America, calls the deal a significant change in the way his group deals with managed care in the region, as it marks Health America’s exit from the business of providing health care to subscribers. Highmark Blue Cross Blue Shield, on the other hand, is actively affiliating with physicians at its primary care centers and elsewhere.

The deal would appear to be beneficial to both the Penn Group physicians and to AHERF, but there are possible disadvantages. AHERF gains physicians as well as the considerable management burdens that Health America apparently decided to discard. And, it is no secret that 1996 was, in Murray’s words, "not a great year for the company." The deal may also showcase physician group practices as commodities on the auction block, whose fate depends on the purchaser.

Further, Highmark has responded to the AHERF purchase that it is not interested in contracting with the Penn Group physicians, a gesture that could foreshadow provider-insurer lines being drawn by selective contracting in the region. If that view is correct, then an AHERF-Health America alliance, joined by other members of the Pyramid hospital network may be the region’s long-awaited counterbalance to the prospect of a Blue Cross-University of Pittsburgh Medical Center alliance, together with its Tri-State hospital network members.

Health of Health America

Analysts seem to agree that the Health America move was a wise one, symptomatic of a broader national trend in which managed care firms are restructuring and divesting the medical groups that were once key to the early growth of managed care.

Penn Group was a cornerstone of Health America at its inception over 20 years ago. Like other similar plans, Health America felt it necessary to employ its own physicians. Now, however, the need for insurance organizations to operate and own their own medical practices has diminished.

Rosemary Hager, senior vice president of operations with the Pittsburgh-based Medical Asset Management, Inc., notes that what Health America has just done is hardly unique: "They’re not alone in this, locally or nationally. It’s just too costly for them to keep owning physicians." She maintains that when physicians become employees they lose their entrepreneurial spirit and become less productive. "What it says to me is that Health America has a lot of foresight. They can still stay in the insurance business. I think it’s a good strategic decision."

Michael Regan, C.P.A., a partner with Horovitz Rudoy & Roteman in downtown Pittsburgh, also speaks of the virtues of the move. "Health America now has a close affiliation with a major player, giving them some prominence," he says. "Health America had a valuable asset that they could sell and get money for, and lock in an affiliation with one of the largest groups in the area," Regan adds.

Mary Goessler, M.D., senior vice president and chief operating officer for Allegheny Integrated Health Group, agrees: "I do not believe this is a fire sale or desperation move at all. Health America realized that it is very difficult for an insurer to be a provider also. Like many companies, very often the manner in which you refocus on your main product line determines your effectiveness and success. We’ve certainly seen that happen throughout the country, and not just in the health care industry. Why is Pepsi divesting itself of fast-food chains?"

Ken Melani , M.D., executive vice president of Highmark’s health services group, called Health America’s action a "smart move" influenced by many factors, including its obligation to shareholders. "A publicly run company has to jettison a loser that is not being managed as effectively, and that’s what they did. I think it’s a corporate move they had to make because of their relationship and duty to shareholders."

AHERF Strategy

AHERF appears to be a solid winner also, having picked up 115 doctors located in nine separate medical center locations throughout Allegheny and Butler counties. "Obviously, one of the goals of helping and managing patients better is having more opportunity and physicians to do that," says Goessler.

"It’s a good strategic move for AHERF," agrees Hager. "The more primary care physicians you can capture, the better, if you’re in the acquisition mode."

The size of AHERF’s purchase might hinder its ability to proceed with further acquisitions in the near future, however, speculates Regan. "That’s like buying 10 one-dozen size physicians groups. That’s quite a purchase." Physicians may wonder where AHERF gets the money for such a deal, concurrent with purchases and expansions in southeastern Pennsylvania—including the expansion of the former Hahnemann University campus, called one of Philadelphia’s largest construction projects since the early eighties.

AHERF officials were not willing to address that issue. Regan concedes that few know how deep AHERF’s pockets truly are. Hager concludes that "If AHERF can absorb the cost of Penn Group without too much damage, then this ought to be a good strategy for them."

Contrasting Insurer Strategies

The deal underscores two opposing strategies by the region’s two largest health-insurance competitors—Health America and Highmark Blue Cross Blue Shield. Some argue that Highmark is continuing to pursue the type of strategy that Health America has just abandoned. In this regard, a number of observers maintain that Highmark is bucking the trend that Health America recognized and just responded to.

"I think the direction Highmark is going is not the trend," says Hager. "I see their strategy in that respect as lagging behind the trend. It is certainly against it."

Melani believes such a view is flawed. "We are not sticking to a different strategy. Highmark and Health America are two entirely different operations." Melani notes that Health America was a staff model HMO that had to move to a pure IPO. The agreement it had was essentially an employment agreement for physicians in the Penn Group. He contends that most entities have learned that if they directly employ physicians they lose productivity. "They had a model that didn’t lend itself to today’s conditions," Melani asserts. "They had to jettison their staff model, which they did. This is true of a lot of staff models."

Melani notes that Highmark’s model is different. For one, it does not employ physicians. It "acquires assets and manages them." How much the doctors make is based on incentives and how much they produce. Additionally, Health America had a mix of primary and specialty physicians, whereas Highmark has only primary doctors. Finally, unlike Health America, Highmark is not publicly traded. "Thus," says Melani, "our modus operandi is different from theirs. Their stock is very low and they are looking for an acquirer, we believe, and they need to look attractive in the marketplace. Thus, they need to be focused more on the short term, while we can focus on the long term." Also, Melani notes that Highmark is focused mainly on the western Pennsylvania region, whereas Health America is in multiple markets.

Highmark’s Reprisal?

AHERF’s deal may have sparked some negative reaction from Highmark, which claims it is not interested in contracting with the Penn Group. If this position gets extended into exclusive contracting arrangements, and Health America does not get additional subscribers and revenues, then AHERF could be hurt considerably.

The question remains whether Highmark, which contracts with virtually every hospital in the region, will include Penn Group physicians in any of its managed-care networks.

Why would a group like Highmark turn down a group of 115 physicians?

Highmark’s Melani cites two principal reasons. First, he says, Highmark currently has enough primary care physicians to meet its needs. "Had they been available several years ago it would be different. But we’re now on a strategic path formulated years ago. Now we don’t need them." He also notes that while the door is closed to the entire group, it is not shut to some of the Penn Group physicians individually, and that if Highmark had a future need it would consider some of them. "But I don’t need the 80 primary-care physicians as a group."

Deborah Wells, director of the medical services group at the accounting firm of Alpern Rosenthal, while wary about endorsing Melani’s remark, concedes that the region is "overly populated" with physicians, especially in the specialty areas.

Melani also adds that bringing in such a large group would not only undermine his group’s strategy but also the relationships Highmark has cemented with its own physicians. "I can’t possibly be asking our physicians to affiliate with us all these years and develop a relationship with us, and then open the group to other people. That would be counterproductive. We have Penn Group centers right next door to our facilities right now."

But some speculate that Highmark is motivated less by fealty to their physicians and more by antagonism toward AHERF and Health America. In this sense, Highmark’s professed lack of interest in Penn Group physicians might be viewed an attempt to draw a line in the sand.

"I think they may be trying to play a little hardball," says Regan. "To turn your back on a 115-member group is unheard of. That means you’re passing up some very capable people who could benefit your membership. It’s probably a gifted group. That’s like saying you can’t come to my house because you went to his wedding."

Melani vehemently denies these charges. As evidence, he notes that Highmark has already signed on with practices affiliated with Keystone who have since been acquired by AHERF-UPMC-Pyramid, "and we continue to do business and contract with them." Melani asserts: "We have not canceled a contract with any provider simply because a certain hospital has acquired them. This has nothing to do with AHERF. The difference here is that this group did not want to be with Keystone a few years ago when they had the chance. Now they want us and we don’t have a need. That’s it."

Hager perceives the situation as a smart business move by Highmark that is motivated by the bottom line and market control. "This is all about capturing as many covered lives as possible within your network," she says. "If they allow those doctors to become providers in the Blues network, they’re simply feeding revenue back to AHERF and the Pyramid network."

AHERF officials would welcome that scenario. "From our perspective," explains Jack Frank, senior vice president of marketing for Allegheny University Medical Centers, "there’s no reason these doctors can’t accept Blue Cross insurance. We have every intention of these physicians accepting all insurance and payers, including Blue Cross—not just Health America. This provides greater access for the consumer. We’re hoping that over time Highmark will see that also. Highmark may have trouble down the road in not using our physicians. Their customers may want that."

In hindsight, did AHERF miscalculate the possible wrath of Highmark?

"AHERF’s focus has been on a full spectrum, integrated network, not in drawing battle lines," says Goessler. "My perspective is to do what makes sense, not draw battle lines."

Physician Group Fate

Bruce Conaway, M.D., who is president of the Penn Group, argues that the move will allow Allegheny "to get further down the road" than it might otherwise have gone. But there is a sense that physicians who find themselves up for sale may feel like pawns in a chess game among corporate giants, and that their fate is beyond their control.

"I can’t imagine all of them not feeling like pawns," Regan states. "I’d be surprised if there weren’t some bad feelings among the physicians who didn’t have close affiliation with Allegheny General’s MSO, and instead were close to some other group," says Regan, who concludes that the level of satisfaction among Penn Group members probably depends on the input they had to the deal.

Conaway seems to intimate that member input may have been limited. For instance, the group’s leadership was more aware of the sale’s machinations than the members because insider trading stipulations prohibited the leadership from fully disclosing certain information to the membership. "It’s different for me," Conaway acknowledges, "because I was personally involved in the discussions from the beginning." The Penn Group members were, however, aware for some time that the leadership was looking for partners.

"In health care today, everyone is being bought and sold," Conaway concedes. " Look, if you don’t own your own practice—I mean, our physicians were employees. We had input, but ultimately the decision was not in our hands."

Nonetheless, Conaway seems happy with the deal: "We’re hooking in with a large delivery system with a lot of resources and a broad network."