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Orthopedic and Dental Industry News Complete Archive »

The Proposed Change in Medicare Inpatient Reimbursement Expected to Impact Profitability of Specialty Hospitals BY MARTIN GOLD, APRIL 24, 2006

[Editor's note: We welcome regulatory expert Martin Gold as a guest blogger. See his profile here.]

The recently published proposed change in inpatient Medicare payment is expected to have a significant financial affect on hospitals that specialize in cardiac and orthopedic services. On Thursday, April 14, 2006, the Centers for Medicare and Medicaid Services (CMS) released its Proposed Rule for the Inpatient Prospective Payment System. This proposed rule, issued in April each year communicates updates to Medicare's inpatient payment system.

Medicare currently pays hospitals for inpatient hospital services on a rate per discharge basis that varies according to the DRG to which a beneficiary's stay is assigned. The formula used to calculate a hospital's payment for a specific case multiplies the individual hospital's established payment rate by the relative weight of the DRG to which the case is assigned. The relative weight of each DRG represents the average resources required to care for cases in that particular DRG, relative to the average resources used to treat cases in all DRGs.

In its proposed rule, CMS is proposing a two-step change to the DRG system. The first step, which would be effective for FY 2007, would modify the current charge-based methodology used to develop the annual DRG relative weighting factors to a hospital-specific, relative-value (HSRV), cost-based system. CMS would establish "hospital specific charge-relative-unit weights at the cost center (HSRVcc) level to remove the bias introduced by hospital characteristics (that is, teaching, disproportionate share, location, and size, among others) and then [scale] the weights to costs using the national cost center charge ratios developed from the cost report data. After studying Medicare cost report data, [the agency proposes to establish] 10 cost center categories based upon broad hospital accounting definitions." There would be eight ancillary cost groups in addition to routine-day costs and intensive-care day costs, and each category represents at least 5 percent of the charges in the claims data.

The second step in the DRG modification process would be to increase the number of DRGs to better reflect the severity of resources used in treating Medicare beneficiaries. CMS indicates that this second step would be implemented "by FY 2008 and potentially earlier." CMS proposes to expand the DRG classification system using a consolidated version of DRGs based on 3M Corporation's all-patient refined (APR) DRGs to better account for severity.

CMS estimates that several high cost specialties will experience significant reductions in reimbursement. Cardiac care is expected to experience the greatest reduction in reimbursement as a result of the change to HSRVcc. Based upon projections, DRG 558 - Percutaneous Cardiovascular Proc w Drug-Eluting Stent w/o Maj CV DX, is expected to experience the greatest decline in reimbursement at 32.9%.

Orthopedic procedures, specifically DRG 545- Revision of Hip or Knee Replacemnt are expected to experience a 7.7% reduction in payment. DRG 545 represents a group of joint revision procedures that due to the current cost of the implant and procedural expenses is inadequately reimbursed under the current DRG structure. As a result of the proposed changes, reimbursement for DRG 545 would be reduced even further.

CMS expects the new cost-based DRG weighting system and consolidated severity adjusted DRGs to have the greatest impact on specialty hospitals. The Medicare Payment Advisory Commission (MedPAC) has defined a Specialty Hospital to be a hospital in which 1) 45% of Medicare discharges are either heart, orthopedic or surgical cases or 2) 66% of total cases are in two of the three categories (heart, orthopedic or surgical cases). For the last several years, specialty hospitals have been under review by CMS and MedPAC since it has been believed that specialty hospitals focusing in either cardiac or orthopedic procedures have been overcompensated by the Medicare DRG reimbursement system.

CMS expects the new systems to reduce reimbursement to cardiac specialty hospitals by 11.7 % and orthopedic specialty hospitals by 9.4%. It is CMS and MedPAC's belief that the over-compensation to specialty hospitals has contributed to the growth in the number of new facilities. CMS states in the proposed rule "MedPAC also found that relative profitability ratios were higher among cardiovascular surgical DRGs than the medical DRGs. We believe the relative profitability of the surgical cardiovascular DRGs has been an important factor in the development of specialty heart hospitals. Our payment impact analysis indicates that this issue will be addressed by adopting HSRVccs."

We therefore predict that if these new payment modifications go into affect, cardiac and orthopedics services will become less profitable resulting in a reduced the incentive for the development of specialty hospitals.

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