What Is Value-Based Care?

Sep 14, 2023

Value-based care is the future of the U.S. healthcare system. The Centers for Medicare & Medicaid Services (CMS) want all Medicare beneficiaries and the majority of Medicaid beneficiaries to be in value-based care arrangements by 2030 – and the rest of the healthcare marketplace is expected to follow.

Value-based care is often promoted as a system with the potential to reduce costs and improve care quality. But what does “value-based care” really mean? How are “value” and “quality” defined?

This article attempts to answer those questions as clearly and comprehensively as possible. We’ll explain the structure of value-based care, including the risk types and reimbursement models, why patient data is critical for making this system work, and what’s in it for private equity investors. Six experts, including two providers at value-based care organizations, also weigh in.

Table of Contents:

Value-Based Care Versus Fee-for-Service

Fee-for-service is still the dominant payment model in the U.S. healthcare system, in which a clinician is paid for performing a service regardless of the quality of that service. 

“Value-based care has emerged as an alternative and potential replacement for fee-for-service reimbursement,” explains Todd Zigrang, President of Health Capital Consultants. Instead of paying providers based on the quantity of care, “value-based care ties payments to the quality of the treatment provided, by considering patient outcomes and the total cost of care.”

It’s important to emphasize that value-based care is not solely about cutting costs. It has three components: Cost efficiency, care quality, and patient satisfaction. “It’s the alignment of incentives across the continuum of care,” Mark Fish, Senior Managing Director at FTI Consulting.

“The people providing the care are financially responsible for the outcomes,” explains Dr. Jennifer Schneider, Co-Founder and CEO of Homeward Health, a value-based healthcare organization. “The providers own the risk.”

Darren Skyles, a partner at Frost Brown Todd, says he anticipates fee-for-service continuing to operate alongside value-based care “for a long time. But I think we’ve reached a critical crossroads where the cost of healthcare is escalating, but we haven’t moved the needle in terms of actually improving healthcare.” 

Skyles notes that while the U.S. spends more on healthcare than other countries, it hasn’t improved health outcomes. “Value-based care may provide a more rational alternative.”

Other terms associated with value-based care include person-centered, integrated and accountable care.

How Is Value Defined? The Importance of Data

Under value-based care, a variety of organizations representing stakeholders across the healthcare industry (e.g., patients, payors, and providers), maintain responsibility for defining what constitutes high-quality care. This includes professionals at organizations such as the American Board of Internal Medicine, the American College of Surgeons and the National Committee for Quality Assurance. 

“The organizations that set quality and outcome measures rely on your physician colleagues,” assures Luis Argueso, a partner at InHealth Advisors. “When your payment is tied to the quality of care that’s being delivered, the physician’s perspective is not ignored. CMS and commercial insurers develop these measures in consultation with physician judgment.” 

The ability to collect and analyze patient data is a vital element of value-based care. Investing in a sophisticated electronic health record system is typically a requirement to help providers diligently track outcomes, monitor whether care processes were followed, and record patient satisfaction. These three things help determine the value offered by the provider.

“Are providers doing things that have been correlated with high-value care, such as screening patients to assess whether they smoke and offering counseling to help them quit,” Argueso notes as an example. “That’s called a process measure because quitting smoking leads to better health outcomes.” 

Another example, Argueso continues, “is the rate of post-surgery infection at a surgical facility. Under value-based care, total payment for that surgery is tied to outcome measures like that.” 

Healthcare Outcomes Performance Company, or HOPCo, is a PE-backed orthopedic MSO and the country’s largest orthopedic value-based organization. HOPCo’s President and Chief Transformation Officer, Dr. Wael Barsoum, says the platform invested $150 million in infrastructure that is designed to take claims data and analyze it in a way that supports clinicians in their decision-making.

“The reality is that for value-based care to be successful, it has to rest on a simple foundation: when clinicians have the right tools and data, they’ll do the right thing for their patients,” Dr. Barsoum says.

“When we build clinically-integrated networks, we get data from our providers and information from the insurance company about what treatments a patient received, how much they cost, and whether there were complications,” Dr. Barsoum continues. “That gets really complex when you’re getting data on hundreds of thousands of lives every month. The average practitioner typically can’t manage that.  So they partner with HOPCo to help translate that data into actionable insights.”

Fish adds that when healthcare organizations consistently demonstrate that they offer high-value care, they may also experience financial benefits compared to providers with less impressive statistics. 

“It’s like when you’re buying a car. You have choices of perceived value and value is not just about cost,” Fish says, explaining that a buyer may be willing to pay more for a car with nicer features and an above-average safety record. “It’s comparable to what we’re trying to achieve in healthcare.”

Reimbursements: Bundled Payments Instead of Itemized Fees

Payers, including Medicare and private insurance companies, set prices prospectively. Government payers have established formulas they use to set rates and commercial payers negotiate contracts with health systems, private practices, and private equity-backed platforms. This system remains in place under value-based care but with one major difference: Payments are set as bundles rather than as individual line items.

Dr. Barsoum compares it to shopping at a grocery store versus eating at a restaurant. “At the store, each individual item that you need to cook a veggie burger is listed on the receipt. But at a restaurant, the bill just says ‘veggie burger’ without listing each ingredient.”

The logic is the same when applied to healthcare. Consider a patient who undergoes knee surgery. Under fee-for-service, there is a separate bill for each service involved with the procedure, including the surgeon’s fee, the anesthesiologist’s fee, the facility fee, the cost of the physical therapy, the implant itself, etc.

But in a value-based care model, there is an established rate that covers everything involved with the knee surgery. Rather than reimbursing providers for each line item, Medicare or a commercial payer “reimburses a single organization for that amount, and then that organization internally determines how payments are divided up amongst the different providers,” explains Argueso.

Payment Models Under Value-Based Care

The idea of value-based care began as pay-for-performance programs, Fish recalls. “In addition to an underlying fee for service payments, providers would get bonuses for quality and performance.” An example of this is the government’s Medicare Incentive Payment System.

“Value-based care is building on an existing infrastructure,” says Argueso. “While it may seem like a big leap from fee for service, the reality is the healthcare system has already been dipping its toes in that water and now we’re just accelerating those changes.”

Those changes now include three standard payment models:

#1. A hybrid of fee-for-service payments with an at-risk component

The hybrid model is most closely correlated with the pay-for-performance idea because the final rate fluctuates depending on the quality of care. For example, let’s say the cost of a procedure is normally $1,000 under a fee-for-service payment system. A hybrid structure can include upside and downside payment risk, so the provider will earn between $800 and $1,200 depending on quality measures.

“It’s still fee-for-service, but there is more accountability built in,” Argueso explains. “However, when you look at the literature, this structure doesn’t do much in terms of affecting costs without downside risk. Costs either stay neutral or even rise as providers do all they can to maximize the quality measures under upside-only pay-for-performance programs.”

According to the Commonwealth Fund, 56% of primary care physicians in the United States reported that their practices received revenue via a hybrid model as of 2022.

#2. Episode-based payments

Episodic payments are most commonly associated with surgical procedures, like the knee surgery example referenced above. Everything associated with the procedure is bundled into one payment, including supplies, medications, facility costs, provider fees, and post-surgical care.

If the total costs are lower than the agreed-upon bundled payment, then there is an opportunity for the healthcare organization to achieve significant savings. (The amount of these savings they can retain depends on the risk model; more on that in the next section).

“I perform hip replacements in the hospital or at a surgery center,” Dr. Barsoum offers as an example. “As long as it’s safe for the patient to have the procedure at the surgical center, I’ll do it there.” He says that in addition to patients generally feeling more comfortable in an outpatient setting, the organization “saves a lot of money in terms of the overall cost of that patient’s care” because procedures performed in hospitals are typically more expensive.

#3. Capitated payments 

Under a capitated payment model, healthcare organizations receive a regular, upfront payment for a given period. The payment structure from the payer is negotiated on a per-patient basis and physicians are not limited in the number of patients they can accept.

Imagine the yearly payment per patient is $15,000. If the total cost of care is less than $15,000 for the year, then providers and payers may share in those savings (again, more on risk models in the next section). 

Dr. Barsoum says the capitated model offers financial incentives to keep patients as healthy as possible in part because preventative measures cost less than surgical interventions. 

For example, to treat someone with chronic shoulder pain, a provider may recommend preventative physical therapy. “The goal is to make the shoulder healthier so that the patient never needs surgery,” Dr. Barsoum explains. “You might take on more of the expense upfront, but the overall cost of caring for that patient over the course of their lifetime goes down.”

The Commonwealth Fund survey says 32% of primary care physicians are currently involved in capitated or population-based payment models.

The Different Risk Models

One of the key differences between fee-for-service and value-based care, Skyles explains, is that the latter “requires providers to take some risk in the care that’s being offered and in the payment received for it.”

That risk is generally structured in two ways:

#1. Upside-only risk: Providers have the opportunity to earn additional revenue if they achieve cost-efficiency goals and exceed quality targets.

#2. Upside and downside risk: While providers have the opportunity to earn additional revenue, they may also lose revenue if the total cost of care exceeds the expected budget.

Why would a provider take downside risk? It’s the investment principle that the higher the risk, the greater the potential reward.

“In an upside-only payment model, the provider may receive a 5% bonus for reaching their goals,” Argueso says. “But if the provider also takes on downside risk, then the bonus from the payer could be 10%.” 

Shared savings models are another important part of the value-based care structure. The idea is that when providers achieve their efficiency goals, any excess savings are split between the healthcare organization and the payer. Shared savings may be incorporated into both upside-only and two-sided risk models.

When advising providers about how to enter the value-based care space, Fish says he usually recommends shared savings and upside-only risk as a starting point. “They may not be ready for global capitation because that puts all the risk on the provider,” he says. “The shared savings model can be an interim step as they build their value-based care infrastructure.”

That’s the approach Dr. Schneider says Homeward Health follows when the organization begins caring for a new patient population. She explains that during the first year of treating patients in an upstate Michigan county, for example, the insurance company paid Homeward Health a fee per patient without any risk dollars involved. 

The risk factor offers further incentive to keep patients as healthy as possible, explains Dr. Barsoum. “Let’s say we agree to provide musculoskeletal care for 100 patients at a rate of $250 per month per patient, and that fee covers every musculoskeletal problem they may have,” he says. “If a few patients need knee replacements, you’ll take losses on those specific patients. But if 95 patients avoid surgery, then the program is probably doing pretty well.”

However, if a larger number of patients than anticipated ultimately need knee surgeries, then the provider could take a loss depending on their agreed-upon risk structure. “I live in Florida, and if we get eight hurricanes in a year, that’s brutal for the property insurers,” Dr. Barsoum adds. “In a value-based care model, the practitioner is acting almost like the insurer, and there are risks involved in that.”

Another financial hurdle providers may deal with is how to incorporate new medications or procedures that weren’t part of the annual budget. “If you didn’t account for any of these new weight loss drugs that became popular this year, for example, that could cause you to potentially miss your budget,” Fish acknowledges. “But, maybe you were more efficient in other areas and therefore the net impact still comes in below the target.”

Despite the risk, Dr. Barsoum adds that HOPCo has seen cost savings since implementing more value-based care arrangements. “Equally important to the cost savings, we’ve seen significant improvements in the quality of care and in the patient experience. If you only improve cost, but quality decreases, then you haven’t improved the value equation.”

Clinical and Societal Factors Impact Reimbursement Rates

Value-based care models are designed to reward clinicians for taking on more complex or challenging cases. Reimbursement rates are adjusted based on the underlying risks of the patients. 

“The value-based care payment formula adjusts reimbursement rates higher for treating higher-risk clinical patients. The work involved in treating a patient who has diabetes and hypertension is usually more time-intensive than a patient without those conditions,” says Argueso. “Theoretically, this may also help reduce clinician burnout because it aligns the payment more with the workload a provider is taking on.” 

In addition, payers are increasingly incorporating social risk adjustments based on factors like a patient’s access to adequate housing, food, and transportation. 

“Our current system has varying healthcare coverage for different populations based on their ability to pay,” says Skyles. “Value-based care is an option being inserted into this very complex mix.”

Skyles says that while he’s unsure whether value-based care will resolve the country’s health equity issues, “it may provide a more rational alternative because what we’re currently doing is not working.” 

“Factors that impact health outcomes, such as your education, your income, and where you live, are really starting to get the attention of those who make decisions about how care is being provided,” Zigrang agrees. 

“I think we’re seeing CMS take the lead in figuring out how we can better compensate physicians who take on more challenging populations,” Zigrang continues. “It may even improve health equity.”

Dr. Schneider is optimistic that value-based care could make a difference in rural areas of the United States. The American Medical Association reported in 2020 that up to 82% of rural counties are “medically underserved.” 

It can be financially challenging for rural clinicians in the fee-for-service model, Dr. Schneider asserts. “There are just not enough patients in rural markets for doctors. They don’t get paid enough to stay afloat.” 

She says under the value-based care model, Homeward Health has had success with getting reimbursement rates adjusted based on clinical needs. “Data is very important. We may take on patients who haven’t seen a doctor in five years,” Dr. Schneider explains.

“Once we see a new patient, we may realize they have high blood pressure and depression. We gather that data and go back to the government and say, ‘You were going to pay us X amount to treat this person, but they have much greater needs and we want to ensure that we give them what they need and deserve.’”

What’s In It for Private Equity? 

Zigrang says that in his experience, private equity investors haven’t shown much interest in value-based care. He thinks that’s because value-based care is considered a “long play” that may not align with an investor’s goal of reselling within three to five years.

“As long as we’re still predominantly in a fee-for-service world,” says Zigrang, where total reimbursement is based on the number of services provided, “then I’m not so sure value-based care will be in the equation for private equity.” 

However, Argueso poses that private equity firms actually stand to benefit from investing in value-based care models. He argues that it could play an important role in their exit strategy.

“The biggest buyers of practices nowadays are organizations like Optum, combination entities like CVS and Aetna, and Walgreens and VillageMD,” Argueso explains. “Those entities are looking to buy practices that succeed in value-based care because a provider who is good at containing costs at a high value is exactly what an insurer is looking for.” 

In addition, in part because of the 2030 deadline set by CMS, the value-based care marketplace is projected to grow significantly in a short amount of time. 

Analysts at McKinsey & Company estimate that the value-based care market could double, from $500 billion in enterprise value in 2022, to $1 trillion by the end of the decade. In a December 2022 report, McKinsey also predicted that “a handful of national platforms could take the lead” in advancing value-based care, “with sharp competition among them.”

Erin Laviola is a writer for Levin Associates.

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