Understanding Finance for the Non‐Financial Manager
Michael A. Porembski Associate Dean Stony Brook University Medical Center
National Association of Public Hospitals 2008 Fellows’ Program – November 2008
Topics to be discussed:
•Financial Terms and Reports •Break Even Analyses •Costs & Cost Behavior •PQRI & P4P
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Sometimes it all depends on how you look at a problem……
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A patch of lily pads is growing in a lake where the patch doubles in size daily. If it takes 48 days to cover the entire lake, how long will it take to cover half the lake?
Problem #2
• Three NAPH Fellows decide to share a room to reduce expenses for their safety net hospitals. • Since these meetings only take place in the nicest of areas, the hotel clerk tells them the room will be $30 for the night. • Each of the Fellows takes $10 and hands it to the clerk and off they go to their suite.
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• About half an hour later, the clerk feels badly as he overcharged the Fellows since the real room rate in La Casa de Dump is only $25 per night. He takes five $1 bills from the register and heads to the room. • Once at the room, he apologizes for overcharging them and gives each Fellow back one dollar. He conveniently puts the remaining $2 in his pocket.
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Question
How much did the clerk originally charge for the room? $30 How much did each Fellow ultimately pay? $9 What is 9 times 3?
$27
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So the Fellows paid $27 and the clerk pocketed $2. Total $29
WHERE IS THE OTHER DOLLAR????
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Introduction to Financial Terms and Reports
Revenue versus Income
Revenue – revenue is loosely defined as money into an organization. Income – income is the money you have left over
after you pay your expenses (costs).
Introduction to: The World Famous Salami Sandwich Store
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We sell only one type of sandwich, Salami on Rye, but you can have it anyway you would like. Each sandwich sells for $4.00. Materials cost $2.00 per sandwich ($0.50 for bread, $0.50 for salami, $0.15 for mustard, and $0.85 for the world famous chef). If we sell 300 sandwiches, what is our revenue and what is our income?
Pretty simple so far…… But, as you might expect, healthcare cannot be so simple otherwise the folks in Finance would have nothing to do!!!
Gross Revenue vs. Net Revenue
Gross Revenue ‐ the sum of all charges generated for services provided. Net Revenue ‐ gross revenue less allowances for: ‐ Contractual Allowances ‐ Provision for Bad Debts ‐ Provisions for Charity Care AKA – “what we can actually eat”
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Income Statement ‐ Example
Gross Revenues Less: Contractual Allowances Bad Debt Charity Care Net Revenue Less: Operating Expenses Net Income ($zzz,zzz) $mmm,mmm ($yyy,yyy) ($rrr,rrr) ($ttt,ttt) $www,www $x,xxx,xxx
What have we left out?
‐ The $100,000 custodian ‐ An income statement shows the fiscal results from operations of a unit for a specific period of time. Example ‐ Income Statement for XYZ Hospital from 1/1/08 through 12/31/08
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Group Exercise
You’ve just been appointed as the Chief Financial Officer at Weechetum Hospital and Medical Center. Clearly you have no business in this position but your brother in law (former CEO) needs someone he can “trust” while he prepares the defense for his upcoming fraud trial. For your first assignment, he has requested you prepare an Income Statement for Weechetum for the past fiscal year (January 1 through December 31, 2007).
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You have been provided with the following information for Safety Net Memorial for calendar 2007:
2007 discharges Average length of stay Gross Revenues Average contractual adjustments Average Bad Debt Average Charity Care Chief Nursing Officer Average # of employees Operating Expenses for period Expected length of trial 23,254 17.9 days $42,000,000 30% 10% 10% Betty Ann 2,500 $23,500,000 17 months
Please work as a group to develop an income statement for 2007. Good Luck!
Balance Sheets
Definitions
Assets ‐ something that is owned by the organization
Liabilities ‐ something that is owed by the organization
Balance Sheets (cont.)
If assets (owned) are > liabilities (owed), that’s good! Owners’ Equity is POSITIVE If assets (owned) are < liabilities (owed), that’s bad! Owners’ Equity is NEGATIVE
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Balance Sheets (cont.)
Formula:
Assets = Liabilities + Owner’s Equity
IT MUST BE BALANCED!!!!
‐WE MEASURE THE ASSETS
‐WE MEASURE THE LIABILITIES ‐WE CALCULATE THE OWNER’S EQUITY TO BALANCE THE EQUATION
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Balance Sheet for XYZ Hospital and Medical Center
ASSETS Cash Accounts Receivables Inventory Plant, property, equipment Total Assets
LIABILITIES Accounts Payable Salaries Payable Accrued benefits not yet paid Long term debt (e.g. mortgages) Liabilities Owners Equity
Assets
=
Liabilities plus Owners’ Equity
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Balance Sheets – Time considerations
For income statements, we discovered there are needs to be a finite period of time for the statement: Example: Fiscal Year ending 12/31/2007 First quarter 2008 For Balance Sheets, the period is as of a moment in time. Frequently referred to as a snapshot in time. Why? Because immediately after the snapshot is taken, the picture changes!.
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Balance sheets of organizations should have the following format: Balance Sheet for Delvecchio University Medical Center As of November 11, 2008
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Balance Sheets ‐ Example
You’ve been a very successful, overworked, underpaid middle level manager in healthcare for more years than you would like to remember. Over time, you have amassed significant wealth and have many items that make you the envy of your friends and neighbors.
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Upon review of your personal finances, with your brother in law (free lancing while jury selection is in progress), you have identified the following in your portfolio:
Oceanfront villa Exotic car collection Helicopter NAPH Journal Collection Elvis 8 tracks Mortgage on villa Car loans Helicopter loan Journals/8 tracks $3,800,000 $1,000,000 $500,000 $10 $90 $4,000,000 $1,200,000 $490,000 Owned free and clear
Please prepare a balance sheet showing assets, liabilities, and your current net worth.
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Questions & Answers
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Resource Based Relative Value System (RBRVS) Relative Value Units (RVUs)
What the heck is an RVU??????
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Up until the mid 1980s, there were tremendous variations in what different physicians were paid for different services. Physicians were paid by Medicare under an arcane formula based on Usual and Customary (U&C) charges which resulted in sharp payment differences often within the same specialty in the same office! Each and every insurance company maintained their own services codes and payment levels.
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There was no simple way for anyone to measure the “value” of a contract as compared to another offer. Specialists were paid at inordinately high rates. In fact, contracts from those eras frequently had 3 different fee schedules : Surgeons Specialists General Practitioners Not infrequent to see 200‐250% variation in payment for same service!
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The Federal Government (HCFA for the older folks in the crowd; CMS for the young ones) commissioned a study out of the Harvard School of Public Health (William Hsiao, Ph.D.) to measure the value of physician services and construct a methodology to rationalize payments.
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The study concluded payment for physician services should be comprised of 3 key components: Physician Work Practice Expense Malpractice Expense
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RVUs‐ 1st Component Physician Work
Physician “work” constitutes approximately 52% of the total RVU for each service. “Work” covers the pre‐service, intra‐service, and post‐ service period. The identified components of work include: Physician time required for the service Technical skill and physical effort Mental effort and judgment Psychological stress for potential iatrogenic injuries associate with procedure.
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RVUs – 2nd Component Practice Expense
Practice expense, i.e. the costs associated with a particular service, on average constitute 44% of payment for services. Name 2 procedures very high in practice expense Name 2 procedures very low in practice expense
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RVUs – 3rd Component Malpractice Expense
Professional liability insurance constitutes, on average, 4% of the physician fee schedule amount. ‐Name two procedures with high malpractice risk. ‐Name two procedures with low malpractice risk.
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RVUs – Medicare Conversion Factor
Has anyone ever heard of the dreaded Medicare Conversion Factor? Medicare publishes (annually) a national Conversion Factor (CF) to develop the Medicare Fee Schedule. The 2008 Medicare Conversion Factor = $38.0870 By altering the Medicare Conversion Factor, Congress can assert some control over the total expenditures for physician services.
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RVUs – Medicare Conversion Factor Historical Rates
2000 2001 2002 2003 2004 2005 2006 2007 $36.6137 $38.2581 $36.1992 $36.7856 $37.3374 $37.8975 $37.8975 $37.8975
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RVUs – Conversion Factor 2008
In 2008, the Medicare Conversion Factor was scheduled to be decreased by 10.1% to $34.0682. Cut was overturned and an increase of 0.5% was implemented changing the Conversion Factor from $37.8975 to $38.0870.
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RVUs – Example
You go to your internist with for a simple ear infection. The physician codes the visit as a 99213 (middle of the road complexity). Payment is derived as follows: Work RVUs Practice Expense RVUs Total Conversion Factor Payment 0.92 0.72 1.67 RVU for CPT Code# 99213 $38.00 1.67 RVUs * 38.00 (CF) = $63.46
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Malpractice Expense RVUs 0.03
RVUs – Example #2
You go to the your internist for a simple ear infection, runny nose and cough. The physician codes the visit as a 99214 (more medically complicated than previous). Payment is derived as follows: Work RVUs Practice Expense RVUs Total Conversion Factor Payment 1.42 (up from 0.92) 1.06 (up from 0.72) 2.53 (up from 1.67) $38.00 2.53 * 38.00 = $96.14
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Malpractice Expense RVUs 0.05 (up from 0.03)
Medicare Relative Value Units - 2008
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RVU Payment Formula
Payment = (RVUwork + RVUpractice expense +RVUmalpractice) * Conversion Factor
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RVUs – Other Adjustments
Just when you thought this was easy, let’s all remember who is responsible for the system……. Gypsies! Would you rather rent an office in midtown Manhattan or Chantilly, Virginia? What about salaries for staff?
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RVUs – Other Adjustments (cont.)
The government recognized the different costs associated with practicing in different parts of the country. Each RVU weight is adjusted (up or down) by a conversion factor called Geographic Practice Cost Indices (GPCIs) or “gypsies”.
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RVUs – Almost done. Hang in there!
Question Almost everyone (academic institutions, Safety Net providers) today is measuring RVUS as a way to measure physician productivity. What, exactly, should we measure and why?
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Questions
1. Why are total RVUs not a good measurement of work?
2. Why is cash collection not a good proxy for work?
3. Why are charges not a good proxy for work?
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Question & Answers
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Costs and Cost Behavior
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Costs and Cost Behavior
There are several different types of costs in healthcare. These include: Direct Costs Indirect Costs
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Direct Costs
• Definition – costs that can be associated with a particular product or service and should be paid for by that unit of output. Examples
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Indirect Costs
• Definition – costs that cannot be associated with any particular product or service but must be paid for by a unit of output. Examples
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1. You go the local emergency department for a sprained finger. The doctor looks at you for four minutes. 2. The bill is $635. 3. Why?
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In addition to different types of costs, costs also behave in different ways: Fixed Costs Variable Costs Semi‐fixed Costs Semi‐variable Costs
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Fixed Costs
• Definition – Costs that are a function of time rather than a function of activity. • Alternatively, costs that do not change as volume increases or decreases. Examples and Graph
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Variable Costs
• Definition – Costs that are a function of volume, not time. • Alternatively, costs that increase as volume increases Examples and Graph
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Semi‐fixed Costs
• Definition – variable costs with a fixed component. Examples and Graph
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Semi‐ variable Costs
• Definition – fixed costs with a variable component. Examples and Graph
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Total cost in Healthcare
• Total costs = Fixed cost + variable cost Examples & Graph
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Questions & Answers
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Break Even Analysis
Break Even Analysis
A very common question every healthcare executive faces on a regular basis – Given a particular set of assumptions about revenue (money in) and expenses (money out), how many of a particular procedure do we need to perform to break even, i.e. make no money but lose none either?
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Revenue Graph
If each unit of service produces $x of net revenue….. Example and Graph
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Total Costs Graph
All services have some fixed costs and some variable costs associated with them. The graph of the “total costs” is a sum of fixed plus variable for a certain level of production. Total Costs = Fixed Costs + Variable Costs Example and Graph
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Break Even Graph
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Back to the store…..
If our monthly rent is $100 and sandwiches sell for $4 each and cost us $2 each make, how many sandwiches do we need to sell to break even? Please calculate, graph, and prove your answer.
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Break Even Formula
BEPunits = Fixed Costs Runit – VCunit
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Group Exercise
Your Chief of Surgery just attended a meeting and is excited about the possibility of your hospital being the first in town to provide left‐handed, reverse sigmoenoduoectomies on an outpatient basis. The sales rep at the convention states every insurance company will pay “whatever you ask” for the service and the technology is “really cool but I don’t understand it all……”
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Group Exercise (cont.)
The folks in Finance have worked the numbers and provided the following data: Gross Revenue Net Revenue Facility costs/year Supplies/case Staff/year Cases per year anticipated Interest Rate $3,000 per case $800 per case $300,000 $200 $200,000 250 6.25%
How many of these procedures do you need to do annually to break even? Please graph and prove your results.
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Contribution Margin
Contribution Margin – contribution margin may be defined as the revenue associated with a service less the variable and direct costs associated with that service. A positive contribution margin is usually considered good since it the excess direct costs make a contribution towards paying the indirect costs. Example Your organization decides to add outpatient psychotherapy for administrative personnel. Revenue per unit of service is expected to be $64; direct costs are $54 and indirect costs are $15. Is the service profitable? Does it have a positive or negative contribution margin?
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Capitation
Definition – a fee paid, in advance, for services provided to a patient. Fee is unchanged regardless of the utilization. Usually paid on a monthly basis, hence “pmpm” (per member, per month” Who takes the risk?
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Risk Transfer
Under a capitated system, the risk is transferred from the insurance company (those with reserves, computers, actuaries, etc.) to the provider of service!!!
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Graph Break Even Under Capitation
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Questions & Answers
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P4P Pay for Performance Value Based Purchasing
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Are we getting what we are paying for?
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P.Q.R.I.
Physician Quality Reporting Initiative
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Components of the program:
• Voluntary (for now!) quality reporting program •Professionals report on a designated set of quality measures •Eligible for bonus payment of up to 1.5% of covered services
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P.Q.R.I. (cont.)
In 2007, providers were asked to self report on 74 unique measures of quality Measures were selected as those “clinical conditions that are routinely represented on the Medicare fee for service claims” Examples of report focus include osteoarthritis, back pain, back pain, etc. Modifiers are added to claims for services already being sent to Medicare
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PQRI – Results for 2007
• Over 56,700 (of ~980,000 eligible) professionals participated in the program • $36 million in bonuses paid • Average bonus – just over $600
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e‐Prescribing
• Medicare initiative included for 2009 • Improve safety and efficiency • Reduce medication errors • Lower “out of pocket” expenses due to better communication with pharmacies
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e‐Prescribing (cont.)
• Reports to Medicare as a modifier on charge for service • Participating physicians eligible for up to 2.0% incentive payment
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CMS – Hospital Quality Initiative
Initial set of 10 quality measures which link to the payments hospitals receive for each discharge Hospitals that submit required data receive full payment for Medicare DRGs NOTE: NO BONUSES HERE! 98.3% of eligible hospitals are participating
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CMS – Premier Hospital Quality Incentive Demonstration
Demonstration project is to improve inpatient quality for Medicare beneficiaries by giving financial incentives to almost 300 hospitals for high quality Data collection on 34 quality measures related to 5 clinical conditions Hospital specific performance available on CMS website
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CMS – Premier Hospital Quality Incentive Demonstration (cont.)
Hospitals scoring in top 10% for given sets of measures will receive a 2% bonus payment on top of standard DRG payments Hospitals scoring in next 10% will receive 1% bonuses. In third year, those hospitals that do not meet a predetermined threshold score on quality measures will be subject to reductions in payment!!!!
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Hospital Out Patient Departments (OPDs)
Released October 30, 2008: CMS Announces Plans to Bolster Quality of Care in Hospital Outpatient Departments Release states: ‘CMS reiterates its commitment to implementing Value Based Purchasing (VBP) initiatives across the continuum of beneficiaries’ care and transforming Medicare from a passive payer to a prudent purchaser of health care’
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Hospital Out Patient Departments (OPDs)
Medicare plans to: ‘implement a policy that would not pay hospitals for care related to illness or injuries acquired by the patient during a hospital outpatient encounter’
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Hospital Out Patient Departments (OPDs)
Rule also adds: Conditions for Coverage (CfCs) – New rules to ensure centers are adequately staffed and equipped to perform a broader range of services.
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Hospital Out Patient Departments (OPDs)
So what happens if I don’t wanna play nicely in the sandbox? Current rule requires the OPPS inflation update be reduced by 2.0 percent for certain hospitals that do not meet quality reporting requirements.
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Hospital Out Patient Departments (OPDs)
Newly adopted measures (4) for imaging efficiency Increased number of measures to receive full CY 2010 update from 7 to 10 CMS also considering an additional 18 quality measures for future years.
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Other CMS Initiatives
Physician Group Practice Demonstration – 10 large group (200+ physicians) – seeks to improve coordination between Part A and Part B services and improve quality. Medicare Care Management Performance Demonstration – 3 year pay for performance to promote the use of information technology (HIM) and improve the quality of care for chronically ill. Medicare Health Care Quality Demonstration – 5 year program using evidence based care and best practice guidelines. Encourages the use of ethnic and culturally appropriate care.
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CMS Chronic Care Initiatives
Chronic Care Improvement Program ESRD Disease Management Demonstration Disease Mgmt. for Severely Chronically Ill Medicare Beneficiaries Disease Mgmt. for Chronically Ill Dual Eligibles Care Management for High Cost Beneficiaries
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Okay, okay, enough about Medicare. What are the real insurance companies doing?
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How about Medicaid? Are they in this as well?
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Does it work?
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Medicaid Spending Projections
Released October 17, 2008 Medicaid Spending Projected to Rise Much Faster Than the Economy Cumulative Spending on Medicaid Benefits Projected to Reach $4.9 Trillion Over the Next 10 Years! By 2017, Medicaid expenditures are expected to be 3% of the Gross Domestic Product (GDP). Medicare + Medicaid expenditures are expected to be 6.9% of GDP by 2017!
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Questions & Answers
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