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    Greg Davidson, MBA, FACMPE

    Hospitals and health systems employing physicians is a well-documented strategy designed to align the incentives between both parties such that each can thrive in a dynamic, highly competitive marketplace. Unlike in the 1990s when the motivation for employment was generating more volume in a managed care marketplace, the current trend of physician employment is sparked by the shift toward payment for value and population health management.1 

    In 2018, physician owners of a practice (45.9%) were eclipsed by employed doctors (47.4%), per the American Medical Association’s benchmark survey.2 Hospitals and health systems will continue to look for ways to align with physicians in a value-based market. Even if a health system has enough physician practices, it can still better organize the ones involved.3 

    Regardless of whether a hospital or health system is actively engaged in physician employment, leadership must determine the strategic objective it wants to achieve and evaluate how a partnership with physicians helps them achieve it.4 Hospital administration may believe that success in a value-based, population health-oriented environment depends on creating new or enhancing existing physician alignment initiatives. This is a direct response to many of the questions facing hospitals and health systems, including:
    • How does the hospital differentiate itself from its competitors in its market?
    • How does the hospital improve physician engagement?
    • How does the hospital create or improve referral patterns?
    • How does the hospital enhance revenue in an environment moving to a value-based reimbursement system?

    Creating a clinic, organized as a hospital outpatient department (HOPD), is a strategy for hospitals to respond to these questions. While deploying employed physicians is an option, there are other options hospitals can pursue. Choosing the best alternative depends, in large part, on the compensation model and who controls the revenue cycle. 

    For example, the hospital and physician could enter into a professional services agreement (PSA) in which physicians maintain their professional independence, but the hospital controls both the facility and the revenue cycle. The physicians are paid based on productivity such as an agreed upon amount per work RVU (wRVU) regardless of the hospital’s collections. 

    A second option is where the hospital engages in a contract with the physician to provide services in the clinic and agrees to subsidize the physician for a maximum amount per full-time-equivalent (FTE). The physicians maintain their professional independence and control the billing component of the revenue cycle. The physicians subtract their collections from their expenses each month, and the hospital pays the difference up to an agreed upon maximum per FTE.

    While both these options are viable, another option is a full employment model in which the hospital employs the physicians for an agreed upon salary and the hospital controls the facility and the revenue cycle. Other credentialed physicians on the medical staff could have access to the clinic, but would likely have to negotiate a separate financial arrangement with the hospital. This full employment strategy aligns the incentives for both parties into a mutually beneficial arrangement. The decision to pursue an HOPD staffed by employed physicians within a value-based, population health strategy launches a team to examine the feasibility of an HOPD and present an operational plan.

    Hospital and health system strategy

    Besides creating an HOPD to treat patients, there are many positive outcomes material to both the cultural and the financial performance of the facility.

    1. Employed physicians working in an HOPD improve market share for the entire service line. Employed physicians can be the cornerstone of a new service line or central to rebuilding a struggling service line. The physicians may have a mature private practice, and purchasing that practice will infuse the hospital with many new patients. In addition, they create new marketing opportunities to recruit additional patients into the system and create inroads into untapped philanthropy for service lines that may be appealing to donors.
    2. Employed physicians have higher engagement with the hospital. Employed physicians have the opportunity to influence large organizations that have great impact in the community.5 In addition, physicians in leadership roles can provide invaluable input into improving the patient experience, reducing length of stay and readmissions, improving throughput in the emergency department, and improving a variety of other quality indicators key to a value-based reimbursement system.
    3. Employed physicians create new and stabilize existing referral patterns. The transition from inpatient care to ambulatory care should be seamless for the patient. Having employed physicians in targeted specialties allows hospital nurses, social workers and other case management professionals a greater ability to ensure a patient will not be lost to follow-up care because they can refer them directly to the HOPD for an appointment shortly after discharge. A physician with strong ties to the hospital is likely to have greater access to information about the patient and can treat him or her effectively and promptly. In addition, as physicians continue to maintain their practice with their normal cadre of patients, those patients generate procedural referrals and revenue for the hospital departments.
    4. An HOPD creates savings for the hospital through the 340B drug program. Congressional action in 1992 created the 340B Drug Pricing Program that places limits on prices of drugs purchased by covered entities. The 340B program enables covered entities, such as non-profit hospitals that provide a disproportionate share of charity care, to purchase drugs from manufacturers at greatly reduced prices. Pharmaceutical companies agree to provide discounts on outpatient drugs to safety-net hospitals, clinics and health centers as a condition for participating in the Medicare and Medicaid Part B markets.6 Hospitals can participate in the 340B program if they meet the following requirements:
      • Are owned or operated by a unit of state or local government; are a public or private non-profit corporation, which has been formally granted governmental powers by a unit of state or local government; or are a private non-profit hospital with a contract with a state or local government to provide healthcare services to low-income individuals who are not entitled to benefits under Medicare or Medicaid.
      • Must have a sufficient Medicare disproportionate share hospital (DSH) adjustment percentage. DSHs must have an adjustment percentage greater than 11.75% for the most recent cost reporting period ending before the calendar quarter involved. The magnitude of a DSH adjustment depends on the number of inpatient days of its Medicaid and Supplemental Security Income (SSI) patients.
      • DSHs must also sign a written certification stating that they will not obtain covered outpatient drugs through a group purchasing organization or other group purchasing arrangement.7
        • In many cases, hospitals that serve a disproportionate share of low-income patients use the savings to cover part of the losses resulting from low payments by state Medicaid programs, thus allowing them to maintain or expand critical services to underserved patients.8 The Government Accountability Office (GAO) found that 340B DSHs provide 63% more charity care than non-340B hospitals and operate with margins that are 31% lower than non-340B hospitals.9 Creating a hospital outpatient clinic allows a hospital that serves a significant number of low-income patients the opportunity to realize savings from the 340B program. Specialties and conditions that warrant frequent, expensive medications — such as hepatology, cardiology and HIV — could potentially save significant amounts. Hospitals can use these savings to fund the clinic operation and other programs that treat low-income patients.
    5. Create new revenue opportunities through provider-based billing and downstream procedure revenue. Hospitals can gain additional Medicare revenue using a different payment methodology based on its site of service. Hospital procedures performed in a hospital outpatient department are paid on the Outpatient Prospective Payment System (OPPS), while freestanding clinics are paid on the Medicare Physician Fee Schedule (PFS). HOPD services are billed with a place of service code 22, which has been revised to be defined as “On Campus-Outpatient Hospital.” This is defined as a portion of the hospital’s main campus, which provides diagnostic, therapeutic (surgical and non-surgical) and rehabilitation services to sick or injured persons who do not require hospitalization. Claims for covered services rendered in an on-campus outpatient hospital setting, if payable by Medicare, are paid at the facility rate. Therefore, hospital-based office visits receive higher Medicare reimbursement than visits in a private medical office. For example, a mid-level new patient E/M code 99203 is reimbursable from Medicare for both professional services and for the facility using code G0463. Medicaid also reimburses for both professional services and the facility. A few commercial plans will pay for both the professional services and the facility for E/M services, but many will only pay the professional component regardless of the setting.

    HOPD staff should be prepared to explain to patients that they will receive two bills after care in an HOPD. Patients should understand that they will receive a bill from their physician (which covers the physician time, interpretation of reports and test results) and a bill from the facility covering the treatment room, the supplies and medications received during the visit. It is also important to explain to Medicare patients that after Medicare pays its portion, any remaining professional charges and facility charges will be billed to secondary payers. If no secondary payer exists, the patient will be responsible for any coinsurance responsibility.

    Independent physicians, who have medical staff privileges to practice in the HOPD, may see patients in the clinic, but without an employment agreement in place, the facility loses the benefit of provider-based billing. When a non-employed physician treats patients in the HOPD, the physician will bill for the professional service and be paid according to the PFS or according to the global rate negotiated from commercial plans. There is no corresponding office visit reimbursement to the facility by the payer. Therefore, to capture payment for the facility overhead, hospitals should negotiate a fair market value (FMV) daily rate from the physician to offset these expenses.

    Medicare is also lowering the HOPD payments, most recently as part of the Bipartisan Budget Act of 2015. Off-campus clinics more than 250 yards from the hospital campus will not be paid via the OPPS methodology, but instead by the Medicare PFS.10 In addition, the Centers for Medicare & Medicaid Services (CMS) made additional reimbursement reductions effective Jan. 1, 2019, for off-campus outpatient clinics.11 In light of these events, hospitals should consider developing new hospital-owned clinics on campus so that they are not affected by these reductions. 

    In addition to both professional and facility revenue from an on-campus hospital clinic, hospitals can also expect to generate additional downstream revenue in other areas of the hospital. According to the Merritt Hawkins’ 2019 Physician Inpatient/Outpatient Revenue Survey, the average annual net revenue generated across 19 specialties in hospitals through admission, procedures, prescriptions, treatments and tests is $2,378,727 — an increase of 52% compared to the 2016 survey.12 The net revenue for these services for primary care physicians (PCPs) was $2,133,273, and the net revenue for these services for specialty physicians was $2,446,429; both were an increase of 52% compared to 2016 and the highest amount recorded in the survey’s six-year history.13 The survey report noted that employed physicians may direct more hospital admissions to their hospital or health system than they might if operating independently. Though this behavior was not apparent in the 2016 survey, it may be one reason for the high revenue figures generated in the 2019 survey.14

    Another cause for the higher revenues may be linked to the growing volume and cost of hospital services. Although the number of annual admissions since 1975 is flat, the overall number of hospitals has declined, indicating that admissions per hospital have increased. In addition, outpatient visits have more than tripled since 1975 as more services are moved to outpatient settings. The cost per outpatient visit has also increased from $275 in 1975 to $500 in 2019 adjusting for inflation.15

    An HOPD creates an avenue for this downstream revenue because it provides greater coordination of care. Another benefit is that physicians can share information via a unified EHR. This enhanced communication can potentially reduce re-admissions and unnecessary emergency department visits.

    Creating an HOPD is not without risks to the hospital. First, there are significant additional operational costs associated with employing physicians. These costs include physician and office staff compensation, IT infrastructure, marketing expenses and other clinic operational costs. The sum of all these operational expenses may be higher than expected. In addition, volume estimates and forecasted downstream hospital admissions and procedures may not meet expectations. The forecasted volume and financial performance must include an agreed upon “ramp-up” period to allow referral patterns and operational processes to stabilize. The financial performance of the HOPD must be monitored closely and operational changes may be necessary in the short term to ensure long-term viability.

    Finally, the future of the 340B drug savings program is unclear. It is likely that an on-campus HOPD can still help a hospital reap savings from drug manufacturers via the 340B program, but it must demonstrate how the savings provides value to low-income patients. Employing a physician or a group must be part of an overall hospital strategy. The hospital must communicate to its medical staff that employing either PCPs or certain specialties is part of an overall strategy to compete in a highly competitive, value-based market. It must articulate the quality of care benefits as well as the financial benefits to the organization so that members of the medical staff feel engaged in the overall strategy.

    Merging strategies into a mutualy beneficial partnership

    Hospitals benefit from opening an HOPD with employed physicians. Physicians benefit from being employed in an HOPD. If both the hospital and the physician strategies align, then they should establish a unified planning process to create a successful HOPD. This process should follow these steps:

    Step 1. Establish a project management team co-led by a facility administration representative and a physician from the group. The project leaders should then nominate additional members to the team who bring the requisite skills to the project. Such members would include multi-disciplinary professionals from both the hospital and the physician practice, including, but not limited to, nursing, finance, information technology, supply chain, revenue cycle, medical records, human resources and clinical operations.

    Step 2. Create a vision for the clinic. The group must determine the programmatic scope of services for the clinic. These are crucial decisions that will create the assumptions for the financial analysis. Included among the strategic decisions are:

    • What specific problem will the clinic set out to solve?
    • Who is the target audience?
    • How will the clinic measure success?
    • Will the clinic embrace a specific care philosophy?
    • What specific clinical services will be provided?
    • What practitioner types will be provided?

    Step 3. Create a marketing plan for the clinic. Based on the strategic decisions, the group should engage the facility’s marketing team to create a marketing plan for the clinic. The marketing plan will focus on all the ways the clinic differentiates itself from other services in the market, including the quality of care, the value of the services and the unique patient experience of coming to the clinic. The plan will leverage the clinic’s connection to the facility and highlight ways patients can receive a full scope of care in a unified healthcare delivery system. The plan may include such specific initiatives as website content, social media outreach, targeted outreach to referring physicians and community outreach to various groups.

    Step 4. Begin to build the financial model based on these assumptions. In addition to the strategic assumptions, the group will provide direction on patient clinic volume, the volume of hospital admission and procedures, and the mix of billable procedures. The financial professional will apply payer mix assumptions for both the clinic and the ancillary hospital clinical departments, and the collection rate per procedure to generate the expected revenue. In addition, the pro forma should include:

    • Additional savings provided by the 340B drug program
    • Labor expenses as determined by the volume
    • Capital expenses
    • Marketing expenses
    • Medical supply and office supply expenses
    • Other operational expenses.

    Once the pro forma is approved, the group can initiate the process for employing the physicians.

    In many states, employing physicians is a straightforward process, similar to hiring other staff. However, California, Texas, Ohio, Colorado, Iowa, Illinois, New York and New Jersey prohibit hospitals from employing physicians to provide outpatient services. These states have enacted a law forbidding what is referred to as the corporate practice of medicine. The law assumes that individuals and not corporations should be licensed to practice medicine, because there is divided loyalty between the interests of the corporation and the needs of the patient.16 However, the states with corporate practice of medicine laws permit the formation and licensure of businesses established as professional service corporations to practice medicine, but only if they are controlled by physicians.17 A hospital operating in these states must create a professional services corporation, led by a physician, to employ physicians seeing patients in an HOPD.

    If the hospital is operating in a corporate medicine state, the hospital must establish a PSA with the professional services corporation. 
    This agreement outlines the following general obligations of the physician, including:

    1. The professional services to be rendered by the physician
    2. The documentation of those professional services
    3. The reporting relationship between physician and hospital
    4. The physician’s certification requirements and medical staff membership
    5. Compliance with applicable laws and policies
    6. Quality standards
    7. Performance metrics
    8. Professional liability insurance.

    In addition, it outlines the general obligations of the hospital, including:

    1. Providing staff support, supplies and equipment
    2. Providing treatment and exam space
    3. The financial arrangements, including base salary, leadership stipend, call pay or other administrative payments.

    Finally, it includes other general provisions:

    1. Ownership of records
    2. Term and termination
    3. Confidentiality
    4. Patient complaints
    5. Severability
    6. Governing venue.

    A fully executed employment agreement or a PSA officially launches the project. The project team must then agree to a timeline with established milestones on the path to clinic opening, which must be approved by senior leadership of both the hospital and the physician group.

    A final step before the clinic opens is agreement by all parties on the clinic goals. These goals should be SMART goals: specific, measurable, achievable, relevant and time-bound. Examples of such goals may include:

    • Patient volume will be within 90% of the pro forma after the first year.
    • Net income will be within 90% of the pro forma after the first year.
    • A1c levels will be at a target level within the first year.
    • Established patients can receive an appointment within 48 hours. New patients can receive an appointment within seven days.
    • Patient clinic experience ratings of “very good” or “excellent” should total 90% or higher.

    Summary of successful strategic and operational planning

    Hospitals and physicians have always partnered at various levels to thrive in the marketplace. These partnerships have evolved over decades as market forces have demanded new, creative ways to survive. Hospitals employing physicians is not a new practice, but it continues to be refined as both parties gain experience with this relationship. 

    Correctly executed, establishing a hospital outpatient clinic with employed physicians can be a viable way for hospitals to increase revenue, engage physicians and create a market-differentiating service line. Physicians also benefit from this arrangement by gaining a stable income and a chance to influence the hospital through leadership positions. There are many strategic steps and operational milestones that must be achieved to successfully open a hospital outpatient clinic. Keep in mind the six guiding principles driving the planning process:

    1. Clearly define the strategic incentives for the hospital and the physician, including the value of the partnership.
    2. Identify and mitigate the risks of a hospital system and physician partnership.
    3. Create a well-vetted, clearly understood and universally adopted pro forma.
    4. Establish a realistic timeline to achieve all the operational milestones prior to clinic opening.
    5. Establish ongoing clinic SMART goals.
    6. Measure outcomes within a value-based purchasing environment and establish a culture of continuous quality improvement.

    The first three steps will get the parties to “sign here.” The next step will get the parties to complete the many operational milestones necessary to “open for business” as scheduled. The final two steps will help the parties stay in business for the long term. 


    1. Aston G. “Hospitals Wise Up When Adding Physician Practices.” Hospital and Health Networks. March 2013; 87(3):34-36.
    2. Kane CK. “Policy Research Perspectives: Updated Data on Physician Practice Arrangements: For the First Time, Fewer Physicians Are Owners Than Employees.” AMA. 2019. Available from:
    3. Terry KJ. “7 Options for Physicians Wary of Employment.” Medscape Business of Medicine. Jan. 13, 2016. Available from:
    4. Aston.
    5. Singleton T, Miller P. “The Physician Employment Trend: What You Need to Know.” Family Practice Management, 22(4), 11-15. Available from:
    6. Health Resources and Services Administration. Sec. 340B of the Public Health Service Act. Washington, D.C. Available from:
    7. Ibid.
    8. 340B Coalition. Evaluating 340B Hospital Savings and Their Use in Serving Low-Income and Rural Patients. Available from:
    9. U.S. Government Accountability Office. Drug Discount Program: Characteristics of Hospitals Participating and Not Participating in the 340B Program. June 18, 2018. Available from:
    10. Dyrda L. “12 Things to Know About Site-Neutral Payments. Becker’s Hospital Review. Feb. 9, 2017. Available from:
    11. Vernaglia LW, Shankar A. “Off Campus Hospital Outpatient Departments Take Anther Hit in CMS Final Rule.” Health Care Law Today. Nov. 14, 2018. Available from:
    12. Merritt Hawkins. 2019 Physician Inpatient/Outpatient Revenue Survey. 2019. Available from: 
    13. Ibid.
    14. Ibid.
    15. Ibid.
    16. Kaiser C, Friedlander M. Corporate Practice of Medicine. Available from:
    17. Ibid.

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