Preferred Provider Organizations Gain : Companies Shift to Alternative Health Plans to Cut Costs

After years of unsuccessfully goading hospitals to hold down price increases, Goodyear Tire & Rubber decided to take matters into its own hands: Last August, the company rolled up its sleeves and opened its own medical center to treat employees.

Located in Lawton, Okla., the medical center “is already a financial success, and we’re looking into applying the concept at other manufacturing locations,” said Robert E. Mercer, chairman of Goodyear.

Southern California Edison has launched an even more extensive attack on health-care costs. Last year it terminated its health insurance contract and assumed the task of collecting employee insurance premiums and paying medical claims directly. The utility company also operates nine medical clinics and owns its own pharmacy.

As the economy has improved, companies such as Goodyear and Southern California Edison are using unusual and even daring techniques to combat one of the vestiges of the inflation that ravaged the 1970s: rising health-care costs. They are supporting the formation of lower cost health-care plans, such as health maintenance organizations and preferred provider organizations, and encouraging their employees to join them.

$400-Billion-a-Year Industry

They have been driven to such ends by a health-care industry that defies the supply-and-demand market pressures that control much of the rest of the economy.

Although the Federal Reserve Board’s tight money policies have sharply cut the overall inflation rate in the last six years, those moves have had a less dramatic effect on the $400-billion-a-year health-care industry, experts say.

Business continues to be especially hard hit, with hospital insurance premiums increasing to 9.1% of pretax corporate profits in 1983 from 3% in 1970, according to the Bureau of Labor Statistics.

“Supply and demand works fine when the users are also bearing the cost of the service being provided,” said Chris Frenze, an economist with the Joint Economic Committee of Congress. “But if you have a third party (insurance company) making payments, the principle doesn’t work as well.

If you are a hypochondriac and it doesn’t cost you anything for a checkup, you are going to go to the doctor every day. Whereas if you had to pay $25, you might think twice about going in as often,” he added.

Although the rise of medical costs has abated in recent months--helped in part by controls on government-managed health-care entitlement programs--most experts expect those costs to resume their torrid climb.

“After we emerge from this (current) period, we have to be willing as a nation to make some hard choices about restricting access or the quality of health care,” said Jack Meyer, resident fellow in American Enterprise Institute in Washington and former assistant director of the federal Wage Price Council.

“In the long term--10, 20 and 30 years down the road--we have some powerful forces pushing up the cost of health care,” said Meyer, citing the aging baby boom generation, more expensive medical technology and the growth of health insurance.

$19-Billion Increase

Some businesses already are trying to counter those forces and control the rising tab for employee health insurance premiums, which increased to $101 billion in 1984 from $82 billion in 1983, according to the U.S. Chamber of Commerce.

At the Goodyear plant in Lawton, for example, the 1,726 employees have a choice of using the company-owned pharmacy and medical center or going to more costly outside physicians and drug stores.

Equipped and renovated at a cost of $100,000, Goodyear’s center provides a number of non-critical medical services almost at cost. A blood test that costs $25 at local doctors’ offices, for example, costs $3.27 at the Goodyear center. Pap smears, X-rays and minor surgeries are also much cheaper there.

“There is no middleman, so to speak, so we are able to provide services at much lower cost,” said Frank Armstrong manager of corporate health services.

Of course, it’s not quite that simple.

The medical center’s costs are lower primarily because it doesn’t perform major surgery and therefore doesn’t maintain the expensive assortment of medical equipment required by full-fledged hospitals. Its staff of 16 doctors, who are paid by a company that manages the medical center, agree to control their costs. But the center does provide a powerful incentive for Goodyear workers in Lawton who are covered by a company health insurance plan that, among other things, pays for physician office visits and prescriptions filled at the medical center--an offer that saved Goodyear $42,000 on drug prescriptions in the first six months of the pharmacy’s operation.

Workers who opt to go to other physicians and other pharmacies must pay a portion of the physician’s fees and drug costs.

Southern California Edison is even more extensively involved in running health-care-related businesses.

Last year the utility ended its contract with an insurance company that administered health insurance claims for the dependents of Southern California Edison’s 21,000 active and retired employees and replaced it with an in-house staff of 58 people who now review and pay claims for all beneficiaries.

Operates Nine Clinics, Pharmacy

The company also owns and operates nine clinics and a pharmacy that dispenses 500 prescriptions a day--a large portion of which are delivered via interoffice mail or United Parcel Service.

“I guess people would ask what are we doing in the health-care business if our primary purpose is to generate and sell electricity,” said Kenneth W. Aaron, manager of health cost containment. “The answer is that it is cost effective and we are able to . . . give our employees an appropriate level of care at a reasonable price.”

A spokesman for the labor union that represents about 5,000 of Southern California Edison’s workers said that his group is generally pleased with the utility’s medical plan but that it is troubled by the company’s push to make workers shoulder an even larger share of their health-care expenses.

“We have been able to cooperate and help cut these health-care costs, but it has not been without some pain,” said Willie Stewart, assistant business manager for Local 47 of the International Brotherhood of Electrical Workers in Diamond Bar. “With Southern California Edison operating (its own clinics), the fat has long since been trimmed off . . . (yet) they seem to want to shift more costs onto the workers. Cost shifting and cost cutting are one in the same to them.”

Stewart added that, although the on-site clinics may produce cost savings for the company, they theoretically allow the utility access to employee medical records and create inconvenience for workers who can’t be treated by their limited resources.

“What generally happens is that those workers who have problems that go beyond the clinics’ scope of treatment will be referred to an (outside) doctor,” he said. The company has access to workers’ medical information that it might not otherwise have if the worker had consulted an outside doctor initially, Stewart added.

The company-owned clinics have attracted notice from other companies, Southern California Edison’s Aaron said.

But for many smaller concerns and even some large ones, operating a medical clinic to cut costs is impractical. For these companies, the chief weapon being employed to fight rising health-care costs is the preferred provider organization.

Solicits Bids From Hospitals

PPOs are companies that rate doctors and hospitals and negotiate discounted fee schedules with the “preferred providers” in return for quick payment and a lion’s share of the companies’ business.

The underwriter solicits bids from hospitals for services. Once a price is agreed upon, the company sends its patients to that hospital, which is then obliged to supply services at the agreed-upon price. The hospital must swallow any losses that occur because of rising costs.

“Of all the options, I think PPOs have the most effect on controlling increases in health-care costs,” said Rita Ricardo-Campbell, a senior fellow at the Hoover Institution and author of a book on the economics and politics of health care. The negotiation of PPO contracts “keeps price increases restrained.”

California touched off an avalanche of PPO growth in July, 1982. That’s when it adopted a measure giving private groups, such as insurance companies, the right to contract for medical services--just as Medicare, Medicaid and MediCal already had--to keep costs low for their beneficiaries. The concept has now caught on in 36 other states and the District of Columbia, although California, with 96 PPOs, has more than three times as many as any other state.

Nationwide, as of June 1, there were 334 PPOs, compared to 68 in 1980, according to the American Medical Care and Review Assn. in Bethesda, Md.

“Our business is health-care cost containment,” said W. Mark Jasper, president of Benefit Panel Services, one of the nation’s only privately held, for-profit PPOs. He said his clients ordinarily can expect a net savings of 10% “compared to their prior year’s experience. On the hospital side (alone) we have saved as much as 40%,” said Jasper, whose plan is marketed by Fireman’s Fund, Massachusetts Mutual and Pacific Mutual insurance companies.

Although the 3-year-old company has yet to turn a profit, it generated $1 million in revenue last year while serving 800 employers. Jasper expects the company to turn a profit this year.

Most analysts predict that, by the end of the decade, prepaid health plans such as HMOs or PPOs will become the dominant form of health-care insurance, supplanting the indemnity or fee-for-service system that critics say has helped fuel cost increases during the last 20 years.

In the last four years, the annual percentage increases in medical costs have been cut in half--slowing to 6.1% in 1984 from a high of 12.1% in 1981, according to the U.S. Department of Labor. Still, health-care cost increases remain 50% higher than the overall increase in the cost of living, which slowed to 4% last year from 8.9% in 1981.

Government Will Face Rising Costs

What’s more, the cutbacks in government programs have resulted in a shifting of about $10 billion a year in health-care expenses to the private sector. That’s because doctors and hospitals have been charging private insurers more money to compensate for the discounts won by Medicare, Medicaid and MediCal, said Jan Peter Ozga, director of health care for the U.S. Chamber of Commerce.

And by the end of the next decade, many experts expect that even the government won’t be able to escape higher bills as health-care costs resume the rapid increases that marked the 1970s.

It was during the double-digit price hikes of the 1970s that HMOs--physician groups that deliver prepaid medical services--became the fastest-growing segment among the alternative health plans. More recently, they’ve grown less attractive to business groups, which complain that excessive federal regulations have made HMOs too expensive. PPOs, on the other hand, so far have escaped extensive governmental regulation.

Rick Lee, vice president of policy for the Washington Business Group on Health, says HMOs have been earning “windfall profits” because their rates are based not on the insured company’s work force but rather on what it might cost to provide health care to an entire community or a specific segment of that community, such as 18- to 45-year-old men.

What’s more, he said, because HMO premiums are often lower than indemnity plans, they tend to siphon off younger, healthier employees, resulting in higher premiums for the older employees who remain in the company’s indemnity pool.

J. C. Penney, which contracts with 125 HMOs across the country, found that, of all the employees who enrolled in its indemnity plan, 56% were 39 years old or younger. By contrast, in the various HMOs, 75% of the enrollees were in the 39 and younger group, according to a 1984 survey by the Washington Business Group on Health.

Jasper, of Benefits Panel Services, believes that the solution is to introduce PPOs as competition to HMOs.

“In our experience, when the PPO is introduced to an employer that also offers an HMO, the employee selection of the HMO goes down,” Jasper said. “It’s because PPOs offer greater freedom of choice than an HMO” but with all the other price and convenience advantages.