This article appears in the November 2012 issue of HealthLeaders magazine.
With the Patient Protection and Affordable Care Act ushering in the pay-for-value era, healthcare organization compensation committees are scrutinizing executive compensation models to stay in step with new objectives. Though few external benchmark resources are available to help create the guiding metrics, boards continue to try to shift away from rewarding solely on organization-wide financial performance and move toward incentivizing for quality and patient satisfaction. Ultimately, though, fiscal goals still dominate when it comes to incentivizing the C-suite.
Physician compensation structures have opened the door for organizations to rethink their approach to paying and rewarding employees. Over the past few years at organizations nationwide physician compensation models have transitioned from fee-for-service to pay-for-performance with an eye toward encouraging better patient population health management. However, based on national compensation surveys, it would appear as though healthcare executive compensation structures have yet to make a similar structural shift. But that change is under way.
Kathryn Hastings, managing director and practice leader for Sullivan, Cotter and Associates’ executive compensation practice, says the transition is happening slowly as boards assess which metrics to tie to incentives in order to encourage or maintain alignment. Boards are feeling the pressure from both the public and the government to reduce organization costs, she says, but they must weigh that against the need to compensate fairly to attract and retain key leaders.
“To create new quality-centric models, what the boards and the industry need—and they are beginning to get—are really good benchmarking resources, such as those from Truven Health Analytics on performance objectives and other performance data. That way they aren’t just benchmarking against themselves but against everyone else—and even when this data comes out, it’s still going to be challenging to apply it because some of it will depend on an organization’s payer mix among other factors,” Hastings says.
Sally LaFond, a senior consultant with Sullivan, Cotter and Associates, says she sees new measures, including quality, safety, and patient satisfaction, being added throughout the C-suite incentive structure, though generally incentives are still being applied annually instead of long-term.
“Boards are now weighting incentive goals for the CEO and other members of the team. However, we’re not seeing the move away from annual incentive goal setting; rather, we’re seeing the board take an additional interest in how to structure and add in long-term performance planning goals,” says LaFond.
A survey by another consultancy, INTEGRATED Healthcare Strategies’ Spring 2012 Salary Increase, Incentive and Benefit Updates shows that of the 75% of respondents that have incentive plans for executives, approximately 25% said the plans will be changed this year. Another 38% of hospitals and health systems will use physician alignment as a criterion in their incentive plans.
Using weighted incentives to hit goals
The Christ Hospital Health Network in Cincinnati has changed how it approaches incentivizing executives. Five years ago, the organization moved away from rewarding executives based solely with base pay and instead began structuring a weighted incentive and bonus plan that rewards the attainment of strategic goals.
“Physician compensation models changed, and our hospital reimbursement model changed, too. We knew to reach our goals it would take a tripartite effort so there had to be alignment in the compensation models between the board, the administration, and the medical staff,” says Rick Tolson, vice president and chief administrative officer at the organization, which includes The Christ Hospital, a 555-licensed-bed, nonprofit acute care facility, and more than 90 outpatient and physician practice locations. The organization began making structural changes to how everyone is compensated, starting with the CEO and on down to the rest of the staff.
The board of directors established a charter for the compensation committee that included roles, accountability, and deliverables, and then called upon a consultant from the Hay Group, a global management consulting firm, to help establish reasonable executive base salaries and structure a new incentive plan, Tolson explains.
The Christ Hospital’s initial approach toward establishing total cash compensation (base salary plus annual incentives and bonuses) for its CEO and other members of the C-suite followed the industry’s best practices; however, where the organization made new inroads was in creating a metric-driven annual and long-term incentive plan.
“We were interested in understanding how to arrive at a reasonable base pay, but also in incentive compensation both annual and long-term and creating a beneficial structure. We wanted to ensure market competitiveness to retain the best talent, but we also didn’t want to be placed in a position where our compensation could be viewed as being excessive,” Tolson says.
The board took a forward-facing look at how PPACA would change the delivery of care and restructured its plan to incentivize quality outcomes and patient service, along with strong financial performance. To that end, each year the compensation committee develops critical success factors or metrics that tie to the incentive plan for the executive team.
“We start with the strategic plan and we look at our clinical portfolio and the quality outcomes; patient, physician, and employee satisfaction; growth; medical staff; and facilities. We select metrics to focus on that to drive our initiatives,” says Tolson. For instance, to encourage clinical improvements it uses metrics to look at overall outpatient ratings from Press Ganey and inpatient metrics for HCAHPS. At 10% each, the total for these categories is weighted at 20% out of 100%, and for the incentive to be paid, they must reach predetermined targets.
Nevertheless, the percentage of incentive paid out still depends on where the organization lands overall, along with where the critical success factors land on meeting its targets. There are seven metrics the organization tracks, and no incentive bonuses are paid unless the organization reaches its financial performance goal.
“If we don’t achieve the performance in our cash flow, then we don’t have the resources to fund and sustain the organization for the future,” says Tolson, and some years the organization has not paid incentives. Though financial goals are important, Tolson says the organization acts to motivate employees to pursue the quality and patient satisfaction goals, as that is the means to the financial ends.
“When you have a compelling strategy as an organization, you attract great physicians, employees, and leaders; everyone wants to be on a winning team. Then, to deliver a great product—in our case, healthcare—you must provide great service and quality, and the outcome of that is financial performance,” he says.
While most organizations continue to use annual incentives, Tolson says, The Christ Hospital added a three-year rolling incentive to encourage long-term thinking by its executives.
“We have strategic plan for 7–10 years and a long-range financial plan for 7–10 years, so if we get off track, then we’re not going to be able to deliver on those plans.
We found that long-term incentives are a vehicle for performance acceleration,” says Tolson. “We realized early on if we are to succeed with this plan, we couldn’t isolate incentives to yearly performance or we may find that some executives might cannibalize the next year’s performance to hit this year’s targets.”
As a result, all members of the executive team have both annual and long-term incentives, and all members of the team have the same core goals, in addition to individual goals. For instance, the CEO has an annual incentive plan with exactly the same goals as the vice presidents under him—with two differences, Tolson says; one is the amount of award potential and the other is 100% of the CEO’s annual incentive plan is based on the network’s overall performance, which includes meeting all of the network’s critical success factors (patient satisfaction, quality, growth, and cash flow
By comparison, the rest of the C-suite’s incentive payout is based on 67% of the network’s critical success factor performance and 33% of the individual’s critical success factors. A similar incentive structure is used with the rest of the system’s employees, so directors and managers are on annual incentive plans tied to the same strategic metrics, with 50% of their incentive payout based on network performance and 50% on individual performance.
Critical success factors for the organization are determined by teams led by the organization’s vice presidents. For instance, when looking at patient satisfaction, one team would look at historical internal and external performance data and make recommendations on threshold, average, and maximum targets for this area and propose a weight for inpatient and outpatient goals. Then the recommendation is taken to the appropriate board committee to vet and discuss the metric.
“We have an incentive plan for everyone in the organization, and so the target level performance and the percentage of potential payout is also calculated. We accrue that potential liability as we go on through the year. If the plan triggers, we have the money to pay out, and if it doesn’t, the money goes back into the network,” Tolson explains.
Using organizationwide and individual quality and satisfaction metrics to spur the payment of incentives from the CEO on down to the rest of the staff is proving successful at aligning the entire organization toward achieving its goals, Tolson says. Net operating revenue surpassed its goal by 11.3% in 2010, 8.6% in 2011, and 6.8% as of July 2012. Moreover, for 2010, 2011, and through July 2012, adjusted admissions—a core strategic goal—rose 5.9%, 7.3%, and 1.1% respectively.
Metrics, benchmarks create line of sight
Nearly three years ago, Trinity Health in Livonia, Mich.—which owns 36 hospitals, manages 12 others, and has a large network of outpatient, long-term care, home health, and hospice programs across 10 states—revised its executive incentive structure. Debra Canales, executive vice president and chief administrative officer at Trinity Health, says the renegotiation of payer rates; changes in pensions, regulations, and reporting; the evaluation of its market; and activity prior to the approval of the PPACA all contributed to the organization’s reassessment of its compensation model.
The board compensation committee called on Sullivan, Cotter and Associates to help it set reasonable base salary compensation for executives. Then Trinity Health altered its incentive structure to align everyone, from the CEO to the organization’s staff, to focus on five areas: community benefit, care experience, quality, best people, and stewardship. Online scorecards set metrics using internal benchmarks so staff can track the hospital’s and the entire organization’s performance.
“We wanted to create a line of sight from the top down that tied to our strategic plan,” says Canales.
“At a for-profit hospital you might see these [goals] tied to stock options or performance shares, but we don’t have that as an option. Nevertheless, our board wanted us to be accountable for our progress, and what better way to encourage everyone to be accountable than by putting pay at risk on both an annual and a longer-term basis. We apply various weights to reflect the importance of the goals in our plans,” explains Canales.
In addition to varying the weight of a goal, Trinity Health uses a mix of annual and long-term incentives for executives and pairs these with group and individual incentives. For instance, one year the health system wanted to advance diversity and inclusiveness across the entire organization. To make it a priority for all leaders, it made implementing a diversity plan for each division related to its at-risk compensation program—meaning every executive in the top 200 had to create and define a program, or none of the executives would receive an incentive payout.
“In fiscal year 2013 our objective is to define a plan that results in a template for the ministry and hospitals to follow for population health management, and we’ll set benchmark targets and a maximum payout,” says Canales. “We’ve been at this for two years now, and we’re starting to get some discipline and rigor around how we track and measure goals and we’re getting better at narrowing our focus. It’s a very different approach than what we took a few years ago, and we are seeing success at aligning everyone in the organization.”
In the past, a core set of goals and a larger number of strategic imperatives were shared by all of Trinity’s teams. Many of the goals focused on infrastructure improvements and individual region or specific hospital objectives, Canales says. However, the organization knew it could do better at achieving its goals by creating ones that fostered a new level of teamwork and integration across the entire organization.
“For example, our hospital executives can earn some of their at-risk compensation when their hospitals launch a senior emergency center, as defined by us. The leaders’ success and reward are determined based on their assessment and how it meets the community needs, implementation time frames, and quality of care,” she says.
Canales says the organization works in a similar way when assessing, measuring, and rewarding the development of clinically integrated networks, the launch of community needs assessments, and the development of shared service organizations.
“Goals like these are complex, requiring support and performance from a broad cross-section of integrated teams. This type of goal setting and focus is helping us accelerate our achievements by leveraging our talent across the organization like never before,” she notes.
Achieving results through weighted incentives
Though both Trinity Health and The Christ Hospital vary the weight of their incentives based on the importance of the objective, in response to the changes in healthcare in the past two years, Cincinnati-based Catholic Health Partners uses its executive compensation model to evenly weight incentives around financial, community benefit, and patient experience objectives. CHP is one of the largest nonprofit health systems in the country, with $5.4 billion in assets and employing 32,000 people at more than 100 organizations, including 24 hospitals.
With such vast holdings, the system had been using regional compensation committees and consultants to establish executive-level compensation, until this year when it centralized that function so it could create better alignment and cost efficiencies.
“Historically we had a system policy that defined our compensation philosophy at a system level, but that allowed for a significant amount of variability among the regions in terms of pay. We liked what that regional approach achieved from an accountability standpoint, but we found that as we moved toward better efficiency it was impeding us,” says Joe Gage, senior vice president of human resources for CHP. “By aligning executive compensation structures and policies across the system we feel we can retain talent and improve mobility of executives throughout the system.”
Gage says the organization is highly metric-based, so it made sense to incorporate consistent measures into senior management’s compensation structures and scorecards. CHP uses a balanced, or equally weighted, incentive model to encourage improvements in quality, physician partnership, growth, stewardship, and human potential.
“For over a decade we’ve derived benchmark metrics based on achieving our strategic plan, which is set and approved by the board and incorporated into the CEO’s compensation model. We use these metrics to maintain strategic direction,” Gage says.
For instance, if CHP wants to improve upon patient experience, then it is puts that metric into the quality goals. But if the organization as a whole doesn’t achieve the minimum level of improvement predetermined by the board, then none of the executives is eligible to earn an incentive payout.
“We all use the same metrics to create alignment, but we measure specific results at the appropriate level to achieve accountability. For example, system leaders are accountable for achieving system results for patient experience, while region leaders are accountable for achieving region results on the same metric. Regional results roll up into the system total,” says Gage. To keep the compensation plan measurement relatively simple, it limits the metrics it tracks to 21 across the five core areas.
“To make sure that no one is tempted to short-end the quality goal or stewardship goal in order to achieve the financial goal, we made them all of equal value. After the CHP board determines if the threshold metrics have been achieved, the board uses CHP’s independent internal auditor to audit performance before assessing overall results; the board then makes a judgment on whether to award an incentive payment,” Gage notes.
CHP’s strategic plan has five key result areas: quality, human potential, physician partnership, stewardship, and growth. Metrics in these areas are selected by the board annually. In 2012, for instance, CHP selected these scorecard metrics:
- Quality: preventable harm, inpatient mortality, inpatient readmission rate, length of stay, inpatient experience, patient-centered medical homes, behavioral health
- Human potential: associate engagement, diversity of senior leadership team formation and development, associate health
- Physician partnership: primary care employment/affiliation, net patient revenue/provider FTE
- Growth: net operating revenue, emergency department quality and efficiency
- Stewardship: operating margin, strategic plan development
The organization tries to limit the annual scorecard to approximately 10 operational metrics; in 2012 it has 11 equally weighted ones and an additional 10 measures that are either strategic or owned personally by the CEO.
Gage says CHP did look at the compensation structure last year with an eye on whether to add in long-term incentives, but with the move toward centralizing the process the organization decided it wasn’t the right time.
“When we want to add emphasis to a strategic initiative, we can still add it as a goal; those become the annual goals for the executives,” he says. “CHP’s five-year strategic plan does have metrics, but our experience is that long-term metrics can be difficult to identify, elusive to benchmark, and often overlap with our annual metrics. So we use our annual scorecard metrics to measure and reward progress toward attaining our five-year plan in incremental, measurable steps.”
Quality and patient satisfaction: Metrics of the future
The move by some organizations toward using quality and patient satisfaction metrics to align the C-suite to achieve more than the organization’s financial performance goals is a step in the right direction, says Thomas Dolan, PhD, FACHE, president and CEO of the American College of Healthcare Executives, based in Chicago. But, he adds, one thing that any healthcare organization should move away from in the TCC for executives is the use of perquisites, free privileges paid by the organization, such as club membership, which must be reported on Form 990.
“The public doesn’t like perquisites; they want to know why someone who earns a huge salary can’t pay their own golf membership. I recommend that executives take compensation in salary and bonuses rather than perquisites, as they are hard to defend,” says Dolan. “The way incentives should be constructed should be very cut and dried so people can understand them and the organization can justify them.”
Thus far, however, perquisites don’t appear to be disappearing from the C-suite compensation package and are on the rise. A 2012 Equilar, Inc. Nonprofit Healthcare Institutions Report notes that 87% of healthcare institutions provided perquisites or had reimbursement policies in place for their officers in 2010, up from 84% the year before. (Equilar’s data was derived from tax returns from fiscal year 2010.) The most common benefit granted to executives is club dues, provided by 43% of organizations in the study.
The perquisites can include cars, country club memberships, cell phone allowances, extra paid time off, 403(b) retirement plans, severance benefits, and supplemental retirement plans, all of which are now subject to public scrutiny as they must be reported on Form 990. Hastings, with Sullivan, Cotter and Associates, says compensation committees need to reassess how their executives’ total compensation package reflects upon and supports the organization’s overall mission.
“Form 990 highlights executive compensation, and people see those salaries and may take issue with them. But if an organization can justify how it arrived at those numbers, then it becomes less of an issue,” Hastings says. “But they should be prepared to defend their decisions.”
There is a continual push for transparency at healthcare organizations and the Senate Finance Committee is making moves toward encouraging healthcare organizations to that end. Currently the committee is reviewing a draft proposal that would eliminate an organization’s ability to offer perquisites, and would require organizations to make publicly available which compensation surveys and thresholds are used to benchmark the reasonableness of an executive’s compensation. If this passes, this criterion would be in addition to the information that must be provided for IRS Form 990.
As organizations strive to align the compensation of CEOs and C-suite leadership with the new healthcare objectives, the use of metric-driven short- and long-term incentive plans will become increasingly dominant, Hastings says.
Plus, as organizations seek to transform care delivery over longer periods, long-term incentives can become a useful retention tool toward building leadership continuity in the C-suite, she notes.
“This is still a gentle shift toward incentive-based performance pay, and it’s not going to happen overnight for all organizations,” Hastings says.
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