Payors In Care Delivery: When Does Vertical Integration Make Sense?

Abstract

Editor’s note: In addition to Shubham Singhal (linked bio above) this post is authored by Rohit Kumar and Jeris Stueland. Rohit Kumar is a consultant in McKinsey’s Chicago office. Jeris Stueland, an expert in McKinsey’s Healthcare Systems and Services Practice, is also in the Chicago office. This is the third in a periodic series of posts by McKinsey analysts on the landscape facing payors in the post-reform world. Read the first and second post in the series. In recent years, much of the payor industry has transitioned away from a medically-underwritten to a guaranteed-issue, community-rated, risk-adjusted model. As a result, managing the total cost of care has become the dominant imperative for achieving competitive advantage. As payors have sought ways to develop effective managed-care approaches for this new environment, interest in vertical integration has increased considerably. In the four years between 2005 and 2008, payors announced just 12 vertical integration M&A deals. In the subsequent four years, the number jumped to 26, and recent targets have largely been physician groups and integrated care organizations. These deals have not just been attempts to create competitive advantage—they have also been defensive plays to counteract potential challenges from provider consolidation and the acquisition of physician practices by hospital systems interested in vertical integration of their own. Our research suggests that the economics of vertical integration makes sense for payors in only a minority of markets. For example, when we identified the markets in which the acquisition of physician groups appears to create economic value for payors, the total population included only about 80 million Americans. Furthermore, the significant execution challenges involved in integrating payors and physician practices at scale suggests that the markets we identified likely represent the outer limit of the feasible set. We describe below the economic drivers of net value creation (or destruction) through vertical integration, the market conditions that indicate a given area may be fertile ground for positive value creation, and the execution challenges that must be overcome to capture the value.