“Accounting is the language of business, and you have to learn it like a language… To be successful at business, you have to understand the underlying financial values of the business.” – Warren Buffett
Why are we talking about accounting? Because we’re seeing a collision of two worlds ahead — one that every executive team in health and human services needs to keep an eye on.
The first? An increasing number of value-based reimbursement models — pay-for-performance, pay-for-success, case rates, capitation, gainsharing — are changing how health and human service organizations are paid (for our most recent coverage of these changes, see Tackling The Thorny Issue Of Behavioral Health ‘Value’ and Medicaid MCO In Your State? There May Be An APM In Your Future).
The second is the application of new accounting standards to recognition of revenue from contracts with value-based reimbursement. In May 2014, the Financial Accounting Standards Board (FASB), an independent, non-profit organization that “establishes financial accounting and reporting standards for public and private companies and not-for-profit organizations that follow Generally Accepted Accounting Principles (GAAP),” issued an Accounting Standards Update (ASU) 2014-09, Revenue from Contracts with Customers.
The goal of ASU 2014-09 is to update how revenue is recognized by organizations (see New Revenue Recognition Accounting Standard—Learning and Implementation Plan). These standards are meant to apply across all industries — and will have significant implications for health care organizations — because the way many health and human service organizations earn and report revenue is changing.
The new revenue-recognition standards focus on defining revenue, based on the core principle that revenue should be part of the record only when services are provided to consumers at the agreed-upon price. To ensure that there is agreement that the services have been provided — and that the agreed-upon price has been defined — the following five requirements have been identified:
- Identify the contract with a customer
- Identify the performance obligations in the contract
- Determine the transaction price: This refers to an organization’s ability to identify the payment terms for the services provided. This has been relatively clear in the FFS environment — the agreed upon rate is fixed. But when there is uncertainty about what compensation the organization will ultimately receive (i.e., pay for performance to be determined after results are obtained), the compensation is variable, which can delay the amount and timing of revenue the organization recognizes.
- Allocate the transaction price to the performance obligation in the contract
- Recognize revenue when the entity satisfies a performance obligation
Here’s a basic hypothetical example of how the steps in this process could play out. Let’s say Innovative Services receives a $6,000 six-month case rate for community-based medication-assisted addiction treatment. The contract provides a $1,000 bonus if there is no emergency room (ER) or hospital use by the consumer for six months after the program and a $1,000 penalty if there is ER or hospital use by the consumer within six months of complete the program.
Under these revenue recognition rules, the organization could create their best estimate based on the entire portfolio of how many clients might have ER use within six months of treatment — using probability estimates based on past data to determine a reasonable number of case rates to recognize at $7,000 and at $5,000. The new revenue rule will require additional qualitative analysis to ensure that revenue is only recognized to the extent that a significant reversal is not probable. If the services are completed within the 12-month fiscal accounting period, the amount identified above would be recognized in that period. If the service is delivered over two accounting periods, the revenue would be allocated based on a reasonable basis to match expenses — perhaps time or the percentage services completed in the treatment process
As I read the new standard and apply it to health and human services, here are the questions that need to be answered:
- In performance-based contract, when we receive payments for units of services provided plus an incentive for achieving specific outcomes, how and when will we record that incentive? How will we indicate that it’s probable the incentive will be received, but the payer hasn’t confirmed the outcomes?
- In bundled rate reimbursement, when we receive payments for “episodes of care” or services provided over a given time period, how will we know when the service has been completed? When the full payment has been earned? This is especially important when the bundled rates apply over more than one accounting period.
- In shared saving/shared risk contracts, when we receive payments based on savings to the total cost of care for a targeted population, or have payment at risk if outcomes are not achieved, how much revenue can we record? What do we record at year end if we are still waiting to confirm whether we will receive a bonus or penalty, and how much?
The effective date of ASU 2014-09 has been delayed to reporting periods beginning after December 15, 2017, for public organizations, and after December 15, 2019, for non-public organizations. However, not-for-profit organizations that have issued public debt are considered public organizations for purposes of the implementation. How these issues are resolved in your organization will depend on the specific contract language, your organizational accounting policies, and the interpretation of your organization’s auditors. The key is to make sure that you take the ASU 2014-09 standards into account as you plan, project, and position your organization for growth. I have four key recommendations:
- Monitor the implementation of the revenue-recognition rules and seek advice from your accounting team on the potential impact on your organization prior to the implementation date.
- Ensure that your accounting policies, workflows, and technical systems are updated to capture and record revenue estimates and risks related to your value-based purchasing contracts.
- Read your value-based contracts carefully, seek legal advice, and understand the potential impact on your revenue. Be sure that you know how revenue will be earned, when you can record it on your financial books, and the related risks.
- Ensure that you have adequate systems in place to track value-based purchasing contract outcomes. Better data will reduce risks and uncertainty around how and when you record revenue.
Want to learn more about value-based purchasing? OPEN MINDS is offering an exclusive Web briefing for Elite members, “Where Are We With Value-Based Purchasing? An Executive Update,” on Thursday, June 29, at 1 p.m. Eastern. Learn about the benefits of becoming an Elite-level OPEN MINDS subscriber.