Fair Market Value of
Physician Compensation
Appraisal Theory and
Applications
Presented by:
Randy Biernat, CPA/ABV
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Introduction
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Assumed Knowledge Level
Types of Arrangements to be Discussed
Detail Level of Presentation
Disclaimer
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Healthcare Market Overview
• Consolidation
• Integration
• Healthcare Reform
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Hospital-Physician Arrangements
• Common Hospital Motivations
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Create or Expand Access to Services
Continuity/Coordination of Care
Market Share / ACO Positioning
Enhance Patient Experience
Achieve Efficiencies
Expanded Clinical Expertise / Branding
EMTALA or Other Compliance Requirements
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Hospital-Physician Arrangements
• Common Physician Motivations
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Opportunity for Profit / Income Stability
Control or a Voice in Decision Making
ACO Positioning
Access to Capital
Market Positioning
Co-Branding
Personal Prestige
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Arrangements Discussed Today
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Medical Direction
Call Coverage
Professional Service Arrangements (Leases)
Co-management Arrangements
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Appraisal Overview
1. Determine and Document FMV Requirements,
including Jurisdictional Exceptions
2. Identify Parties to Agreement
3. Document Purpose of Arrangement
4. Identify Method of Compensation
5. Consider and Select Valuation Methodology
6. Evaluate Transaction from the Perspective of
Each Party.
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Appraisal Overview
7. Reconcile FMV Findings
8. Provide Conclusion of FMV Range of
Compensation
 The availability of information may limit the
appraiser’s ability to complete each of the above
steps
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Information Required
• Term Sheet / Draft Contract
• Written Summary of Benefits accrued to Facility
• Representations on Relevant Facts Related to the
Arrangement
• Financial Impact of Arrangement to Both Parties
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General Guidance
• To the extent possible, both parties should sign
off jointly on major assumptions
• Trade offs in quality, timeliness, and believability
will dictate whether or not an appraisal can be
delivered
• Working closely with qualified counsel will help
ensure you are making assumptions and using
data consistent with the legal opinion
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Standard of Value
• From R.R. 59-60 to “Healthcare FMV”
• Entity to Compensation Valuation
• Implications to Appraisers
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Fair Market Value (R.R. 59-60)
The typical standard of value is classically defined by
Revenue Ruling 59-60:
“The price at which property would change hands
between a willing buyer and willing seller, neither
party being under any compulsion to buy or sell, and
both having reasonable knowledge of all relevant
facts, with equity to both.”
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Fair Market Value (Stark)
“…the value in an arm’s length transactions,
consistent with the general market value. ‘General
market value’ means the price that an asset would
bring, as the result of a bona fide bargaining between
well-informed buyers and sellers who are not
otherwise in a position to generate business for the
other party….” (Stark regulations at 42 CFR § 351)
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Fair Market Value in Management
Services Arrangements
• Same standard of value as entity valuation
• “Ultimately, fair market value is determined based
on facts and circumstances. The appropriate method
will depend on the nature of the transaction, its
location, and other factors.” (Federal Register, Vol.
72, No. 171, CMS, 42 CFR Parts 411 and 424)
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Implications of Stark Standard of Value
• Avoid “investment value”
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No consideration of downstream referrals
No consideration of hospital rates
No consideration of specific economies of scale
Limitations on use of opportunity cost
• Deal must make sense between purely arms’length players
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Valuation Methodologies
• Survey Benchmarking
• Cost Mark-up
• Management Company Fee Benchmarking
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Methodologies: Survey Benchmarking
Description – Survey benchmarking captures
the range of compensation paid for labor and
other goods and services in the marketplace.
Application – By benchmarking the subject
arrangement to market pricing, one can infer
fair market value (especially if benchmark
data is not referral based).
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Methodologies: Survey Benchmarking
Limitations – Survey data may not capture
entity risk and is not available for certain
goods and services.
Cautions – Careful matching of service type to
survey data may call for adjustments to make
an appropriate comparison (independent
contractor status, etc.).
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Methodologies: Survey Benchmarking
General Guidelines
• Compensation commensurate with
productivity
• Consider isolating clinical and non-clinical
sources of income
• Be cautious with utilizing compensation per
WRVU survey data
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Methodologies: Survey Benchmarking
General Guidelines, cont.
• Signing & Retention bonuses
• Student loan repayments
• Malpractice insurance tail coverage
• Outside income
• Multiple contractual arrangements
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Methodologies: Survey Benchmarking
Sources of Data
• MGMA
• Sullivan Cotter
• Watson Wyatt
• IHS Survey
• Many others
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Methodologies: Cost Mark-up
Description – Cost mark-up approaches seek
to determine and apply a profit to the costs of
the goods and services to be provided on a risk
adjusted basis.
Application – Discrete cost pools must be
determined by type and care must be taken
that mark-ups appropriately match services.
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Methodologies: Cost Mark-up
Limitations – Ascribing value to costs may
create an incentive to increase costs and the
methodology may fail to recognize the value
of efficiencies.
Cautions – Markups should be applied to
discrete pools of costs to avoid double
dipping.
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Methodologies: Cost Mark-up
Guidelines
• What is really being received by the
purchaser?
• Confusing cost of capital and acceptable
rate of return
• Adjusting for risk
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Methodologies: Cost Mark-up
Sources of Data
• Publicly-traded companies
• Private transaction data
• Freestanding surveys, such as MGMA’s
ASC Survey
• Risk Management Association
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Methodologies: Management Fee
Benchmarking
Description – A percentage of facility revenues
is used for a fee to be paid for a contractual
bundle of goods and services.
Application – A determination is made that the
services under consideration for FMV has a
sufficient match to market data that a pricing
inference can be drawn and relied upon.
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Methodologies: Management Fee
Benchmarking
Limitations – Benchmark data is typically
unclear as to what goods and services are
included in an arrangement, which can create
matching issues.
Cautions – Assumptions utilized in drawing
comparisons on rates will need to be
reasonable in order to support this approach.
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Methodologies: Management Fee
Benchmarking
Guidelines
• Traditional management companies
typically exclude medical director fees
• Not all fees necessarily tie to specific costs
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Base fee – tied to hours worked
Incentive fee – based on good results
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Methodologies: Management Fee
Benchmarking
Sources of Data
• Ancillary business survey data (such as
surgery center or imaging center cost data)
• Perform survey of management company
fees
• Private transaction database(s)
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Comparison of Approaches
Primary
Method
Secondary
Method
Commercial
Reasonableness
Survey
Benchmarking
Yes
Yes
Yes
Cost Mark-up
Yes
Yes
Yes
Before & After
Analysis
No
No
Yes
Management Co.
Benchmarking
Yes
Yes
Yes
Methodology
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Framework for Valuation
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Medical Direction
On-Call Arrangements
Professional Services Agreements
Co-Management Arrangements
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Medical Direction
Overview
• Hospital engages a physician to provide unique
clinical insight necessary for hospital operations,
accreditation, management, etc.
Typical Valuation Methodologies
• Survey Benchmarking
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Sullivan Cotter, HIS, MGMA, etc.
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Medical Direction
Going One Level Deeper
• Look for a good understanding of duties to
determine what data should be used
• Executive Services versus Traditional Directorships
Signs of a Bad Deal
• Numerous directorships with apparent overlap
• Services provided are unnecessary/undocumented
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On-Call Arrangements
Overview
• Hospital engages a physician or physician group
to provide guaranteed clinical coverage at its
facility(s)
Typical Valuation Methodologies
• Survey Benchmarking
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Sullivan Cotter
MGMA
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On-Call Arrangements
Going One Level Deeper
• Unrestricted versus Restricted
• Call Burden / Trauma Designation of Facility
• Uncompensated Care
Signs of a Bad Deal
• Services are not exclusive (stacked services)
• Services to be provided are unnecessary
• Fees are based on clinical opportunity cost
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Professional Services Agreements
Overview
• Hospital engages a physician or physician group
to provide clinical services on its behalf while
physician remains an independent contractor
Typical Valuation Methodologies
• Survey Benchmarking
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Compensation surveys (Sullivan Cotter, MGMA, etc.)
• Cost Mark-up
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Professional Services Agreements
Going One Level Deeper
• What else is included besides physician services?
• Exclusion of Designated Health Services
• Use of physician extenders
Signs of a Bad Deal
• The payment rate is not reconciled properly to
services included in the arrangement
• Fees based on practice overhead
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Co-Management Arrangements
Overview
• Hospital engages a physician-owned entity to provide
management services on its behalf for some
component of its inpatient or outpatient services
Typical Valuation Methodologies
• Cost Mark-up (primary)
• Survey Benchmarking (primary)
• Profit Margin Analysis & Before and After (secondary)
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Co-Management Arrangements
Going One Level Deeper
• Breakdown of the Technical Component is
Crucial
• Consideration of Provider-based Rules
• Bona Fide Services
Signs of a Bad Deal
• Looks like a billing under arrangement
• Fees are based entirely on a percentage of revenue
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Case Studies
• Co-management Arrangement
• On-call Coverage Arrangement
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Co-Mgmt. Case Study - Facts
• Hospital seeks to align with a group of
orthopedic surgeons to develop a Spine
Institute (SI).
• Hospital believes the development of a SI will
greatly increase patient access and improve
care coordination with its substantial employed
primary care physician group.
• Hospital has a not for profit tax status.
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Co-Mgmt. Case Study - Facts
• Hospital believes the involvement of
community physicians in the development of
its SI is critical to the clinical success of the
program and in its marketing efforts to the
community.
• Therefore, Hospital proposes a comanagement arrangement with a small group
of spine surgeons.
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Co-Mgmt. Case Study – Facts
• Hospital proposes the Management Company
to provide the following:
– Executive Medical Direction (250 hours per year)
– Traditional Medical Direction (Clinical Protocol
Development, Implementation, Staff Orientation,
Management, Training, Program Development and
Community Outreach (400 hours per year)
– Non-Physician Executive Director
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Co-Mgmt. Case Study – FMV Analysis
Survey Method
Executive Administrative M.D. Hours
Executive Administrative M.D. Hourly Rate
Total Executive M.D. Compensation
250
300
75,000
Traditional Administrative M.D. Hours
Traditional Administrative M.D. Hourly Rate
Total Administrative M.D. Compensation
400
175
70,000
Non-Physician Service Line Director
Total Management Company Compensation
155,000
$ 300,000
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Co-Mgmt. Case Study – FMV Analysis
Mark-up Method
Allocated M.D. Cost (650 hours @ $200)
Executive Director Cost
Labor Cost Pool
FMV Labor Mark-up Factor (35% gross margin)
Total Management Company Compensation
130,000
130,000
260,000
1.54
400,000
Mgmt Co. Profit
Gross Profit Margin
140,000
35%
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Co-Mgmt. Case Study – FMV Analysis
Management Company Benchmarking
Management Fee as a % of Normalized Revenue
Pricing for Non-MD Management Companies
Private Transaction Database Pricing
4.5%
2.5% - 6.5%
3.5% - 8.5%
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Co-Mgmt. Case Study – Conclusion
Summary of FMV Results
Proposed Compensation
$
400,000 or 4.5% of collections
Survey Method
300,000
consistent with FMV
Mark-up Method
400,000
consistent with FMV
2.5% - 8.5%
consistent with FMV
Mgmt Co. Fee Benchmarking
 Overall Arrangement is Fair Market Value
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On-Call Coverage Case Study – Facts
• Hospital has an identified need to provide
more consistent general surgery trauma
coverage as its recent ER expansion has
yielded more acute cases than anticipated.
• Hospital does not employ any general surgeons
trained to treat trauma cases and cannot
otherwise convince qualified surgeons to
volunteer to provider necessary coverage.
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On-Call Coverage Case Study – Facts
• Hospital believes the engagement of qualified
trauma surgeons will improve patient
outcomes and enhance its reputation in the
community.
• Therefore, hospital agrees to pay a pool of five
local general surgeons qualified in trauma
surgery a fair market value rate for 24/7/365
coverage of its emergency department.
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On-Call Coverage Case Study - Facts
• Hospital proposes the physicians to provide the
following services:
– Unrestricted (“beeper”) call with a phone response
time of 10 minutes and on-site consultation within
30 minutes, as necessary, and a named back-up
– Other terms include a penalty for failure to
respond, a fmv re-evaluation provision, an
evergreen clause, a statement of the physicians’
right to bill for services rendered while on call, etc.
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On-Call Case Study – FMV Analysis
Facts and Circumstances Matrix
Applicable Facts
FMV
Impact
M.D. Supply and Demand
Area has limited trauma surgeons
↑
Frequency of Call
Low call volume expected in yr. 1
↓
Expected to be low
↑
ED has poor payor mix
↑
Currently applying for level two status
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1 in 5
--
Hospital is in a high crime urban area
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Category
Use of Backup
Payor Mix of Patient Seen
Facility Trauma Designation
Depth of Call Rotation
Other Facts
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On-Call Case Study – FMV Analysis
Survey Method
Trauma Surgery Daily Rate
Market Method
Local Market Deal A
Local Market Deal B
Regional Market Deal C
25th
$ 575
Rate
$ 600
$ 800
$ 1,100
50th
$
950
75th
$ 1,200
Facts and Circumstances
Comparison
similar in scope and intensity
Subject agmt is less intense
Subject agmt is less intense
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On-Call Case Study – FMV Analysis
Synthesis of Methods
Published Survey Data
Low
High
$
500 - $ 1,000
Proposed Daily Rate
$
650
 Overall Arrangement is Fair Market Value
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Questions & Answers
Contact Information
Randy Biernat, CPA/ABV
BKD, LLP
Direct: 317-383-4271
Email: rbiernat@bkd.com
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