- Lesson #1: Demography is not destiny
- Lesson #2: Dig beyond the choices to the motivations
- Lesson #3: Determine triggers and obstacles
- Lesson #4: Understand context first, then provide solutions
This article was written by Steve Wunker.
The shock of Donald Trump’s upset win is settling in, and we look forward to innumerable post-mortems on how forecast models went astray. The assumption is that next time we’ll have more precise predictions. But what if that faith is misplaced? After all, missing forecasts happens all the time in the private sector, whether companies end up with a runaway hit or a total bust. What can we learn from Trump’s stunner that won’t just tweak our prediction models, but cause us to fundamentally re-think them?
This article was written by Steve Wunker.
This week marked the annual meeting of America's Health Insurance Plans, an event that drew an unloved group of executives to commiserate about poor margins, upheaval following health reform, and even a group of protesters waving placards calling for the industry's abolition. As trade shows go, it was a real downer. Yet the story of a handful of winners bears strategy lessons for companies in any industry grappling with fundamental change.
Strategy for health insurers in this environment requires a keen sense of how the industry will evolve. Assuming that the courts do not strike down the Affordable Care Act (ACA) underlying U.S. health reform, by 2014 insurers will have to offer a minimum level of benefits, at very transparent prices, in an electronic exchange that facilitates comparisons. In other words, their core products will be commoditized. While reform will drive many of the uninsured to be new customers, they will create scant profits for the industry.
This past week in Congress, a rare bipartisan coalition introduced a bill known informally as the Pickens Plan, after the Texas natural gas magnate T. Boone Pickens who has talked it up incessantly for the past two years. The Pickens Plan would spend $1 billion a year for five years to subsidize the manufacture of heavy trucks that would burn natural gas, as well as provide tax incentives to truck stop owners who install natural gas refueling equipment.
The thesis of the Pickens Plan is that natural gas is cheaper than oil (true), that it can come largely from supplies in the US and Canada (true), and that it produces less greenhouse gas emissions than diesel fuel (sort of true). The 8 million heavy trucks in America constitute only about 3% of country's vehicles, but a whopping 23% of transportation fuel use (or 16% of total oil use). Pickens claims that moving this fleet to natural gas would halve U.S. imports from OPEC (sort of true). Of course, moving the fleet to cost-effective biofuels would accomplish this objective too, but don't hold your breath. Electric vehicles may impact fuel use as well, although for technical reasons they are unlikely to take root in the heavy trucking fleet.
Today's Wall Street Journal contains a special report on innovation in healthcare, under the banner headline "The Time to Innovate is Now." What follows is an uncontroversial call for more innovation in response to escalating healthcare costs, along with a description of several disconnected but novel programs. What's missing is an assessment of why new markets take so long to get moving in healthcare: the system is not aligning incentives for innovation.
The underlying problem is one afflicting many industries slow to take up promising innovations; healthcare in the United States is incredibly fragmented. Not only are there health insurers, hospitals, medical practices, independent physicians, vendors, and countless others, but there are many competing entities in almost all these categories. On the plus side, fragmented systems can provide new ideas with tiny footholds willing to try new things. The downside is that they can hinder the rapid spread of learnings. Not only are there poor mechanisms to spread effective ideas (the "agricultural extension" model has been embraced only tentatively in healthcare), but financial incentives for healthcare change are seldom aligned. Innovations may help insurers but place new burdens on physicians, and so forth. All this misalignment leads some healthcare observers to argue that the cure for healthcare's ills isn't bold new innovation, but rather broad adoption of innovations already trialled by brave pioneers.
It is depressing to Google "health insurance innovation." Most links involve rants against a powerful industry, while some make equally spurious claims that public payers such as Medicare have played a scant role in healthcare innovation. There is far too little published about how a huge industry has actually innovated, and still less about what it can do now in response to the major innovation challenges posed by U.S. health reform. This industry's tough situation, and its potential responses, offer lessons for innovators in many other fields.
Due to a variety of provisions in health reform (more formally, the U.S. Patient Protection and Accountable Care Act), the old business model of health insurance is seriously threatened. Plans will become more consistent in their minimum levels of benefits, reduce the ways in which they diverge in pricing, and list their features on an online Health Insurance Exchange. Many will need to reduce their marketing and administrative expenditures. In short, the old ways of doing business will become seriously commoditized. The health insurance industry was not particularly attractive to begin with (operating margins under 5% are the norm), so there is a big need to re-think the business model.
It has become perversely fashionable to beat up on America's capability to compete vs. China. The U.S. government is often seen as too short-sighted and timid to bolster American capabilities in key sectors critical for the 21st century. By contrast, China seems to be the entrepreneurial visionary. Yet in at least in two very high-profile fields, the conventional wisdom seems dead wrong.
Energy firms such as GE have lavishly praised China for investing big money in making the country the global leader in renewable technologies such as solar photovoltaic (PV) cells. While there are definitely worthy aspects of China's energy policy -- such as its clarity in how things are regulated and what government's position will be over the long-term -- much of the government's funding has gone to sudsidize as much as half the cost of installing renewables. Unsurprisingly, this spending has quickly made China the world's biggest renewables market. The large local market, strong local talent, and generous financing has led to China also becoming the global leader in new markets such as solar PV manufacturing.
With Congressional negotiators reaching agreement early this morning on key provisions of the U.S. financial overhaul, it is a good time to weigh the impact of the bill on innovation in this sector. Many commentators have predicted that the impact of the financial overhaul on innovation might be dire. Others have indicated that reducing innovation might actually be a good thing, given that innovative financial services played a key role in the economic crisis of 2008. Both of these assessments seem to miss the mark.
The 2000-page bill is extremely complex, and a blog post cannot do justice to all the intricacies. At a high level, the bill will curb banks' ability to profit from proprietary trading, creating complexderivatives, pushing consumers into costly products, or charging hefty fees to merchants accepting debit cards. Banks, particularly big banks, will earn far lower profits in these areas, which represent key financial services innovations from the past two decades.
But what about the financial overhaul innovation impact going forward? While it was relatively easy for banks to make money (prior to 2008) by innovating in established product lines, such as through creating seemingly infinite varieties of mortgages, there have been few new product lines emerging from large banks, nor have these institutions paid much attention to the 7.7% of unbanked or 18% of underbanked U.S. households. Instead, some of the more creative approaches have come from non-bank institutions ranging from economic development groups to hedge funds. Witness for instance the alternative to payday lending created by Kentucky's Mountain Association for Community Economic Development, which embeds a savings product into a relatively inexpensive short-term loan.
Transparency promotes market creation. If customers can understand the quality and cost of new propositions, they can assess whether the offering is a good fit for them. The greater the number of people who can make this assessment, the more likely it is that some segment of customers will find it attractive. Moreover, if customers have direct exposure to this information they can overcome the inertia often found in gatekeeper-oriented systems, where a relative handful of individuals makes decisions about what to bring to market based on sometimes misaligned criteria.
Teeth whitening works this way. The results of whitening are immediately obvious and the cost is clear. What started out as a procedure performed only in dental offices has migrated into several new markets such as shopping mall boutiques, home whitening kits, and touch up pens. Innovation blossomed.
The American healthcare system is not transparent in its medical outcomes, service quality, or pricing. Its customers, whether these are defined as patients or their employers, often have little idea of whether they are receiving good value. Gatekeepers -- doctors, hospital purchasing departments, health insurers and others -- determine whether new offerings should succeed in the marketplace. This makes sense to some extent. Consumers can't judge whether a new way of performing a surgical procedure is right for them. But because the system reduces the chance for markets to segment, it lowers the probability that innovative offerings will find a viable foothold. Inertia also results from the many layers of decision-makers.
Starting today, the U.S. Medicare program is to cut payments to doctors by 21%, due in part to Congressional gridlock on how to fund the program at its current spending level. There is ample reason to think these cuts will never come to pass, and that Congress will retroactively extend higher rates for at least several months. But it is useful to think through what the cuts would mean for the healthcare business model, and how they might impact innovation in this vast sector of the American economy.
If payments fell so drastically, many medical practices would stop their intake of Medicare patients, and some might seek to move these patients to other physicians as much as possible. Yet Medicare spent nearly $470 billion last year (20% of national health expenditure), and such vast sums are not easily ignored by physicians. Doctors may also feel a moral obligation to continue treating these elderly patients, who tend to be the sickest. For practices that continue to have a high percentage of Medicare patients, how might they cope?
Many cost-saving healthcare innovations have languished for years due to American healthcare's odd business model. Because physicians typically contract with many health insurers, and these insurers restrict their business to risk aggregation and health plan sales/administration, few parties exist to push through use of new technologies that require novel forms of reimbursement. Insurers do not have the leverage to force physicians into using these technologies, doctors have little bandwidth to undertake a fundamental change in workflows, and patients have scant influence at all.
The passage of health reform hugely impacts almost every sector of the American healthcare industry. We should expect to see a substantially changed environment for innovation.
Directly, the law only modestly impacts incentives for innovation. It sets up a Center for Innovation to sponsor new forms of care delivery, creates an institute to assess the comparative effectiveness of treatments, funds a telemedicine pilot for a small number of the very sick, establishes a range of pilot programs to support quality efforts in healthcare institutions, and promises a national strategy for healthcare quality improvement by the start of 2011. These are all laudable initiatives but will do little to impact the overall innovation climate.
Indirectly, the law substantially impacts healthcare firms’ innovation agendas. The pharma industry is a clear winner, with extended protection for biologic drugs spurring investment in “personalized medicine” that creates high-value tailored therapies for relatively small sets of people (a sea-change from the blockbuster-oriented business model of the past). Other sectors may be most impacted by how the act affects incentives for health insurance firms (payers), hospitals, and physicians.
While payers could have come out far worse in this process, the law still requires a fundamental re-think of strategy and an embrace of disruptive innovations. Subsidies to bring the uninsured into the system will create a temporary uplift, but after 2014 it will be quite difficult for payers to differentiate their offerings, leading to severe pricing pressure in an industry that is already fairly commoditized. Payers will be required to accept all applicants for coverage, they will have less ability to vary prices, and their plans will have to meet certain minimum standards to qualify for inclusion on health insurance exchanges. To make good profits, payers will need to differentiate through working closely with care providers to improve healthcare outcomes, enhance the patient experience, and engineer costs out of the system. There is vast room for improvement along these dimensions, but change has been hindered by the Balkanization of American healthcare among fragmented payers, a profusion of hospitals and physician practices, and myriads of healthcare professionals who dislike having change dictated by insurance firms. No more.
Counterintuitively, regulatory constraints can lead innovation to blossom.
Washington buzz that the United States Food and Drug Administration may tighten scrutiny of new medical devices has been greeted with sadness, if not surprise, by many device manufacturers. These firms have long thrived under a streamlined “510(k)” regulatory process allowing FDA to grant simple approval for devices that are substantially equivalent to devices currently marketed. FDA insisted on a tougher approval process for more novel devices.
With FDA likely requiring higher standards for clinical trials prior to approval, the current R&D model – in which hundreds of devices may be in firms’ development pipelines – cannot be sustained. It would be far too costly to undertake clinicals for products that fill very small market niches, such as for peculiar surgeon preferences. In the past, manufacturers have thrived through offering a profusion of devices to suit every surgeon’s tastes, even though the devices had to be similar to those already in-market to qualify for the 510(k) pathway. Device makers won market share through having the R&D muscle to offer broad selection while simultaneously having a large salesforce that could get close to surgeons and understand their particular wants. This strategy now needs to change.
In the future, device R&D will need to focus more on a handful of key growth platforms, where the payoff for success can justify the substantial costs for clinicals. Given that many classes of devices are under fierce pricing pressure due to commoditization, the platforms will need to create "disruptive innovations" along new dimensions of performance. They might also cater more to the economic and operational needs of the facilities that purchase these devices – hospitals, outpatient clinics and the like – and less to the tastes of surgeons who have historically recommended which device to buy. Perhaps, for instance, devices will start to integrate with hospital IT systems to better monitor usage, which would both improve patient safety and ensure accurate billing.
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