With the March 23, 2010, enactment of the Patient Protection and Affordable Care Act (PPACA) providing for a new health care model (and acronym) called Accountable Care Organizations (ACOs), health care industry participants are starting to grapple with the governance issues that may arise in structuring ACOs.

Because ACOs do not take the form of a single legal structure, but are instead a business structure focused on generating particular outcomes, a number of legal structures and governance options are available. This advisory briefly discusses these structures, outlines certain governance issues participants face within them, and provides suggestions for successful governance.

PPACA tells us that ACOs consist of providers and suppliers working together to manage and coordinate care. If the ACO is successful in meeting certain quality performance standards, i.e., if the ACO’s estimated Medicare costs are below a benchmark set by the secretary of the U.S. Department of Health and Human Services (HHS), the ACO is eligible to receive payments for shared savings. PPACA further provides that the ACO must be “accountable” for the quality, cost, and overall care of the Medicare beneficiaries assigned to it and participate in the shared savings program for at least three years.

To achieve these goals, ACOs will need to provide internal or contracted services in the following areas: care coordination, third-party administration, information technology, billings, and claims.

PPACA identifies the following as participants in ACOs:

  • Physicians in group practice arrangements or networks of individual physician practices or other clinical practices;
  • Partnerships or joint venture arrangements between hospitals and physicians and/or other practitioners;
  • Hospitals; and
  • Such other groups of providers of services and suppliers as the HHS secretary determines appropriate.

Given these parameters, there are a handful of legal structures to choose from in forming an ACO, including joint ventures, partnerships, physician-hospital organizations, corporations (both for-profit and nonprofit, including taxable and tax-exempt entities), and limited liability companies. As to each of these structures, the governance issues may include:

  • Board composition and size;
  • Which board committees will be necessary for the operation of the business;
  • The entity’s approach to conflicts of interest;
  • How physician and hospital representatives will discharge their duty of care to the organization, as distinct from their duty of care to the participant organization they represent; and
  • Additional considerations for tax-exempt ACOs or ACOs with tax-exempt participants.  

Board composition and size

The ideal size of the board depends on many factors, including principally the tasks it is charged with, the size of the network of participants, the ownership, and the funding sources. There is no “magic number” of board members. Generally, a governing board should (i) be large enough to provide diversity of experience and opinions, (ii) be small enough to require individual responsibility and interactive discussions, and (iii) allow for a favorable decision-making majority (that is, given a quorum, the size of the board should provide for an acceptable number of board members to make a decision).

The latter consideration can be a key factor in determining the appropriate size of a board. For example, if a board has five members, a quorum is likely to be three. This would bestow decision-making majority on just two members (assuming that a majority of a quorum may act on the organization’s behalf). For this reason, a board size of seven or nine members is a beneficial starting point for discussion. Also, many organizations opt for an odd number of directors to avoid deadlock caused by a tie vote.

PPACA states that the ACO needs to have a leadership and management structure that includes clinical and administrative systems. Consequently, in addition to the other skill sets normally sought after in a provider organization (e.g., financial expertise, and industry and operational expertise), an ACO should seek management and board representation knowledgeable about and conversant with these systems.

Initially, most ACO governing boards appear to be formed to ensure representation of the participants. Therefore, if an ACO is comprised of three medical group participants and one hospital participant, each of these entities will desire representation. To be effective, however, the governance structure must result in standardized key management and clinical systems as well as coordinated governance throughout the participants in the ACO. This coordination can be facilitated by overlapping board memberships between the ACO and the participants, adherence by all participants to formulated reporting between entities, common management and clinical policies adopted by all participants, and joint committees with representation from all of the ACO participants.

Board committees

The success of the ACO turns on its ability to achieve clinical integration, with financial integration and interdependence of the participants (e.g., how primary care physicians and specialists will interact and share information). This will require a strong focus on information systems and processes that capture hospital and clinical results across a continuum of care. This required focus leads to the following suggestions around committee structure.

  • The Quality of Care Committee will be of key importance, particularly as the focus shifts more to clinical processes and integration, designed to improve the quality, cost, and overall care of the Medicare beneficiaries assigned to the ACO. This will necessitate more than the traditional “peer review,” requiring consideration of what feedback mechanisms to physicians will be most helpful and what the consequences will be to participating providers who fail to comply with the protocols or requirements of a new delivery system. Some entities empower clinical integration committees, or physician advisory committees designed to advise the quality committee on clinical integration topics.
  • The Finance Committee will also be of importance to monitor the cost of care and the generation of shared savings. If the ACO does not form a separate compensation committee, the finance committee will also have to develop new models of compensation to properly incentivize management and providers and, most importantly, to establish how shared savings will be distributed to the participating providers.
  • The Compliance Committee will be critical, given the emphasis on cost savings and the expected new pronouncements under Stark nonreferral provisions, federal and state antikickback prohibitions, corporate practice of medicine prohibitions, and antitrust concerns.
  • The Governance Committee will need to sort out appropriate nominees for board positions, address conflict of interest situations, and promote relevant board education.  

Conflicts of interest

Conflicts of interest in the ACO context will present themselves primarily in two ways: (i) in contracts with a director, in which the director has a material financial interest, and (ii) in contracts with the ACO participant that appointed the director. In other words, if, for example, Medical Group A provided Dr. A, conflicts could surface when the ACO enters into a contract with Dr. A or with Medical Group A.

Material financial interest

In the for-profit context (such as a joint venture), the required governance approval is that (a) there be disclosure of Dr. A's direct or indirect interest; (b) neither Dr. A nor any other directors from Medical Group A may participate in the voting on the matter, and (c) the matter is approved with a sufficient vote (i.e., generally a majority of a quorum), without counting the votes of the directors representing Medical Group A.

In the nonprofit context (such as a tax-exempt medical foundation), there needs to be disclosure of Dr. A’s direct or indirect interest and Dr. A must refrain from voting; but the approval also must be of a majority of the directors then in office, without counting the vote of Dr. A and other directors representing Medical Group A. Moreover, the board must conclude that the organization could not have obtained a more advantageous arrangement with reasonable effort under the circumstances.

In addition, the Internal Revenue Code (IRC) also provides that any transfers of property or money between an exempt organization and persons exercising substantial influence over such organization (such as a director), must be consummated on terms and conditions that are consistent with fair market value. Excise taxes and penalties may be imposed on a disqualified person and participating managers (which would include the board), if a tax-exempt entity pays a disqualified person a rate in excess of fair market value.

Conflicting loyalties/fiduciary duties

In most ACOs, many of the board members will be provided or selected because they represent participants in the organization. In these instances, there will be a natural tension between such a director’s loyalty to his or her employer and the need to take actions that are in the best interests of the ACO. However, the required duty of loyalty is clear: an ACO board member's decisions need to be made in the best interests of the ACO.

This will require board education and possibly a board policy on point. In those instances where a board member feels he or she is not able, as to a particular board decision, to take action that he or she believes to be in the best interest of the ACO, he or she should refrain from voting.

In either case (e.g., a material financial interest or conflicting loyalties or duties), the ACO needs to implement a clear conflict of interest policy that provides guidance to the board and management on what constitutes a potential conflict of interest and how the governing board is to deal with it.

Additional considerations when tax-exempt entities participate

If the ACO is to be operated as an exempt entity (such as, in California, a 1206(l) medical foundation), the following five additional governance issues will need to be addressed:

  • To preserve the tax-exempt status of the exempt participant (e.g., a hospital or medical foundation), the governing board will need to operate the ACO in a manner that furthers the charitable purpose of the exempt participant, generally by promoting health for a broad cross-section of the community served by such participant. This duty will override any duty to operate the ACO for the financial benefit of its participants. In addition, the governing board will need to review and monitor on a regular basis the ACO’s provision of charity care and the ACO’s participation in other programs, activities, and services that provide benefits to the community. The governing board will also need to ensure that the ACO’s charity care policy is consistent with the charity care policy of the exempt participant and disclosed to patients of the ACO.
  • In the context of physician-hospital joint venture with an IRC Section 501(c)(3) tax-exempt party, the Internal Revenue Service (IRS) also emphasizes representation on the governing boards in determining whether benefits generated from such a joint venture (with an exempt participant) flow to the tax-exempt entity and the community as opposed to the physician participants. The IRS takes the position that a tax-exempt entity is required “to ensure that its interests are adequately represented on the governing body so that the physician-service organization is not operated in a manner that is inconsistent with the hospital’s exempt status.”
  • The IRS also takes the position that adequate control by an exempt entity may be “accomplished … by appointing a portion of the governing board commensurate with [the tax-exempt hospital’s] investment” in the joint venture. According to the IRS, a tax-exempt hospital may prevent improper benefits from flowing to the physician group by providing the hospital with a veto power over the actions of the physician-service organization that may adversely affect its exempt status. In general, these ventures are structured such that the hospital has control over charity care and community benefit, when and how often to conduct community needs assessments, and participation in Medicare and Medicaid.
  • In California and other states with Sarbanes Oxley-like legislation, to address the requirements of a Nonprofit Integrity Act or other SOX-like legislation, a tax-exempt ACO may need to appoint an audit committee, have the board approve of any changes in the compensation and benefits of the CEO and chief financial officer, and if the ACO receives or accrues in any fiscal year gross revenue of $2 million or more—exclusive of grants or contracts with governmental entities for which the governmental entity requires an accounting of the funds received—prepare audited financial statements.
  • Additionally, in many states (including California), 50 percent or more of the nonprofit board may need to be persons (or family members) whom the entity has not compensated in the past 12 months.

Good governance usually results in better decision-making and working through these governance issues during the ACO planning process will help promote good governance.