Opportunities for value creation in healthcare

Escalating healthcare costs create significant opportunities for value creation

Published: Jan 7, 2019 02:49:25 PM IST
Updated: Jan 7, 2019 03:06:35 PM IST

g_112021_anita_mcgahan_280x210.jpgAnita McGahan, Professor of Strategic Management, Rotman School

In October 2005, General Motors and the United Auto Workers reached a compromise to reduce GM cash outlays on healthcare benefits for active and retired personnel by an estimated $1 billion. The agreement was hailed as a victory for both parties because it would lower the company’s costs while preserving jobs. But the seeds of GM’s demise had already been sown.  In that same year, its annual report had warned investors that escalating healthcare costs were an existential threat:

Healthcare in the United States is one of our biggest competitive challenges, and if we do not make progress on structurally fixing this issue, it could be a long-term threat to our company. In 2005, GM was challenged with the compound impact of escalating healthcare cost rates and falling discount rates used to determine future healthcare liabilities. As a result of these factors, in 2005, GM’s U.S. other post-retirement employee benefits (OPEB) expense, consisting of retiree healthcare and life insurance, increased to $5.3 billion, an increase of more than $1 billion from 2004.


Four years later, on June 1, 2009, General Motors filed for bankruptcy in the U.S., Canada and Ontario. In hindsight, it is clear that the structural issue of escalating healthcare costs had indeed set the foundation for failure. As The Economist explained, “Every year, the cost of retired workers’ healthcare diverted billions of dollars from developing innovative new models and added $1,400 to the cost of each car compared with those made in Asian and European plants.”

In other words, the company’s past success created obligations that eventually took it down.

GM’s problems are not unique. Over the years, escalating healthcare costs have been cited in the bankruptcies of Kodak, Xerox and Data General, among others. Of course, healthcare expenditures and issues have both positive and negative implications for firms: Healthcare benefits help to attract and retain talent, drive productivity and reinforce a company’s values and image of being social responsible. However, as the cost of providing healthcare escalates, the achievement of competitive advantage through each of these mechanisms becomes more difficult.

In many markets, escalating healthcare costs also create opportunities for value creation. Innovation is rewarded in the pharmaceutical, medical-device manufacturing, healthcare provision, acute-care, insurance, tertiary healthcare, food-manufacturing, restaurant, information-technology and lifestyle-support industries. Companies in each of these sectors can disrupt incumbents by introducing innovative products and services that improve health, reduce the likelihood of illness, and/or reduce the cost of care. Consider the following examples.

  • Medical-device manufacturers have been introducing cheaper and more accurate dental-imaging machines than those currently in use, developed decades ago;
  • Information-technology companies have analyzed health data to provide more accurate and comprehensive assessments than were previously available; and
  • Lifestyle-support companies now offer holistic ‘wellness’ solutions designed to reduce the costs of healthcare by averting illness through better fitness, healthier diets, mental-health support, and other means.

Thus, just as escalating healthcare costs have threatened companies like GM, they have also created a powerful incentive for firms to innovate in various markets. The question is, Can companies innovate to improve quality of life and lower healthcare costs quickly enough to counteract the threats to general business from escalating healthcare costs?

A fundamental point—one that is central to the sustainability of our way of life—is that the cost of healthcare must go down in real terms. We simply cannot afford the healthcare system that we have now. In 2015, the estimated expenditure on healthcare per person in the U.S. approached $10,000 per person—about 17 per cent of GDP. The figures for Canada and the UK were about half that level—nevertheless, a high percentage of income.  

Many established healthcare companies have developed strategies that essentially emphasize the exporting of Western healthcare systems into emerging markets, but this approach will eventually hit a wall. The hard truth is that even in wealthy countries, healthcare is rapidly becoming unaffordable, and the same type of system will undoubtedly be unaffordable in less-wealthy countries.

The heart of the problem is that our current model of healthcare was conceived and built in the late 19th and early 20th centuries on principles that reflected industrialization. The human person was conceived as an essentially healthy being, with the challenges of disease and illness remediated by medical care. This ‘medicalization’ of healthcare meant that interventions generally occurred after patients became symptomatic. In other words, we went to doctors after we got sick, not before. The incentives associated with the system were therefore developed to reward the remediation of illness: Doctors got paid the most when they saw sick patients, not well ones.

In his brilliant book Being Mortal, Dr. Atul Gawande describes the consequences of the systemic problem in human terms:

You don’t have to spend much time with the elderly or those with terminal illness to see how often medicine fails the people it is supposed to help. The waning days of our lives are given over to treatments that addle our brains and sap our bodies for a sliver’s chance of benefit. They are spent in institutions—nursing homes and intensive-care units—where regimented, anonymous routines cut us off from all the things that matter to us in life. Our reluctance to honestly examine the experience of aging and dying has increased the harm we inflict on people and denied them the basic comforts they most need. Lacking a coherent view of how people might live successfully all the way to their very end, we have allowed our fates to be controlled by the imperatives of medicine, technology, and strangers.

Gawande teaches us that our system has evolved to solve one problem after another by mostly well-intentioned actors working from the resources available at the time the problem was confronted. We have created a healthcare system that reflects our values, which are of economy, rationality, technology, and a kind of self-determinism that leads to isolation of the elderly.

What is needed to counteract the threat of escalating costs is a new way of thinking about healthcare that rests on a 21st-century mindset about what is possible in both human and economic terms.

My students know what to do in order to avoid a heart attack at age 50 and to avert other types of cardiovascular conditions and cancer: eat right, go to the gym, sleep enough, stop smoking, drink in moderation, develop strong relationships and reduce stress. Yet, when I ask them why they don’t do all these things, they tell me variations of the following: “It’s too hard”; “On a Friday night, my friends expect me to go drinking with them”; “I can’t find the energy to go to the gym”; and “I’m so worried about finding a job that I stay up all night studying.” These students are on track to suffer the same kinds of diseases, at the same stages of life, as my generation.

To support the practices that my students know are best for them, we need an entirely different way of approaching healthcare. Incentives must change so that patients tell physicians about risky behaviour and physicians are rewarded for helping them stay healthy. Products and services that sustain health must be as abundantly available as those that damage health, which means that these sustaining products and services must be profitable and desirable. For example, vaccines must become profitable enough to compete with annuity drugs in order to attract the best scientific talent to work on them.

Furthermore, physician culture must change to emphasize health and quality of life. Medical schools must become ‘health schools’, and they must offer courses of education that yield qualified physician assistants, nurses and community workers as health providers. The dissemination of knowledge about heath must have safeguards to prevent any undermining by private conflicts of interest. And national conversations must develop on late-life quality of life.

In short, the whole system needs to be redesigned to emphasize prevention, early diagnosis, comprehensive treatment, social support, mental health and meaningful work. Lastly, the new system must be designed to capitalize on digital and other technologies to radically reduce the cost of healthcare, and it must be both better and cheaper.

The managerial research suggests several fruitful ways to begin, and already a number of principles have emerged.

The goal for change must be maintaining and sustaining human health.
Healthcare organizations—like organizations in any industry—tend toward processes that sustain their organization. This occurs for a range of reasons: preservation of jobs, belief in purpose, commitment to value creation for patients, preservation of legacy and concerns about risk. However, the goal should not always be the sustainability of the organization. Especially in healthcare, the most successful organizations could actually put themselves out of business over time as their missions become fulfilled.

Consider the following example: President Jimmy Carter has had a passionate commitment to the eradication of guinea-worm disease, and the Carter Centre’s anti-leishmaniasis program has been organized to pursue that goal. President Carter would like nothing more than to put this program ‘out of business’ by achieving that mission. The goal is to sustain health rather than sustain the organization. This type of perspective needs to be purposefully cultivated on a larger scale. People should always be mindful that, in many cases, their ultimate success can be achieved only when their organization—or, more frequently, a program of certain activities—is no longer needed.

Climate change threatens human health and, as a consequence, the entire healthcare system that we have in place today. The effects are already in motion: Droughts that diminish agricultural productivity, storms and warm temperatures that together promote infection, weather disasters that create humanitarian emergencies, and pollution that harms crucial ecosystems. As climate change progresses, the demands on the health sector will escalate. In response, the following are crucial priorities that present opportunities for innovation: Improving systems for producing and distributing high-quality food; identifying weather events in advance of their occurrence; and configuring effective humanitarian responses on an international basis.

The future of healthcare is digital. The list of opportunities for improving health systems through digitization is so extensive that any attempt to capture that scope is daunting. Yet despite the range of opportunity, the health system often resists digitization. For example, in one hospital in downtown Toronto, new applications cannot be adopted because the enterprise computing system is too old to accommodate them. In other cases, legitimate concerns about privacy and effective diagnoses must be addressed before progress can occur. And in still other situations, digitization requires the development of new protocols that physicians resist because they are concerned about the risks for patients and the administrative burden of too much change. Our research suggests that relatively few providers actively resist digitization out of self-interest, laziness or ignorance. Rather, the problem of implementation is often one of organizational siloes and the absence of relevant digital and medical expertise in the right places at the right times.  Major opportunities exist in addressing these issues.

Popularizing small, well-designed experiments is critical to progress. Randomized controlled trials are the currency of innovation in healthcare. This method for legitimizing change is designed to ensure not only that the proposed changes work but also that they are the best available among all those that might be effective. Management changes become compelling to health providers and health scientists when those changes are supported by the results of randomized controlled trials. To meet the evidentiary burden, successful small-scale experiments must accumulate to the point that costly randomized controlled trials become worthwhile.

The private sector plays a crucial role in scaling. The private sector, by pursuing profitable interventions, supports the scaling of effective and efficient new approaches through decentralized coordination. In healthcare, the mechanisms that support private activity include intellectual property protections (namely, patents) and rules of law that limit liability and enable insurance. These institutions have led to a concentration of innovation around medicines and medical devices. New types of institutions are likely needed to support innovation in private-sector health delivery. Identifying and developing them is central to achieving scale in innovation in this sector.

In closing
Even though discussion about the future of healthcare is in its infancy, some answers are already evident. Specifically, providing employees with access to healthcare that emphasizes prevention, quality of life, and intensive and early treatment is both cost-effective and humane. And competing effectively for talent will depend on supporting innovative and enlightened approaches to health, both in the workplace and through insurance programs.

The simple truth is that all companies can benefit by designing products and services aligned with the principles of health transformation described herein. Choices about workplace policies are just the tip of the iceberg. In every sector of the economy, products and the offering of services designed to support human health are simply more sustainable than those that are not, and in general, those companies that understand this basic concept will be better positioned to prosper over the long term.

Anita M. McGahan is the Rotman Chair in Management and Professor of Strategic Management at the Rotman School of Management, with cross appointments to the University of Toronto’s Munk School of Global Affairs and Faculty of Medicine. She served as President of the Academy of Management in 2016-17. This article is an adapted excerpt from her chapter in Survive and Thrive: Winning Against Strategic Threats to Your Business (Dog Ear Publishing, 2017), a collection of perspectives on strategic threats from the Rotman School’s renowned Strategic Management faculty.

[This article has been reprinted, with permission, from Rotman Management, the magazine of the University of Toronto's Rotman School of Management]

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