United States General Accounting Office

GAO Report to the Chairman, Committee on

Commerce, House of Representatives

October 1995 ARIZONA MEDICAID

Competition Among

Managed Care Plans

Lowers Program Costs

GAO/HEHS-96-2

GAO United States

General Accounting Office

Washington, D.C. 20548

Health, Education, and

Human Services Division

B-261607 

October 4, 1995

The Honorable Thomas J. Bliley, Jr.

Chairman, Committee on Commerce

House of Representatives

Dear Mr. Chairman:

Seeking to control escalating health care costs and improve access to the

Medicaid program, states are adopting various managed care delivery

systems. More than 13 years ago, Arizona was the first state to obtain

approval from the Health Care Financing Administration (HCFA) to develop

and implement a mandatory statewide Medicaid managed care system.

Arizona’s Medicaid program today benefits significantly from health plans

competing with each other to win contracts to provide health care to

Medicaid beneficiaries in both the state’s urban and rural areas.

Because of Arizona’s experience in implementing a statewide managed

care program, you asked us to review Arizona’s Medicaid program and,

specifically, to discuss (1) the program’s cost containment experience,

(2) the role of health plan competition in the program’s cost containment

success, (3) the effect of cost containment on beneficiary access to

appropriate care, and (4) lessons about Arizona’s cost containment

success that could apply to other states’ Medicaid programs.

To do this work, we interviewed federal and state Medicaid officials and

officials of managed care plans operating in Arizona. We reviewed

documents relating to the 1994 competitive contract process, Arizona

Health Care Cost Containment System’s (AHCCCS) quality management

policies for health plans, and many studies of Arizona’s Medicaid program.

We obtained and analyzed cost information for 1991 to 1995 and plan

profit data from 1986 to 1994. We also interviewed local advocacy groups

representing the Medicaid population, such as attorneys in state and

county legal aid offices and private nonprofit groups, and reviewed

beneficiary satisfaction studies. Our review addresses Medicaid’s acute

care expenditures and services only. We conducted our work from

September 1994 through August 1995 and followed generally accepted

government auditing standards.

Results in Brief While many states are converting their traditional fee-for-service Medicaid

programs to managed care delivery systems, Arizona’s Medicaid program

Page 1 GAO/HEHS-96-2 Arizona Medicaid
B-261607 

offers valuable insights—especially in fostering competition and

monitoring plan performance. Since 1982, Arizona has operated a

statewide Medicaid program that mandates enrollment in managed care

and pays health plans a capitated fee for each beneficiary served. Although

the program had problems in its early years, such as the contract

termination of the program administrator and the state’s takeover of the

administration, it has succeeded both in containing health care costs and

providing beneficiaries access to mainstream medical care.

Arizona’s recent cost containment record is noteworthy. According to one

estimate, Arizona’s Medicaid program saved the federal government

$37 million and the state $15 million in acute care costs during fiscal year

1991.1

 While other states’ per capita costs for Medicaid have continued to

grow, Arizona’s capitation rates declined by 11 percent in 1994. Reviews

have also shown that, since its inception, the per capita growth rate of

Arizona’s program has been less than the national per capita growth rate

for states with traditional Medicaid programs. Although the amounts that

Arizona spends to administer its program are higher than what other states

spend, these additional expenditures more than pay for themselves in net

program savings.

Arizona’s program succeeded in containing costs by developing a

competitive Medicaid health care market. Health plans that submit

capitation rates higher than their competitors’ bids risk not winning

Medicaid contracts. In the latest cycle, seven plans bid unsuccessfully,

including two that had previously had contracts. Health plans compete to

serve Arizona’s Medicaid population because doing so can be profitable. In

1994, health plans earned an aggregate of $56 million in profits, or

6.7 percent of gross income. Altogether, 95 bids, double the number from

the previous contract cycle, were submitted for the 42 contracts awarded.

Arizona’s emphasis on cost control does not appear to have hindered

beneficiaries’ access to appropriate care. For one thing, the competitive

bidding process assigns more points to access and quality factors than

capitation rates. In addition, the program specifies standards that plans

must meet for the number and types of providers in each contract’s

geographical location, requires plans to routinely provide data

documenting a plan’s stability and levels of care provided, and requires

plans to conduct various studies measuring patient outcomes. According

to HCFA, Arizona is among the states taking the lead in developing systems

1

This is the latest year for which a comprehensive study exists of Arizona’s cost containment

performance compared with similar states with traditional Medicaid programs.

Page 2 GAO/HEHS-96-2 Arizona Medicaid
B-261607 

that collect encounter data and more accurately measure patient

outcomes. Equally important, beneficiaries and their advocates have

expressed overall satisfaction with Arizona’s program.

Although each state’s Medicaid program is different, other states that are

considering implementing or are currently operating a managed care

program can benefit from Arizona’s experience. Our work suggests that

key conditions for containing Medicaid costs without compromising

beneficiaries’ access to appropriate medical care include

• freedom from certain federal managed care regulations,

• development and use of market forces,

• controls to protect beneficiaries from inadequate care, and

• investment in data collection and analysis capabilities.

Arizona’s experience also demonstrates that a successful program requires

substantial preparation and development. States need a transition period

to make the dramatic shift from third-party payer in a fee-for-service

system to health plan overseer monitoring costs, access, and quality of

care.

Background Almost all states pay for the bulk of their Medicaid beneficiaries’ health

care through a fee-for-service system, which simply reimburses providers

for their services. To control service utilization and therefore costs, states

are increasingly adopting managed care—which coordinates beneficiaries’

care—for the acute care portion of their programs. Managed care can

range from capitated models that pay organizations a set monthly fee for

all services to primary care case management models (PCCM), which pay

for each service rendered but also pay certain primary care physicians a

small amount to coordinate their patients’ care. Capitated models are

considered the strongest form of managed care because they give

providers the greatest incentive to control utilization; PCCMs are

considered the weakest.2

 Most states with managed care programs use a

PCCM model alone or in conjunction with some care paid on a capitated

basis.

2

Capitated payment systems challenge health plans to establish cost-effective health care systems and

search for new ways to achieve savings and manage utilization. Health plans are at risk for the cost of

services provided to an enrollee and must absorb the loss if these costs exceed the monthly capitation

payment. Health plans’ cost control methods include emphasizing cost-effective preventive medicine;

identifying inefficient patterns of obtaining health care, such as going to the emergency room for

primary care; contracting with a third party to handle segments of care, such as home health or

pharmaceuticals; and bargaining with providers to obtain substantial discounts from usual fees.

Page 3 GAO/HEHS-96-2 Arizona Medicaid
B-261607 

Arizona’s Medicaid program is different. The state never participated in

the traditional fee-for-service Medicaid program, implementing instead in

1982 a program that mandates managed care for all beneficiaries and pays

all of its health plans a fixed amount per person to provide all covered

services. The program, AHCCCS (pronounced “access”), features a

competitive contract award process to purchase health care services from

private- or county-operated health care plans. The capitation rate is set

after a bidding process in which health plans submit separate bids for each

county they wish to serve. (App. I summarizes the competitive contract

process.)

To help ensure that AHCCCS beneficiaries have access to appropriate

medical care, health plan contracts stipulate specific provider networks,

ensuring provider availability in both urban and rural locations. AHCCCS

monitors the medical and financial performance of contracting plans.

(App. II summarizes oversight activities.)

For a state to mandate enrollment of its Medicaid population in a

statewide managed care program, it must obtain an 1115 demonstration

waiver from the federal government.3

 In 1982 Arizona was the first state to

have a waiver approved for this purpose. Initially, AHCCCS had waivers from

federal regulations requiring that a full scope of services be provided to

enrollees. Over the years, however, AHCCCS has added the full range of

Medicaid services, including family planning, behavioral health, and

long-term care.4

As the program has evolved, however, it has had difficulties, including a

failed attempt to contract for administrative services in its start-up phase,

health plans with financial difficulties, and impediments in setting up data

systems. We have reviewed the program throughout its history and made

recommendations that HCFA and the state have implemented.5

 (App. III

details AHCCCS’ history.)

3

Named for section 1115(a) of the Social Security Act, these waivers enable states to conduct

demonstrations that operate differently from conventional fee-for-service Medicaid programs. Since

1992, 11 states have obtained such waivers from HCFA.

4

In 1989 AHCCCS began the Arizona Long Term Care System (ALTCS) that offers acute care, nursing

home care, and home and community-based services to the elderly and physically and developmentally

disabled. Currently, ALTCS has about 20,000 enrollees. Since 1990 AHCCCS has expanded mental

health care coverage to people enrolled in both its ALTCS and acute care programs.

5

Medicaid: States Turn to Managed Care to Improve Access and Control Costs (GAO/HRD-93-46, Mar.

17, 1993); Medicaid: Lessons Learned From Arizona’s Prepaid Program (GAO/HRD-87-14, Mar. 6, 1987);

Arizona Medicaid: Nondisclosure of Ownership Information by Health Plans (GAO/HRD-86-10, Nov. 10,

1985); and The Health Care Financing Administration’s Monitoring of the Arizona Health Care Cost

Containment System (GAO/HRD testimony, June 15, 1984).

Page 4 GAO/HEHS-96-2 Arizona Medicaid
B-261607 

AHCCCS’ acute care program now serves over 432,000 beneficiaries in 15

counties.6

 About three-fourths of the beneficiaries live in Arizona’s two

urban counties, encompassing the cities of Phoenix and Tucson. The

remaining beneficiaries live in Arizona’s 13 rural counties. Several of the

rural counties are so remote they are categorized as “frontier.”

AHCCCS Produces

Noteworthy Cost

Savings Record

Arizona’s success in encouraging competition among managed care health

plans has saved the state and the federal government money. AHCCCS has

lowered the 1995 per member capitation rates paid to health plans from

rates paid a year earlier. In the last several years, it has also contained the

rate of growth in per capita Medicaid expenditures, resulting in per capita

costs that are lower than those in traditional, but otherwise comparable,

Medicaid programs. While AHCCCS’ program management requires high

administrative expenditures of the state, the large savings in medical costs

still result in a net savings.

AHCCCS Capitation Rates

Decreased by 11 Percent in

1995

AHCCCS capitation rates fell, on average, by about 11 percent from 1994 to

1995, which is remarkable for at least three reasons. (Fig. 1 shows the

annual change in capitation rates by beneficiary category for each of the

last 4 years.) First, average spending per Medicaid beneficiary was

projected to rise nationally during the same period. Second, the cost of

serving beneficiaries in the AHCCCS program was already below the cost

that would have been incurred in a traditional Medicaid program.7

 Third,

health plans serving AHCCCS beneficiaries are now exposed to greater risk

than under previous contracts for expenses generated by beneficiaries

with extensive health care needs.8

 Typically, the plans’ exposure to greater

financial risk would have tended to make the contracts less attractive to

6

Eligible AHCCCS beneficiaries include the federally mandated groups—Aid to Families With

Dependent Children (AFDC) recipients, Supplemental Security Income (SSI) recipients, and women

and children covered under the 1987 Sixth Omnibus Budget Reconciliation Act (SOBRA).

Medicaid-eligible American Indians can choose to receive services from the Indian Health Service or,

off-reservation, from an AHCCCS health plan.

7

This is the finding of a 1994 Laguna Research Associates study (see footnote 9).

8

Effective October 1, 1994, AHCCCS changed its reinsurance and deferred liability policies.

Reinsurance is a benefit that AHCCCS provides to contracted health plans to reduce their financial risk

for services rendered to a member whose liability reaches a certain amount, known as a deductible.

Reinsurance is now limited to inpatient services only (ambulatory claims were eliminated), and the

acute care services threshold was increased. In 1994 deferred liability was eliminated. Deferred

liability allowed health plans to be reimbursed on a fee-for-service basis for care provided to newly

enrolled beneficiaries who met special conditions, such as being hospitalized at the time of enrollment,

receiving active chemotherapy, or enrolling in the program in the last 2 weeks of a high-risk

pregnancy. AHCCCS made these changes to shift more risk to the health plans and encourage them to

manage care efficiently.

Page 5 GAO/HEHS-96-2 Arizona Medicaid
B-261607 

health plans and, all else equal, would have led to higher—not

lower—capitation rates.

Figure 1: Annual Percentage Change

in AHCCCS Capitation Rates, by

Eligibility Category

Percent Change

-12

-10

-8

-6

-4

-2

0

2

4

6

8

10

1991-92 1992-93 1993-94 1994-95

Fiscal Year

AFDC

SSI With Medicare

SSI Without Medicare

Study Showed AHCCCS

Controlled Costs Better

Than Traditional Programs

AHCCCS slowed the growth rate in Medicaid expenditures compared with

what would have occurred had Arizona served the same beneficiaries

using a traditional Medicaid fee-for-service program,9

 according to a 1994

Laguna Research Associates study conducted for HCFA. Specifically,

AHCCCS’ annual per capita growth rate from 1983 through 1991 (the most

recent year for which these cost comparison figures are available10) for the

combined AFDC and SSI beneficiary population was 6.8 percent versus

9

Managed Medicaid Cost Savings: The Arizona Experience, Laguna Research Associates (San

Francisco: 1994) (study limited to AFDC and SSI recipients).

10Laguna Research Associates has submitted a draft report to HCFA that updates this comparison to

fiscal year 1993. The data in this draft report show a continuation of this trend: that is, AHCCCS per

capita costs grew more slowly in 1992 and 1993 than they would have under a traditional program.

Page 6 GAO/HEHS-96-2 Arizona Medicaid
B-261607 

9.9 percent for a traditional Medicaid program. (See fig. 2 for a comparison

of AHCCCS costs with traditional Medicaid costs.)

Figure 2: Per Capita Cost of AHCCCS

Compared With Traditional Program,

Fiscal Years 1983-91

Dollars

0

15

30

45

60

75

90

105

120

135

150

165

1983 1984 1985 1986 1987 1988 1989 1990 1991

Fiscal Year

AHCCCS per Capita Cost

Traditional Program Estimate per Capita Cost

The biggest slowdown in AHCCCS growth rates occurred for the SSI-eligible

beneficiary population after 1987. From the late 1980s until 1991, costs for

Arizona’s AFDC-eligible beneficiaries were lower but rose at about the same

rate as per capita costs in traditional Medicaid programs. However, during

the same period, costs under AHCCCS grew much more slowly for

SSI-eligible beneficiaries than the Laguna Research study estimated they

would have grown under a traditional program. (See figs. 3, 4, and 5.) For

example, per capita costs for disabled beneficiaries grew by 5.4 percent

between 1987 and 1991 compared with the 17.3 percent that Laguna

estimated they otherwise would have grown. For aged beneficiaries under

AHCCCS, annual costs grew by 9.5 percent, compared with the benchmark

of 17.2 percent.

Page 7 GAO/HEHS-96-2 Arizona Medicaid
B-261607 

Figure 3: Cost of Serving an

AFDC-Eligible Recipient in AHCCCS

Compared With Estimated Cost in a

Traditional Program, Fiscal Years

1983-91

Dollars

0

25

50

75

100

125

150

1983 1984 1985 1986 1987 1988 1989 1990 1991

Fiscal Year

AHCCCS per Capita Cost

Traditional Program Estimate per Capita Cost

Page 8 GAO/HEHS-96-2 Arizona Medicaid
B-261607 

Figure 4: Cost of Serving an SSI

Disabled Recipient in AHCCCS

Compared With Estimated Cost in a

Traditional Program, Fiscal Years

1983-91

Dollars

0

50

100

150

200

250

300

350

400

1983 1984 1985 1986 1987 1988 1989 1990 1991

Fiscal Year

AHCCCS per Capita Cost

Traditional Program Estimate per Capita Cost

Page 9 GAO/HEHS-96-2 Arizona Medicaid
B-261607 

Figure 5: Cost of Serving an SSI Aged

Recipient in AHCCCS Compared With

Estimated Cost in a Traditional

Program, Fiscal Years 1983-91

Dollars

0

25

50

75

100

125

150

175

200

225

1983 1984 1985 1986 1987 1988 1989 1990 1991

Fiscal Year

AHCCCS per Capita Cost

Traditional Program Estimate per Capita Cost

In addition, Laguna Research estimated that AHCCCS spent less per person

in 1991 than would have been spent under a traditional program. Overall,

Arizona spent 81 percent of what a traditional program would have spent,

although this percentage varied by Medicaid eligibility populations. For

example, spending for disabled beneficiaries was only 65 percent of

spending for those in a traditional program, whereas spending for blind

beneficiaries was estimated to have been the same. (See fig. 6 for AHCCCS

per capita spending compared with traditional programs by beneficiary

category.)

Page 10 GAO/HEHS-96-2 Arizona Medicaid
B-261607 

Figure 6: AHCCCS Capitation Rates as

a Percent of Estimated per Capita

Costs in a Traditional Program, by

Eligibility Category, Fiscal Year 1991

Percent

0

20

40

60

80

100

AFDC

SSI Aged

SSI Blind

SSI Disabled

All Groups Combined

Eligibility Category

Net Savings Generated

Despite Slightly Higher

Administrative Costs

Arizona’s program demonstrates that adequately funding oversight

activities more than pays for itself in net program savings. AHCCCS

administrative costs are higher than the amount usually spent

administering a traditional Medicaid program. In 1994 Arizona’s

administrative costs amounted to about 7 percent of what the state spent

on medical services; most Medicaid programs spend about 4 to 5 percent

on administration. Although we did not evaluate the appropriateness of

AHCCCS’ higher administrative costs, the Laguna Research report concluded

that running an AHCCCS-like program is necessarily more expensive than

running a traditional Medicaid program. Even with its higher

administrative costs, the AHCCCS program generates net savings. For

example, the report estimated that in 1991 AHCCCS generated medical

savings of $70.7 million, required additional administrative costs of

$19.2 million, and thus produced a net savings of $51.5 million for that

Page 11 GAO/HEHS-96-2 Arizona Medicaid
B-261607 

year. Because the federal government covers about two-thirds of Arizona’s

Medicaid costs, it saved roughly $37 million.11

Competitive Bidding

Controls Costs, While

Profits Spur Plan

Participation

By using competitive bidding to award Medicaid managed care contracts,

Arizona has harnessed market forces to help contain health costs. Plans

are not assured of winning a contract; consequently, they have an

incentive to submit the lowest bid for which they can provide the required

beneficiary services and still earn a profit. Health plans are attracted to the

program because they can earn profits from the AHCCCS contracts. Arizona

and the federal government both benefit because the health plans—facing

a fixed capitation rate—have an incentive to practice cost-conscious

medicine and control costs.

Competitive Process

Encourages Low Bids

Health plans that submit capitation rates higher than their competitors’

risk exclusion from Arizona’s Medicaid market. AHCCCS awards a limited

number of contracts in each county: a maximum of 10 in Maricopa

County—where Phoenix is located; 5 in Pima County—where Tucson is

located; and 2 in each of the 13 remaining, more sparsely populated

counties.

With each bidding cycle, the state has improved its ability to evaluate bids

because it collects encounter, cost, and profitability data from each plan.

In the latest contract cycle, seven bidders failed to win any acute care

contracts, including two health plans that previously served AHCCCS

beneficiaries. These two plans lost their acute care contracts because they

failed to fully recognize the competitive pressures.

AHCCCS collects utilization, cost, and profit data from the health plans that

serve its Medicaid beneficiaries. Independent actuaries use these data to

estimate the cost of serving beneficiaries and establish reasonable bid

ranges for capitated payments. Bid range information is not shared with

the health plans, but the utilization data are. An AHCCCS official stated that

health plans face less risk when they have reliable utilization data on

which to base their bids, a factor that also encourages plan participation.

Existing plans know that they face competition not only from other plans

but also from first-time bidders. In the latest cycle, two commercial

11The federal government pays for a certain share of each state’s Medicaid medical expenses, called

the federal medical assistance percentage. This varies by state: as of fiscal year 1993 in Arizona, this

percentage was 65.89. In addition, the federal government pays 50 percent of most administrative

expenses for all states, although it pays a higher percentage for certain administrative categories.

Page 12 GAO/HEHS-96-2 Arizona Medicaid
B-261607 

insurers, subsidiaries of Cigna and Blue Cross/Blue Shield, succeeded in

obtaining contracts, one for the first time. First-time bidders are not

necessarily disadvantaged, compared with current providers, in the

contract award process. Prior performance can favorably or unfavorably

affect the scores of current health plans’ bids. Since first-time bidders have

no performance record, their scores are unadjusted. In short, existing

AHCCCS health plans with good performance receive some advantage in the

contract award process, but first-time bidders do not receive lower scores

simply because they have not had an AHCCCS contract previously.

AHCCCS may permit health plans to submit both an initial and a final

capitation bid, but the award process favors plans that submit low bids

both times. AHCCCS evaluates the initial bids and provides feedback to the

plans on their cost projections. However, AHCCCS does not reveal specifics

on either the state’s own cost estimates or competitors’ bids. After

receiving feedback, health plans have an opportunity to submit a

second—and final—capitation bid. However, both bids are considered in

the contract award process. That is, a plan that has submitted a high initial

bid will be at a disadvantage compared with a competitor that submitted a

low initial bid, even if their final bids are identical.

Another incentive for low bids is tied to the market shares of contract

winners. Although all Medicaid beneficiaries may specify which available

plan they will join, only about 56 percent actively pick a plan. The

remainder are assigned to a plan by AHCCCS, as are all fully state-funded

beneficiaries. Although it considers factors other than cost, AHCCCS assigns

more beneficiaries to lower cost plans.

Potential Profits, Even in

Rural Areas, Encourages

Health Plan Participation

AHCCCS’ 1994 contract bidding process resulted in an unprecedented level

of competition that helped achieve cost savings. Twenty-one health plans

submitted 95 bids to provide Medicaid services in Arizona’s 15 counties for

the 1995-1997 contract period. This was more than double the number of

bids (44) submitted in 1992, the start of the previous contract cycle. AHCCCS

awarded a total of 42 contracts to 14 of the 21 bidders. The contract

recipients included both commercial and noncommercial health plans,

showing widespread interest in participating in the AHCCCS program.

Health plan officials cited reported profits as a key reason for the

increased interest in obtaining an AHCCCS contract. AHCCCS health plans

earned a combined $44 million in profits, representing 5.4 percent of

revenue, in 1993. As table 1 shows, aggregate profits for AHCCCS health

Page 13 GAO/HEHS-96-2 Arizona Medicaid
B-261607 

plans have been positive since 1990 and have grown steadily. Aggregate

profits in 1994 reached $56 million, representing 6.7 percent of plans’ total

revenue.

Table 1: AHCCCS Health Plans’

Revenues and Profits, 1986-94

Year Total revenue

Net income

(dollars)

Net income

(percent)

1986 $208,811,761 ($3,062,316) (1.47)

1987 220,636,178 5,088,259 2.31

1988 298,086,180 (8,237,696) (2.76)

1989 339,063,375 (347,058) (0.10)

1990 445,346,952 1,299,891 0.29

1991 561,492,337 17,585,993 3.13

1992 713,781,503 34,167,143 4.79

1993 809,463,837 43,528,836 5.38

1994 843,354,415 56,141,598 6.66

Source: AHCCCS Office of Managed Care.

Health plans compete to serve Medicaid beneficiaries in Arizona’s rural

counties because plans can profit in these areas, as well as urban areas. It

is impossible to measure profits for all rural counties because profits are

reported for each health plan, not each county, and some health plans

serve both urban and rural counties. However, in 1994, six health plans

served only rural counties, and five of these plans earned profits ranging

from 2 to 3 percent of gross revenues. The remaining plan had unusually

low medical costs and earned a profit of over 23 percent. This plan,

however, did not win a contract in 1995. The ability of Medicaid managed

care to thrive in rural areas stems from the way capitation rates are set.

AHCCCS’ capitation rates are set by the market on the basis of health plans’

costs of providing services. Consequently, capitation rates are only slightly

lower in rural counties compared with rates in the two urban counties.

In contrast, relatively few rural Medicare beneficiaries in Arizona receive

their health care from health maintenance organizations (HMO). This likely

results from the way Medicare capitation rates are set. Unlike the

competitive bidding process used by AHCCCS, HCFA sets Medicare rates for

each county using a formula based on Medicare fee-for-service costs in

that county. In earlier testimonies and reports, we noted several flaws in

Page 14 GAO/HEHS-96-2 Arizona Medicaid
B-261607 

the Medicare rate-setting formula,12 which can understate or overstate the

actual cost of providing health care in a managed care setting. For

example, if Medicare beneficiaries lack adequate transportation and thus

consequently receive less care, Medicare fee-for-service expenditures will

be artificially low and the formula will set capitation rates too low for the

entire county.13 Low rates discourage health plans from participating in

Medicare managed care (risk contracts) and beneficiaries from enrolling

in the plans that do exist.14

Flexibility to Waive Federal

Requirements Helps

Arizona Encourage Plan

Participation

AHCCCS has used the flexibility granted by its section 1115 waiver to

address federal requirements that tend to limit health plan participation in

Medicaid managed care. For example, the waiver allows AHCCCS to award

contracts to health plans that serve only Medicaid beneficiaries. Without a

waiver, current Medicaid standards require that more than 25 percent of a

health plan’s enrollees be non-Medicaid, non-Medicare beneficiaries. All 14

of AHCCCS’ current health plans serve only Medicaid beneficiaries or other

AHCCCS populations, although some of the plans are subsidiaries of larger

organizations. The waiver also allows AHCCCS to mandate that beneficiaries

enroll in a managed care plan. AHCCCS guarantees an initial enrollment of at

least 5 months—even if a beneficiary should lose Medicaid eligibility

before that time. This guarantee reduces enrollee turnover and increases

the attractiveness of Medicaid contracts to the health plans.

Focus on Cost Does

Not Appear to Harm

Access to Appropriate

Care

Recent comprehensive measures are not available, but several indicators

suggest that beneficiary satisfaction is high. AHCCCS’ beneficiary

satisfaction suggests that the program has established effective controls to

ensure beneficiary access to appropriate care. The program, (1) in its

competitive bidding process, places more weight on access and quality

factors than it does on capitation rates; (2) requires networks to meet

certain standards for primary care coverage; and (3) routinely monitors

health plans’ financial and operational performance. Finally, AHCCCS is

12Medicare: Rapid Spending Growth Calls for More Prudent Purchasing (GAO/T-HEHS-95-193, June 28,

1995); Medicare Managed Care: Program Growth Highlights Need to Fix HMO Payment Problems

(GAO/T-HEHS-95-174, May 24, 1995); and Medicare: Changes to HMO Rate Setting Method Are Needed

to Reduce Program Costs (GAO/HEHS-94-119, Sept. 2, 1994).

13Under AHCCCS, rural Medicaid capitation rates are approximately 90 percent of urban capitation

rates. The divergence of Arizona Medicare capitation rates is much larger: rural rates amount to only

about 50 percent of the rates paid in urban counties.

14Low capitation rates also discourage Medicare beneficiaries from enrolling in the HMOs that do exist.

In areas with low rates, HMOs offer fewer inducements for beneficiaries to enroll, such as prescription

drug benefits, compared with HMOs in areas with high capitation rates. Unlike Arizona’s Medicaid

beneficiaries, its Medicare beneficiaries are not required to join HMOs.

Page 15 GAO/HEHS-96-2 Arizona Medicaid
B-261607 

about to implement a new quality management system that will emphasize

the use of outcome-based clinical measures.

Beneficiaries Satisfied

With AHCCCS

On the basis of our discussions with beneficiary representatives and HCFA

officials, our reviews of patient satisfaction surveys and quality studies,

and the data on how often beneficiaries change health plans, the

program’s emphasis on cost containment appears not to have adversely

affected the care provided to Arizona Medicaid beneficiaries. According to

officials of advocacy groups representing Arizona’s indigent population,

Medicaid beneficiaries receive the same level of medical care as others in

the state. HCFA officials said that they did not know of any concerns about

beneficiary dissatisfaction with the care provided under the program.

Further, they said that Arizona has a quality management program in place

that fulfills HCFA regulations and all conditions of the waiver.

A Flinn Foundation beneficiary satisfaction survey conducted in 1989—the

most recent comprehensive survey available—found that nearly 90 percent

of adult current and former beneficiaries were satisfied with the care they

received through AHCCCS.

15 A February 1995 survey also indicates

beneficiary satisfaction with AHCCCS, although this survey is limited in

scope. The survey, conducted by the Arizona State University Survey

Research Laboratory, found that over 85 percent of contacted

beneficiaries were very or completely satisfied with the prenatal and

maternity care they received.

Relatively few beneficiaries voluntarily change health plans during the

annual open season, which, according to AHCCCS officials, is another

indicator of beneficiary satisfaction. In 1993, only 6 percent of

beneficiaries changed health plans during the annual open season. In 1994,

mainly because of new health contracts, 16 percent of the beneficiaries

voluntarily changed plans, but in many cases their providers remained the

same. In 1995, only 4.4 percent of the total acute care population changed

health plans during open enrollment.

In AHCCCS’ Bid Process,

Access and Quality Factors

Outweigh Cost

Although the competitive bidding process is important in keeping

capitation rates low, two-thirds of the scoring comprises access and

quality items. For example, the process considers the extent of a health

plan’s provider network, including the number, type, and geographic

15Another Flinn Foundation survey scheduled for publication in 1995 will include a measure of

AHCCCS beneficiary satisfaction.

Page 16 GAO/HEHS-96-2 Arizona Medicaid
B-261607 

location of its physicians. AHCCCS also reviews a health plan’s ability to

meet the contract requirements in areas such as member and provider

services and quality management. AHCCCS also considers a bidder’s ability

to perform the administrative tasks of the contract and its financial ability

to meet all the contract terms.

By establishing a minimum allowable capitation rate, AHCCCS prohibits

unreasonably low bids that might force health plans to curtail services and

adversely affect the quality of care provided. This precludes harmful price

competition among health plans.

Well-Developed Networks

Ensure Access to Needed

Services

Two factors are responsible for Arizona’s Medicaid beneficiaries’ good

access to medical care—a high level of provider participation in AHCCCS

and AHCCCS’ minimum provider network requirements.

In Arizona, 81 percent of licensed and practicing physicians are registered

Medicaid physician providers. Similarly, 70 percent of obstetricians and

71 percent of pediatricians participate in Medicaid. This level of

participation is generally found in all of the state’s 15 counties. Of

Arizona’s 104 hospitals, 96 participate in AHCCCS. According to health

providers and their representatives, reasonable payment rates and the

assurance of getting paid for the services provided through a monthly

prospective payment system account for the high level of physician and

hospital participation.16

AHCCCS’ minimum network requirements ensure beneficiaries’ access to

appropriate care, even in rural areas. Contracts stipulate the type and

location of providers in each county, with minimum provider-enrollee

ratios. Beneficiaries have access to all levels of services, including

obstetrics and other specialist services, through their primary care

provider. The state also requires that plans make transportation available,

when necessary, so that beneficiaries have access to needed services.

AHCCCS Oversees Health

Plan Performance

As mandated by HCFA, AHCCCS monitors health plans’ financial and

operational performance. Health plans are required to submit periodic

financial and encounter data to the state. Annual reviews by AHCCCS ensure

16The willingness of Arizona providers to participate in AHCCCS may also be partly due to the market

alternatives they face. As of 1993, penetration of private managed care was high in the state, 28 percent

compared with a national rate of 19 percent. Thus, Arizona physicians, facing the alternative of a large

private managed care market, may be more willing to participate in Medicaid managed care than

physicians in other states who derive a greater share of their business from the fee-for-service sector.

Page 17 GAO/HEHS-96-2 Arizona Medicaid
B-261607 

that plans are financially stable and help the state assess the level of care

that Medicaid beneficiaries are receiving. Studies are also conducted to

measure the appropriateness of care in specific areas—such as

immunizations and prenatal care.

AHCCCS continues to refine its data collection efforts and improve its ability

to monitor health plans. For example, AHCCCS discovered that health plans

reimbursed providers for each patient’s prenatal care and delivery in one

lump sum, which discouraged providers from recording each separate

encounter with the patient. As of October 1995, AHCCCS requires providers

to report each encounter separately so that it can accurately monitor the

frequency of patients’ prenatal visits.

AHCCCS is developing a new quality management system that will gather

standardized encounter data from all plans and increase the emphasis on

outcome-based clinical standards. This will further enhance its capacity to

ensure that plans provide appropriate care. AHCCCS expects this system to

be operational in October 1997. According to HCFA officials, Arizona is a

leader among all the states in developing encounter-based data to support

a new quality management system. This system would produce such

indicators as prenatal care and birth weights.

Several Conditions

Contribute to

AHCCCS’ Success

Arizona’s Medicaid program, operating under a waiver from certain federal

requirements, has succeeded in containing costs while providing

beneficiaries access to what state officials and health providers describe

as mainstream medical care. Several findings supply evidence of lower

costs, widespread provider interest in serving Medicaid patients, and

beneficiary satisfaction with the program.

Arizona’s AHCCCS program can serve as a model for other Medicaid

programs. Rapid escalation in Medicaid costs has prompted many states to

search for new ways to control spending, including moving more

beneficiaries into managed care delivery systems. No state, however, is as

advanced as Arizona in using market forces to control cost growth.

Although each state Medicaid program is unique, states converting from a

fee-for-service to a managed care program can learn from Arizona’s

experience. Our study of Arizona’s Medicaid program suggests that the

following conditions, regardless of the state, are necessary for an effective

program.

Page 18 GAO/HEHS-96-2 Arizona Medicaid
B-261607 

• Flexibility to deviate from constraining regulations: The flexibility granted

under the section 1115 waiver allowed Arizona to encourage the

development of managed care in ways that are not possible under current

HCFA regulations. Because of the waiver, Arizona can mandate that

beneficiaries enroll in managed care plans. Also, health plans can be

created that serve Medicaid patients exclusively. Without a section 1115

waiver, more than 25 percent of each health plan’s enrollees would have to

be non-Medicaid patients. This “75-25” rule was originally designed to help

ensure that Medicaid patients received an acceptable quality of care

because health plans would have to attract a minimum share of private

patients. Arizona has decided to allow plans to have 100 percent of

Medicaid enrollees and instead sets quality standards and monitors plan

performance directly.

• Development and use of market forces: In contrast to Medicare—which

uses administratively set capitation rates to pay HMOs—and other Medicaid

programs, Arizona’s Medicaid program relies on marketplace competition

to determine capitation rates. The state gives plans an incentive to submit

the lowest reasonable bid on capitation rates, excluding plans that

propose rates below an invisible floor—to protect against impractically

low bids. This system enables Arizona to buy the best priced plans. It also

allows health plans to earn potential profits, which encourages the interest

of both existing and new plans in serving Medicaid patients.

• Controls to protect beneficiaries from inadequate care: Arizona takes

several steps to protect beneficiaries. First, all health plans must meet

several basic requirements, including minimum numbers of participating

providers to ensure beneficiaries’ access to medical care. Second, in

awarding contracts, Arizona assigns more points to factors that influence

the quality of care that a plan can deliver than it does to the capitation rate

bid. Third, the state continuously monitors health plans’ performance.

• Investment in data collection and analysis capabilities: Arizona collects

cost, profitability, and patient encounter data from each health plan. This

information is then analyzed to help the state meet its goals of controlling

costs and providing appropriate health care. On the basis of these data,

independent actuaries estimate the cost of serving Medicaid patients in

each county. This estimated cost is then used to evaluate the bids received

at the start of each contract cycle. These data also enable the state to

oversee the care provided to beneficiaries and protect against

underprovision of medical services.

The final lesson of Arizona’s program is that other states are likely to

encounter problems changing from a fee-for-service delivery system—in

which the Medicaid administrators primarily determine beneficiary

Page 19 GAO/HEHS-96-2 Arizona Medicaid
B-261607 

eligibility and act as third-party payers—to a managed care system that

requires administrators to develop market forces and carefully monitor the

care provided. As noted in our earlier reports, Arizona faced several

difficulties along the way. In particular, attempts to contract out the

program’s administration and data information system failed.

Furthermore, other states’ competitive managed care programs will likely

need to evolve, as did AHCCCS, to maximize their effectiveness in their own

economic environment. One such change Arizona made was to limit the

number of contracts awarded in each county. One of our earlier reports

recommended this: because it increases plans’ possibility of not winning a

contract, it strengthens their incentives to submit low bids. Arizona has

been expanding and refining its market-driven approach to Medicaid since

1982; it is unlikely that other states could adopt equally successful

programs without substantial preparation and development of the

capabilities Arizona now has.

Agency Comments We obtained comments from HCFA and AHCCCS officials on a draft of this

report, and they agreed with our findings. Technical comments that HCFA

and AHCCCS provided have been incorporated where appropriate.

We are sending copies of this report to the Secretary of Health and Human

Services, the Administrator of HCFA, AHCCCS officials, and other interested

parties. We will also make copies available to others upon request.

Please call me on (202) 512-7123 or James Cosgrove, Assistant Director, on

(202) 512-7029 if you or your staff have any questions about this report.

Karyn Papineau, Tony Padilla, and Mary Needham were major

contributors to this report.

Sincerely yours,

William J. Scanlon

Associate Director,

 Health Financing Issues

Page 20 GAO/HEHS-96-2 Arizona Medicaid
Page 21 GAO/HEHS-96-2 Arizona Medicaid
Contents

Letter 1

Appendix I 

Arizona Health Care

Cost Containment

System Managed Care

Contracts Award

Process

24

Bidders’ Conference 24

Issuance of the RFP 24

Evaluation of Proposals 25

Contracts Awarded 26

Readiness Review 27

Appendix II 

AHCCCS’ Oversight of

Health Plan

Performance

28

Health Plan Reporting Requirements 28

Quality and Utilization Management Requirements 28

Appendix III 

History of AHCCCS

31

Table Table 1: AHCCCS Health Plans’ Revenues and Profits, 1986-94 14

Figures Figure 1: Annual Percentage Change in AHCCCS Capitation

Rates, by Eligibility Category

6

Figure 2: Per Capita Cost of AHCCCS Compared With Traditional

Program, Fiscal Years 1983-91

7

Figure 3: Cost of Serving an AFDC-Eligible Recipient in AHCCCS

Compared With Estimated Cost in a Traditional Program, Fiscal

Years 1983-91

8

Figure 4: Cost of Serving an SSI Disabled Recipient in AHCCCS

Compared With Estimated Cost in a Traditional Program, Fiscal

Years 1983-91

9

Figure 5: Cost of Serving an SSI Aged Recipient in AHCCCS

Compared With Estimated Cost in a Traditional Program, Fiscal

Years 1983-91

10

Figure 6: AHCCCS Capitation Rates as a Percent of Estimated per

Capita Costs in a Traditional Program, by Eligibility Category,

Fiscal Year 1991

11

Page 22 GAO/HEHS-96-2 Arizona Medicaid
Contents

Abbreviations

AFDC Aid to Families With Dependent Children

AHCCCS Arizona Health Care Cost Containment System

ALTCS Arizona Long Term Care System

HCFA Health Care Financing Administration

HHS Department of Health and Human Services

HMO health maintenance organization

OMD Office of the Medical Director

PCCM primary care case management

PMMIS prepaid medical management information system

RFP request for proposal

SOBRA Sixth Omnibus Budget Reconciliation Act

SSI Supplemental Security Income

Page 23 GAO/HEHS-96-2 Arizona Medicaid
Appendix I 

Arizona Health Care Cost Containment

System Managed Care Contracts Award

Process

The Arizona Health Care Cost Containment System’s (AHCCCS) Office of

Managed Care is responsible for the procurement process used to

competitively select the health plans that will provide medical services to

Medicaid beneficiaries. The nearly year-long process starts with a bidders’

conference where potential bidders learn how the process works and

continues with bid submissions, evaluation of bids, contract awards, and

readiness reviews before contract implementation.

AHCCCS completed its most recent procurement of managed care contracts

in 1994, covering October 1, 1994, to September 30, 1997. Previously,

contracts were awarded for a 2-year period. In the last cycle, contracts

were competitively awarded on a county-by-county basis. The major steps

in the 1994 contract process are described below.

Bidders’ Conference After advertising statewide that it would issue a request for proposal (RFP)

to health plans to provide medical services to Medicaid beneficiaries,

AHCCCS invited all potential bidders to a bidders’ conference in March 1994.

AHCCCS officials briefed attendees and answered questions on the Medicaid

program, contract requirements, the award process, and responding to the

RFP.

To facilitate the preparation of capitation proposals, AHCCCS provided each

bidder with a Data Supplement Book. AHCCCS officials said that this book

contained historical medical service utilization data. However, AHCCCS

stated that each bidder would be solely responsible for researching,

preparing, and documenting its capitation proposal and that this book

should not be used as the sole source of information in making decisions

about the capitation proposal.

Issuance of the RFP On March 7, 1994, AHCCCS issued its RFP describing the requirements that a

health plan must meet to deliver health care services to eligible recipients.

The RFP instructed bidders in preparing a response to the state. Bidders

were required to submit a proposal for each county in which they wished

to compete for a contract. All interested health plans were required to

respond to the RFP by June 1, 1994. For the contract cycle beginning

October 1, 1994, 21 health plans submitted 95 bids for 42 Medicaid

managed care contracts in 15 counties. The 95 bids were more than twice

the number (44 bids) received in the previous procurement cycle (1992).

Page 24 GAO/HEHS-96-2 Arizona Medicaid
Appendix I 

Arizona Health Care Cost Containment

System Managed Care Contracts Award

Process

Evaluation of

Proposals

AHCCCS selected in-house staff with managed care expertise to serve on

teams to evaluate all bids submitted. AHCCCS evaluated the bids submitted

in four areas, which are assigned a percentage value of the total score:

(1) provider network, (2) capitation rates, (3) program, and

(4) organization. AHCCCS also contracted with private consulting firms that

independently verified the evaluation and scoring done by AHCCCS’ internal

evaluation teams. The scores received in each of the four areas were

combined and weighted to get a final score for each bidder, by county.

Provider Network Scores The provider network score included two categories—network

development and network management. Network development involves

developing contractual arrangements with a sufficient number of

providers capable of delivering high-quality covered contract services to

eligible recipients in a specified service area according to AHCCCS

standards. AHCCCS identified service area minimum network standards

describing location requirements by county. Network management

involves the health plan’s process of communicating with its network and

monitoring and evaluating its providers.

Capitation Rate Scores Following HCFA requirements, AHCCCS contracted with an actuary to

analyze historical utilization data and certify the capitation rate ranges that

AHCCCS used to evaluate the capitation rates (prices) submitted by each

bidder. The actuaries developed ranges for each eligibility group (for

example, AFDC and SSI) in each of Arizona’s 15 counties.

AHCCCS did not share with bidders the capitation rate ranges used to

evaluate the capitation rate bids. Competitors may have been asked to

submit two bids, an initial bid and a best and final bid. AHCCCS scored both

bids. The closer the bid was to the low end of the range, the more points a

bidder received. The higher the bid, the fewer points the bidder received.

When the bids are below the range, but, in AHCCCS’ view, not unreasonably

low, the state considers the bid at the low point on the range and assigns

the corresponding points. If a bid is excessively below the range, the state

may consider it nonresponsive and unacceptable. When an initial bid is

above the range (considered an unacceptable bid), a bidder may be

allowed to submit a second bid, the best and final offer. In scoring, the

first bid (the unacceptable bid) received the least points. The best and

final bid was scored on the basis of the bid’s ranking within the acceptable

range.

Page 25 GAO/HEHS-96-2 Arizona Medicaid
Appendix I 

Arizona Health Care Cost Containment

System Managed Care Contracts Award

Process

Between submission of initial and final bids, AHCCCS officials reviewed

bidders’ detailed cost and utilization data (for example, estimates of

hospital days, physician visits, administrative costs, and profits)

supporting the bidders’ initial capitation rate bids. Although AHCCCS

pointed out to bidders specific items that required adjustments on the

basis of AHCCCS’ knowledge of historical medical service utilization and

cost data, bidders are solely responsible for deciding the capitation rate

that they wish to bid.

AHCCCS evaluated the final bids the same way it scored the initial bids. The

initial and final bids received equal weight for evaluation and scoring.

Program Scores For program issues, AHCCCS evaluated the following: (1) executive

management and staff, (2) medical director’s role, (3) member services,

(4) provider services, (5) quality management, (6) maternal child

health/early periodic screening diagnosis and treatment/family planning,

(7) grievance and appeals, and (8) behavioral health.

AHCCCS also considered its past experience with continuing program

bidders in evaluating proposals in this area. It did this by reviewing the

results of its most recent operational and financial reviews of these

bidders. AHCCCS adds points to a score if a bidder’s past AHCCCS

performance has significantly exceeded the requirements of the RFP.

AHCCCS subtracts points from a score if a bidder’s past performance has

been poor. If AHCCCS does not have past program experience with a bidder,

then the program score is based on the bidder’s response to the RFP.

Organization Scores For organization, reviewers examined the bidders’ prospective ability to

perform the administrative tasks necessary to support the contract’s

requirements. AHCCCS used financial planning and financial viability criteria

to evaluate and score this bid factor. AHCCCS reviewed in detail the many

management and administrative systems, including a bidder’s encounter

data reporting system, financial reporting system, contracting and

subcontracting process, grievance standards and process, and medical

records.

Contracts Awarded On July 11, 1994, AHCCCS awarded 42 contracts to 14 health plans. AHCCCS

awarded 2 contracts in each of its 13 rural counties. In Maricopa County,

where Phoenix is located, 10 contracts were awarded. In Pima County,

Page 26 GAO/HEHS-96-2 Arizona Medicaid
Appendix I 

Arizona Health Care Cost Containment

System Managed Care Contracts Award

Process

where Tucson is located, six contracts were awarded. The current

contract period runs from October 1, 1994, to September 30, 1997. Seven

bidders, including two health plans that previously had managed care

contracts, did not win any contracts.

Readiness Review Between submission of contract award and the start of health care

delivery, (for example, July 11, 1994, to Oct. 1, 1994) AHCCCS conducted

operational and financial readiness reviews for new successful bidders.

The purpose of readiness reviews is to assess new contractors’ readiness

and ability to provide contract services to members at the start of the

contract period.

Although AHCCCS gives new contractors until the end of the first quarter of

the contract year (for example, Oct. 1, 1994, to Dec. 31, 1994) to complete

pending readiness items, a new contractor is permitted to begin operations

only if the readiness review concerns have been addressed to AHCCCS’

satisfaction. An example of a pending item would be the unsuccessful

testing of a health plan’s data system to collect encounter information.

Page 27 GAO/HEHS-96-2 Arizona Medicaid
Appendix II 

AHCCCS’ Oversight of Health Plan

Performance

Health Plan Reporting

Requirements

HCFA mandates that AHCCCS conduct annual reviews of its contracted health

plans to determine their financial and operational stability. AHCCCS has

established financial and operational standards for the health plans and

their providers to ensure that beneficiaries receive appropriate care. The

state conducts on-site financial and operational reviews at least annually

to ensure that health plans comply with operational and financial

standards. In addition, AHCCCS monitors health plans’ data (for example,

financial and encounter data) submitted through monthly, quarterly, and

annual reports.

The on-site reviews identify potential deficiencies that affect the delivery,

quality, or integrity of services or care. Corrective action plans are

developed to resolve any identified deficiencies. These plans must state

and describe the corrective action, the agency responsible for

implementing the corrective action, and the suggested date for

implementing the corrective action. AHCCCS monitors a contractor’s

progress in implementing these corrections and provides technical

assistance if necessary.

AHCCCS’ financial review ensures the reliability of a plan’s accounting

systems, claims processing and encounter reporting systems, and recovery

systems and the stability of its financial position. It also reviews financial

management operations, such as reinsurance, and evaluates any proposed

changes to the program such as new subcontractors and new management

companies. AHCCCS also requires each health plan to submit an annual

audited financial statement.

The operational segment of AHCCCS’ annual on-site review documents how

a health plan manages and monitors its delivery system and the quality of

care as measured by standards developed by AHCCCS’ Office of the Medical

Director (OMD). According to a HCFA official, these standards reflect

proposed standards issued by HCFA in 1993 for Medicaid managed care

programs. The OMD policy requires health plans to develop quality

management plans that articulate requirements; promote quality

improvement; comply with federal, state, and AHCCCS requirements; ensure

the participation of a health plan’s members and providers; and ensure

health plan leadership participation.

Quality and Utilization

Management

Requirements

AHCCCS requires that health plans’ quality management plans incorporate

quality indicators to monitor performance in areas such as preventive

health, women’s health, birth outcomes, prenatal care, and accessibility

and availability of services. OMD has established standards adopted from

Page 28 GAO/HEHS-96-2 Arizona Medicaid
Appendix II 

AHCCCS’ Oversight of Health Plan

Performance

commonly accepted medical standards of care and relies on performance

goals established by the Department of Health and Human Services.

Health plans must also have systems to detect underutilization as well as

overutilization. Health plans are responsible for providing feedback to

health professionals and health plan staff regarding performance.

Health plans are also required to complete an annual quality of care study

on a topic approved by AHCCCS. Topics have varied, including subjects such

as the review of pharmacy utilization by plan members, specialty physician

referrals documentation, and the appropriateness of emergency room use.

According to AHCCCS officials, the study results are used to improve the

quality of services provided.

AHCCCS oversees health plans’ quality management by monitoring member

and provider grievances; monitoring networks; and reviewing various

monthly, quarterly, and annual reports on plans’ adherence to

performance measures.

Quality Studies

Complement Quality

Management Efforts

AHCCCS has completed various studies on quality issues, some of which

have been completed to meet federal or state legislative requirements.

These studies compare the care provided to AHCCCS members with national

standards and point out the need to develop reliable data and constantly

improve the system of care to beneficiaries.

In 1995 AHCCCS completed the second year of a state-required annual

review comparing the immunization levels for AHCCCS members under 6

years of age with national data and Centers for Disease Control and

Prevention standards. The review found that the percentage of children

receiving immunizations increased from 1993 to 1994, although the rates

need further improvement to meet HHS’ 90-percent immunization goal. In

addition to reviewing immunization rates, the second year’s study also

identified reasons for beneficiaries’ not receiving recommended

immunizations. The researchers found that providers missed opportunities

to give immunizations. AHCCCS is sharing this information with health plans

for use in their provider education efforts.

In another study, AHCCCS looked at the underutilization of dental services.

The study found that AHCCCS’ requirement to have health plans refer

beneficiaries to dentists was deterring beneficiaries from using available

dental services. AHCCCS implemented a new policy on October 1, 1994, to

allow beneficiaries direct access to dentists.

Page 29 GAO/HEHS-96-2 Arizona Medicaid
Appendix II 

AHCCCS’ Oversight of Health Plan

Performance

New Quality Program

Being Developed

AHCCCS is developing a new quality management program that reflects

current national trends on quality management in Medicaid programs.

With its most recent waiver extensions, HCFA has encouraged Arizona and

other states to improve their use of encounter data in quality management

programs. According to HCFA officials, the recommendation to change

AHCCCS’ program reflects increased interest in quality standards for

Medicaid programs at the national level rather than problems with

Arizona’s current system.

AHCCCS is adopting new quality standards to reflect HCFA’s national

initiative to develop standards for the Medicaid population. Changes to the

current standards for commercial managed care plans are needed to

reflect, for example, Medicaid’s enrollment fluctuations. In addition,

AHCCCS plans to standardize the information received from its health plans.

This effort will ultimately be used to monitor and compare participating

health plans’ performance.

This new standardizing of information has four components that measure

both outcomes and health plan operations. Clinical indicators, financial

indicators, member satisfaction, and provider satisfaction will be used to

evaluate health plans. The standardizing of information from the health

plans, the main difference between current efforts and the new plan, will

improve monitoring efforts and reduce the current time-intensive reliance

on on-site record review.

As of July 1995, AHCCCS was completing the clinical indicators for

monitoring the health plans and establishing baseline data. It is updating

its computer systems to support the increased reliance on encounter data.

AHCCCS plans to implement the new standards for the next health plan

contract cycle beginning on October 1, 1997.

Page 30 GAO/HEHS-96-2 Arizona Medicaid
Appendix III 

History of AHCCCS

Before 1982, Arizona was the only state in the nation that did not

participate in the federal Medicaid program. Health care for low-income

people was provided and funded by county governments, with care

provided by county hospitals and clinics or through contracted providers.

Each county set its own income and resource guidelines with certain

minimum standards set by the state. The range of services also varied from

county to county.

In 1981 Arizona legislators recognized that the counties could not continue

to pay the full cost for health care and began to explore options that would

relieve the counties and, for the first time, bring federal Medicaid dollars

to the state. In 1981, the state government passed legislation to create

AHCCCS as the first statewide Medicaid managed care system. In 1982

Arizona sought approval from HCFA to operate AHCCCS under a section 1115

demonstration waiver. Named for section 1115 (a) of the Social Security

Act, 1115 waivers enable states to operate differently from conventional

Medicaid in certain ways, such as limiting beneficiaries’ choice of

providers.

On July 13, 1982, HCFA approved AHCCCS as a 3-year acute medical care

demonstration project, and the state implemented the program on

October 1, 1982. AHCCCS became the first statewide Medicaid managed care

system in the nation based on a prepaid, capitated financing arrangement

with private health plans. Arizona’s intent was to create a managed care

delivery system that would deliver quality services, control costs,

discourage the use of emergency rooms for primary care, and avoid the

fraud and abuse reported in fee-for-service programs.

Initially, AHCCCS was required to provide medical services only to the

federally mandated eligible group for which Arizona received federal

matching funds (recipients of AFDC and SSI), recipients commonly referred

to as “categorical.”

Today, AHCCCS still serves these groups as well as women and children

covered under the 1987 Sixth Omnibus Reconciliation Act.

Medicaid-eligible American Indians can choose to receive services from

the Indian Health Service or, off reservation, from an AHCCCS health plan.

The Arizona Department of Economic Security determines eligibility for

AFDC. The Social Security Administration determines eligibility for SSI. As

of August 1, 1995, over 432,000 beneficiaries were enrolled in the acute

care program.

Page 31 GAO/HEHS-96-2 Arizona Medicaid
Appendix III 

History of AHCCCS

Initially, AHCCCS was also required to provide all the federally mandated

Medicaid services except for skilled nursing facility care, home health

care, nurse midwife services, family planning services, and nonacute

mental health services. Today, AHCCCS provides these services.

AHCCCS also provides services to groups of low-income people who do not

qualify for Medicaid and who are funded entirely by state and county

dollars. These groups are the medically needy/medically indigent, eligible

assistance children; eligible low-income children; and undocumented

individuals, who receive some emergency services. These groups of

recipients are commonly referred to as “noncategorical.” These

state-funded groups generally receive the same acute care services

available to the federally funded populations except for comprehensive

behavioral health services and, until recently, heart, liver, and bone

marrow transplants.

Initially, AHCCCS’ day-to-day operations were carried out by a private

contractor selected through a competitive procurement to act as the

AHCCCS administrator. The administrator’s responsibilities included

procuring and monitoring providers, establishing and monitoring medical

quality assurance systems, enrolling beneficiaries, maintaining provider

relations, providing technical assistance to health plans, and collecting and

compiling reports using claim and utilization data.

After a little more than a year, on March 15, 1984, Arizona was forced to

cancel the contract because of disputes. The AHCCCS Division of Arizona’s

Department of Health Services took over as administrator. After this, the

state terminated two health plan contracts due to plan insolvency. In

addition, another plan was reorganized with new management under the

federal bankruptcy statutes.

Subsequently, the AHCCCS Division became a separate agency reporting

directly to the governor. The AHCCCS structure was also changed so that the

Division could assume a stronger regulatory role. AHCCCS’ new challenges

included financial and contractual compliance reviews of health plans;

quality control review of the county eligibility systems; medical quality of

care audits of the health plans; and increased staffing for the audit,

compliance, and utilization review functions.

Page 32 GAO/HEHS-96-2 Arizona Medicaid
Appendix III 

History of AHCCCS

We first reported on AHCCCS17 in June 1984. We testified on HCFA’s

monitoring of certain aspects of the AHCCCS program before the

Subcommittee on Health and the Environment, Committee on Energy and

Commerce, U.S. House of Representatives. At that time, we reported that

AHCCCS had not generated the program information necessary to render an

opinion on the financial performance of health plans, the quality of care

provided, or the reasonableness of payments to providers.

In response to GAO’s recommendations, both HCFA and AHCCCS began the

steps necessary to obtain data essential to evaluating AHCCCS. Although

HCFA informed AHCCCS that it would not approve an extension of its waiver

unless the state produced complete and accurate utilization data, HCFA told

us that as long as AHCCCS made significant progress in implementing

reforms and improvements necessary for producing the information, HCFA

would not terminate the program. In addition to providing HCFA with some

utilization data dating back to 1982, AHCCCS submitted a plan detailing the

steps it would take to meet HCFA’s requirements.

In November 1985, we reported that many AHCCCS health plans had not

complied with federal requirements for disclosure of ownership

information. We reported that some AHCCCS plans either had not disclosed

direct or indirect ownership interests or had not disclosed officers or

directors. We recommended that the Secretary of HHS direct the

Administrator of HCFA to review AHCCCS plan contract proposals and

renewal submissions and determine the extent to which federal financial

participation should not be available for plans that did not comply with

disclosure laws for ownership and control information or related-party

transactions. Our other recommendations were that AHCCCS and HCFA

institute procedures to ensure that AHCCCS plans comply with these

disclosure requirements in the future.

In response to GAO’s recommendations, HCFA and AHCCCS said that they

would act to ensure that future health plan contracts follow disclosure

requirements. AHCCCS currently has a reporting guide that establishes the

monthly, quarterly, and annual reporting requirements for acute care

contracting health plans. The guide requires reports on owners, officers,

directors, related-party transactions, and full financial disclosure and also

17The Health Care Financing Administration’s Monitoring of the Arizona Health Care Cost Containment

System (GAO/HRD testimony, June 15, 1984; Arizona Medicaid: Nondisclosure of Ownership

Information by Health Plans (GAO/HRD-86-10, Nov. 22, 1985); Medicaid: Lessons Learned From

Arizona’s Prepaid Program (GAO/HRD-87-14, Mar. 6, 1987); and Medicaid: States Turn to Managed

Care to Improve Access and Control Costs (GAO/HRD-93-46, Mar. 17, 1993).

Page 33 GAO/HEHS-96-2 Arizona Medicaid
Appendix III 

History of AHCCCS

establishes financial penalties if the health plan contractors fail to comply

with these requirements.

In March 1987, we reported on AHCCCS’ first 3 years of operation (Oct. 1982

through Sept. 1985). We addressed Arizona’s approach to (1) competitive

bidding for procuring health plan contracts, (2) collection of utilization

data from the prepaid plans on the health care services provided, and

(3) financial oversight of the prepaid health plans. In our March 1987

report, we stated that Arizona had experienced many start-up problems

that prevented an assessment of the effectiveness of its cost containment

features.

We reported that states planning on using prepaid health programs should,

among other things, (1) develop adequate financial and utilization

reporting systems and program controls before implementing the program,

(2) establish penalties for noncompliance with reporting requirements,

(3) establish requirements to demonstrate the financial viability of prepaid

health plans and devote adequate resources to monitoring health plans’

performance, and (4) design health plan procurements to promote

competition. As previously indicated, AHCCCS officials have acted to resolve

these problems. Today, for example, AHCCCS limits the number of contracts

it awards in each rural county to two—a recommendation we made to

promote competition and reduce costs.

In 1986 AHCCCS contracted with a private consulting firm to design and

develop a prepaid medical management information system (PMMIS).

Contract disputes resulted in the termination of this contract in 1990 as the

system was set to enter the testing phase. In May 1990, AHCCCS took over

the testing, user training, conversion, and implementation of PMMIS. AHCCCS

officials told us that its management information system has for several

years enabled them to collect and analyze adequate financial and

utilization data to assess plans’ finances and set sound capitation rates.

They added that such data are beginning to be used to conduct

outcome-based monitoring and evaluation of the quality of care being

provided to beneficiaries.

In 1981 Arizona passed authorizing legislation allowing small employers

with up to 25 employees to purchase health care from AHCCCS. This

program began in 1988, and in 1991 the employee limit was raised from 25

to 40. AHCCCS currently has contracts with four health plans to provide

health coverage under its small employer program called Healthcare

Group of Arizona. Currently, about 5,800 employers are enrolled providing

Page 34 GAO/HEHS-96-2 Arizona Medicaid
Appendix III 

History of AHCCCS

care for over 18,000 employees and dependents. AHCCCS does not receive

federal financial assistance for this program.

In 1989 AHCCCS implemented the Arizona Long Term Care System (ALTCS),

which offers long-term care, acute care, and home and community-based

services to the elderly or physically and developmentally disabled. As of

August 1995, over 20,000 people were enrolled in ALTCS.

In March 1993, we reported on various states’ managed care program

initiatives including Arizona’s. We described (1) states’ use of managed

care programs; (2) the difficulty states face in implementing certain

program components; (3) the effect of the managed care approach on

health care access, quality, and cost; and (4) the presence of features that

ensure the quality of health services and providers’ financial stability.

AHCCCS began its 14th year on October 1, 1995. It continues today under an

August 1994 waiver extension as a statewide Medicaid managed care

demonstration project. The most recent waiver extension authorizes

AHCCCS to operate until October 1, 1997.

In March 1995, AHCCCS submitted to HCFA an amendment to its waiver,

contingent on approval by the Arizona legislature, which would streamline

the eligibility determination process and offer health care services to

low-income and working poor individuals who have income levels up to

100 percent of the federal poverty level. The Arizona legislature did not

approve the AHCCCS proposal.

(101325) Page 35 GAO/HEHS-96-2 Arizona Medicaid
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