Managerial Economics

Managerial Economics

I’ll give you all the information you need to answer the questions, but I changed some details to make the exam work and to protect privacy. If you don’t have information you think you need, then assume it—but make your assumptions explicit. Remember, I am solely interested in your economic thought process (i.e., the how’s and why’s of your answer).

1. Business: Great Plains Hospice Care (GPHC)

Background: A privately-owned for-profit company, GPHC provides long-term basic healthcare and short-term acute and rehabilitative healthcare in their patients/customers homes. GPHC currently employs 70 nurses and operates in the rural areas of three states (northern Missouri, north-east Kansas, and south-west Iowa). The GPHC nurses are assigned approximately 15-20 patients each; each patient must be visited at least once per week (some more frequently). The long-term care patients are usually given a brief check of the vitals, given weekly medicine doses, and other basic care. The short-term patients require much longer visits with much more extensive care. In both cases, the nurses must coordinate care with the patient’s doctor(s), who are usually located in urban centers. The short-term patients often require advanced medical equipment, which is leased from equipment suppliers. Given the rural market, the nurses spend much of the time on the road (they are reimbursed for fuel costs). The main competitors on the long-term care are nursing homes and the patient’s families. The main competitors on the short-term care are urban rehab centers; there are no other hospice companies in the areas GPHC currently serves. GPHC’s back-office has just two managers and one secretary. Most of GPHC’s costs are labor—although fuel costs are increasingly a concern.

a. GPHC has a tough principal-agent problem: the nurses work offsite, and whether they do their job properly isn’t easy to determine, especially since the patients can’t tell the quality of the care and are often unable to complain even if they wanted to. This comes on top of dealing with the shortage of qualified nurses who enjoy driving. GPHC pays nurses on a per-patient basis (different levels for short-term care than for long-term care), with the driving reimbursement. Does this compensation scheme create any moral hazards for their employees? Can you provide a superior alternative scheme?

b. GPHC is considering an expansion, both into other rural areas of the states they currently serve and into other states with large rural populations. The rural population is aging rapidly—suggesting rapidly growing demand for long-term health care services. But the relevant question is on the cost side—what will happen to their cost per patient if they expand? Given the limited information, do you think GPHC should alter their horizontal dimension?

c. Several hospital networks have approached GPHC about merging. The merger would be a vertical integration: while right now the hospital does the surgery and GPHC does the rehab afterward, the merged firm would have both surgery and rehab under one nameplate. What factors should GPHC consider in deciding whether to merge with a hospital network? Be sure to talk mention any specific assets, and explain how specificity leads to transaction costs.