KIM WOODS ONLY- NEED BY 12 PM EST FRIDAY
TBone6102
flexing_your_budget_article_review.docxFlexing Your Budget Article Review
FLEXING YOUR BUDGET
Experts urge hospitals, systems to trade in their traditional budgeting process for a more dynamic and versatile model
From unexpected clinical equipment needs to mysterious shifts in care reimbursement revenue, the ways in which a hospital or health system budget can go awry are numerous.
The uncertainty surrounding the many moving parts that make up a hospital or health system budget often leads to errors in setting that budget, which in turn can create havoc for those trying to operate within it.
But managing around the uncertainties in a budget is not an impossible task, industry experts say. Avoiding the pitfalls requires a new approach that entails treating budgeting as a continuous process rather than an annual exercise.
Moreover, there are particular areas within a budget that often lead to budget-busting, meaning extra attention to those areas can limit the damage when it happens.
Probably the biggest mistake managers at hospitals and health systems make in this arena is to assume the budget process is an annual event that reaches a point of completion, financial experts say. "People have lost sight of the purpose and objective of budgeting in healthcare," says Larry Abramson, senior vice president at Wellspring Partners, a Chicago-based consulting firm often working in turnaround situations. They "need to keep in mind why you do the budget in the first place," which is to help run the operation, Abramson says.
Creating a budget is not an end, but is a means to an end, Abramson says. "It is a planning tool that should be dynamic, not static."
With that in mind, some hospitals have turned to the flexible budget, which is a budget that adjusts automatically over the course of the year depending on variables such as volume, labor costs and capital expenditures. Though not a new concept, flexible budgets have gained greater adoption in the past 10 years. More hospitals are using them as costs have fallen on the sophisticated technology required to implement them and they're becoming easier to use, says Steven Berger, president of Healthcare Insights, a Libertyville, Ill., healthcare financial consulting firm and a former hospital vice president of finance.
Executives at St. Anthony's Medical Center in St. Louis use such an approach to help them manage changes in patient volume at the 580-bed hospital and its patient mix, says John McGuire, executive vice president and chief financial officer.
A flex budget, while much more complicated than a traditional fixed budget, makes managing hospital finances easier over the course of the year, McGuire says. Using a fixed budget, a department exceeding budget for, say clinical devices, is likely to be viewed as a negative event. But in the real world, "it may not be a bad thing," McGuire says, because sometimes going over budget means that volumes are up and revenue eventually will also be greater than expected.
A flex budget automatically takes into account such changes in volume and all of their consequences. That allows the budget to remain a useful tool for tracking revenue and expenses, he says. A fixed budget, meanwhile, becomes stale fairly quickly as earlier assumptions prove to be off the mark.
The number of hospitals using a true flexible budget appears to be fairly low, says George Whetsell, a principal with Wellspring. A more popular approach is to use a partial flex budget for managing and tracking labor costs, he says.
Susanna Krentz, senior principal with the healthcare division of not-for-profit consulting firm Mitretek Systems, says it is rare in her experience for a hospital to use a true flexible budget that allocates hospital costs on a volume basis. "A flexible budget automatically calculates what your expenses should have been given the volume you had," Krentz says. And most hospitals aren't using such a system, she says.
Many other variables in addition to patient volume can be plugged into a flex budget to make it more useful. The percentage of patients participating in Medicare, Medicaid and private insurance as well as the percentage of uninsured will have varying effects on revenue and costs, and during the traditional budget preparation time those can only be estimated. A flex budget allows those numbers to be updated frequently over the year, creating new budgetary estimates of how the current year is unfolding and how the coming year looks financially based on those complicated interrelationships.
McGuire describes a scenario in which the hospital performed a knee replacement procedure estimated to cost $4,000 but actually cost $7,000 when a different implant was used. Who the payer is in that scenario will affect how much of a hit the hospital takes. The major payers--Medicare, Medicaid and private insurers--all will reimburse for varying amounts of that difference. And such device cost overruns are not uncommon at hospitals.
Unlike a static, traditional budget, a flex budget can be designed to quickly identify where such variations occur and create a better picture of current finances as well as a more realistic outlook. In the above example, a fixed budget would produce a $3,000 cost overrun in each case where the cost was higher--and the accompanying budgetary hit--when in fact, the outcome will vary depending on the payer. Add up all of those situations across the hospital over a given year, and the revenue and cost estimates made in one month can vary widely from the actual numbers.
A flex budget also creates an opportunity to plan for different scenarios using models based on flexible budget estimates. "We have much better modeling programs than we've had in the past," thanks to advances in computer model availability, McGuire says. "You can do 'what-ifs' so much easier than you could before."
A flex methodology also makes it easier to keep various hospital executives accountable for their budget estimates. "Every organization spends a lot of time and effort budgeting," Berger says. "The question really is why do they do (a budget) if they're not going to hold their managers and executives accountable?" he says.
Labor costs don't always get the attention they deserve in the budgeting process, even though they're typically a hospital's single highest expense, Berger says. The best way to get a handle on those costs is to track the amount spent on labor relative to operating revenue, he says. The labor ratio is "the most important financial operating indicator in hospitals today," he says.
Another mistake hospital and healthcare executives make in budget preparation is not reworking budget assumptions each year. Instead of looking at the operation and estimating what volume and the related revenue and costs will be, many hospitals instead look at last year's numbers and add a little bit for inflation or estimated growth.
"Most (hospital) budgets are history plus," meaning department heads look at last year's budget and add a fixed percentage to the figures, says Mary Wilkes, senior managing director with Phase 2 Consulting, a healthcare management and economic consulting firm owned by RehabCare Group and based in Salt Lake City. By its nature, a flex budget avoids that problem because estimates in such a model will be determined using a bottom-up approach based on operational estimates of the coming year instead of backward-looking estimates, Wilkes says. The danger in not reworking the numbers is that fundamental changes to a hospital's operation may get overlooked until it's too late.
Budgets also sometimes fall short in estimating the all-in cost of a capital purchase. LeAnne Hester, vice president of customer service for Mezzia, a healthcare-management software company based in Indianapolis, says it's not unusual for a hospital to make a major capital expenditure without considering all of the related costs. A magnetic-resonance imaging unit, for example, might be properly budgeted at $1.2 million for the purchase of the device, but the related $50,000 in annual information technology costs and the $100,000 needed to improve facilities to accommodate the new unit may be overlooked, she says.
Similarly, Krentz of Mitretek encountered a case in which a healthcare system purchased an enterprise resource planning system for $3 million. What the healthcare system didn't account for in its budget was the $6 million in implementation costs. Often, "When a vendor says implementation, they mean installation," Krentz says. That's a lesson many hospitals should keep in mind with all of their IT purchases, she says.
Costs related to capital expenditures can't always be planned, Krentz says. Unexpected capital spending, such as repairing or replacing heating and cooling units, is a regular cost that all hospitals face, but many tend to underestimate it or even overlook it when setting the budget.
But estimating what those unplanned capital costs are going to be in a coming year is not that difficult, using history as a guide, she says. Some hospitals may have to set aside as much as 10% of total capital for unplanned spending or as little as 2%, depending on each situation, she says.
Of course, adopting a flex budget methodology sounds great on paper as the most logical step toward improved budgeting, but it requires a cultural change when being implemented. "It's a little bit of a transition" requiring changes in hospital processes, not just a change in how the budget is prepared, says James Bodan, vice president in software operations for financial consulting firm Kaufman, Hall & Associates. Hospital managers likely will need to be guided through the process as they are required to adopt a new mindset in setting and using a budget.
Moreover, the costs of adopting the kind of budgeting tools that allow for the flexibility of changes in operation over time can be eye-popping. Wilkes says a worthy flex budgeting system might cost $300,000, but she says the system would probably pay for itself in a short period of time thanks to more efficient use of hospital resources, particularly when it comes to labor. That means truly adopting the use of the flex budget as a planning tool, such as connecting the labor costs in the budget to the actual costs of scheduling employees in the hospital.
Flexible budget planning tools "pay for themselves if you use them correctly," Wilkes says.
Write us with your comments. Via e-mail, it's [email protected]; by fax, 312-280-3183.
Five major pitfalls of the budgeting process
• Go through the difficult process of completing a budget estimate for the coming year. But instead of using the budget to manage operations going forward, let the plan sit on a shelf until next year.
• Rely on the current year's budget numbers as a starting point for the next budget. That leaves the organization vulnerable to unusual changes to its business model, such as increased competition or reimbursement swings.
• Neglect or underestimate costs related to capital expenditures. That MRI unit may have a sticker price of $1 million, but getting the facility ready to accommodate it may cost another $100,000 or more.
• Ignore declining patient volumes in the hope that the trend will be temporary. Sometimes volume falls and never returns to previous levels.
• Fail to set aside enough money for unexpected capital expenses. Keeping a physical plant in operating shape means paying for unexpected problems, such as a failed air-conditioning unit.
Source: Modern Healthcare reporting MH/Adam Doi
PHOTO (COLOR): Krentz, left, and Wilkes warn of the pitfalls when making estimates during budgeting.
~~~~~~~~
By Paul Barr
Copyright of Modern Healthcare is the property of Crain Communications Inc. (MI) and its content may not be copied or emailed to multiple sites or posted to a listserv without the copyright holder's express written permission. However, users may print, download, or email articles for individual use.
