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�Introduction�
Never before have health care professionals faced such complex issues and practical dif- ficulties trying to keep their organizations financially viable (see Perspective 1–1). With
C h a p t e r O n e
THE CONTEXT OF HEALTH CARE FINANCIAL MANAGEMENT
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� Identify key factors that have led to rising health care costs. � Identify key approaches to controlling health care costs. � Identify key ethical issues resulting from attempts to control costs.
Introduction Rising Health Care Costs
The Payment System Technology The Aging Population Prescription Drugs Chronic Diseases Compliance and Litigation The Uninsured
Efforts to Control Costs Efforts by Payors to Control Health Care
Costs DRGs
Capitation Global Payments APCs
Cutting Delivery Costs Shift to Outpatient Services Cost Accounting Systems Information Services Technology Mergers and Acquisitions Reengineering/Redesign
Cost Control Issues with Ethical Overtones
Summary Key Terms
Chapter Outline
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turbulent changes taking place in payment, delivery, and social systems, health care pro- fessionals are faced with trying to meet their organization’s health-related mission in an environment of extreme cost pressure. In order to provide a context for the topics covered in this text, this chapter highlights key issues affecting health care providers. It is organized into three sections: rising health care costs, efforts to control costs, and cost control issues with ethical overtones (see Exhibit 1–1).
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Perspective 1–1 HHeeaalltthh CCaarree IInnssttiittuuttiioonnss NNeeeedd MMoorree tthhaann EEffffiicciieennccyy
In the past decade, few sectors of the American economy have been as whipsawed as has the health care industry. On one hand, US health consumers continue to demand the highest quality, most accessible care. On the other, cur- rent public policy, expressed as dramatically lower payment for care delivered, has caused academic medical centers and community hospitals alike to hemorrhage financially, putting many institutions on the brink of bankruptcy and patient care at serious risk.
Calls for improved economic efficiencies in the American health care system predate early Clinton Administration initiatives.The rise of HMOs was one attempt to use a third party to control costs. But have quality and access been diminished for the sake of controlled economics? The evidence strongly suggests that it has.
In 1997, spurred by the dual ambitions to further constrict health care costs and diminish the federal contribu- tion to national health care, Congress passed the Balanced Budget Act. The BBA was designed to reduce Medicare payments to medical centers and hospitals by $48 billion over five years. But an updated figure by the Congressional Budget Office actually estimated the cuts at $71 billion.While perhaps unintended, the result has been the growing disabling of the American hospital system.
The examples are widespread. In Boston, each of the five academic medical centers is losing tens of millions of dollars annually. The same applies for the eight academic medical centers in the New York metropolitan area. The Association of American Medical Colleges, with 125 member institutions, predicts more than two-thirds of this nation’s academic medical centers will run seriously in the red in the year 2000.
Source: James Barba, Chairman of the Board of Directors, President and Chief Executive Officer of Albany Medical Center. Health Care Quarterly, December 11, 2000.
Cost Control Issues With Ethical Overtones
Ri sin
g H ea lth
C ar e Co
sts Efforts to Control Costs
Exhibit 1–1 Organization of this Chapter
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�Rising Health Care Costs�
Many factors have led to rising health care costs, which have increased faster than has general inflation over the past decades (see Exhibit 1–2). Though the average life expectancy of the general population has only risen by three years over this time period, the cost to keep people healthy has increased sixfold (Exhibit 1–3). The remainder of this section briefly discusses some of the key factors that have
The Context of Health Care Finanacial Management 33
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Exhibit 1–3 Annual Health Care Expenditures in the United States
0% 1% 2% 3% 4% 5% 6% 7% 8% 9%
10% 11% 12% 13% 14% 15%
1980 1982 1984 1986 1988 1990 1992 1994 1996 1998 YEAR
P E R C
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Consumer Price Index Medical Care Inflation
Exhibit 1–2 The Consumer Price Index versus Medical Care Inflation
Source: US Labor Department, Bureau of Labor Statistics, July 2000.
Source: Health Care Financing Administration, July 2001.
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contributed to the higher cost of health care: the payment (reimbursement) system, technology, the aging population, chronic diseases, prescription drug costs, litigation, and the uninsured (see Exhibit 1–4).
The Payment System
The introduction of Medicare and Medicaid in 1965 was designed in large part to guarantee health care coverage to the country’s most vulnerable populations: the poor and the elderly. Unfortunately, many people at the time failed to recognize that these “Great Society” programs would become the impetus for two interrelated problems that have persisted ever since: rising health care costs far beyond those that were ever predicted, and an increased expectation that access to a high level of affordable health care is a right for all citizens. Since the mid-1960s, the health care payment system in the United States has undergone major changes. The role of the provider has gradually shifted from price-setter to price-taker. The role of the federal government has changed from being a small participant before the mid-1960s to being a major force in both setting amounts of payment and defining payment systems. As the federal gov- ernment has attempted to control its costs, its inpatient payment systems have evolved from charge-based to cost-based to flat-fee, toward capitation, and now toward mixed systems (see Exhibit 1–5). In 2000, the federal government also introduced a new pay- ment system for outpatient services, called APCs (Ambulatory Payment Classifications), which changed the basis of payment for outpatient services from flat-fee for individual services to fixed reimbursement for bundled services. The fed- eral government, of course, is not the only payor, but its policies greatly influence the practices of other payors, including state governments.
44 Financial Management of Health Care Organizations
Ambulatory Payment Classifications (APCs): Enacted by the federal government in 2000, a prospective payment system for outpatient services, similar to DRGs, which reimburses a fixed amount for a bundled set of services.
The Payment System
Technology
Rising Costs
Aging Population
Chronic Diseases
Compliance & Litigation
The Uninsured
Prescription Drug Costs
Exhibit 1–4 Selected Factors Contributing to the Rising Costs of Health Care
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As discussed in depth in Chapter 13, in charge-based and cost-based systems, the provider plays a major role in setting prices. In flat-fee and capitated payment arrangements, the provider assumes an increased financial risk, while the payor potentially has more control over its costs. A major problem caused by payors try- ing to control their cost has been cost-shifting: providers attempting to pass on costs not paid for by one payor onto other payors. This has resulted in a dramat- ic shift in costs to the private sector, a nearly 500 percent increase over the past two decades: $142.5 billion in 1980 versus $626.4 billion in 1998 (US Health Care Financing Administration, 1999). As a result, employers and insurers are follow- ing the government’s lead and becoming increasingly more involved in managing care.
Technology
No one can deny the benefits of health care technology, but the associated costs have become tremendous. Premature infants, and infants with gross birth defects, who would not have survived just a decade ago, can now survive, but can generate upwards of half a million dollars in the intensive care unit alone, and possibly more afterwards due to developmental disabilities. The total cost in the first year of life for a prema- ture infant can easily surpass $1 million.
Transplants have saved countless lives, and procedure count more than doubled in number in less than 15 years, from 11,163 in 1985 to 25,141 in 1998 (US Department of Health and Human Services, 1999). Many feel that it has not been the individual cost of a transplant, but only the lack of donors that has limited the number of transplants performed. The rise in living-donor transplants (as opposed to cadaverous transplants) has led to more growth in this rapidly evolv- ing field, but these procedures now involve two (or more) living patients who will be operated on, rather than just one. The use of other, more advanced technolo- gies – and their associated costs – have significantly increased as well. For exam- ple, the number of MRIs (magnetic resonance imagers) per capita in the United States far exceeds the figure for any other country in the world, as do the figures for CAT (computerized axial tomography) scanners, cardiac catheterization pro- cedures, etc. On the other hand, the United States has become “the place to go” for foreigners who do not have access to these types of advanced technologies in their own countries.
The Context of Health Care Finanacial Management 55
Cost-shifting: When providers try to get one payor to pay for costs which have not been covered by another payor. A common example is a provider’s trying to compensate for low Medicaid payments by increasing charges to a private insurer.
Early 1960s
Fee-for-Service
Mid-1960s
Cost-Based Reimbursement
Mid-1980s
Prospective Payment (DRGs)
Late 1990s
Capitation and Global Payments
2000s
APCs and ?
Exhibit 1–5 The Evolution of Payment Systems in the United States Since 1960
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The Aging Population
The average life expectancy of Americans has risen only slightly over the past few decades: from 69.5 to 73.6 for males, and from 77.2 to 79.4 for females (1977–1997, both sets of figures). In the meantime, the overall population has aged significantly, and there are more elderly Americans than ever before. In fact, by the mid-1990s, the age group 85 and older was the fastest growing segment of the population, and the eld- erly tend to be the heaviest users of health care services. Whereas the leading causes of death in the early part of the last century were sudden illnesses (generally curable today), the current reasons for mortality include more chronic, long-term (and expen- sive) illnesses, such as heart disease and cancer (see Exhibit 1–6). If a person lives long enough, he or she has a high probability of succumbing to a chronic illness.
The combination of age and technology has increased costs in other ways, too. For example, joint replacements to restore mobility are immensely popular among the eld- erly, but can become very expensive, especially if complications arise. Though the benefit of such procedures is remarkable in human terms, these technologies have added costs to the system.
The increased need for long-term care for the elderly has also led to increased health care costs. As more working families find that they cannot take care of their aging parents’ physical needs, the costs of long-term care become their burden and society’s burden. In fact, over half of all Medicaid expenditures in the late 1990s went to elderly patients in nursing homes. A less expensive alternative is home health and live-in nursing aides, but these options are not always covered by insurance and can be unaffordable to the average family: 24-hour nursing coverage, whether home-based or facility-based, now averages well over $100 per day per individual.
66 Financial Management of Health Care Organizations
Other 47%
Cancer 23%
Heart Disease 30%
Exhibit 1–6 Major Causes of Death and Their Approximate Occurrences in 1999
Source: K. D. Kochanek, B. L. Smith, and R. N. Anderson, “Deaths: Preliminary Data for 1999,” National Vital Statistics Reports, 49(3), 2001, 1–48.
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Prescription Drug Costs
A major reason why the population has aged and has survived longer from debilitat- ing chronic diseases has been the advent of increasingly effective – albeit costly – drugs (see Perspective 1–2). A key issue in the 2000 presidential election focused on how to make these prescription medications more affordably to the elderly. Drug man- ufacturers have received widespread criticism for stifling competition and raising prices, especially as compared to the prices being offered in other countries. However, the manufacturers counter that they can spend hundreds of millions of dollars in research on one drug, and they need to recoup their investments (as well as their investments in numerous other failed drugs that never reached the market). Without the incentive to do research by being granted a patent on new medications (and thus monopoly control), drug manufacturers contend that they would not bring as many promising new drugs to market. While the battle rages on, retail sales of prescription drugs in the United States increased by over 75 percent in just five years from 1995 to 1999, from $68.6 billion to over $121.7 billion (National Association of Chain Drug Stores, 1999).
Chronic Diseases
While chronic diseases are often associated with the elderly, long-term ailments may affect younger segments of the population as well. Sometimes these diseases can be
The Context of Health Care Finanacial Management 77
Perspective 1–2 LLiivviinngg wwiitthh CChhaannggee –– OOppeenn YYoouurr WWaalllleettss
All the technology means we’ll be spending less on health care in the years ahead, right? Fat chance. “If the economy continues to grow as it has in this decade, one could see substantial increases in health-care spending with no change in the share of GDP,” says Elliott Fisher, a professor of medicine at Dartmouth Medical School in Hanover, NH.
But few doubt we’ll be spending more on health in per capita terms. Measured in 1997 dollars, per capita spend- ing on health care rose to $3,925 in 1997 from $765 in 1960, according to the HCFA. Between 1960 and 1990, the health-care component of the consumer price index rose an average of 1.8 percentage of this decade, to as small as 0.4 point, or 22%, in 1997. But it has widened sharply since then.
The ever-expanding array of medical technology – devices and drugs – also drives up health-care costs. While in many industries technology tends to reduce labor costs, in medicine it tends to raise them. “You have more-com- plex equipment introduced in health care, and you can’t have an unskilled person running it,” says Paul Starr, a Princeton University sociology professor and author of “The Social Transformation of American Medicine,” a histo- ry of the profession. Some technological innovations clearly save money; penicillin, for instance, has spared us who- knows-how-many hospital stays. “But relatively little health-care technology has been like that,” says Mr Starr. “There’s been much more health-care technology that’s raised labor costs.”
Source: Chris Gay, Wall Street Journal, October 18, 1999. Copyright Dow Jones & Company Inc., New York.
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cured, but at other times, only treated. Acquired Immune Deficiency Syndrome, or AIDS, became widespread in the 1980s, and a total of 733,374 cases were reported in the United States between 1981 and 1999 (US Centers for Disease Control and Prevention, 1999). It is a long-term illness that can easily cost $100,000 over the life of a patient, not to render a cure, but only to improve the quality of life and provide pal- liative support. Other diseases, such as diabetes, liver failure, and cancer, can also affect younger people, who may end up needing expensive treatments for a lifetime. Still other conditions, such as mental illness or debilitating back pain, are expensive to treat and costly in terms of lost productivity. Days of disability have held steady at nearly 4 billion per year: 4.2 billion in 1980 versus 3.8 billion in 1996 (US National Center for Health Statistics, 1996).
Compliance and Litigation
Three interrelated factors have greatly contributed to the rise in healthcare costs: 1) compliance, which is the need to comply with governmental regulations, whether they be for provision of care, billing, privacy, security, etc. A noteworthy example of extraordinary compliance costs would be the Health Insurance Portability and Accountability Act, or HIPAA (discussed below and described in more detail in Chapter 13); 2) increased insurance premiums that providers have to pay insurers to cover the cost of defending against lawsuits and paying large jury awards; and 3) the increased use of defensive medicine by practitioners – excessive tests and proced- ures, oftentimes unnecessary care, simply to ensure that nothing be overlooked should a lawsuit ever arise. And once a patient has undergone a test or procedure, the provider is liable to be aware of and to follow up on all the results, even if the original service were unnecessary.
Partially due to concerns over access to health care services as a result of cost-con- trol measures by insurers, the federal government enacted HIPAA in 1996. HIPAA was introduced: to improve the portability and continuity of health insurance cover- age; to ensure confidentiality in health care information storage and retrieval; to com- bat waste, fraud, and abuse in the health insurance and delivery systems; to promote the use of medical savings accounts; to improve access to long-term care; and to sim- plify the administration of health insurance. Compliance is mandatory by all health care institutions before the year 2005. Though individual state regulations can over- ride HIPAA regulations if they more strictly ensure access to and coverage for health care services, HIPAA imposes minimum standards that must be met by all institutions doing business in any state.
The cost impact of litigation by patients and their families on health care providers cannot be directly measured, but it is generally believed to be quite significant. On the one hand, patients have a right to expect a reasonable and safe level of care that is dic- tated by medical necessity, not by profit margins. On the other hand, what is reason- able care seems open to considerable debate, especially on a case-by-case basis. Under tighter reimbursement policies, providers are forced or encouraged to restrict poten- tially unnecessary tests, while opening themselves up to possible legal battles. The subject of whether or not managed care plan enrollees should be allowed to sue their
88 Financial Management of Health Care Organizations
Compliance: The need to abide by governmental regulations, whether they be for the provision of care, billing, privacy, security, etc.
Health Insurance Portability and Accountability Act (HIPAA): A set of federal compliance regulations enacted in 1996 to ensure standardization of billing, privacy, and reporting as institutions enter a paperless age.
Defensive Medicine: The tendency of health care practitioners to do more testing and to provide more care for patients than might otherwise be necessary, simply to protect themselves against potential litigation.
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HMO or employer has become a heated topic of discussion, as some contend it will ultimately drive costs up even further. Although the legal relationship between provider organizations and their participating providers is beyond the scope of this text, it should be emphasized that litigation and compliance add costs which are not direct (i.e., hands-on) patient care.
The Uninsured
The number of uninsured individuals has risen considerably (see Exhibit 1–7). By the turn of the century, the number of people with no health insurance coverage at some time during the year was approximately 40 million (the number continuously fluctu- ates as people add or drop coverage). This is due to several factors, including: 1) health insurance premiums have become too costly for many individuals, even if they are working; 2) individuals have been screened out of insurance policies because of “pre- existing conditions”; 3) employers, feeling they cannot afford to continue to provide health insurance as a benefit, have either scaled back their benefits or eliminated them altogether by hiring part-time rather than full-time workers; 4) due to budget restric- tions, the federal government and the states have tightened Medicaid eligibility cri- teria, typically too far below the official federal poverty level for most families to qualify; and 5) individuals have learned that they will be taken care of by providers, especially community hospitals, if they show up at the door (specifically the emer- gency room), even if they can’t pay. Some low-risk people may avoid insurance alto- gether and assume they will be taken care of if ever need be. Most hospitals are legally
The Context of Health Care Finanacial Management 99
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1990 1991 1992 1993 1994 1995 1996 1997 1998 1999 2000
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M B E R O
F U
N IN
S U
R E D
(M IL
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N S )
Exhibit 1–7 Number of Uninsured
Source: US Census Bureau, July 2001.
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obligated to accept these individuals once they have entered the premises. This puts a tremendous burden on health care facilities, especially community hospitals, to con- tinue to provide indigent care, because they can no longer pass on their costs to other payors (see Exhibit 1–8).
�Efforts to Control Costs�
The impact of rising health care costs has had drastic consequences upon the ability of providers to survive financially (see Exhibit 1–9). Hence, keen interest has been fostered by payors and providers to control this rise. The following sections describe measures undertaken to control costs.
Efforts by Payors to Control Health Care Costs
Rising health care costs have forced private and public payors to try a variety of approaches to limit their financial risk. Increasingly, employers and payors have drawn upon their position as the supplier of patients to manage care as well as to man- age payments. This has forced hospital administrators to accept payment arrange- ments that greatly affect the relationships among patients, providers, and payors.
1100 Financial Management of Health Care Organizations
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Exhibit 1–8 Uncompensated Care Costs for the Uninsured
Source: American Hospital Association, July 2001.
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The most commonly used methods by payors to control costs are introduced below and illustrated in Exhibit 1–10. These approaches are discussed in more detail in Chapter 13.
● Retrospective Review: reviewing services after they have been performed and only reimbursing for those services deemed medically necessary by the payor.
● Concurrent Review: monitoring appropriateness and medical necessity of a hospital stay while the patient is in the hospital, and implementing discharge planning.
● Preadmission Certification and Second Opinions: requiring prior approval or review of services to determine appropriateness of care.
● Prospective Payments: predetermining payments for services in advance based upon common use of resources for that service.
● Gatekeepers: requiring a patient to obtain a referral from his or her primary care physician, the “gatekeeper,” before going to see a specialist.
● CON (Certificate of Need): requiring providers to have their capital expenditures (over a certain dollar amount) preapproved by an independent state agency to avoid unnecessary duplication of services (not implemented in all states).
● Provider Networks: requiring a patient to select from a preapproved list of providers.
The Context of Health Care Finanacial Management 1111
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Exhibit 1–9 Annual Number of Surviving Hospitals
Prospective Payment System: The payment system used by Medicare to reimburse providers a predetermined amount. Several payment methods fall under the umbrella of PPS, including: DRGs (inpatient admissions); APCs (outpatient visits); RBRVS (professional services); and RUGs (skilled nursing home care). DRGs were the first category to fall under this type of predetermined payment arrangement.
Source: American Hospital Association, July 2001.
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● Deductibles and Copayments: requiring patients to pay for part of their own care up to a given amount (deductible) or for a portion of each service they receive (copayment).
● Steerage and Discounts: agreeing to send patients to providers in return for discounted services.
● Case Rates and Per Diems: setting reimbursement depending on the type of case (medical, surgical, maternity, etc.) or setting rates per inpatient day based on the type of case (per diems).
● Penalties: charging HMO patients a penalty for seeking care outside the HMO network without preapproval. Providers may also be penalized by HMOs for not following managed care rules. Such penalties include reducing or withholding incentive pay.
● Point of Care: allowing capitated patients to seek care outside the HMO for an increase in premium.
Because of the enormity of their impact, two payment systems designed to control costs demand special attention: DRGs and capitation. Other payment systems which are emerging, such as global payments and APCs, are also discussed.
1122 Financial Management of Health Care Organizations
Retrospective Review
Deductibles/ Copayments
Cost Control
Concurrent Review
Preadmission Certification & 2nd Opinions
Gatekeepers &
Point of Care
Provider Networks
Steerage & Discounts
Prospective Payments
Case Rates & Per Deims
Penalties CON
Exhibit 1–10 Selected Methods Implemented by Payors to Control Costs
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DRGs
In an effort to control Medicare inpatient costs, the Reagan administration introduced the prospective payment concept in 1984. Under this plan, the government created nearly 500 different categories of illnesses called Diagnosis Related Groups, or DRGs, and reimbursed a fixed amount based upon the patient’s discharge diagnosis. The goal was to shift the degree of responsibility to the provider to be more efficient, since with few exceptions (called “outliers”), the provider would receive a fixed reimbursement for a patient in a particular category, regardless of the services provided. Several major prob- lems arose from the DRG-based system, which led to searches for alternatives:
● Reimbursement rates did not keep pace with health care inflation, which rose at approximately 11 percent per year through the 1980s and into the early 1990s. Though the health care inflation rate slowed in the late 1990s, it has since picked up again and still exceeds the overall rate of inflation. This trend caused many facilities to lose money on Medicare patients, which encouraged those facilities to steer Medicare patients to other providers.
● Providers began to engage in what became known as “DRG creep,” a noticeable (possibly illegal) trend toward patients’ being placed into higher- paying DRGs. This led to increased costs.
● Many hospitals find fixed reimbursements to be inconvenient. For example, a patient is admitted for pneumonia, but during the patient’s stay, the hospital discovers another problem, poor hearing. If the hospital performs audiology services during the patient’s inpatient stay (which would be very convenient), the hospital would not get additional reimbursement for those services because the reimbursement amount is based only upon the patient’s discharge diagnosis: pneumonia. To get compensated for audiology services, the hospital must discharge the patient and then bring him back to the hospital later as an outpatient, which has a different and separate payment mechanism. (And even then, to prevent such occurrences, the federal government enacted a “72-hour rule,” which in effect states that additional services received within 72 hours of a discharge are considered part of the preceding inpatient visit, and thus are not eligible for separate reimbursement.)
Capitation
One of the newer methods to control costs is capitation, whereby the provider receives a set payment to provide health care services to a population for a defined time period. This type of engagement works best with large populations, sometimes referred to as risk pools, where risk can be spread out and managed better. Typically, the payment rate is set on a per member per month (PMPM) basis. Under this type of arrangement, the provider receives a fixed amount of money at the beginning of each month (based upon the number of enrollees) and agrees to provide all covered services necessary for
The Context of Health Care Finanacial Management 1133
Diagnosis Related Groups (DRGs): A system to classify inpatients based upon their diagnoses. In the most pervasive system, which is used by Medicare, there are approximately 500 different diagnostic categories.
Capitation: A system which pays providers a specific amount in advance to care for the health care needs of a population over a specific time period. Providers are usually paid on per member per month (PMPM) basis. The provider then assumes the risk that the cost of caring for the population will not exceed the aggregate PMPM amount received.
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those enrollees during that month. Though there are various arrangements to limit financial risk, under a completely capitated arrangement, the burden of cost contain- ment rests entirely on the provider.
Global Payments
Under most of today’s payment systems, each provider is paid separately. Under a global payment system, a single price is agreed upon for several providers as a unit (i.e. the hospital, physicians, home health agency, etc.), who have bid a set price for a con- tract. Payors reduce risk by knowing in advance the amount that they will have to pay. Providers, on the other hand, are able to keep the profit if they can provide all services for less than the negotiated global payment. However, they are at risk for any loss. A par- ticularly interesting problem arises in how the providing parties decide to split any profits or losses on the contract. Global pricing tends to increase: 1) the need for providers to cooperate; and 2) the need to scrutinize practice patterns. Regardless, it can be highly susceptible to unusually complicated and/or high cost patients, called outliers.
APCs
APCs, or Ambulatory Payment Classifications, are similar to and based upon the same concept as DRGs, but reimburse fixed amounts for bundled outpatient services rather than for inpatient services. Implemented in the year 2000 as part of the Balanced Budget Act of 1997 (but modified according to the Balanced Budget Refinement Act of 1999), APCs were an effort by the government to control rising outpatient costs. With few exceptions, nearly all outpatient services and supplies were categorized into groupings, each with a fixed reimbursement based upon a hospital’s wage index. Because APCs are still relatively new, the impact that APCs have had on providers has not yet been fully researched and realized. Many facilities are believed to be having a difficult time adjusting, both to the provision of outpatient care, and to the fact that they had previously relied on outpatient revenues to help to compensate for financial losses in other areas.
Cutting Delivery Costs
Faced with restrictions on payments, providers have become increasingly concerned with controlling costs. Some of the major trends that have resulted are: the shift to outpatient services; new cost accounting systems; improved information services tech- nology; mergers and acquisitions; and reengineering/redesign.
Shift to Outpatient Services
Many hospitals are offering an increasing number of services on an outpatient basis that have traditionally been performed on an inpatient basis, especially surgical ser-
1144 Financial Management of Health Care Organizations
Risk Pools: A generally large population of individuals who are all insured under the same arrangement, regardless of working status. Health care utilization – and therefore cost – is more stable for larger groups than it is for smaller groups, which makes larger groups’ cost more predictable for insurers.
Global Payments: A system to pay providers whereby the fees for all providers (i.e. hospitals, physicians, home health care agencies) are included in a single negotiated amount. This is sometimes called “bundling” of services. In non-global payment systems, each provider is paid separately.
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vices. In fact, a hospital today commonly performs more than half of all of its surgical cases on an outpatient basis. This has caused problems, however, for many hospitals which were primarily designed to provide inpatient surgical services, including: 1) inadequate preoperative and postoperative holding areas for extended time periods; 2) inefficient processes for preoperative work-up testing, as outpatients must find their own way to various departments throughout the hospital, such as labs and X-ray; and 3) inefficient OR operations, since hospitals must rely on outpatients to arrive at the hospital on time in the early morning, instead of retrieving patients from their inpatient beds when requested. Other less invasive outpatient procedures still have many of the same problems. This shift to outpatient services has forced hospitals to invest in facility enhancements to accommodate their changing needs, and many hos- pitals find themselves in a bind for funds as well as space.
Cost Accounting Systems
Most hospital accounting systems have a strong billing and collections component, but a very weak cost accounting system. In fact, this is due in large part to the history of reimbursement. Financial incentives were in place to maximize reimbursement, not to control costs. Now that the environment has changed, providers have found it increasingly important to know their precise costs. As a result, there has been a major movement to separate cost accounting systems from financial accounting systems, and to move away from traditional allocation-based cost systems to activity-based cost sys- tems (discussed in depth in Chapter 12). Though an expensive endeavor, declining reimbursement is forcing hospitals to invest in more sophisticated cost accounting systems.
Information Services Technology
With the rapid advances in computer hardware and software applications, many institutions have invested in the latest information technologies in an effort to receive the most accurate information as quickly as possible. Most applications revolve around materials management, budgeting, accounts payable, payroll, and human resource needs. It is essential for institutions to track the flow of materials through their organizations, and to purchase and pay for supplies in the most cost-effective manner. Hospitals can keep funds longer and reduce inventory costs by incorporating “just-in-time” ordering techniques. If they can follow the flow of materials through their organization, they can better track costs and have better reporting and control over their budgets.
Computerization of medical records and information security is also an evolving field requiring significant investments. While institutions are aware of the inefficien- cies of trying to manually maintain paper records, eventually many feel they will be forced by competition and by the federal government to resort to a paperless system. And in conjunction with this notion comes investments in telemedicine, the ability to perform services from a distance. Presumably, all these advancements are ultimately
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designed to save costs and/or lead to better provision of services, but these multi-mil- lion dollar investments have to be made now.
Mergers and Acquisitions
Many facilities have invested heavily in mergers and acquisitions under the premise that consolidation of services reduces costs. An acquisition could be as small as acquiring a physician group practice, or as large as merging all the health care institutions in a spe- cific market area. The financial impact of such measures can be tremendous, and health care professionals must have a keen understanding of the local markets and organiza- tional cultures before engaging in such practices. (See Perspective 1–3.) Oftentimes mergers fail or lose money, such as the break-up of Stanford and UCSF medical cen-
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In 2000, for the third year in a row, the number of US hospital mergers and acquisitions declined, with 22 percent fewer deals announced than in the previous year, according to Irving Levin Associates, Inc., a health care research and publishing firm.
In its seventh edition of “The Health Care Acquisition Report,” Levin reports that in 2000, the hospital sector had the greatest number of mergers and acquisitions for the year of any health care services industry segment.Year 2000 hospital M&A activity dropped from 110 deals reported in 1999, 139 deals in 1998, 197 deals in 1997, and 163 deals in 1996.The largest deal of the year was more than 4 times larger than the largest deal of 1999.
While M&A volume decreased, health care stocks and especially hospital stocks improved markedly during the year 2000. “The outlook for 2001 is positive. Reimbursement relief was obtained for certain segments of the indus- try after two years of suffering from The Balanced Budget Act of 1997. Now the health care industry is beginning to stabilize,” stated Kathy Hammell, editor of the report. Hospitals account for the largest share of the more than $1 trillion that Americans spend annually on health care.
For the first time in seven years, for profit hospital acquisitions surpassed non-profit acquisitions in terms of num- ber of hospitals, with 69% of acquisitions involving for profit and only 31% involving non-profit hospitals. Indicative of the rise in corporate acquisitions was the largest deal of the year – the $2.4 billion acquisition of Quorum Health Group by Triad, a spin-off from Columbia/HCA (now HCA-The Healthcare Company), historically a major player in the hospital acquisition market. None of the largest acquirers in 2000 or 1999 were affiliated with Roman Catholic institutions, contrary to the prior year. “While considerably more attention has been focused on the corporate acquisitions of the past five years, this industry will continue to be dominated by nonprofit entities,” stated Stephen M. Monroe, a partner at Irving Levin Associates, Inc.
Transaction volume in the managed care sector also dropped in 2000, reflecting the declining financial health of that sector. There were 49 managed care transactions announced, compared to 66 deals in 1999, 62 deals in 1998 and 57 deals in 1997. In the past five years, six managed care deals exceeded a transaction value of $1 billion, but no deals have exceeded this level in the past two years.
Source: Irving Levin Associates, Inc. Copyright 2001 PR Newswire Association, Inc., March 28, 2001 http://www.prnewswire.com
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ters in San Francisco. Other acquisitions, such as those involving Columbia/HCA, were done illegally and resulted in forced break-ups, fines, and jail sentences.
Reengineering/Redesign
As a major measure to cut costs in the last decade, facilities have been learning how to redesign their work processes in order to operate more effectively and efficiently. This involves process analysis, layout redesign, work redesign, total quality management, care mapping, and layoff of unnecessary personnel.
�Cost Control Issues with Ethical Overtones�
Given the myriad efforts to control costs, health care administrators are increasingly faced with ethical dilemmas trying to balance cost with quality and access. Numerous studies have found a direct correlation among income, access, and health status. Administrators must keep in mind that they do not produce widgets, but rather an essential service, often to vulnerable populations. There are literally hundreds of questions with ethical overtones that arise because of pressures to cut costs. Among the most common are:
● How to control costs without cutting quality. ● How to control costs, yet expand access to services, especially in remote or
inner-city areas. ● How to control costs and provide services to those who cannot pay. ● How to control costs but offer expensive treatments to special populations,
such as the terminally ill or premature infants. ● How to control costs and still offer services that are typically reimbursed
below cost, such as certain types of transplants or other special surgical procedures.
● How to control costs and not over-restrict the use of specialty care. ● How to ration health care services based upon medical effectiveness. ● How to weigh societal benefits against individual benefits when there are
limited resources.
Perspective 1–4 shows the struggles that health care institutions are facing in regard to several topics discussed in the chapter.
�Summary�
The health care administrator today and in the future will be faced with numerous com- plex issues to consider while making financial decisions. Many factors have led to the rise in increasing health care costs: an aging population, increasingly “high-tech” care,
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Care Mapping: a process which specifies in advance the preferred treatment regimen for patients with particular diagnoses. This is also referred to as a clinical pathway, clinical protocol, or practice guideline.
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prescription drug costs, chronic illnesses, compliance, legal concerns, and the ever ris- ing number of uninsured patients. Numerous efforts have been made to counter this rise: changes in reimbursement and the shifting of risk to the providers, a shift towards greater use of outpatient services and shorter inpatient stays, more efficient administra- tive technologies, mergers and acquisitions, and redesign/reengineering of services in general. But the administrator must constantly maintain a high ethical standard in all decisions, because the health and survival of the population is in the balance.
The remainder of this text focuses on health care financial management topics such as how to analyze financial statements, manage internal funds, make sound business investments, borrow funds, analyze costs, and prepare a budget. It also provides more in-depth analyses of how regulations and restrictions affect how health care institu- tions must operate. While this knowledge is essential in the financial decision-making process, the health care administrator always needs to carefully weigh non-financial factors as well.
1188 Financial Management of Health Care Organizations
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Gone are the days when funding a new wing at a hospital was enough to earn someone a seat on its board of direct- ors. To compete with their for-profit competitors, today’s not-for-profit hospitals and systems require financially savvy directors who realize that doing good in the community is not enough to keep a hospital afloat.
In an increasingly litigious environment marked by several high-profile hospital bankruptcies, greater state involve- ment in hospital closures, and increasingly aggressive creditors, hospital board members more frequently are a tar- get of blame for a hospital’s financial demise, legal experts say.
If a hospital is approaching insolvency, should a board be focusing on how to continue to provide care for its com- munity? Should it be doing what is best financially for the corporate owner of the hospital? Or should it be con- centrating primarily on how to bring in the most cash to pay its creditors? As it turns out, the answers to these fundamental questions are about as clear as mud and vary from state to state, legal experts say.
Take the example of the 30-bed Manhattan Eye, Ear, and Throat Hospital, which tried to exit the acute-care busi- ness and sell its real estate assets for $41 million several years ago, only to be challenged in the courts by New York Attorney General Eliot Spitzer. In December 1999, the New York Supreme Court prohibited the hospital’s board of trustees from going forward with the deal, despite six months of deliberations, the hiring of a financial adviser, and consideration of alternative bids. The reason, according to Justice Bernard Fried, was that the board breached its fiduciary responsibilities by not considering competing offers that would have allowed the hospital to continue its mission as a specialty facility.
The threat to a not-for-profit hospital’s endowment when it approaches insolvency brings board members into the fray. James Schwartz, a partner at Manatt, Phelps & Phillips, Los Angeles, who has represented not-for-profit sys- tems, says board members’ shifting duties during insolvency will likely become a major issue in coming years. It could hit California especially hard as hospitals struggle to find the capital to comply with the state’s seismic retrofitting mandates, he says. “An awful lot of hospitals are looking at that situation, and to my knowledge, nobody has been giving them much guidance,” he says.
Source: Barbara Kirchheimer, Modern Healthcare, August 27, 2001.
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�Questions and Problems�
1. Definitions. Define the following terms: a. Ambulatory Payment Classifications (APCs). b. Capitation. c. Care Mapping. d. Compliance. e. Cost-shifting. f. Defensive Medicine. g. Diagnosis Related Groups (DRGs). h. Global Payments. i. Health Insurance Portability and Accountability Act (HIPAA). j. Prospective Payment System. k. Risk Pools.
2. Increased Costs. List several factors which have led to the rise in increased costs.
3. Cost Control. List several efforts that have been enacted by payors to control costs.
4. Cost Control. List several efforts which have been attempted by providers to control costs.
5. Ethics. What are some of the ethical issues that must be considered when making any financial decisions?
6. Capitation. Explain how and to whom capitation shifts the burden of risk. 7. Litigation. Explain the ramifications of allowing/disallowing an individual
to be able to sue his or her HMO. 8. Drugs. Is the granting of patents good for the development of new drugs?
Why or why not? 9. Ethics. If an uninsured individual needed expensive medical treatment and did
not have the means to pay for it, should the treatment be provided? Would the answer be influenced by the financial status of the institution asked to provide the service? Would the answer be any different if the individual were uninsured voluntarily (e.g. “I’ll take my chances and hope nothing happens”) or involuntarily (e.g. “It’s either health insurance or food for my children”)?
10. Ethics. Should private for-profit institutions be forced to accept patients who will not reimburse satisfactorily? Why or why not?
The Context of Health Care Finanacial Management 1199
Ambulatory Payment Classifications (APCs)
Capitation Care Mapping Compliance
Cost-shifting Defensive Medicine Diagnosis Related Groups
(DRGs) Global Payments
Health Insurance Portability and Accountability Act (HIPAA)
Prospective Payment System Risk Pools
�Key Terms�
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