Cost of Care

What’s Driving Increased Hospital Cost Concerns?

July 16, 2018 9:02 am

Hospital and health systems have realized they aren’t going to grow their way out of the margin pressures that they are facing, a survey author says.

July 13—The case for greater cost control at hospitals received its latest boost from a recent national survey of hospital executives. The growing urgency comes amid shrinking margins and cash flow.  

Cost control eclipsed revenue growth as the top priority among health system CEOs, according to Advisory Board’s Annual Health Care CEO Survey. The nationwide survey of 146 C-suite executives, conducted between December 2017 and March 2018, found 62 percent “were extremely interested” in cost control.

Similarly, “innovative approaches to expense reduction” was the second-leading priority (56 percent).

“It was certainly eye-opening to see cost control as the new number one issue facing hospital and health system executives because it really confirmed conversations we’ve been having with leaders,” said Rob Lazerow, managing director of Advisory Board Research.

Among the 33 topics about which executives were asked their level of concern, other leading priorities included:

  • Exploring diversified, innovative revenue streams (56 percent)
  • Boosting outpatient-procedure market share (50 percent)
  • Meeting rising consumer demands for service (50 percent)

Why the Cost Focus Now

The recent cost concern findings followed an April report from Moody’s Investors Service that the median operating cash flow margin for 160 not-for-profit and public hospitals in 2017 declined to 8.1 percent, which was below levels recorded during the 2008-09 recession.

Similarly, the American Hospital Association’s 2018 chartbook found the percentage of hospitals with negative total and operating margins had increased by the end of 2016 to recession-era levels.

“Hospital and health system leaders have been facing margin compression—deteriorating or declining margins—for a few years,” Lazerow said, referring to trends since 2015. “Hospital and health system leaders realized they weren’t going to be able to grow their way out of the margin pressures that they are facing right now.” 

According to Moody’s, the decline in median operating cash flow margin came amid accelerating expenses and reduced revenue growth, with expense growth in FY17 outpacing revenue growth for the second year in a row.

Moody’s cited an uptick in operating expenses of not-for-profit and public hospitals, with the increase stemming at least partly from the tight labor market.

After a multiyear hiring spree, hospital employment has reached all-time highs—and labor is the largest single component of hospital costs, according to a 2017 Deloitte report based on interviews with 20 health system CEOs. Deloitte estimated that labor expenses make up roughly 50 percent of total operating costs for most hospitals.

Cost Concern Responses

The Advisory Board’s recent finding was only the latest to identify hospitals’ growing concern about cost growth. For instance, a 2017 Kaufman Hall survey of 150 hospital and health system executives found 96 percent identified “cost transformation” as a “significant” to “very significant” need for their organization.

Despite viewing the issue as a priority, one in four hospitals lacked a cost reduction goal and appeared not to be trying to lower cost in an organized and deliberate way, according to the Kaufman Hall analysis.

Among those that were taking steps to control costs, most were undertaking “supply chain/other non-labor” initiatives (68 percent), “labor cost/productivity” (66 percent), and “revenue cycle enhancement” (60 percent).

Hospitals’ primary cost control efforts are in developing new staffing models, shifting patients to outpatient services, and reducing administrative and supply costs, according to Deloitte.

The Advisory Board urged hospitals to control costs by reducing spending on external purchases (including devices, supplies, and drugs), slowing the growth of their labor costs, and restructuring fixed costs (such as by replacing aging hospitals with downsized versions).

Labor Focus

Hospitals have talked about reducing labor costs for years, even as hiring has steadily increased. Total hospital employment rose from 3.7 million workers in 1995 to nearly 5 million in 2016, according to AHA data.

Instead of absolute cuts in their labor force, Lazerow urged hospitals to focus on slowing the growth in their labor expenses. A slower rate of employee growth will “allow your revenue to catch up,” he said in an interview.

Some hospitals’ efforts to reduce labor costs have focused on administrative costs, including ensuring they are achieving economies of scale when they consolidate with other organizations. Organizations also are reexamining their managerial staff to ensure they have “not too few, not too many,” Lazerow said.

Jeff Goldsmith, president of Health Futures Inc. and national advisor at Navigant Healthcare, said among the health systems he advises many have “corporate overhead” of more than 20 percent.

“There’s a lot of low-hanging fruit here where these guys are going to have to take out expenses,” Goldsmith said at a July 12 Altarum event in Washington, D.C.

Other health systems have divested and outsourced noncore functions, such as lab services, Lazerow said.

“Organizations are certainly asking questions like, ‘What services are core to our identity, our organization, our mission, and as a result we have to keep in-house, versus things that we want the efficiency of outsourcing,’” Lazerow said.

A high-cost aspect of hospital hiring sprees in recent years has been the acquisition of physician practices, primarily to drive more patient volume. But a growing body of research has found these hires—especially primary care physicians—frequently produce steep costs for health systems and hospitals.

To maximize revenue from physician hires, Lazerow suggests hospitals reduce tasks that take away from the clinical productivity of physicians.

In recent years, a leading drain on clinical productivity has been the documentation requirements of electronic health records (EHRs). A high-profile 2017 studyin the Annals of Internal Medicinefound ambulatory care physicians spent 27 percent of their office day on direct clinical face time with patients and 49.2 percent on EHRs and other administrative tasks.

“That doesn’t just hurt productivity, it also fuels physician burnout, which can then drive physicians and clinicians away and then you continue that cost spiral,” Lazerow said.

Goldsmith agreed on the physician time shift from patient care to documentation.

“If you go out and talk to your doctors right now, they are in open revolt not only against the information systems that were supposed to make their lives easier and their practice more efficient but against the overwhelming documentation demands of these payment models that are designed to squeeze out a percent or two of potential savings.”

Hospitals have begun to move the composition of medical groups toward a ratio of one nonphysician clinician for every physician.

“It’s not just about partnering with or employing physicians anymore but about clinicians more broadly and team-based approaches to care,” Lazerow said. “There is a tremendous amount of primary care and in some cases specialty care that nonphysician clinicians or nonphysician providers can effectively, efficiently, and safely deliver.”

Rich Daly is a senior writer/editor in HFMA’s Washington, D.C., office. Follow Rich on Twitter: @rdalyhealthcare


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