Research & Reports | Accounting and Financial Reporting

Why hospitals are struggling to make headway improving cost accounting capabilities

Research & Reports | Accounting and Financial Reporting

Why hospitals are struggling to make headway improving cost accounting capabilities

Hospital executives say results of a new HFMA study are true: A range of higher-profile priorities, including simple survival, has kept their organizations from improving their cost-accounting abilities for almost a decade. 

Hospitals’ and health systems’ efforts to implement advanced cost accounting have largely stalled since 2011, even in the face of increasing pressures to control healthcare costs, a new HFMA survey finds. 

The spring survey of 226 C-suite and director-level respondents by HFMA and Strata Decision Technology found their organizations’ cost-accounting abilities in several key areas ranged, on average, from “limited” to “moderate.” That middling response echoed the response to a similar 2011 HFMA member survey. 

Specifically, on a four-point scale (4 is significant capability/1 is no capability), average responses included: 

  • A 2.59 ranking in their ability to determine profit/loss for each employed/contracted physician 
  • A 2.23 ranking in their ability to quantify the financial impact of organizations’ quality improvement efforts 
  • A 2.05 ranking in ability to attribute per patient costs internally and externally across all components of the care continuum 

The stagnation has left a majority (63%) of organizations reliant on the traditional ratio-of-costs-to-charges (RCC) to calculate labor costs.  To calculate supply costs, 68% of respondents still use patient-specific acquisition costs for supplies, drugs and implants, while 52% also use the RCC method. 

Hospital and health system executives projected that their capabilities in all three areas would advance beyond the “moderate” capability within the coming three years. 

“Based on the results of the original survey data, I would have expected to see less dependence on Medicare allocations or the use of RCCs in health systems’ costing models,” says Chad Mulvany, director of healthcare financial practices, perspectives and analysis for HFMA. “However, I expect we will, as the survey indicates, see that change in the next couple of years, as margin pressure increases on health systems, and they need better data to make decisions related to cost-reduction opportunities and understand which service lines they want to remain in.” 

Some organizations report progress 

The overall bleak findings were not devoid of signs of progress, if only in bits and pieces.  

Dona Connelly, controller for Eisenhower Health in Rancho Mirage, Calif., says her 384-bed hospital has refined its costing process since 2011. The hospital switched to Strata Decision Technology’s cost- accounting systems to increase the areas of cost it can examine, for example, including more refinement of overhead allocations and integration of actual supply costs. 

“It makes it much more meaningful when you can say, ‘This is the price we paid on this case at this time for this supply item,’” Connelly says. 

Robin Damschroder, MHSA, FACHE, executive vice president and CFO for the Henry Ford Health System in Detroit, says her organization has continued to work on costing over that time. She admits implementing an electronic health record (EHR) and financial analytics system in 2015 was distracting, but they were able to make some “significant refinements” in their cost system. 

“We still have limitations that we are trying to resolve,” Damschroder says. One area she points to is inclusion of data on post-acute care (PAC) services delivered in the six-hospital health system: Just this year, Henry Ford was able to add its home care services unit into its cost-accounting initiative. 

The 49-bed Fort HealthCare facility in Fort Atkinson, Wis., also improved since 2011 by moving from a process of manual product-line-by-product-line and service-by-service-analysis to implementation of a cost-accounting system, says James Nelson, senior vice president and CFO. 

Nelson also acknowledges, however, that such cost-accounting systems can be “big and unwieldy” for an organization with just $120 million in net revenue. “They are nice to have; they raise your eyes to certain things,” he says. “But when 60% of your costs are labor-related, that’s where you have a really hard time getting your arms around what truly is the cost. Because when you build these things, you have an awful lot of assumptions that get built into it.” But Nelson also observes that for organizations whose labor costs make up 60% of total cost, there’s still a lot of guesswork involved in building the system to reflect the organization’s true costs for care, and addressing all the assumptions that are needed is not a simple task. 

Tom Safley, FHFMA, MBA, vice president of operational finance for Mercy Medical Center in Roseburg, Ore., says his parent organization prioritized investing in a platform that provides “pretty good cost-accounting information and slices it by service lines and down to individual patient level.” 

The cost-accounting system spending has been maintained, but not expanded, since he arrived a year and half ago. The medical center also funds a full-time data analyst who reports to him and extracts data out of the cost-accounting system. 

Why the lag? 

Damschroder says Henry Ford’s ability to make more progress in implementing comprehensive costing systems has been overtaken by other high-profile, high-cost priorities. “A lot of time has been spent on implementing EHRs and building population health capabilities, which are often built from claims files not cost-accounting data,” she says. 

Others say their organizations are too busy struggling to stay afloat to focus on cost allocation. 

Drew Pallas, a consultant and recently named vice president and COO for Long Island Community Hospital in Patchogue, N.Y., says his hospital’s margins were, at best, breakeven. The challenge was that there was never enough capital to invest in both a system to identify costs and funding for services to take advantage of the opportunities identified. 

“Normally we’re just fighting to stay even and not have too many big hiccups,” Pallas says. 

Coming costing focus? 

The recent stagnation of hospital cost-accounting efforts followed the roll-out of early value-based payment models and deep hospital cuts under Medicare and Medicaid. But hospitals could soon be under increased pressure to better understand their costs, as margins tighten because of the spread of financial risk from private and public payers and the entrance of disruptors into the sector. 

“As reducing the cost of care has become a board-level priority, cost accounting has become a major strategic imperative,” says Paul Anderson, manager and solution architect for Chicago-based Strata Decision Technology. “You can’t reduce variation, eliminate waste or take on risk-based contracts without a clear understanding of cost of care across the continuum. There is a major ‘rip and replace’ movement in the market to put more advanced cost-accounting systems in place.” 

Hospitals have a mixed view on the urgency of implementing such costing systems. 

Michael Romedy, CFO of a Tenet Healthcare hospital in Joshua Tree, Calif, says the push toward a better understanding of his organization’s costs will be increased by EHR technology implementation and payers’ move to shared risk. But the new trove of digital data is frequently untapped. 

“The ability to tap into what that can tell us about an individual case is still a few years off,” Romedy says. 

PAC cost a lagging priority 

Understanding total cost of care in the PAC space was the lowest priority among survey respondents, even as hospitals and health systems say they want to move more into value-based pay, where PAC has provided the biggest savings. 

The common lack of major involvement in value-based payment models with downside risk was frequently cited behind the lack of focus on PAC cost. 

“As hospitals as a whole start to accept more risk, there will be more financial incentive to look at the span of illness to evaluate it,” Romedy says. “If we send them home with home health, is that really going to be better than the next alternative. We’ll get to that point when we accept the risk.” 

Anderson of Strata agrees. “As the use of post-acute care increases, we will see additional investment in determining the cost of care in this setting,” Anderson says. “Success in risk-based arrangements will require it.”  

About the Author

Rich Daly, HFMA Senior Writer/Editor,

is in HFMA’s Washington, D.C., office. Follow Rich on Twitter: @rdalyhealthcare

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