For Hospitals and Health Systems: Strategies for Doing More with Less

The conversation has changed.

The old conversation: “You cost too much.”

“But we have these sunk costs, patients who can’t pay … ”

“OK, how about a little less then?”

The new conversation: “You cost too much. We will pay half, or a third, of what you are asking. Or we will take our business elsewhere. Starting now.”

“But … but … how?”

Exactly: How will you survive on a lot less money? What are the strategies that turn “impossible” to “not impossible”?

New Strategies
The old conversation arises from the classic U.S. health care model: a fully insured fee-for-service system with zero price transparency, where the true costs of any particular service are unknown even to the provider. The overwhelmingly massive congeries of disjointed pieces that we absurdly call our health care “system” rides on only the loosest general relationship between costs and reimbursements.

It’s a messy system littered with black boxes labeled “Something Happens Here,” full of little hand waves and “These are not the droids you’re looking for.”

With bundling, medical tourism, mandated transparency, consumer price shopping, and reference pricing by employers and health plans, we increasingly are being forced to name a price and compete on it. Suddenly, we must be orders of magnitude more precise about where our money comes from and where it goes: revenues and costs.

We must find ways to discover how each part of the strategy affects others. And we need some ability to forecast how outside forces (new competition, new payment strategies by employers and health plans, new customer handling technologies) will affect our strategy.

Key Strategy Questions
For decades, whenever some path to profit in health care has arisen (in vitro fertilization, urgent care, retail, wellness and the others) most hospitals have said as if by ritual, “That is not the business we are in.” As long as we got paid for waste, few health care organizations got serious about rooting it out.

And most have seemed content with business structures that put many costs and many sources of revenue beyond their control.

In the Next Health Care, the key strategy questions become:

  • Why are you not capturing as many revenue streams as possible?
  • Why are you not capturing as many savings as possible?
  • Why don’t you have a business structure that converts savings into profit?

Different Revenue Streams
The new environment brings a number of different revenue streams, each with different characteristics. These include:

Bundled offerings and medical tourism. The game here is to lower costs through efficiencies and scale, lower the price and make it up on volume.

Primary stream. Medical homes, direct-pay primary care, urgent care and retail care each have their own revenue streams which may include pay for performance or other quality payments, per patient per month prepayments, or fee for service. This is genuine revenue, but your very success in the primary sphere will (and should) cut your income from the emergency department, as well as many expensive and profitable inpatient and outpatient procedures.

On-site clinics. Medical homes run on a “cost plus” basis; these bring some income and have the same effect as other primary care streams.

Capitation. Capitation spreads costs and revenues across the system, at least nominally aligning the incentives of all involved (like Kaiser Permanente, where the monthly premium plus co-pays or coinsurance cover everything in system-owned facilities with staff clinicians). The Kaiser structure, for instance, automatically rewards the physicians for efficiency and effectiveness: Half of the system margin (profit) every year goes directly to the Permanente Medical Groups.

Subscription (mini-cap). Payment per patient (or employee) per month buys all care for a specific condition, such as diabetes or back care. This drives efficiencies (to keep the cost down) as well as effectiveness (to keep the contract).

Classic fee for service. This likely will always remain as some portion of your revenue. Its incentives oppose those of most other revenue streams.
The Problem
The organization that is prepared for these different streams is most likely a different kind of organization from what you now have.

The problem you are trying to solve is not making the most money, or making your life as comfy as possible, or saving particular jobs, or even saving your institution. The reason your problem is so hard is that it is a five-dimensional Rubik’s Cube. Imagine these dimensions crossing and interacting:

How do we heal the sick and keep people well, with:

  • the resources, capacities, physical plants and people that we have, and
  • the revenue streams we have, can capture or can create, given
  • the wants, needs and attitudes of various large payers in the area, and
  • the various other payers in the region, state, nation or world that might bring business your way.

There are three types of savings possible in a health system:

  • doing the same procedures and tests, but as leanly as possible;
  • correcting the medical problem using the least expensive and intrusive way possible (substituting medical therapy for unnecessary surgery, for instance);
  • preventing the need for doing anything at all.

Under fee for service, all three are a cost to the hospital. This is why we are not very skilled at capturing and reducing costs. Under any other payment system, we need to get fierce and intentional about capturing, characterizing and cutting internal costs.

Is this possible? Imagine going through every service, from performing a pregnancy ultrasound to excising a brain tumor, and doing the arithmetic. Run down every step of every task, the labor cost of the person doing it, the actual cost of the supplies involved, then throw in something for overhead and for margin. Add it up to determine how much it costs you to install a hip or repair a hernia. That’s “time-driven, activity-based costing” or TDABC.

For the last few years Harvard’s Michael Porter and Robert Kaplan have been running exactly such programs at MD Anderson Cancer Center, the Cleveland Clinic, the Mayo Clinic, Boston Children’s Hospital, Brigham and Women’s Hospital and other top hospitals.

Rigorous, tough, time-consuming, expensive to do, yes, but combined with Lean manufacturing techniques, such analysis can drive real costs down. Organizations find that they do many things that don’t help, or that could be done by someone less highly trained and expensive. MD Anderson, for instance, was able to cut the staff in its preoperative anesthesia center by 17 percent while seeing 19 percent more patients and while dropping the internal cost by 46 percent with no loss of quality.

If this seems impractically difficult, it’s still where we have to go. We simply must know our real costs, how we can cut them and which costs we can safely cut.

Targeting (market segmentation). An old subject in these columns, more relevant here than ever: Five percent of the patients generate 50 percent of the costs; 1 percent of the patients generate 20 percent — and many are in those categories for months and years with poorly addressed chronic problems. Under fee for service, they are a revenue source, if they have a payer. Under other business models, they are a cost, and driving costs down by taking better care of them is a big revenue source. The algorithm: Find the chronic high-cost patients whose health you can actually affect. Be at risk for their costs. Put a crew on it. Drive the costs down dramatically.

Programs at Boeing, the AtlantiCare Special Care Center in Atlantic City, N.J., and elsewhere prove that organizations can drive their costs down by 25 percent or more — thereby driving down the costs of the whole population by 12 percent or more.

Outreach. A well-designed, vigorous medical-home outreach program, staffed with real humans in the community, run out of clinics and primary care offices in the community, will drive the costs down dramatically without the market segmentation. If you call everybody, you are going to spend the most time with those who need the most help. It’s highly efficient: The Vermont Blueprint drove down overall costs for the whole population it served by 12 percent, with a total staff cost of $17 per patient per year. Peanuts. Bupkis. Lost in the noise.

Trust. It’s the least understood business efficiency engine. Outreach that changes people’s lives, improves their medication compliance, gets them to eat differently or finds a way to help them kick an addiction does not come from cold-calling by unqualified strangers’ reading scripts. It must be built on trusted relationships, a nurse or doctor who lives in your community and knows you, calling up or coming to see you. Expensive? Highly efficient, because it works.

Docs on board. You need to work strongly with the physicians. This means more than hiring them or buying their practices. It means getting them on board with the new business models, which means finding not only where the costs are, but also how those costs become profit across the organization. So, primary care physicians who help the bottom line by keeping people out of the ED and the surgical suite should benefit from that and see it as part of their business model.

Population health management. Investigate the special health needs of your population, asking particularly: What turns into medical costs? What would it take to reduce those costs? Develop preventive programs with others in the community. Don’t assume that you can’t make a difference. The Healthy Communities movement and the AHA’s own Association for Community Health Improvement share many success stories of reducing teen pregnancy, drunk driving, addictions and other risky behaviors in communities.

Be your own payer. All this makes more sense with your own insurance arm. This can be expensive and difficult to build. Health insurance is a significantly different business. The risks of getting it wrong are large. But it allows you to operate as a much more integrated business, and reap profit from your savings. Many of the most progressive health care organizations have done this, including Sharp, Sutter, Intermountain, Geisinger and Scripps. Some organizations, such as Nebraska Medical Center and Methodist Health System in Omaha, have joined together to build regional insurance companies.

You must take leadership. Others will carve out pieces that work for them (such as urgent care, specialty clinics and other limited money-making operations). They listen to station WII-FM (“What’s In It For Me?”). In fact, a good rule of thumb is that any cost-cutting or regulatory constraints will be received as a matrix for schemes to make more money and build bigger empires. Expect this.

Hospitals and health systems, as the biggest game in town, must think, act and lead at the regional system level. If you don’t, you will be left with only what no one can make profitable. This is the reactive path of doing as little as possible.

Engage seriously with other regional players — other hospitals and health networks, payers, employers, local and state governments. When you can, form larger entities or affiliations to relocate some of the risk more broadly.

Engage the unions. Help them understand where you need to go and why. Engage everyone you might think of as an adversary, because you need them. Well-led people will pitch in (many of them) if there is a goal, if the path makes sense, if they understand that the need is dire.

The efficiency of trust is even more important in leadership. Be transparent. The new competitive environment has no room for corrupt relationships siphoning off resources for private use.

Management is a lived, human process. Speak plainly and seriously. Drop the biz-speak consultant-y jargon that Very Serious People use. Just say what’s real.

Some of you will succeed and transform your businesses. Many of you will not — and your businesses will be closed, or sold to some larger entity that can do it better, or to a hedge fund that will strip mine it. Or it will limp along on handouts, failing to provide excellent care to the thousands who depend on it. You have to choose. You have to believe that it is not impossible, and help others see that it is not impossible.

Now is the time; where you are is the place. Engage.

With nearly 30 years’ experience, Joe Flower has emerged as a premier observer on the deep forces changing healthcare in the United States and around the world. As a healthcare speaker, writer, and consultant, he has explored the future of healthcare with clients ranging from the World Health Organization, the Global Business Network, and the U.K. National Health Service, to the majority of state hospital associations in the U.S.

You can find more of Joe’s work at his website, imaginewhatif. This article first published in Hospitals and Health Networks (H&HN) Daily on March 25, 2013.

20 replies »

  1. I’m late to the party but I want to bring up two points not mentioned.

    First, comparisons with other countries is instructive, but somewhat misleading due to the geographic, political and social differences. The weird mix of health care we have in America embraces everything from utter destitution to the most luxurious of cosmetic excesses and everything in between. (And virtually nothing mentioned about integrating comprehensive dental care into any larger system outside the military services. I’m not informed about how that is done in other countries, but I know it has a lot to do with nutrition and overall good health.) So whatever happens here will have to be flexible enough to meet the needs of all income groups — not an easy task in light of a large and growing income gap. If something doesn’t happen to balance the Gini scores (both here and elsewhere) this discussion will not apply to much of the population.

    Second (and this is related to the other point) a core challenge everywhere is the concentration of delivery systems in the most affluent parts of metroplexes, with shortages in what are politely called “under-served” areas. Whatever systems grow in this new environment need to have some octopus-like extensions to meet the needs of those parts of the country. Again, I’m not informed about how those “certificates of need” work, but my observation is that they have more to do with granting cartel status to some operations in places with lots of potential revenue, while overlooking the health care needs of other places, especially poor and/or rural areas, from which some of the most costly healthcare challenge will always arise. To use a crude illustration, it makes no difference how well I keep my yard if a neighbor allows his to have weeds going to seed.

    Super discussion, incidentally. I’m gonna need to resume paying more attention.

  2. Joe – that’s a fantastic point you make … non-emergency surgeries are already ‘big business’ in healthcare. My grandfather told me a few years ago, “Nate, don’t wait to get yourself some new knees. Best decision I ever made.”

    he was serious ;^)

    – Nate –
    Outreach Guy @ BudgetDoc

  3. Dear Dr. Flower
    In Italy, and in my region – Latium – in particular we are in the process of reorganizing a collapsing system. Ours is a NHC system, where the State provides (almost) everything using the taxpayers’ contributions. The total cost for a population of some less than 60 millions of individuals is approximately 110 billions of Euros per year. We are faced with many proposals for reorganizing the system (I toke part of an amateurial group of professionals with no experience in politics who produced a document which appears to be much better than many of the circulating ones on the topic) and I must admit that, with the due reservations and obligatory carefulness related to the fact that our HC systems are basically different, many of your observations and suggestions are very interesting and maybe fit for our situation also. As a matter of fact, the phylosophy of Kaiser Permanente, in the logics of a team- integrated system in which if the global health improves due to appropriate preventive medicine policy (and as a consequence of it the medical expenses decrese) , also the cardiac surgeon or the neurological surgeon are priced, is very likely to represent the future of any modern HC system. If you would be interested, I would be sending you the abovementioned document ( which is 16 pages-long and is in italian!)

  4. Joe makes a good point in that a national fee schedule in America would be designed to preserve expensive hospitals and high provider incomes.
    Fiscally it might make things worse.

    in countries like Germany, Japan, and France, the fee schedule is designed to fit into an overall national budget. The bureaucrats are not patsies as they are in America. The Medicare-like systems in those nations do not have the same history of cost-plus accomodation as exists here.

  5. I agree that having a single model (insured fee for service) for all care is ludicrous. This is the essential argument made by Christensen and his co-authors in The Innovator’s Prescription.

    However, your three pieces only take up a tiny part of healthcare. They leave out the biggest chunks, such as serious disease episodes (like, you get pancreatic cancer); major chronic disease (COPD, diabetes, CVD); and major shoppable non-emergency surgeries (new knees and hips, for instance). Those are not so easy to fit in any simple model.

  6. There are states that protect the uninsured. Some have laws that say you have to give the same deal to the uninsured that you give to your lowest-cost commercial payer.

    Simply publishing the outrageous prices would not be enough. We already have that: HHS published the Medicare payment schedules and the “charge master” rates for hospitals across the country last summer. Nor, as I explained in another answer here, would a national standardized fee schedule do the trick. What does the trick is a combination of ingredients, including clear and published prices, protection of the uninsured, insurance for the uninsured, and aggressive measures by payers like reference pricing, cost plus pricing, and so on.

  7. Ryan, you are asking for a public fee schedule, not necessarily a standardized national fee schedule. Forcing hospitals and health systems to advertise full bundled prices for as many things as possible would force them to compete on price and quality. Setting a nationwide standard fee schedule would look much like Medicare, where the fees and “relative value” of different services are largely set by advisory committees made up of people in the industry. It is “regulatory capture” in the most direct sense.

  8. The reason most hospital execs would invest in things like diary care and population health is because the payers (employers, health plans and to some extent the government) are headed that way. They can either get good at it or lose a big chunk of business, or lose a big hunk of money trying to do the new business the old way.

  9. If this issue is looked at purely through a business lens, then we need to break it into three pieces:

    1) Emergency care (i.e. ER, urgent care)
    2) Preventative care (i.e. primary care)
    3) Luxury care (i.e. cosmetic surgery)

    Emergency care would be equivalent to a retainer model (similar to the current insurance system)
    Preventative care would be equivalent to a subscription based model (similar to concierge, direct primary care)
    Luxury care would be equivalent to luxury products packaged as a service.

    Now, I’m not saying that healthcare *should* be treated as a traditional business, however, the issue should be segmented to create an apples to apples comparison.

    – Nate –
    Outreach Guy @ BudgetDoc

  10. I agree with Bob, that the public are crying out for a national fee schedule. If we had this then they would know exactly what the costs are, and when they are due. Last week we had a British patient at EdgeMed, we got talking, and he spoke a lot about the healthcare system in Britain. He said that info about costs of private treatments is made known to patients before the treatment, which makes it much better as you know what you are getting into. He also said that he felt like medical companies in America try to hide info about costs, which made him feel like he was ‘being taken for a ride’ as he put it.

  11. Joe, I am probably attracted to a national fee schedule mainly because it protects the uninsured against exorbitant charges.

    However, there are simpler ways to protect the uninsured. Five states have laws that offer some protection, and there was even a section of the ACA that was supposed to offer protection.

    I still bristle at the fact that under age 65, you have to buy a private insurance policy to protect your assets against hospitals that exist to help you. I am baffled that millions of Americans do not agree with me that this is monstrous.

    Bob Hertz, The Health Care Crusade

  12. Is this not classic “Innovator’s Dilemma”? Say you’re a hospital exec making $500k in FFS. Your most profitable business is hospital-based. Why on earth would you invest in things like direct-pay primary care which would gourd your gravy-train?

    So you invest in things like PCMH which have the appearance of innovation, but are nothing more than trying to build a plane on a car chassis.

    Am I wrong, Joe?

  13. > the hospital can reduce its costs but still charge sky high prices

    Its costs depend on its internal operations. What prices it can actually charge and get paid have to do with market conditions and negotiations with payers. Those are changing, and most hospitals will have to work with seriously lower revenue streams than they have come to expect.

    > this seems to cry out for a national fee schedule

    We have a national fee schedule — for people over 64. This is usually lower than what the hospitals can get from commercial payers. But it is not drastically lower. Extending that to people of all ages would not solve the problem, would not get us to the “half the cost” level that I believe is achievable with better quality.

  14. Yes, I agree with you.The health care costs are increasing day by day. Everybody can not pay such high amount to hospital and clinics. never think about whether someone is willing to pay or not.This is the first ever post I have read regarding healthcare cost that is why I loved your post.

  15. Okay, so the hospital can reduce its costs but still charge sky high prices.

    Kind of like insurance companies reducing their claim costs through confidential agreements, but still raising premiums, and even basing co-payments on the old pre-agreement prices.

    From the public’s point of view, this seems to cry out for a national fee schedule, as is the case in almost all other advanced nations.

  16. The example was the preoperative anesthesia center at MD Anderson reducing internal costs by 46 percent. One of the big lessons of the Brill piece was that internal costs have little relationship to price in healthcare. As of yet, nothing is forcing MD Anderson to compete on price — and over time it is likely that such specialized quaternary institutions will be less vulnerable to market forces because they have little competition as “the best of the best.” I don’t picture them getting in a price was with Fred Hutchinson.

  17. Great post from Joe as always.

    However, he states that MD Anderson Cancer Center has been reducing costs.

    Could be, but Stephen Brill and other journalists have indicted this very facility for hitting patients with enormous charges.

    Something does not compute for me.