implementing a trustworthy cost-accounting model

To effectively manage the cost of care in today's changing healthcare industry, hospitals require a cost-accounting model that enables them to view volume, cost, and profitability trends and to assess the cost of care processes at the patient- or activity-level to understand the true costs of delivered care.

Healthcare reform and competitive pressures on the industry pose an unprecedented challenge for hospitals and health systems: The effectiveness of their business strategies will hinge on how well they manage the cost and quality of patient care. Meeting this challenge will require heightened attention to cost accounting.

Cost accounting is a critical input to the planning process, providing insight into volume, cost, and margin analytics across patient populations and clinical service lines. Although cost accounting is not a new discipline in health care, many organizations have not developed their cost-accounting capabilities sufficiently to view cost and profitability trends, which is necessary to support confident decision making. As the demand to integrate comprehensive performance reporting in strategic and operational planning intensifies, organizations require fully reliable cost-accounting models that can be easily maintained and adapted, and that reflect changes in care processes and true costs of care.

The core problem is that many organizations have outdated legacy cost-accounting models that are either too complex and resource - intensive to be effective or too simplistic to meet their needs. Obstacles to successful cost accounting and service - line analytics posed by these models include a tendency to emphasize granular details rather than identify key cost drivers, and an inability to provide sufficient detail to promote buy-in from clinical stakeholders.

More than half of respondents to a recent survey of select U.S. hospitals and health systems said they lack valid and reliable procedures for gathering patient-level, activity-based costing information.a More than two-thirds of respondents said that developing such procedures is a high priority for their organization.

To develop a trusted cost-accounting model, hospitals and health systems must implement systematic enhancements that increase the functionality and interoperability of their costing approach, and take steps to maximize the efficiency and effectiveness of the cost-accounting team. By focusing on the six key areas outlined below, healthcare leaders can assess their systems and implement a cost-accounting model that combines the appropriate level of detail required to drive accuracy with the resources, effort, and expertise required to maintain it.

An Enhanced Data Model

An effective cost-accounting model is one that balances detail with accuracy. All too often, models are either too simplistic to be effective or too detailed and complex to be maintained efficiently. Many older costing models and approaches typically do not capture and maintain a sufficient level of detail. For example, cost categories reflected on each patient encounter might store only "direct supply" costs and provide limited visibility into which components of that supply cost (e.g., medical supplies, surgical supplies, pharmacy) are represented. As illustrated in the exhibit on page 86, modern costing platforms support a consistent level of granularity across financial and patient views.

Another attribute of an effective cost model is the flexibility to structure and tailor the cost categories established across departments and specific to cost types (i.e., labor, supply, and overhead). As an example, in labor- intensive service departments, such as Cath Labs, the cost categories may reflect more detail and incorporate job classes to support more refined activity-level time and cost assignments. Special consideration also should be given to spending on high-cost items such as medical devices, implants, and high-end drugs. By establishing unique categories for each, the cost assignment process can become more precise, either by linking items directly to invoiced rates ("true costs") or by allocating those costs directly to patients who consumed those services, (e.g., organ transplant patients).

Today's costing model requires the flexibility to assign unique department-specific cost categories and carry those categories within the financial and patient data models. This supports more accurate costing approaches. It also provides a level of reporting granularity that offers greater insight into the cost-of-care trends across clinical service lines and patient populations. The use of patient-level cost data in strategic forecasting supports valuable and meaningful projections of cost behavior, especially for important high-dollar items.

Efficient Data Reconciliation

Hospitals and health systems require cost-accounting systems in which the flow of data through the model can be clearly seen, and in which data can be validated at different points in the process. These features will become increasingly important as organizations introduce more sophisticated and complex cost-modeling approaches to address any concerns raised regarding the quality of the underlying data.

Finance professionals should be able to attest to the validity of the costing results before monthly or quarterly reports are released to key stakeholders. This ensures there is consistency between the cost and profitability analytics being used for strategic planning, and among the costs that are incorporated into the organization's financial statements. With efficient data reconciliation, healthcare leaders can easily compare financial results with cost data and identify any variances in patient-level costs. Identification of costs that are "dead-ended"-such as overhead or administrative costs-and are intentionally not attributed to patients should be quantified and accounted for in the reconciliation process.

Ability to Accommodate Multiple Cost-Modeling Techniques

Systems that can accommodate different cost-modeling techniques are needed both to meet current and future costing needs and to improve the validity of data. Modern costing systems can incorporate multiple costing methods simultaneously, including relative cost-to-charge ratios, direct or micro-costing of items, reverse markups, and time-based estimates for creating relative value units.

This multimodal approach varies significantly from the traditional absorption costing model, which has been the dominant industry methodology for decades. With absorption costing, historical expenses are combined into cost groups or pools as a way to summarize operational expenses into meaningful department and category totals, including whether costs are associated with direct patient care or overhead expenses. Again, many hospitals and health systems use charge items as proxies for activity, assigning costs within various departments to charge items using a factor such as a relative value unit or percentage of total charges.

High-performing organizations are developing new, more effective processes by improving collaboration of department managers (as described below), and by incorporating additional costing methods that can supplement the chargemaster as the primary determinant of cost.

They also are implementing tools designed to allow for more efficient and refined modeling of patient-level costs, particularly in supply and labor costing. These tools enable the integration of data from multiple sources-such as materials management and surgical systems-which then allows for more precise data on higher-cost supplies and procedures.

Improved Transparency of Cost Allocations

Operating a cost - accounting model that provides transparency is essential to promoting organizational buy-in to the resulting data and analytics. Many older models are time- and resource-intensive and are often described as "black boxes" because calculations occur behind the scenes.

For example, an organization's costing method should provide transparency into how costs are assigned both from traditional operational views (e.g., cost of labor in the lab) and from the perspective of the patients who consume those services. Increased transparency allows healthcare leaders to answer probing questions, such as why one physician's supply expenses are higher than those of his or her peers, or what is driving year-over-year changes in the cost of treating orthopedic surgery patients.

Transparency of costing data is especially important given the continued evolution in how such data are used. As more people across the organization access and use costing data for strategic and tactical planning activities, healthcare leaders should know how to validate and trace information back to its source efficiently and intuitively. If decision makers clearly understand the source and derivation of the data, they have a stronger foundation for determining how best to apply the data and resulting analyses in strategic-planning initiatives.

Department Manager Participation

From a process perspective, it is important for finance executives to involve department managers in the development and implementation of the cost-accounting model. From their experience and expertise in running day-to-day operations and overseeing the delivery of patient care, department managers can offer insights regarding how to enhance internal processes and improve patient-level cost data. For example, department managers will be able to provide details on patient attributes and acuity levels to better differentiate those individuals who require more intensive care and, therefore, greater departmental resources and costs.

Meaningful involvement of department managers requires building a broad awareness of the importance of accurate costing information throughout the organization. Such awareness is not possible without the engagement and support of senior leaders, who should support middle management participation and incorporate that participation into the operations and management processes.

Collaborating with department managers also provides an important opportunity to move beyond reliance on the standard chargemaster as the sole source of information on patient-level activities. The exhibit above illustrates a model that uses appropriate cost assignment methods at a charge item level and engages department managers for both the input and review of charge item costs to ensure their accuracy. A manager is able to participate in establishing time levels for the allocation of labor, and relative value units for variable expenses, and to identify and review direct supply costs for charges within the department. A transparent process that shows the impact of changes and decisions enhances the manager's experience and support for the costing process.

Engaging department-level managers also is critical to building trust in the cost-accounting model among each department's clinical staff. If managers trust the numbers, they will support the model and be better stewards and users of costing information. This type of support can propel cost accounting beyond being just a "back office" function and allow managers, medical staff, and others to gain ownership of the data.

Staff and Stakeholder Education and Training

A cost-accounting model will garner trust among the professionals responsible for its implementation and maintenance only if the organization takes steps to educate these stakeholders about the system. On the front end, leaders should make sure they hire only experienced and well - educated talent for the cost - accounting team. Once the right team is in place, regular opportunities for professional development, education, and training should be provided to build the team's expertise and ensure its members maintain up-to-date knowledge of the latest cost-accounting models and trends. Such ongoing learning opportunities also promote increased confidence in the team's abilities among staff and other stakeholders.

Education and training for stakeholders provide the means to keep individuals across the organization informed about the improvements made in all aspects of the organization's cost accounting. For example, staff and others might be educated about enhancements to the data model, its improved transparency and flexibility, and department-level participation. Cultivating an organizationwide understanding of ongoing efforts in these areas can help to build widespread trust in both the cost-accounting processes and the resulting initiatives and strategies.

A Focus on Accuracy, Efficiency, and Transparency

The transition of the nation's healthcare system from a volume- to a value-based business model is increasing pressure on hospitals, health systems, and other healthcare providers to reduce costs while they also deliver sustainable, high-quality clinical and financial outcomes. The more accurate the costing data, the better-equipped leaders will be to make sound decisions for their organizations. The need for a trusted source of service line cost and profitability analytics has never been greater.

High-performing organizations are using new technologies and implementing transparent and reliable processes aimed at ensuring both the accuracy and efficiency of costing data. With strong support and sponsorship from executive leaders, organizations can build and maintain the components of a reliable cost-accounting system, and ensure the buy-in of management, staff, and other stakeholders.

AT A GLANCE

Hospitals and health systems can develop an effective cost-accounting model and maximize the effectiveness of their cost-accounting teams by focusing on six key areas:

* Implementing an enhanced data model

* Reconciling data efficiently

* Accommodating multiple cost-modeling techniques

* Improving transparency of cost allocations

* Securing department manager participation

* Providing essential education and training to staff members and stakeholders

Key Considerations (or a Cost-Accounting Tool

Implementing an effective cost-accounting model requires hospitals and health systems to have software that is both efficient and versatile. Healthcare executives should look for tools with the following key features.

Flexible data model. With increased scrutiny of cost across all levels of an organization, hospitals and health systems should be able to leverage a broad range of data. Having software with a flexible data model is essential to harvesting the right data at the right level of detail to improve cost information, such as being able to pinpoint specific operating room processes to better identify surgical services costs.

Functionality for multiple costing methods. Being able to analyze costs using a variety of cost-accounting methods increases the validity of an organization's costing data. Tools should allow multiple cost-accounting methods-such as micro-costing, reverse mark-up, relative value units, and ratio of cost to charge-to be used within a cost center and cost category.

Integrated processes. A system that offers interoperability across various functions-such as budgeting, long-range planning, productivity, cost accounting, and management reporting-enables data integration that is not achievable if these functions are handled across disparate systems. A unified system increases efficiencies, reduces implementation efforts, and helps ensure that data are consistent and reliable.

Transparency for immediate results. More than ever, hospitals and health systems should have tools that provide real-time data generated through clear and transparent processes. Such tools enable finance professionals to better explain how data are generated, and thereby improve buy-in from stakeholders.

Push and self-serve interactive reporting. To ensure that costing data are used to help improve organizational processes, finance professionals need the ability to routinely share that information with department managers and others at the operational level. Tools should allow key costing data to be pushed out to the appropriate parties on a timely basis, and provide the means for those parties to delve further into the data and generate additional reports quickly on their own as needed.

a. Healthcare Costing Survey, a proprietary survey of a sample of hospitals and health systems by Kaufman, Hall & Associates, LLC, to assess current and future costing practices, use of cost-accounting data, and satisfaction with current costing resources and systems, March 2014.

About the authors

Jay Spence

is vice president of solutions marketing, Kaufman, Hall & Associates, LLC, Portland, Ore. (jspence@axiomepm. com).

Dan Seargeant, DrPH,

is vice president, Kaufman, Hall & Associates, LLC, Skokie, III., and a member of HFMA's First Illinois Chapter. ([email protected]).