Why Hospital Cost-Reduction Efforts Have Been Lagging

November 15, 2018
Tracey Walker
Tracey Walker

A new Kaufman Hall report sheds new light on competitive pressures and key transformative cost areas.

Hospitals need to take bigger strides and tackle more cost transformation initiatives, according to a new report

The report from Kaufman Hall found that most of the cost transformation so far has been in traditional cost reduction areas, such as supply chain, and other non-labor costs, where 64% of executives reported a reduction of 3% or more since 2017. Little progress has been made, however, in areas with the greatest potential for transforming cost structure, such as service rationalization, where 61% reported no progress in the past year, or reduction of inappropriate clinical variation (46%).

“The findings show that executives can never take their eyes off of cost transformation,” says Lance Robinson, managing director and head of the performance improvement practice at Kaufman Hall.  “Competition and the need to generate capital to fund an increasing numbers of strategic growth initiatives are driving the cost-transformation imperative in more organizations.”

Healthcare executives need to ensure all top disruptive forces-including Amazon, CVS, providers contracting direct with employers, mergers in the market, other non-traditional investors such as private equity firms-are on leaders’ radar screens and driving cost transformation. Executives should be transparent about the need to reduce costs with all key stakeholders, including physicians, staff, and the community at large, according to Robinson “Transparency of processes, responsibilities, and targets helps ensure communication and dissemination of relevant cost-reduction information,” he says. 

Executives need strong reliable data supported by analytics to transform data into actionable information, according to Robinson.

“Physicians are data scientists at heart,” he says. “It’s part of their training. In order to get doctors on board with cost transformation efforts, executives need sound data to engage with physicians and demonstrate where variation exists, relative to other doctors in the health system and against benchmarks. They also need a physician champion in place, someone like the CMO, for example, who is highly respected and trusted to help drive change.”

Key transformative areas

The areas that can take cost transformation to the next level in an organization include:

  •  Service rationalization
  • The physician enterprise
  • Clinical variation

“Executives need to strongly consider which services they should provide at which facilities,” Robinson says. “They should consider creating centers of excellence in obstetrics, orthopedics, and other specialties, thereby reducing overhead and fixed costs. Next, they need to look at the physician enterprise piece. Hospitals and health systems have acquired medical practices over the last few years in a defensive move, but they now need to be strategic and integrate these practices into their systems to reduce overall leakage. Health systems need to integrate them and operationalize them. Furthermore, they should look at what clinical variation costs annually. That’s the next wave of savings. They need to share actionable data with doctors and create alignment.”

Based on the report, Robinson offers five things that healthcare executives should know:

  • Financial realities make cost transformation an imperative for healthcare organizations and their leaders. “Significant improvement is needed in organizational commitment to goal setting that will build organizational agility through more extreme lowering of costs (beyond 1% to 5%) and into double-digit levels that can transform cost structures,” Robinson says. “A close study of survey data indicates organizations that hold leaders accountable for targets are more likely to report progress in most cost-reduction priority areas.”
  •  Pay attention to powerful new players. “The ventures formed by giants Amazon, JPMorgan Chase, and Berkshire Hathaway, are on the scene, with the intellectual and capital investment capabilities to overhaul significant pieces of the health/healthcare business,” he says.
  • A new mindset is required for the kind of extreme shift and lowering of costs that will distinguish an organization into the future. “That frame of mind is characterized by a willingness to focus on the full cost transformation agenda,” Robinson says. “This will require overcoming entrenched incrementalism and political sensitivities to make progress with the hardest cost-reduction work-namely business and service line rationalization, physician enterprise management, clinical redesign, and workforce redesign.”
  • The area where the highest proportion of executives cited no progress-service rationalization-has perhaps the greatest potential for transforming cost structure. “Forward-thinking healthcare leaders are evaluating all aspects of their businesses in light of requirements for future success,” Robinson says. “They are concentrating resources in services that will result in long-term relevance and sustainability, and consolidating or divesting services that are not expected to add value going forward.”
  • Many larger health systems appear not to be achieving progress toward the economies of scale available through physician enterprise management, service line efficiency, and reduction of inappropriate clinical variation. “Mergers have occurred, but true operational synergies may not have been realized in many cases,” he says.