How DRGs hurt academic health systems.

BACKGROUND: Academic health centers continue their mission of clinical care, education, and research. This mission predisposes them to accept patients regardless of their individual clinical variation and financial risk. The purpose of this study is to assess the variation in costs and the attendant financial risk associated with these patients. In addition, we propose a new reimbursement methodology for academic health center high-end DRGs that better aligns financial risks. STUDY DESIGN: We reviewed clinical and financial data from the University of Michigan data warehouse for FY1999 (n = 39,804). The diagnosis-related groups were classified by volume (group 1, low volume to group 4, high volume). The coefficient of variation for total cost per admission was then calculated for each DRG classification. A regression analysis was also performed to assess how costs in the first 3 days estimated total costs. A hybrid methodology to estimate costs was then determined and its accuracy benchmarked against actual Medicare and Blue Cross reimbursements. RESULTS: Low-volume DRGs (< 75 annual admissions) had the highest coefficient of variation relative to each of the three other DRG classifications (moderate to high volume, groups 2, 3, and 4). The regression analysis accurately estimated costs (within 25% of actual costs) in 64.7% of patients with a length of stay > or = 4 days (n = 16,287). This regression fared well compared with actual FY 1999 DRG-based Medicare and Blue Cross reimbursements (n = 9,085 with length of stay > or = 4 days), which accurately reimbursed the University of Michigan Health System in only 43.9% of cases. CONCLUSIONS: Academic health centers receive a disproportionate number of admissions to low-volume, high-variation DRGs. This clinical variation translates into financial risk. Traditional risk management strategies are difficult to use in health care settings. The application of our proposed reimbursement methodology better distributes risk between payers and providers, and reduces adverse selection and incentive problems ("moral hazard").

Length of stay has minimal impact on the cost of hospital admission.

BACKGROUND: Hospital cost containment, cost reduction, and alternative care delivery systems continue to preoccupy health care providers, payers, employers, and policy makers throughout the United States. The universal metric for gauging the success of these efforts is hospital length of stay (LOS). Reducing the LOS purportedly yields large cost savings. The purpose of this study is to assess precisely how much hospitals save by shortening LOS. STUDY DESIGN: We reviewed the cost-accounting records of all surviving patients (n = 12,365) discharged from our academic medical center during fiscal year 1998 with LOS of 4 days or more. Actual costs were identified through the University of Michigan cost-accounting system. Individual patient costs were broken out on a daily basis and then decomposed further into variable direct, fixed direct, and indirect categories. The population was analyzed by determining the incremental resource cost of the last full day of stay versus the total cost for the entire stay. The data were also stratified by LOS and by surgical costs. An analysis of all trauma patients was then performed on all patients discharged from the hospital's adult level I trauma center (n = 665). Costs were determined on specific days, including admission day, each ICU day, day of discharge from the ICU, and each of the last 2 days before the discharge day. RESULTS: The incremental costs incurred by patients on their last full day of hospital stay were $420 per day on average, or just 2.4% of the $17,734 mean total cost of stay for all 12,365 patients. Mean end-of-stay costs represented only a slightly higher percentage of total costs when LOS was short (e.g., 6.8% for patients with LOS of 4 days). Even when the data were stratified to focus on patients without major operations, the $432 average last-day variable direct cost was only 3.4% of the $12,631 average total cost of care. A focus on the trauma center helps to explain this phenomenon. For our trauma center, variable direct costs accounted for 42% of the mean total cost per patient of $22,067. The remaining 58% was hospital overhead (fixed and indirect costs). The median variable direct cost on the first day of admission is $1,246, and the median variable direct cost on discharge is $304. Approximately 40% of the variable costs are incurred during the first 3 days of admission. CONCLUSIONS: For most patients, the costs directly attributable to the last day of a hospital stay are an economically insignificant component of total costs. Reducing LOS by as much as 1 full day reduces the total cost of care on average by 3% or less. Going forward, physicians and administrators must deemphasize LOS and focus instead on process changes that better use capacity and alter care delivery during the early stages of admission, when resource consumption is most intense.

Academic health systems management: the rationale behind capitated contracts.

OBJECTIVE: To determine why hospitals enter into "capitated" contracts, which often generate accounting losses. The authors' hypothesis is that hospitals coordinate contracts to keep beds full and that in principal, capitated contracts reflect sound capacity management. SUMMARY BACKGROUND DATA: In high-overhead industries, different consumers pay different prices for similar services (e.g., full-fare vs. advanced-purchase plane tickets, full tuition vs. financial aid). Some consumers gain access by paying less than total cost. Hospitals, like other high-overhead business enterprises, must optimize the use of their capacity, amortizing overhead over as many patients as possible. This necessity for enhanced throughput forces hospitals and health systems to discount empty beds, sometimes to the point where they incur accounting losses serving some payors. METHODS: The authors analyzed the cost accounting system at their university teaching hospital to compare hospital and intensive care unit (ICU) lengths of stay (LOS), variable direct costs (VDC), overhead of capitated patients, and reimbursement versus other payors for all hospital discharges (n = 29,036) in fiscal year 1998. The data were analyzed by diagnosis-related groups (DRGs), length of stay (LOS), insurance carrier, proximity to hospital, and discharge disposition. Patients were then distinguished across payor categories based on their resource utilization, proximity to the hospital, DRG, LOS, and discharge status. RESULTS: The mean cost for capitated patients was $4,887, less than half of the mean cost of $10,394 for the entire hospitalized population. The mean capitated reimbursement was $928/day, exceeding the mean daily VDC of $616 but not the total cost of $1,445/day. Moreover, the mean total cost per patient day of treating a capitated patient was $400 less than the mean total cost per day for noncapitated patients. The hospital's capitated health maintenance organization (HMO) patients made up 16. 0% of the total admissions but only 9.4% of the total patient days. Both the mean LOS of 3.4 days and the mean ICU LOS of 0.3 days were significantly different from the overall values of 5.8 days and 1 day, respectively, for the noncapitated population. For patients classified with a DRG with complication who traveled from more than 60 miles away, the mean LOS was 10.7 days and the mean total cost was $21,658. This is in contrast to all patients who traveled greater than 60 miles, who had an LOS of 7.2 days and a mean total cost of $12,569. CONCLUSION: The capitated payor directed the bulk of its subscribers to one hospital (other payors transferred their sicker patients). This was reflected in the capitated group's lower costs and LOS. This stable stream of relatively low-acuity patients enhanced capacity utilization. For capitated patients, the hospital still benefits by recovering the incremental cost (VDC) of treating these patients, and only a portion of the assigned overhead. Thus, in the short run, capitated patients provide a positive economic benefit. Other payors' higher-acuity patients arrive more randomly, place greater strains on capacity, and generate higher overhead costs. This results in differential reimbursement to cover this incremental overhead. Having a portfolio of contracts allows the hospital to optimize capacity both in terms of patient flows and acuity. One risk of operating near capacity is that capitated patients could displace other higher-paying patients.

Paying a premium: how patient complexity affects costs and profit margins.

OBJECTIVE AND BACKGROUND: Tertiary medical centers continue to be under extreme pressure to deliver high-complexity care, but paradoxically there is considerable pressure within these institutions to reduce their emphasis on tertiary care and refocus their efforts to develop a more community-like practice. The genesis of this pressure is the perceived profitability of routine surgical activity when compared with more complex care. The purpose of this study is to assess how the total cost and profit (loss) margin can vary for an entire trauma service. The authors also evaluate payments for specific trauma-related diagnostic-related groups (DRGs) and analyze how hospital margins were affected based on mortality outcome. MATERIALS AND METHODS: The authors analyzed the actual cost of all trauma discharges (n = 692) at their level I trauma center for fiscal year 1997. Data were obtained from the trauma registry and the hospital cost accounting system. Total cost was defined as the sum of the variable, fixed, and indirect costs associated with each patient. Margin was defined as expected payments minus total cost. The entire population and all DRGs with 10 or more patients were stratified based on survival outcome, Injury Severity Score, insurance status, and length of stay. The mean total costs for survivors and nonsurvivors within these various categories and their margins were evaluated. RESULTS: The profit margin on nonsurvivors was $5,898 greater than for survivors, even though the mean total cost for nonsurvivors was $28,821 greater. Within the fixed fee arrangement, approximately 44% of transfers had a negative margin. Both survivors and nonsurvivors become increasingly profitable out to 20 days and subsequently become unprofitable beyond 21 days, but nonsurvivors were more profitable than survivors. CONCLUSIONS: There is a wide variance in both the costs and margins within trauma-related DRGs. The DRG payment system disproportionately reimburses providers for nonsurvivors, even though on average they are more costly. Because payers are likely to engage in portfolio management, patients can be transferred between hospitals based on the contractual relationship between the payer and the provider. This payment system potentially allows payers to act strategically, sending relatively low-cost patients to hospitals where they use fee-for-service reimbursement and high-cost patients to hospitals where their reimbursement is contractually capped. Although specific to the authors' trauma center and its payer mix, these data demonstrate the profitability of maintaining a level I trauma center and preserving the mission of delivering care to the severely injured.

Trauma services: a profit center?

BACKGROUND: Previous studies have demonstrated inadequate reimbursement for severely injured patients with a resultant negative economic impact for the trauma service and hospital. The purpose of this study was to assess the total cost of care for all injured patients discharged from the trauma service in fiscal year 1997, and to determine the proportion of costs for the most severely injured on total cost. In addition, we assessed the total service costs and the revenue for treatment of the most severely ill. The final result was the determination of the profit (loss) margin for the entire service. STUDY DESIGN: All patients discharged from our Level I Trauma Center in fiscal year 1997 were included (n = 696). The population was then stratified into 2 subgroups using the Injury Severity Score (ISS). Patient grouping was facilitated by integration of the trauma registry with the hospital cost accounting system. The population was sub-divided into 2 distinct groups. Group A represented all patients with an ISS >15 (n = 192). Group B contained all patients with an ISS <15 (n = 504). Length of stay and mortality of each group was recorded. Cost of care was determined by the hospital cost accounting system TSI (Transition System Incorporated, Boston, MA), which is designed to generate cost center data on a cost per patient basis. Total costs were determined for the entire population and Groups A and B. The proportion of costs consumed by each group was then calculated. Reimbursement was determined by calculating expected payments for each patient. These calculations are based on previously agreed upon allowances from each insurer and are reconciled at the end of each fiscal year to ensure accuracy. RESULTS: The average length of stay for the population and Groups A and B were 7.5, 9.8, and 6.7 days respectively. Mortality in each group was 9.7%, 19.3%, and 6%. Over 92% of the population sustained blunt mechanism injury and only 8% were penetrating. When controlled for length of stay, the profit margin for Group A is $1,242/day and for Group B is $519/day. Comparison of mean cost/patient between Group A and Group B was $35,727 versus $17,623, respectively. CONCLUSION: Trauma centers can be profitable. Group A is responsible for 44% of the total service cost while accounting for only 28% of the discharges. Moreover, this group is responsible for 57% of the profit, and yields the greatest return. The ability to care for the sickest patients, while enormously costly, is essential to the economic viability of the trauma center and its future growth.

Trauma service cost: the real story.

OBJECTIVE: The objective was to define and characterize the costs associated with trauma care at a level I trauma center. Once the costs were identified, attending physician-led teams were designed to reduce costs within each cost center. SUMMARY BACKGROUND DATA: The location and magnitude of the costs on a trauma service remain largely unknown. Focused cost-containment strategies remain difficult to implement because the expected return on these interventions is unknown. METHODS: Cost center data were reviewed for the 40 major DRGs admitted for the first 6 months of the fiscal years 1996 and 1997. Data were obtained from the hospital finance department using the Transition Systems Inc. accounting system. We focused on variable direct costs, those that vary with patient volume (e.g., staff nursing expense and medical/surgical supplies). To address issues of inflation, pay raises, and changing costs, a proxy value was created for 1996 and costs were held constant for the 1997 calculation. The major services that constitute cost centers identified in the system were nursing, surgical, pharmacy, laboratory, radiology, and emergency services. Attendings were assigned to develop and oversee customized cost-reduction modalities specific to each cost center. The cost-reduction modalities used to achieve significant savings were as follows: nursing, case management approach focusing on early discharge; surgical, meeting with operating room (OR) purchasing to modify expensive behavior patterns; pharmacy, integrating clinical pharmacist with direct attending support; laboratory, enforcing protocol for lab draws; radiology, increasing the use of emergency room ultrasound and accepting outside x-rays; and emergency services, 24-hour in-house attending staff to reduce emergency room time. The surgical and emergency services cost centers predominately generate costs by the length of time care is delivered in that area. RESULTS: For each period, data from 363 patients were compared. Mean length of stay decreased between the study periods from 8.72 to 7.06 days, while the average injury severity score was unchanged. Together, these cost centers constituted 87.4% of the total cost of care delivered. Significant cost reduction was achieved in all six variable cost centers: nursing (24%), surgical (5%), pharmacy (57%), laboratory (27), radiology (7%), and emergency (36). The mean cost per case was reduced by 25%. CONCLUSIONS: Identification of the true cost centers and directed attending surgeon involvement are essential to the development and implementation of a successful cost-reduction process.