My first hospital CFO had a plaque on his desk that read, "no margin, no mission." This popular business phrase is more relevant today than it was back in 1989, as we are faced with healthcare costs that are out of control and consumers that are reaching the point of price inelasticity. Hospitals have never had a more pressing economic imperative for hospital margin improvement, but cultural issues must be addressed in order to achieve success in developing a margin improvement program.
Why Should Leadership Care?
As we discuss margin improvement, there are two core measures to consider. The first is operating margin, or operating income, which measures how well your organization is managing the business of patient care and compares patient care costs to patient care revenues. Net margin takes patient care expenses and revenues and also includes revenues and expenses from non-patient care operations such as income on investments, philanthropy or cafeteria sales.
A recent Thomson Reuters analysis concludes "that about 50 percent of U.S. hospitals are losing money, and that total net margins for U.S. hospitals declined last year. The worst-performing hospitals had net margins of negative 7%, while the best performing hospitals' net margins topped 4.5%. This dragged down the median total hospital margin to near zero for all hospitals and left approximately 50 percent of hospitals in the red."
When we compare these total margin statistics with historic data, we find that medians this low have not been observed before.
Some alarming trends are driving the decline in hospital margins. These trends include: healthcare cost inflation that is advancing at two to five times that of the consumer price index; reimbursement that does not keep pace with cost increases; declines in payer mix; businesses shifting more costs to workers; supply chain cost increases in pharmaceuticals, implantables and devices; increasing demands for high technology and clinical information systems; outdated competitive strategies that use capital investments in new buildings or technologies to attract patients; defensive medicine; and a lack of evidence-based medicine to ensure the best care standards. These trends and the rapid decline in hospital margins create a real threat to the mission of many hospitals. If these alarming trends continue, margin improvement could become the most critical skill set for healthcare leaders in the 21st Century, and those without this capability will not likely hold C-Level positions in the future.
Altruism, Practicality and the Cultural Aspects of Margin Improvement
"Culture eats strategy for lunch" is a very true statement and the cultural aspects of a margin improvement program cannot be overemphasized—particularly because healthcare is an industry made up of people with a "calling" to help others. Whether the "calling" requires the use of spreadsheets or care plans, most healthcare workers are here because they want to help people. For this reason, the cultural and ethical aspects of "what we do" cannot be overlooked in any discussion of margin improvement or in the way it is approached.
While corporate culture differs from client to client, the basic wiring of healthcare people does not. This is why it is critical to remain cognizant of putting margin improvement objectives in the broader context of mission and help people appreciate the need to be better stewards of our limited resources. It is the aspect of stewardship—effectively managing the resources with which we have been entrusted—that is at the heart of sustainable margin improvement. Stewardship should therefore be the link used to connect a person's "calling" with their method of operation.
By engaging physicians and clinicians based upon their "calling" to serve others and using stewardship as the practical enabler that will allow them to better apply their altruistic values to patient care, results achieved can be far superior to traditional "turnaround" approaches. After all, physicians are highly educated, data-oriented people who respond well to clinical quality improvement, efficiency enhancement and improved methods. Unfortunately, too may hospital leaders try to engage them solely on the basis of economics and fail to help them see how the best quality of care is often the least wasteful and most economical.
A few years ago, we worked with a chairman of orthopedic surgery on a major supply chain project. According to the staff in hospital administration, the chairman was "uncooperative," "in bed with the vendors," and "wasting millions of hospital dollars on knee and hip replacement appliances." Their approach was to take spreadsheets to him and point out the money the department was losing in order to engage him to change his ways. In short, they had no success with this approach.
When I met with the chairman, I quickly realized that we both shared a passion for excellence in care. When he sensed that we were on the same page and had the same "calling," he wanted to know if the rumors that his department was losing the hospital a lot of money were true. I explained the economics of the situation, the impact of physician preference items and current vendor contracts on the hospital margins, and how these losses negatively impacted departmental funding. After some education, he became a champion for improved orthopedic "stewardship" and ultimately helped reduce orthopedic supply costs by more than $4 million per year by supporting contract negotiations, changing policies and procedures, and requiring clinical justification from faculty before approving preference items.