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Hospital Budgets React to Perfect Storm Created by Global Markets

 |  By kminich-pourshadi@healthleadersmedia.com  
   March 14, 2011

Nothing catches the attention of a finance editor like seeing the grocery bill go up by 20%. That's what happened to me last week when I was purchasing my usual salad fixings. Posted above the romaine lettuce was a sign explaining that due to extreme weather in various countries, crops have been killed and some grocery items are in short supply (which means you'll pay dearly for the ones produce suppliers  can get for you).

The price increase did give me pause: "Should I buy the lettuce or skip it this week?" I decided it was a necessity and purchased it anyway. However, my trip to the local market got me thinking of the global one and how some recent world events (such as strange weather, major earthquakes, and governmental unrest) may be adding costs to hospital and health system budgets.

So, I decided to check in with a financial leader in America's heartland. Adam Paul is CFO and vice president of fiscal services at Catholic Health Initiatives' St. Mary's Healthcare Center. With annual net revenues of $50 million, this 60-bed acute-care hospital is the sole community hospital in Pierre, SD.

Paul, who has been in healthcare finance for nearly 18 years and has spent the last four with CHI, says he is paying attention to the global economy, but so far he hasn't felt the full effect of the inflated prices—something he attributes to being part of a larger health system with a centralized supply chain.

"We only spend $700,000 [annually] on food, so even when we have inflation with food prices, it represents a small enough portion of our budget that the changes aren't enough to keep me up at night. However the oil and energy costs can definitely have a bigger impact on our bottom line," he says.

To Paul's point, at most hospitals or health systems, food represents a very small portion of the overall budget, so shifts in cost are seemingly inconsequential. However, from a global perspective, inflation in the cost of food can portend larger economic price shifts in areas such as energy. Shawn Fleming, portfolio executive for the healthcare supply contracting company Novation, has been tracking the global economy and its effect on raw materials for healthcare providers in a monthly report. 

The company began producing the report to help its clients track price fluctuations in areas such as cotton and steel in an attempt to aid providers in accurately forecasting their budgets and supply spending trends. This month, the report projects that market prices will increase 2.8% overall. A few other highlights got my attention as well, including:

  •  Rubber prices are up 63% over the last 12 months. Production output is expected to grow 5.3% in 2011 after growing 5.7% in 2010. The increases are expected to continue through 2011.
  •  On a steady climb since 2009, cotton prices skyrocketed in the last three months, increasing 37.6% over that time period and jumping a whopping 125% in just one year. Fleming says the price increases are due to sharp demand increases in China coupled with supply shortfalls caused by crop loss.
  • Global steel prices have risen 12.4% in the last three months and 25% in the last year. Though steel output has grown, there is also greater demand and the raw materials needed are also seeing a price increase.
  • Inflation in food is expected to continue for the first six months of the year, according to the U.S. Agriculture Department. Some of the increases are attributable to the increase in energy prices—getting the food to market is simply more expensive. Another influence behind the increase is the severe weather that nearly every country has been experiencing in the past few years that has left shortfalls in supply.

"The indicator that scares me is food; it's always the first to go up, … then after that it's oil and then you start to see a plethora of commodities be affected," says Fleming.

To be sure, oil and energy prices are also on the rise, which will affect not only the cost of supplies transported to hospitals, but also the energy costs needed for the facilities. According to a release by the U.S. Energy Information Administration (EIA) on the short-term energy outlook:

  • West Texas Intermediate (WTI) and other crude oil spot prices have risen about $15 per barrel since mid-February partly in response to the disruption of crude oil exports from Libya.  Continuing unrest in Libya as well as other North African and Middle Eastern countries has led to the highest crude oil prices since 2008.  As a result, EIA has raised its forecast for the average cost of crude oil to refiners to $105 per barrel in 2011.
  •  EIA expects the retail price of regular-grade motor gasoline to average $3.56 per gallon in 2011, 77 cents per gallon higher than the 2010 average and EIA projects gasoline prices to average about $3.70 per gallon during the peak driving season (April through September) with considerable regional and local variation.  There is also significant uncertainty surrounding the forecast, with the current market prices of futures and options contracts for gasoline suggesting a 25-percent probability that the national monthly average retail price for regular gasoline could exceed $4.00 per gallon during summer 2011.

As prices of goods in the global economy increase, Fleming says even supply contracts with fixed pricing or GPO contracts can only weather these additional cost increases for so long without having to pass them along to their customers—if not in the current contract, then in the future ones. 

"The impact it can have on hospital budgets is potentially devastating. They are already being asked to do more with less, and rapid changes in the global economy can mean increases in supply costs that weren't planned for in the budget. [These types of increases] can mean the difference between staff and stuff," he says.

Fleming's thoughts should telegraph the significance of the global economy to all healthcare financial leaders because labor costs account for 40%-60% of most hospital budgets.

After all, hospitals and health systems must adhere tightly to their budgets if they are to succeed in the changing payment environment. And if supply prices for everything from gauze and gurneys are increasing, hospital finance executives may have to look at labor decreases to offset price constraints set off by activity in the global market. Fleming, however, offers a couple of other thoughts for financial leaders:

  • Make some predictive projections for your budgets based on the global market.
  • Stay informed about the global markets, so you can make smart purchasing decisions and created a fixed price with your vendors. 

"There have been a [number] of factors affecting the global prices this year, but remember economies are also cyclical and what goes up must come down," says Fleming.

Karen Minich-Pourshadi is a Senior Editor with HealthLeaders Media.
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