Reasons Hospitals Become Profitable...My Opinion

I recently read in Healthcare Finance News, a blog entitled "Five reasons hospitals become profitable", posted on September 16th by Mike Stephens. Mr. Stephens lists the following influences he believes contribute to profitability: Payer mix; market leverage; product differentiation; highly disciplined and rigorous control of expenditures; and true hospital/physician integration.

While I agree these are important factors for the long-term development of profitable operations, I submit that, with the exception of expenditure control,  they do not get to the root of the issue. Payer mix is important and can be influenced by service offerings and marketing, but may be limited by the demographics of the population served.

 Market leverage, through market share, is achieved through mergers, acquisitions and other collaborations (such as managed care negotiation), but may also be under limited control due to the marketplace in which a hospital or system operates.

Product differentiation and hospital/physician integration lend themselves to proactive strategic initiatives, and may therefor be more controllable. Each of the five factors are appropriate objectives to facilitate future profitability, unquestionably. I would submit, however, the first steps in building profitability are: revenue capture and collectibility; control of expenditures: customer service culture; and focus on quality.

Start with any institution you can think of, that is not sufficiently profitable (as Mr. Stephens points out, "The median operating margin for hospitals in the same category (200 beds and over) is reported to be minus 0.7 percent." The first areas of opportunity to improve operating performance are those functions that already exist. The hospital is providing services. Is it capturing all of the charges, and coding them appropriately? Are the registration, billing and collection processes optimized to collect as much cash as possible, related to those services?

Similarly, has every effort been made to identify areas of cost reduction opportunity? Have all contracts been reviewed? Are productivity standards in place? Have processes been analyzed for potential improvement? I could go on, but my point is profitability can be immediately improved by increasing revenue generation and cost reductions under the existing model.

More importantly, will physicians and patients find their experiences at the hospital to fulfill their quality and service expectations? We need to develop a customer-friendly culture and the clinical practices and protocols to ensure quality results. This is no mean feat, but if we can't deliver quality and customer satisfaction, the strategic initiatives rightfully suggested by Mr. Stephens will be doomed to failure.

To summarize, I do not disagree with strategic initiatives to improve payer mix, create market leverage, establish product differentiation or develop true hospital/physician integration. These are certainly hallmarks of the 25 most profitable hospitals in the country as listed in a recent article in Forbes titled "America's Most Profitable Hospitals", and cited by Mr. Stephens. I do believe, however, there are initial steps to take that can and should precede these strategic initiatives, so as not to put the cart before the horse.

Why a Career in Hospital Turnaround Management?

The following article was written by a colleague, Arnie Kimmel. Arnie (for clarity, let's call him Arnie2) is an experienced turnaround CEO currently a partner at Tatum. I want to express my gratitude for Arnie2's contribution to Arnie's CFO Spot, as this is an important and timely topic for the industry.



First let’s clarify terms. I find that people use the terms “interim management” and “turnaround management” interchangeably but appropriately when describing a short term leadership engagement in a hospital facing some sort of transition. Typically such a transition involves a search for a new CEO, a deteriorating bottom line and/or a pending affiliation. Since none of these circumstances could be described as maintenance of the status quo, let’s stick with turnaround management.

Next, the advantages. It’s a virtual certainty that there is and will continue to be a significant demand for these services. Hospitals continue to lag other industries in the application of technology to effectively manage both productivity and quality, the boost from Obama-Care notwithstanding. To the extent that payers, starting of course with Medicare, phase in a hybrid system of payment that takes into account both the quantity and quality of services and to the extent that hospitals and doctors will begin to have partially aligned incentives to provide mutually accountable care, there will be many hospitals and health systems that won’t be able to adapt quickly or well enough.
In my experience, most of the hospitals facing these issues are aware of the need for change, so the time, energy and political chips needed to be spent for education there is minimized. Otherwise, leading the unwilling becomes a most unpleasant and time-consuming challenge. The process of sorting out priorities to be addressed in the short term is both a challenge and an opportunity. Making decisions with incomplete information, trusting one’s intuition as well as intellect and then making a positive difference in an organization that’s not used to positive change can provide the kind of reward that makes the profession of management worthwhile in the very first place.
Finally, the disadvantages and a word (or two) about risk. Clearly the major disadvantage of the kind of work described above is travel and the dislocation caused by being gone during the week for months at a time. There are ways to minimize the dislocation, such as being sure to be home both Sunday and Friday nights and Skyping.

Also, it must be said that turnaround management on an interim basis does not provide the satisfaction of seeing the long term benefits of decisions made earlier.
My advice is that turnaround management is not for the faint of heart. It requires a fair amount of courage and self confidence to believe that one can identify the right issues in what Peter Drucker described as the most complex organization to manage; that is, a hospital. Being able to do that and then “turn” the organization in a positive direction can provide a significant feeling of major accomplishment.

Is Your Business Model Sustainable?

There is much talk, particularly in the healthcare industry, about the need to "change the way we do business". That can mean anything. It could be major shift in moving from treating illness to preventing it. It may involve a renewed emphasis on quality, or transparency. It may mean developing or participating in an Accountable Care Organization...and on and on and on.

But what if the existing business model for your organization is unsustainable? By that I mean the core of your business, given such factors as physical plant, location, demographics, competition, program and service viability, reimbursement issues, etc., cannot be sustained for the long term. If this is the case, no amount of tinkering will solve the underlying problem.

Barring a decision to close, intensive strategic planning efforts must be undertaken, to determine whether an alternate business model is a viable alternative. Let me provide an example. I was the CFO of a non-profit organization. Let's call it OopsCo. This organization had been perhaps the premier provider of its particular services in the United States, and had been in existence for a hundred years. Aside from its core business, its mission involved a non-reimbursed teaching program and the provision of charity care.

All was well, until OopsCo took its eye off customer service to both the direct consumer and to the referrers of customers. The result was that a for-profit competitor was enticed by several important referrers to come to town and open a similar business.
Within a year, 30% of OopsCo's volume had been lost, and this at a time when it's endowment, used to fund its operating deficit, had suffered the results of a market downturn. While the local demographics were good, customers chose to travel to another part of town, where the competitor had established a competent, customer-friendly alternative. OopsCo's physical plant was not designed originally for its current purpose, and was grossly ineficient. It's charitable mission was draining dollars it could ill afford to spend.

The senior management team suggested the Board reconstitute a Strategic Planning Committee, and evaluate alternative business models. Several models were discussed, any of which might have strengthened the organization's future viability. These included: spinning off the mission-driven activities into a foundation; merging with the new competitor, who was not averse to the idea; and being acquired by a national chain that provided the services offered by OopsCo.

This is not a success story, as the Board chose to maintain the organization in its current form. I have not followed OopsCo's fortunes over the past several years, as I and the rest of the senior management team, seeing no solution, left the organization. My guess, however, is the losses have not been sufficiently stemmed, and OopsCo's future is uncertain.

We can learn from this anecdote. While you plan for growth and change, don't forget to monitor the basic viability of your underlying business model. And if you sense there may be an unswattable fly in the ointment, do your homework and then have the courage to bring the matter to the attention of your governing body.

The Importance of Strategic Positioning

Let's assume you have been working diligently within your organization to become more operationally effective. You acquired the best technology, improved processes, enhanced productivity. You can deliver care effectively, efficiently and with high quality. That's great, but here's the rub. Just as you drew from best practices and benchmarking, so will your competitors. So everybody is lowering costs and increasing value to customers. What are we talking about? Commoditization. Services are improved, but we become less distinguishable from our competitors.

If we want to distinguish ourselves and gain a competitive advantage, we need to determine what's unique or distinctive about our hospital/health system or other organization. We either have to provide different services, or at a minimum perform similar services in a different way. That's what strategic positioning is about.

So, you want to create a unique position...maybe you're going to provide fewer programs, but to a larger population. Or, maybe you want to serve a more select population, but with a broader range of services. This may likely require you to think about trade-offs. It may be a cliche, but it's true...you can't be all things to all people.  And, there needs to be a fit between the services offered, a way in which the services and programs interact with and reinforce each other. You may have to choose what not to do, in order to focus on your unique and appropriate service mix.

Here's an example. Some years ago, I was the CFO of an inner city health system that was surrounded by competitors, and was operating at a rather large deficit. We looked at the demographics, the clinical needs of the community, the relative profitability of each service and the fit of existing services. We determined several things. The community had a high incidence of tuberculosis and diabetes, and there were no programs serving those needs. Furthemore, the reimbursement for tuberculosis treatment permitted a surplus to be generated, and the diabetes treatment often involved unrelated medical complications which generated additional service opportunities. The obstetrics service had insufficient volume, and was generating a deficit. Finally, the community, which consisted of lower income families, was utilizing the overcrowded emergency room as its portal to the hospital.

Through some creative financing, we obtained the capital and operating funds to create a state-of-the-art in-patient tuberculosis unit and a diabetes clinic. We expanded and modernized the emergency room and created an effective triage system to redirect non-urgent cases to less expensive clinic settings. And, though it was not an easy decision, we shut down the obstetrics service. Although it had been an important component of the mission, the losses could not be sustained, nor the volume enhanced. As well, it was the least integral program from the standpoint of interaction and reinforcement of other programs.

It took discipline, an ability to set limits and strong internal and external communications to accomplish these changes, but the organization successfully differentiated itself. These actions, combined with the development of operational efficiencies, put the organization on a much stronger footing.

The message here is to reconnect with strategy. Look at what you currently do. Which of the services are most distinctive, and possible centers of excellence? Which are most profitable? What's driving our customer satisfaction? Refocus on the unique core of your organization, realign your service offerings, and make certain to take into consideration the near and longer-term industry trends driven by healthcare reform, aging populations and other environmental factors.

Ensuring the CEO Speaks the Language of Finance

In my last two posts, I wrote about effective communications throughout the organization, and the importance of board education. It occurred to me that, as CFOs, we should not take for granted our CEO speaks our language. Of course, in these days of sophisticated management and critical financial issues we can assume our CEOs have a at least a basic understanding of financial terminology. And certainly there are many CEOs out there who are extremely knowledgable of fiscal matters.

It's not the CEO's job to understand everything there is to know about finance. That's what (s)he's got a CFO for. That said, there may be gaps in the boss's financial knowledge that for any number of reasons we're unaware of.

Consider a scenario where you are proposing a particular action or strategy related to financial management. Let's say you've developed a set of metrics you propose to provide in a dashboard format. The CEO reviews the metrics and indicates he sees no need for a measure of the "quick ratio". You know this ratio is more important than the current ratio, as it focuses on the ratio of immediately liquid assets to immediately liquid liabilities, rather than all current assets and liabilities. So, if you're in a situation where liquidity is critical, this is an important measure. But, if the CEO does not understand the ratio or its importance in your current situation, (s)he may insist on eliminating it in order to focus on the handful of measures he considers most important.

This may not be a realistic example, because chances are you will have a discussion about the meaning and importance of the ratio. Nevertheless, think how much more efficient your interactions would be if you developed a mini-financial seminar to present to the CEO (and, perhaps, other members of the senior management team). There would be less chance of misunderstandings and a smoother team approach under such circumstances.

Please refer to the previous two posts for examples of the type of financial materials that could be included in such a seminar, and let me know if you think this approach makes sense.