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.

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.

Effective Communications Yield Stronger Operating Performance

It's hard times for many hospitals. Negative margins, declines in non-operating income, investment losses, decreases in days cash on hand and declining patient volume are wreaking havoc with the bottom line. The good news is, most of us can do better. We can reduce capital spending, change debt structure, contain labor and non-labor costs, seek strategies to improve patient volume and improve processes to enhance productivity and efficiency. But WHO will do this? It won't be the CFO. It will be the strategic and operations leaders. And HOW will they know what to do? Here's where communications is critical.

I'm talking about providing the right information to the right people at the right time. Financial statements should be timely, concise and meaningful. They should be understandable, focusing on the results, metrics and variances from plan that facilitate identifying areas of opportunity. Information should be provided to the Board, senior management and operating managers, that allows them to make the correct decisions to address the organization's situation.

Its incumbent on the CFO to develop reporting that provides the greatest insight. We know the language and business of accounting and finance, but do we know the language and business of the operating departments? I understand, as CFOs we're consumed with finance-related matters. But an important first step in communications is understanding the subject matter about which we're communicating. How can we be reporting, developing, interpreting, coordinating, and administrating the hospital's policies on finance, if we do not know what is happening outside of the finance department? So, walk around! Meet with operating managers, at their desks, and discuss their operating results. Spend some time in their departments and learn what they do, and the language they use.

Once you understand their issues, create reports that communicate the relevant facts, packaging information and concepts in a way that is meaningful to the targeted reader. Think about the appropriate frequency with which to report different kinds of information. It could be daily, weekly, bi-weekly, monthly or less frequently, depending on the subject matter. Use plain language, and the terminology they understand. Use charts, overviews, trends, whatever it takes to get your information across in a meaningful way.

Here's one important reporting vehicle, to start you off. Develop a Balanced Scorecard, incorporating the Key Performance Indicators that focus on the strategies, objectives and initiatives deemed by the Board and senior management to be critical to your organization. The Balanced Scorecard should be produced monthly. The KPIs should be relevant to each accountable hierarchical level: System, Organization, Division, Subdivision and Department. Set goals based on peer-related benchmarking information. The actual KPIs could relate to productivity, volumes, liquidity, quality, etc. I won't delineate them here, for purposes of brevity.

Create a budget process that incorporates benchmarks and metrics,where each level in the hierarchy contributes to the development of targeted balanced Scorecard indicators.
Report the information consistently and timely. Create a culture of accountability, where all strive to achieve the targets, and are recognized for their achievements.

Other reports might include service line profitability analysis, supply chain analysis, labor management reports, and quality indicator trends.

Congratulations! You're on your way to creating a communications environment where  information (not data) is provided to the end-users that will allow them to make better decisions and manage effectively.

Board Education - Many Want It. Do You Provide It?

Over the course of my career, I've worked with numerous Boards. Frequently, the Board composition is diverse. There may be business-savvy professionals, along with community advocates, physicians, religious leaders and others. The level of understanding of the business they govern, programs and services, financial reporting, strategic planning principles, regulatory matters, etc., may vary widely from member to member.

The more knowledgeable a Board is with regard to the matters critical to their governance responsibilities, the more effective they will be. Of no less importance, I have always felt senior management will be more challenged to achieve objectives, and will be empowered to collaborate with the Board as a team under such circumstances.

It's also been my experience that individual Board members may be hesitant to request education on particular issues, for various reasons. With that in mind, it behooves management to work with Board leadership in developing ongoing Board education. The first step is to determine those areas of knowledge that are a) desired by the Board and b) believed by management to be important, particularly in light of the specific circumstances of the organization.

The venues and types of education can be of many types. Here are a few suggestions:

Develop a new Board member orientation package. This can include such items as: a set of by-laws; Board committees; an organization chart; a list of those policies and procedures of most relevance to the board, for example, human resources and compliance-related policies; a standard financial reporting package; and any other materials deemed important.

The orientation package should be walked through by one or more senior managers in detail with the new member. For example, depending on the members business experience, the CFO may review the financial statements in terms of the meaning of the Balance Sheet, Statement of Income & Expenses and Statement of Cash Flow.
(S)he would then review the meaning of each line item. Finally, (s)he would review key metrics and their importance. If this type of orientation has not previously been done, a presentation might be made, as an agenda item, to the full Board.

Create a standing agenda item for the Board meeting, where a Department Manager makes a 10 or 15 minute presentation regarding their particular specialty and how it interacts with the rest of the organization. This is effective not only in education terms, but personalizes the organization and has a positive impact on morale.

Dedicate a special meeting to a particular subject. The presenters can be internal or external. For example, one or more representatives of  the Board's Strategic Planning Committee, or if necessary an engaged external consultant, could explain how the planning process works. Then, senior management can describe how the plan is integrated into day-to-day operations. For example (if this was true of your organization), you could indicate how the 5-year Strategic Plan drives the annual Business Plan, which drives the Management Action Plan (assigning tasks, responsibilities and timetables), which in turn drives the annual Operating and capital Budgets.

Concurrent with posting this, I raised the question of the importance of Board education, with a LinkedIn group, the Healthcare Executives Network. Linda Ollis, FACHE, a CEO, provided the following excellent suggestions, which I thought worth adding to the post: "As a CEO, I used as many expert resources as possible for general education from local experts to the Governance Institute. Membership in organizations like the Advisory Board, Sg2 and others, generally includes board level presentations that are oriented towards general market issues and legislative/reimbursement changes while the state hospital association and experts from public health, insurers, etc. can provide more depth to local and regional issues. I like to follow these presentations with open discussion and board dialogue, linking it to our strategic plan and organizational challenges. We also shared key issues from "Trustees" magazine that have a lay board focus and orientation. Board education is one of the most critical aspects of the CEO's responsibilities."

You get the idea. Board education is critical. It makes for a more informed, interesting and exciting governance process. What are you waiting for?

Satisfy Your Customer To Improve Your Margins

It seems like a no-brainer, but as hospitals strive to implement programs and processes to improve their bottom line, they don't always focus on this most important element. Like most of you, I've been in the role of patient on occasion and have at times been gob-smacked by the poor customer service attitude of the employees (both clinical and support personnel) I interacted with. For example, how often have you experienced a perceived lack of compassion by clinical staff, a cumbersome or non-friendly registration process, or bad meals?

In the June 2010 edition of HFM Magazine, a brief article on data trends, prepared by the American Hospital Directory, delineates the correlation of positive patient questionnaire responses to operating margins. The data was collected by the Centers for Medicare & Medicaid Services (CMS) based on the Hospital Consumer Assessment of Healthcare Providers and Systems survey instrument.

Hospitals were ranked into quartiles, based on high to low overall ratings, and the median operating margin was calculated for each quartile. The following table tells the story:

          Quartile       Margin
               1             (1.65418)
               2             (1.46375)
               3             (0.44875)
               4              0.409934

Quality, as perceived by patients, is not solely measured by clinical indicators. Everyone having contact with the patient/customer must exhibit a passion to satisfy or exceed their expectations. This can only be accomplished through cultural training and by measuring customer friendliness as a component of employee's periodic evaluations.

Needless to say, it all starts with senior management's dedication to achieving cultural change, and the CFO is an integral player in that regard. Be a role model for your staff and the rest of the organization. The numbers indicate it can only help your bottom line.

Hospital Mergers and Consolidations

With the pressures of the economy, reimbursement trends and the spectre of total transformation that will be required by healthcare reform, consolidation in the health care industry is taking place at a record pace. It’s difficult for small to mid-sized hospitals to compete against larger health systems in many markets, and the depressed economic climate has led some hospitals to seek out opportunities for mergers.

Larger systems are strategically evaluating the markets they want to be in and exiting from less attracive markets. In addition, smaller hospitals and systems are understanding their survival may hinge on merging with or being acquired by another system.

Boards of Trustees and community advocates want to maintain their independence, and senior managers may be concerned with their vulnerability in a merger. Nevertheless, I believe this trend will continue, and even accelerate. Think of the difficulties a smaller stand-alone hospital, or even a small system, will encounter as they deal with the system, process and resource demands in adjusting to the new realities of healthcare delivery.

The changes afoot are dramatic: Implementation of meaningful use of electronic health records; developing Accountable Care Organizations; re-focusing on, measuring and reporting on quality indicators (linked to reimbursement); and strengthening physician integration are just a few of the challenges to be met. Not least is the need to totally transform the way in which healthcare is delivered, so as to survive what I believe will be an environment where reimbursement from all payors will be driven down towards Medicare levels.

Then there are the economies of scale that have always been available to larger systems. To name a few: departmental consolidations and centralized functions; access to experts who would otherwise be too costly; and negotiating leverage with insurors and suppliers.

This is not all bad news. The takeaways are:

• These are exciting times for hospitals and healthcare systems
• Change is good, and the nation's healthcare system will benefit in the long run
• Surviving systems will have the talent and resources to deliver high quality care in an affordable way.
• As leaders, we need to put aside parochial concerns, and strongly consider seeking out partners that will ensure our organizations will continue to exist, grow stronger and deliver cost-effective, quality care.

This is, of course, just my opinion, and I welcome meaningful feedback and debate.

CFOs - Moving From Technical Expert to Leader

As we progress in our healthcare finance careers, we develop new skill sets and don't always retain the old. I leave it to you to determine whether that's a good or a bad thing. In the beginning, perhaps we recorded accounting transactions, prepared financial statements and cost reports or created patient bills. We were technicians, and proud of it.

Assuming we worked for reasonably large organizations, as we moved up the ladder, we began to supervise others who accomplished those tasks. When we rose to CFO, we developed new skills - leadership, mentorship, team building, strategic vision, creativity, communication....I could go on.

I ran across a blog, The CFO Edge, by Jack Sweeney, where he posted a piece called Tapping the Right Side of the CFO Brain. His first paragraph reads "One of the ironies of being a top finance leader is that seldom if ever will you be heralded for your vast technical skills. Instead, you are more likely to be praised for having keen management skills or even imagination." I couldn't agree more.

The longer we've been in leadership roles, the more we've honed those new skills. But what of the technical skills we had in the early stages of our career? Under the theory of "use it or lose it", combined with advancements in technology, reimbursement changes and the other dynamics affecting change over time, most of us can no longer personally accomplish those technical tasks. Nor should we.

I have been a CFO for some time and as I search for a new career opportunity for myself, I understand the far greater importance of leadership skills, but I understand the importance of having had technical experience in the past. Unless you're in a small organization where you're the chief cook and bottle washer, you're supervising direct reports who in turn are supervising the technicians.

To be a "hands-on manager" doesn't mean you need to do the detail work. Rather, you're knowledgable enough to review, correct and advise others in their tasks. You can't do that from your office, and you can't do it if you don't understand the subject matter or the objectives of the work. Thankfully, our earlier technical grounding provides the foundation we need.

So, don't fret that you've forgotten the details of the task. Focus on leadership, vision, motivation and support. As the saying goes (and maybe this is a stretch), "make new friends, but keep the old. One is silver, while the other is gold".