How Do You Know if Your Supply Costs are Running High, Low, or Right Where They Should Be?

By Robert W. Yokl, Sr. VP, Operations — SVAH Solutions

At this point in time, it is safe to say that we are well beyond using gut feel as a way of measuring our supply chain cost levels based on activity levels of our supply chain department, value analysis teams, and group purchasing compliance levels. When I work with hospitals and health systems throughout the country, I see all the major group purchasing programs in action. There is parity in many of them and advantages to all of them as well. At the end of the day, pricing does not matter as much as what the end cost of doing business is in all your 750+ major categories and 500+ minor categories of purchase.

Price and Standardization Are Now the Smallest Element of Supply Chain Savings

What good is saving an extra 7% on pulse oxisensor pricing when your cost per adjusted patient day is 111% higher than your closest peer cohort and 48% higher per adjusted patient day than you were the previous fiscal year? This means that this health system is using over twice as many pulse oxisensors per adjusted patient day as their cohort peers and their costs are almost 50% higher than they were last year. If you put that into specific terms, your peer cohort hospital is paying $7.50 for a disposable adult sensor for a two-day patient stay, while your organization is paying over $15 per two-day patient stay. Taking 7% off that is nice, but you have got to come to the realization that something more is going on in your organization and you need to take appropriate action.

Price Success Can Blind You to Savings Beyond Price

Most organizations only look one-dimensionally to reduce costs, and that is with pricing and standardization (standardization is a pricing device, by the way). There is a major variable cost factor that is the driving force of your purchases and that is the quantity that you purchase times that almighty price which equals your end cost. Yes, price is a factor in what you pay, but I have seen organizations that did not have superior pricing yet had great utilization costs in all major categories.

The quantity purchased is the major factor that now needs to be looked after if we are to even consider managing our total cost of ownership of supply chain savings. This is what the end customer consumes on a daily, monthly, quarterly, and annual basis that we need to always be aware of. When these costs venture too high, we need to mitigate the risk to the bottom line.

The Group Purchasing and Custom Contracting Success Factor

When things are going great with contracting, we tend to ignore other areas that could result in additional savings; they are left untouched and unattended because of the multitude of successes with contracting initiatives. More importantly, the perception is that the whole of a great pricing and standardization program will make up for all shortcomings that may arise from cost increases from utilization management areas. This is not the case, as contracts run over a period of years but utilization occurs every day, every week, every month, etc. If your cost per case or patient day is increasing after a contract that was supposed to save big dollars, then you really need to investigate these further, otherwise you are leaving money on the table. Even worse, these unforeseen utilization increases are more than likely negating the price and standardization savings that you put in place.

Activity-Based Costing is the Answer

The best way to measure the total cost of your products from purchase price to the quantity you consume is to use the age-old accounting reporting known as activity-based costing. Each product category should have a metric assigned to it in order to track the cost per metric (i.e., pulse oxisensor cost per adjusted patient day, cost for EP mapping catheters per EP Lab case, lab reagent cost per billable lab tests, etc.). This type of reporting factors in the volume swings within all the major departments of a healthcare system and allows you to see if your costs are going up, down, or are right where they should be.

These measures can be used to establish a baseline that you can use to compare your hospitals within your system and create historical reports such as fiscal year to date reports or quarterly reports. You can even use this data for cohort peer comparisons, either with a regional cooperative group or within your health system. They can also help you accurately track when you make positive changes that result in major savings. Many of these are unknown to you now and you are not getting credit for these.

Utilization Savings Opportunities Are Easier to Attack than Pricing Savings

For years I have heard a collective groan from long time contract and price-focused supply chain directors throughout the country when we mention utilization management or savings beyond price. I always find that interesting because we are not changing contracts, or in many cases, products, when we uncover these savings opportunities. It is more of a search for what is happening that is causing the costs to increase, such as a nuance with the product being opened that is causing it to break and thus causing additional cost increases in quantity used. Or did the conversion to the new contract specify a feature-rich product to replace your relatively low-featured previous product which is now increasing your cost per instance? A quick change to a lower cost, equal quality product with just the right features could be just the fix. Rarely do these adjustments require major efforts such as changing an entire vendor to a new vendor that many of these contract savings require today.

What may seem complicated is not. All the data points are there, they just need to be brought together in some simple reporting to show the activity-based costing within your health system. You can then address the increases with whatever methods you feel fit such as value analysis, vendor audits, strategic sourcing, etc. Because this reporting should be done on a continuous basis, you can see the results of your changes right away. You will not have to wait until the next contract period to realize that the savings you allotted for that previous contract happened or that nothing went sideways during the term of your contract. This will enable you to make positive changes that are measurable to your CFO’s requirements which are based on an activity-based costing budget program, by the way. Utilizing the same methodology but taking it a step further into the categories will help you win big at the next level of savings beyond price.

About Robert W. Yokl, Sr. VP of Value Analysis & Supply Chain Solutions
Robert is the Program Leader for SVAH Solutions that provides value analysis, clinical supply utilization, and savings validation tools to help organizations to gain the next level of savings beyond price and standardization.