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How to nip and tuck costs

7/4/2016

Accounting for cost savings at hospitals - Research by Eva Labro - UNC Kenan-Flagler Business SchoolFor hospitals, a corollary to the popular adage “what gets measured gets managed” could be “measure more accurately to manage costs better.”

That seems to be true even in industries like healthcare, where corporations and the government have been struggling for years to control hydra-like costs.

Accounting professor Eva Labro and PhD student Lorien Stice-Lawrence found that one way to significantly cut hospital costs is to upgrade accounting systems.

To examine the impact of upgrading accounting systems on hospital costs, the researchers used a healthcare IT database that spans 24 years. Their findings have implications for all industry sectors but are especially important in healthcare, a gigantic industry that consumes more than 17 percent of U.S. GDP each year and is under significant cost pressures.

The researchers’ work also provides insights that could guide decisions on accounting system updates for all companies. IT expenses comprised an average of 8.6 percent of revenue for firms across all industries surveyed by CIO Magazine in 2014, and about one-third of these companies indicated that their accounting and finance departments had additional budget for accounting systems.

But how often such systems should be updated and what kind of return might come from such updates has been a tough question to answer, Labro says. Her research on hospital accounting systems provides more insights to guide these decisions.

Among the key findings reported in their paper “Updating Accounting Systems: Long-Run Evidence from the Healthcare Sector” are:

  • Upgrades lead to lower costs. Upgrades to accounting systems improve cost management substantially. Though exact ROI varies depending on individual circumstances, upgrades lead to reduced operating expenses.
  • Regular updating is necessary. Cost savings from an upgrade seem to come during the first few years, after which they taper off.
  • The biggest impact is on costs. The biggest financial impact of accounting system upgrades come on the cost side rather than the revenue side, because these systems help managers more precisely identify and measure  costs – and therefore control them.
  • Adoption decisions are different from upgrade decisions. Different factors drive the decision to adopt an accounting system for the first time versus the decision to upgrade one. So once a hospital has adopted a system, the same criteria should not be used when considering system upgrades.

X-raying cost data

Labro, who studies costing system design, stumbled on the dataset after a physician group asked her to help diagnose their own costs.

“They were struggling with the limited information they could get out of their existing systems,” she says. “I learned a lot from being involved in that particular project about costing system challenges specific to the healthcare sector."

That project led to her being asked to teach in the MBA Healthcare Concentration at UNC Kenan-Flagler. When she dug deeper into healthcare accounting for her class, she discovered the Healthcare Information and Management Systems Society Analytics Database.

The dataset covers 24 years — from 1987 to 2010 — and includes 6,995 hospitals, including 1,916 that are tracked in every year of the survey. It provides information on the presence and updating of six accounting systems: financial accounting applications for accounts payable and the general ledger, and management accounting systems that handle costing, budgeting, case mix analysis and executive information provision.

Financial accounting systems were used by 97 percent of the hospitals in the survey as early as 1987. Management accounting systems were less common but increased significantly over time. Budgeting systems, for example, were in place at 50 percent of the 1,916 hospitals tracked at the start of the time period and at 93 percent by 2010.

The data also allowed Labro and Stice-Lawrence to explore the impact of regulatory pressures. The information spans a period during which hospitals, along with other healthcare providers, came under increasing pressure to be more transparent about prices.

From 2002-09, 31 states launched statewide initiatives for hospitals to disclose prices of common procedures online. Labro and Stice-Lawrence’s research suggests those disclosures – and the subsequent public scrutiny of hospital prices – led hospitals to seek more accurate cost and budget information.

Once hospitals updated their accounting systems, the data suggests they could improve their financial performance significantly. For example, hospitals updating their general ledger systems saw on average a $16,560 per-bed reduction in operating expenses in the year of implementation – almost 4 percent of the $419,033 per-bed average operating costs for those institutions.

“The big takeaway is that cost management is really improved by accounting system updates, and the cost reductions are substantial and immediate,” Labro says. “There must be a lot of low-hanging fruit that immediately gets materialized in terms of cost-cutting opportunities."

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