Ann Julian, M.D., Chief of the Department of Obstetrics and Gynecology at Croswell University Hospital (CUH), was reviewing the hospital’s most recent cost report. Disappointed with its contents, she was meeting with Jonathan Haskell, the Director of Fiscal Affairs, whose department had generated the report. She was not pleased.
This report doesn’t describe where our costs are generated. We’re applying one standard to all patients, regardless of their level of care. What incentive is there to identify and account for the costs of each type of procedure? Unless I have better cost information, all our attempts to control costs will focus on decreasing the number of days spent in the hospital. This limits our options. In fact, it’s not even an appropriate response to the hospital’s reimbursement constraints.
With the advent of DRGs and other reimbursement limits, CUH had felt the pinch of third parties’ attempts to control hospital costs. The third parties effectively had placed hospitals at risk for their own costs. Croswell, like many other tertiary care institutions, had extended the cost control responsibility to its middle managers. It required each department head to become involved in the hospital’s budgeting process, and to become accountable for the share of costs associated with his or her department’s activities.
After considerable discussion with the board, the Vice President for Medical Affairs had agreed that each clinical department chief should assume responsibility for the share of costs associated with the care of patients in his or her specialty. By enlisting the participation of chiefs in the cost control efforts, Croswell’s senior management hoped to improve the hospital’s overall financial performance.
THE PRESENT SYSTEM
The hospital’s present cost accounting system was based on an average standard costing unit applied to each department. For inpatient costs, the system used a cost-per-bed-per-day, known as a bed/day. For operating rooms (both inpatient and emergency), the standard unit was a cost per-operation or procedure.
To calculate unit costs, the fiscal affairs department began with the direct costs of each department, as shown in Exhibit 1. It then allocated indirect costs, such as maintenance and depreciation, according to a predetermined method. It had developed this method in order to report costs to third parties such as Medicare. The method used allocation bases such as size . . .
- Focusing on only the inpatient care cost (i.e., ignoring operating room costs, what is the cost of a TAH (non-oncology) under each of the cost accounting systems? A tuboplasty? A TAH (oncology)? What accounts for the changes from one system to the next?
- Which of the three systems is the best? Why?
- From a managerial perspective, of what use is the information in the second and third systems? That is, how, if at all, would this additional information improve Dr. Julian’s ability to control costs? How might it help chiefs in non-surgical specialties?
- What should Dr. Julian do?