Innovations in Healthcare Supply Chain Contracting, Part I

Hallmarks of Innovative Contracting

The final throes of the healthcare reform legislative drama wasn't pretty; frankly, I wasn't sure if I was witnessing landmark policy change or unbridled political blood-sport. It was easy to get caught up in the seamy soap opera theatrics and lose sight of the implications the new legislation has for our nation, our system of providing care, and the life work of people like you and me. I confess to being unsure still about what it means for the healthcare supply chain. I have, however, run across an excellent resource put out by the Kaiser Family Foundation (http://healthreform.kff.org/) that's helping make some sense of it all. I encourage you to check it out. It's long on the info and very short on the bias.

Was I "for" or "against?" Well, within the limits of my understanding I guess you should put me down as a "for." Not because the legislation fixes health care – or our national debt – but because it starts the process. And a start is better than nothing. Yes, I am dismayed that there is an unhealthy skew toward the benefit/entitlement side of the ledger, but I also believe that increased focus on cost reduction and efficiency will follow. Because it must. The directive to do more with less (and to do it better) has only intensified. The supply chain executive has a huge role to play. If ever there was a time for innovation, for thinking outside the box, for responsible disruption, it is now! Which is why I am pleased to introduce our next series on the Take Control blog: Innovation in Healthcare Supply Chain Contracting.

Over the next few weeks we will feature interviews with supply chain leaders of several IDNs that have chosen to approach contracting in their own ways, disrupting the status quo in the process and attracting the attention of others with their positive financial results.

Several common themes have emerged in our interviews, themes that we are coming to recognize as hallmarks of the best supply chain leaders. Here are some of them:

They pay attention to the wants and needs of the clinicians but understand when to stand their ground.

They know that the supply chain is an integral part of providing quality patient care, and their stature and authority is commensurate with that role. They work hard to understand what clinicians need to do their jobs and how they think. In an atmosphere of mutual respect, the effective supply chain leader is the recognized point of convergence for patient care and fiscal efficiency. Though seldom needed, the effective supply chain leader retains the power of "no."

They have a willingness to partner with key suppliers, achieving optimal pricing and delivering on committed levels of volume and market share.

These innovators recognize the value of empathy and transparency as a prerequisite for win-win business relationships. Each of the people we interviewed talked about the need to make (and keep) a compliance commitment to supplier partners. In return they expect the best possible price, often achieved by frank discussions of manufacturer profit margins and procedure reimbursements.

They have earned and maintain the support of their executive teams.

Each of the supply chain leaders we interviewed brought up this point several times. Without executive support, they said, it's nearly impossible to introduce any meaningful innovation to the contracting process. They each worked hard to earn the support of their organization's C-suite, and they each have become quite skilled at communicating results in a way that helps maintain that support.

They invest in the infrastructure needed to manage contracts effectively.

Supply chain innovators know it is impossible to manage change without the right supporting infrastructure in place. To run an effective contracting organization – one that brings significant reductions in overall supply costs – they invest in the right people and put them in the right positions, and they enable maximum focus on achieving meaningful, measurable results by equipping their staff with the best technology tools.

 

Enjoy these interviews in the coming weeks. As always, I would love to hear your own thoughts on ways to foster greater innovation and responsible disruption in the world of healthcare supply chain contracting.

Chuck Mauro at UNC Hospitals in Chapel Hill, NC: Redefining the Reputation of Materials Management

Chuck Mauro first joined the hospital business as warehousing supervisor in a hospital in New Brunswick, NJ, moving from industry to the healthcare field primarily because he felt there was something noble about working for a hospital.

He kept that noble feeling as he worked his way through supply chain roles in three different hospitals in New Jersey and Massachusetts before taking the director of materials management position at UNC Hospitals in Chapel Hill, NC, in 1999.

Having been without leadership for two years, much of the service the materials management department provided to the hospital developed a reputation for being unreliable and inconsistent. Additionally, for clinical staff, materials managers were seen as single-minded cost cutters who plowed through their initiatives without regard to clinicians or patients. There was a clear need for changing the hospital's mindset on the supply chain and developing more effective service delivery programs.

We sat down with Chuck to learn how he dealt with these issues at UNCH, what were some strategies employed to help develop a more clinically integrated supply chain, and how the relationship between physicians and materials managers improved.

MediClick: How are you working with the UNCH patient care providers to achieve your supply chain goals?

Chuck Mauro: It's very much a partnership between the clinicians and supply chain. It wasn't always so. That was quite frankly due, at least in part, to mistakes made on our side. People in my position would just try to plow ahead thinking we could save a couple of bucks without necessarily considering the clinical end.

So when I joined UNC, I saw the need to demonstrate to clinicians the value in procuring and utilizing products more cost effectively. One of the first big things we did was to convert our contract for infusion pumps. We were with a particular manufacturer for 20 years, and nursing was very comfortable with the product. When we looked at the market we felt that there was significant opportunity to upgrade our technology and reduce our overall spend for this product group. We therefore went out to bid, and we ended up going with another manufacturer. I'm really glad to say that that award has proven to be very valuable to the hospital both financially and clinically over the past nine years or so.

But the equipment conversion was not without a number of difficulties. The nursing staff was very comfortable with the existing product. Many nurses found fault with the new equipment and resisted the conversion. One approach we took with them was "I want you to work with me on this, and I need you to play a key role in helping me move through and improve this process." Some of them wouldn't help me. But enough did.

No product conversion, regardless of the perceived superiority of the new product, will be successful without clinical staff buy-in. With the help of clinicians and administrators, we demonstrated that saving isn't necessarily painful, and something new and different isn't always worse than what you've got.

MediClick: How is it that you might take a savings initiative on a Physician Preference Item (PPI) from start to finish and how would you engage the physicians along the way?

Chuck: We start off by comparing what we're paying for a PPI product group against what other hospitals are paying in general and getting round figures that are not hospital specific. This gives us an idea of fair market price based on our volume, which isn't always the lowest price we see nationally. This research tells us if our pricing is good or if it needs to be 5 to 8 percent better. We then set a CAP price for each of the various component parts of that product group. In other words, that CAP price is the most we'll pay for each product in that group.

We don't release the CAP pricing to the manufacturers until we have buy-in from the physicians. We want the docs involved to understand the process we're employing and that we are not restricting their ability to select a specific manufacturer, as long as that manufacturer agrees to abide by the CAP.

We then send the manufacturers the CAP letter, which when executed by them, becomes our contract. For the most part, this process plays itself out without too much difficulty and is effective in driving down our costs. We did have one situation with total joints where we sent the CAP letter to four manufacturers and three of the four we sent it to refused to accept the CAP price. The fourth, which didn't have business here, agreed to it.

Our chief of orthopedics, who supported our plan, was not about to compromise. He told his staff that they'd be trained on the fourth manufacturer if their existing manufacturer didn't agree to the CAP. It was because of his belief and dedication to the process that the three holdouts did finally sign off on the CAP contract.

I always enjoy telling the story about one of the manufacturers who was particularly adamant that UNCH would never get the CAP price we were asking for. When we told them "Without your signature, your product will be removed from the shelf by midnight on Friday," they agreed to sign. Once he did so, I recall him saying to me "I hope that there are no hard feelings." I said "Well I never have hard feelings, but I have to tell you I'm a little surprised. You told me that there is no way we'd ever get this pricing." He just chuckled and he said "Well, you're UNC we can't afford to lose you." To me, that clearly demonstrates that good and amazing things can happen when clinicians and materials managers work together.

He didn't think we were in a strong enough position to enforce the CAP. But when he found out that the head of orthopedics was unrelenting in his support for the program, the landscape changed for him.

MediClick: What's the tenor of the relationship between the materials department and the clinicians and physicians today?

Chuck: When I first started in this business it wasn't unusual for a doctor or a nurse to insist that they needed to use one and only one specific product. Over the years that mentality has changed because clinicians now understand that if we can select a product that is clinically acceptable from a field of competitors then we can contribute to a healthy bottom line. As an old boss of mine used to say, "no margin, no mission." If we can't reduce expenses on an on-going basis, then that will adversely affect their ability to care for their patients. There's much more of a "let's work together attitude" now.

The key to any effective partnership is understanding that problems will occur and believing that you will be able to work through and resolve them. Once our internal customers saw that we held ourselves accountable for the level of service we were providing and that we were committed to process improvements, a greater willingness to work with us on cost reduction projects surfaced. Just as there is no such thing as the perfect contract, there is no such thing as a mistake-free service. Another boss I once had – and I've been fortunate to have had many truly excellent supervisors who acted as teachers and mentors to me – said, if you don't make any mistakes, you're not doing any work. We therefore always strive to remain transparent in our activities and foster a spirit of openness and cooperation between us, the financial end of health care, and the people who treat and care for the patient.

Another change that makes the job easier today than it was 15 or 20 years ago is the creation of the clinical materials analyst position – a position within materials management staffed by a registered nurse who acts as a liaison between the business side and the clinical population. She speaks their language. She knows about patient care, but she's also an advocate for good business practice.

Before this position, I had to beg a nurse manager to give me a few minutes of her time; what I wanted was usually very low on her list because she had tons of other things to do. Now the clinical materials analyst is able to work directly with the staff and really move on things like product trials and contract conversions.

MediClick: What are your challenges for UNCH in 2010?

Chuck: It gets a little tougher every year to find savings and to make money; we spend more on indigent care every year. We're up to about $300 million a year just on uncompensated care. That figure is likely to keep growing too. All of the revenue and expense trends are unfavorable to us.

So if we're going to remain a viable institution with a healthy bottom line we have to be more creative, we have to work harder, we have to really push the envelope in order to remain healthy.

That's why when I saw C&A [MediClick for Contracts & Analysis], I knew I was really going need it because, although I'm doing ok now, I'm not always going to be able to rely on the tools that I have now to take me where I need to go. I need to get out of my Volkswagen and get into a starship, and I think C&A is that starship for us.

With the help of C&A, we as the buyers finally have our hands on tools and information that are as sophisticated as the sellers. I've always felt that the vendors have had a leg up on us because they were able to spit out information much more easily than we ever could. That information helped them with their negotiating strategy because they knew information that we didn't.

With the implementation of MediClick for Contracts & Analysis, I often feel like I'm creating a new religion. I'm not normally taken to hyperbole, but I truly believe that the C&A tool opens up a whole new dimension on how we can do our business. It gives us not just information we've never had before, but it adjusts the way that we work and negotiate significantly. It changes our whole buying strategy and the contract landscape to the point where we see things with new eyes now. It's like we have these supercharged glasses and our whole vision has been substantially improved.

For example, prior to implementing C&A, we thought our master files had been pretty clean. Boy did we find out otherwise. C&A showed us that there were all kinds of funky stuff going on in there. In my mind that was all good. Everything we discovered that we thought was not a problem, all of the sudden we're finding that it needs to be fixed. It was extremely valuable to be able to – during the implementation –uncover things that we really didn't even know were going on with our own databases.

Charlie Miceli at Fletcher Allen: Meaningful Informatics Leading the Way

Having worked for and with Airborne Rangers, an elite light infantry special operations force of the U.S. Army, Charlie Miceli learned the importance of performing recon before every mission. The motto "Rangers lead the way" became his battle cry.

That credo still guides him today as Vice President of Supply Chain for Fletcher Allen Health Care (FAHC) in Burlington, Vt.

Proactive by nature, Charlie is not one to wait for a savings mandate from the CEO or CFO before he leaps into action. Instead, he and his team build the supply chain goals and objectives for themselves upon four key pillars: customer service, cost management, enhancing business processes and meaningful informatics.

"We are constantly using meaningful informatics tools to monitor spending trends and to establish target opportunities for cost management. We're telling people what we're doing before they can bring it up to us."

We talked to Charlie recently about how this aggressive mentality has served him in the supply chain world at FAHC.

MediClick: As someone who always wants to set the goals rather than have them be set for you, what do you feel is the appropriate role of the supply chain at Fletcher Allen?

Charlie Miceli: Supply chain is resource management more than anything else. Rather than managing just supplies, we provide support in managing the entire spend—whether it's a bandage, capital equipment or business processes.

Fletcher Allen had this infrastructure in place before I got here. As a team we are just taking a good system and making it a great system. The executive support helps because our leaders have given the supply chain the ability to work as a team with departments to find opportunities for resource savings.

That means we need to keep our team multi-dimensional. So we're developing our next tier of leaders within our team. Our director of purchasing, contracting and value analysis is an example. She's a newbie in the supply chain business, but she's already been recognized by ERCI.org for using meaningful informatics to eliminate a pricing error that reduced our costs by over $177,000.

MediClick: What tools do you have that ensure that your supply chain team is being as effective as possible?

Charlie: The key to supply chain management is meaningful informatics: using the right tools to look at supply chain spending so we can identify clear savings opportunities.

I believe you should always have analytics tools that provide meaningful informatics. That's why we have as many tools working in synergy as we can. Even if the tools are sometimes redundant, something always differentiates one from another.

Using MediClick, for example, we have expanded the general ledger in the med-surg world from about seven or eight codes to about 19 or 20 using an UNSPSC-type mythology. The purpose is to get more stratified within the groups.

We used to look at our OR spend, which is almost $3 million a month, and see it broken up among only seven codes—two of them were over a million dollars each with a large number of transactions in them. There was no significance except that it's a considerable amount of money.

Now, we've become more granular, expanding to 19 codes. So we have better detail to start peeling apart layers using MediClick to differentiate what was spent on meshes, sutures, platforms and all types of stuff. So we can see exactly where the high supply chain expenses are.

When we put in MediClick, we ran it as a transactional system, which it does very well. But it's also very intuitive as a strategic tool. I set the strategy with it and then teach the supply chain staff how to break out the data and analyze it—from acquisition to getting money out the door.

MediClick: In the Culture of Savings Series, we're always interested in how supply chain executives leverage the power of the people to find savings opportunities. Have you found any interesting approaches to do this?

Charlie: Every member of the hospital staff can make a difference to the bottom line. I saw this first hand when I worked at Newton-Wellesly Hospital in Newton, Mass. We had a cost management/margin enhancement program that provided recognition bonuses for staff who provided effective cost-saving ideas.

Some members of our front-line staff who worked in linens were on a team that recommended and implemented the in-sourcing of our linen cart makeup. We examined their suggestion, implemented it and reduced our costs by more than $100,000 per year. These team members each received a one thousand dollar check right before Christmas as a reward for their efforts.

When we asked for their help, we let all ideas come in. You have to move fast and grab onto the great opportunities, but you also have to be able to know when to set aside the "parking lot" ideas that may be useful in the future.

That same philosophy holds true here at FAHC. We go out and engage folks as members of our team. We have active value analysis committees that cover the major supply expense areas of the hospital. Our mission is very collaborative. That's the kind of culture we have here.

MediClick: Is it an important part of your strategy to build relationships outside of the hospital staff?

Charlie: We maintain a strong relationship with our distributor because we do a large chunk of business with him. We try to be a good customer who tries to help him meet his goals, too. For example, our distributor has deliveries for us every day. We have given him the option to queue our orders so he can send less than five trucks up here per week. This action gives our supplier an opportunity to reduce costs; that has become as valuable as the transactional nature of the relationship.

If we are engaging a supplier to lower his unit costs, and we are not doing anything to help reduce his operating costs, then that's not fair. But if we can help by changing our operations to remove waste, redundancy in business processes, etc., without increasing our expense, that's reasonable.

We present an advocacy model where we strive to understand and accommodate the business requirements of our supplier so we can mutually take unnecessary costs out of the supply chain like rush deliveries, use of EDI transactions, managing pay terms, quarterly reviews, etc.

As we progress in this model, our goals are to use meaningful informatics and advocacy to maintain aggressive stewardship of our resources and ultimately reduce costs in our supply chain.

MediClick: Thanks Charlie!

Tony Johnson at Novant Health: Everyone Has a Seat at the Table

As a U.S. Army officer specializing in health care logistics for 20 years, Tony Johnson's discipline kept the military supply chain moving in health clinics, combat units and military hospitals in Europe, the United States and Africa.

Tony's military-style command catapulted his career into supply chain roles in hospitals stateside. He quickly learned that the authoritative approach to materials management he used in the military was less effective in the traditional hospital setting.

But he's ok with that! In fact, he's adapted quite well to Novant Health System's collaborative philosophy. As Senior Vice President and Chief Supply Officer of the 13-hospital, Winston-Salem-based health network, Tony builds relationships that keep supply chain costs in check.

He says this teamwork—backed by the skills of his strategic sourcing group—has netted $65 million in cost reductions in fewer than two years. Tony believes that success breeds success. The more his team reduces costs, the more folks from all over the health system want to join him.

This collaborative environment is due in part to a model of cooperation that Novant uses during strategic sourcing events. ARCIE, as the model is called, ensures that everyone—from executives to physicians—is involved in finding the best solutions to the supply chain issues.

We sat down with Tony to talk about Novant's collaborative culture and how the company's commitment to the supply chain impacts savings.

MediClick: What is the role of the supply chain at Novant?

Tony Johnson: The supply chain is integrated across the entire Novant system and is completely accountable for all supply-related costs. That means we're moving the supply chain into all areas of the hospital.

Some time ago, the operating rooms had a spike in costs that no one could explain. When the CFO asked me why, I told him that supply chain doesn't control what they do with supplies inside the OR. He said, "You're the chief supply chain officer, I don't care where the supplies are, you are accountable for them."

That was our catalyst to move into the operating rooms in our smaller facilities. Today, we're moving into the OR in our larger facilities, too. We want an end-to-end visibility of what happens in the operating room: who's buying what supplies and what supplies are actually stored there. Our next target is the cath labs.

In addition to being accountable for supplies, any contract for goods or services also comes through supply chain—from the C-suite on down. That enables us to receive standard supply chain pricing across all of Novant's facilities.

In fact, the supply chain group actually sourced a general contractor along with engineering for three new hospital projects. Then the Novant Strategic Sourcing Group purchased materials that the contractor would have traditionally purchased and marked-up. And for supplies that the contractor did need to purchase, we looked at the market price and collaborated with the contractor to get a better one.

MediClick: Supply chain managers are good at the process sides of change, but there's also an enormous cultural side of creating a vision, communicating it and building support. How do you go about creating a vision and building support for it at Novant?

Tony: Nothing beats having a great vision from the beginning. You've got to get the blueprint right, it has to be viable, and it has to be something that will make a change. Before I even joined Novant, the supply chain executive was senior in the organization. This vision enables us to easily communicate with anyone, from the highest levels of the executive team all the way down to the operating room.

Novant's chief medical officer is an advisor for strategic sourcing. He's the one who recommends the experts who we should be using as a resource. It's like having a direct connection with all the physicians all of the time.

Now certainly you have to earn their trust, but you can build those relationships and put that vision out there and sell it.

But it's not the supply chain person out there preaching; the company believes in it so the executives at the highest level are stepping forward and being the voice. It makes our jobs a lot easier.

MediClick: One of the main issues that divides supply chain managers and care providers is physician preference items. What is Novant's philosophy on physician preference items and how does that impact the way supply chain earns the trust of physicians?

Tony: Novant's culture, at its core, is very collaborative. So instead of strong-arming physicians, we build relationships with them. We also let them know that our goal is to not limit their product choice in any way. Instead, we go after what we think is an aggressive best in class price in the market.

Our process is very structured. First we analyze the market and learn everything we can about the supplier. Next the staff in our contracting department spends time with physicians to evaluate products, look at the market and explain costs differences.

Then these physicians sit at the table with us to negotiate contracts. Most vendors market their product directly to the physicians. By bringing physicians into the negotiations on our side of the table, we effectively eliminate the vendor's divide and conquer techniques.

We recently had a vendor who stuck with a premium price after we told them the price we were willing to pay. So we put the vendor on notice that we won't pay them a premium just for the privilege of using their product, which is no different than the others. We told them to conform to our pricing requirements or they have to go.

The vendor saw this as a bluff because they had already developed a good relationship with the physicians. They waited until two weeks before the deadline to give us the prices we wanted.

That was a huge contract. It was about $30 million worth of purchases. Initially, the physicians were uncomfortable with this type of negotiating. But since we brought them to the table, they trusted us. They looked at us as partners.

MediClick: With your organization being so collaborative, what is your process for strategic sourcing?

Tony: I have a fairly robust staff in the strategic sourcing group. We made the decision to invest in recruiting team members from various industries because that's where we found the skills we needed. So we've got folks from Ford Motor Company, Ingersoll Rand, General Electric. The typical profile of our sourcing manager is an MBA who is Six Sigma and Lean certified.

The result has been phenomenal. We started recruiting these professionals in 2006 and from August 2006 to the end of 2008, the cost reduction that group has brought us was $65 million, but they haven't done it alone.

We involve all of the stake holders in each sourcing event using what we call an ARCIE model [Approve, Recommend, Consult, Inform and Execute]. That means for every project, an executive approves it, a group recommends the solution, a group consults the stakeholders, a group informs the audience and a group executes the solution.

When we put our projections out there, folks know they can trust our numbers and they see what's happening on their balance sheet. Success breeds success. The more successful we are with our numbers, the more people want to work with us as part of the process.

MediClick: Cost reduction is a very controversial term in that it can be measured in a variety of different ways. What do you mean by cost reduction?

Tony: When our accountants validate savings for supplies, they consider cost savings as the old price, minus the new price and only when it is purchased. We do not book things in advance.

When we wrote a contract for orthopedics, the estimate was initially $5.5 million below the old contract. We didn't take $5.5 million savings; we go implant by implant, screw by screw as they're purchased and we add them up every month. We only take them for one contract cycle.

So if the contracts are written for three years, we count those reductions each month for three years. When those contracts run out we can't claim that anymore. We have to start over at that current price.

The reason we do this is because integrity in what we report is paramount. The CFO is looking for money that actually came out of the expense column.

I've been in this business a long time. Believe me, it's satisfying when you get a call from one of the hospital administrators and they say "Oh my gosh! I've been looking at my financials and the supply costs are really down."

MediClick: Thanks for the insights, Tony!

Open Letter VI: Supply Chain Executives as Hospital Diplomats

Last week I watched a presentation by one of the largest IDNs in the southeast. Its vice president of supply chain was answering questions from the audience, and I was intrigued by one response. When asked what he considered his most important role in the hospital, he replied without hesitation: "Diplomat. I spend most of my time convincing others to follow my lead."

Actually, this VP's answer makes a lot of sense to me, and it highlights an opportunity that is being missed by too many health organizations. With physician preference items representing as much as 60% of a hospital's supply expense, supply chain executives have tenuous (at best) control over the majority of spend going through their purchasing departments. High visibility involvement with value analysis teams and physicians, concurrent with the support of the executive team, is key. Ultimately, if they can't persuade clinicians to cooperate with them to control costs, their influence becomes limited to commodity items.

Unfortunately, not everyone agrees. According to a poll published in the December 2008 issue of Materials Management in Health Care, when supply chain executives were asked to rank the importance of developing cooperative relationships with physicians to optimize product selection, they rated it number one. However, when CEOs were asked the same question, they rated the diplomat role for their supply chain staff as a relatively low priority.

The divergence over this point is telling. We see supply inflation outpacing reimbursement and tell our supply chain executives to take control of it. But when it comes to preference items we send the message that that isn't really their turf. This thinking is expensive and it's wrong. The job of supply chain executive is all about negotiating productive relationships with suppliers and providing excellent service to their hospital customers. These same skills are ideally and uniquely suited to working with value analysis teams and physicians.

I want you to invest in your supply chain leaders. Delegate roles to them for which they are, in fact, ideally suited. Make them full partners in protecting the financial viability of your healthcare organizations. Make it clear to the rest of the organization that they have your support. Once "credentialed" by you, insist that they keep you closely attuned to their ongoing contribution to the hospital's profitability. As has been my theme in these CEO letters, I am convinced your trust and active support of your supply chain leaders will be rewarded.

Open Letter V: Sisyphus or the Flywheel

Effective supply chain management is hard. While its costs account for 25 to 35 percent of overall operating expenses, too many hospital CEO's still don't treat it like a core competency. Respectfully, that's a mistake.

I recently finished Jim Collins' book Good to Great. It chronicles 11 publicly-traded companies that made and sustained the transition from average performers to outstanding industry leaders, discussing the traits they have in common. These traits are often surprising and always illuminating. They range from the personalities / leadership styles of the CEO's to the use of technology as a core competency enabler rather than a strategy in and of itself (remember Pets.com?). It's worth the read, and its lessons apply very well to hospitals.

There was no sudden burst of speed, Collins writes, which launched any of the companies from middle-of-the-pack obscurity to market front-runner. Instead each spent years perfecting their business models, always with an eye on the world around them, until they executed better than anyone else. Over time, "good" became "great" as the companies generated momentum their competitors couldn't duplicate. After years of hard work and preparation, you might say, they became overnight successes.

Collins compares the journey to turning a 2 ½ ton steel flywheel mounted on an enormous axle. At first you push it with all your strength, yet its progress seems imperceptible. But you keep at it. You push relentlessly, fueled by informed conviction. You recruit others into your organization to push with you. Slowly, it responds to your force and begins to pick up momentum (as you knew it would). This motivates the team to push harder, keeping at it until the flywheel's own momentum lends a hand, cycling it smoothly around its axle.

Each of the good-to-great companies identified the key revenue and expense components that were critical to achieving their strategic goals. They put knowledgeable, self-motivated people in charge of them. And they made sure that these people had the tools to enable their success.

Winning hospital CEOs approach their supply chain this way. They view it as core to the business, (i.e. a component upon which strategic success depends). They invest in the right people – self-motivated people – and provide them the tools they need to make the supply chain more efficient and more effective. They enable them to create substantial savings.

All too often, I fear, some CEOs feel toward their supply chain operations as Sisyphus must feel about his boulder. Remember him from Greek mythology? He managed to anger the gods and was forced to push a massive rock to the top of a hill only to see it roll back to the bottom. "Now repeat, Sisyphus – for all eternity." OK, maybe not that bad but, to me, seeing hard-earned revenues eroded to dust by sharply escalating supply expenses definitely qualifies as a recurring nightmare.

Imagine this Sisyphean scenario: one of your value analysis teams spends months evaluating drug eluting coronary stents. The members decide they can consolidate from three separate suppliers to one, and the winning bidder commits to pricing that promises six-figure savings in the coming fiscal year. Your team has pushed a big rock to the top of the hill.

Unfortunately, you only see Sisyphus at work. Despite a successful project of stent standardization and market share leverage, the savings don't seem to make it to the bottom line. When your CFO reports new numbers from the cath lab, expenses are higher! The boulder has rolled back down the hill, right?

NO! It turns out that expenses increased because case volume increased. The savings on stents were actually higher than projected, because you used more. The value analysis team should be celebrating. Instead, they're wearily pushing the eternal rock again. The very legitimate six figure savings, and the stent project that should launch a thousand similar projects, are hidden under a thick overcoat of red ink.

Hospitals must employ tools (like this) that quantify projected savings in the supply chain and then track actual savings over time. If you're behind schedule, the tools will tell you why. (Perhaps it signals a need to focus on decreasing product conversion time.) If you're ahead of schedule, great! Replicate! But most importantly, measure. The drug eluting stent price reduction may not have salvaged the bottom line, but it sure as heck helped. And it's the perfect poster child for projects that can change P&L red to beautiful black.

As I said, the supply chain is hard, but it is also rich with savings opportunity. Quantifying and tracking realized savings with accuracy, accountability, and repeatability can be the difference between lugging giant rocks to the hilltops and seeing that flywheel spin in circles using its own momentum.

Sincerely,

Mike

An Open Letter Part IV: Keep Going to the Well

Over the past few weeks, I've noticed prominent hospital CEOs being more vocal in the media about their financial challenges and presenting some useful ideas for solving them.

William Roper, CEO of UNC Health Care answered questions from the Raleigh News & Observer earlier this month. A public health expert who headed the Centers for Disease Control and Prevention during the administration of George H.W. Bush, Mr. Roper describes the situation for hospitals as dire. He argues the need for universal health insurance, citing his own organization's expenses to make the point. In 2009, he expects UNC Healthcare to spend $260-$270 million for uncompensated care (these are the actual costs to his hospitals, Mr. Roper says, not marked-up patient charges), a 26 percent increase from 2008. The state of North Carolina will appropriate $48 million to help defray the costs. In order to make up the difference, Mr. Roper says UNC has no choice but to charge higher prices to insured patients.

Even so, the number of insured patients is decreasing along with rising unemployment. UNC Health Care's uncompensated care will continue to rise and it will be forced to cut costs aggressively to stay out of the red this year.

In the interview, Mr. Roper speaks to this as an elemental policy challenge: universal health insurance will help hospitals distribute costs equitably and put less burden on paying patients. I agree wholeheartedly with Mr. Roper's advocacy for a "full-scale assault" on current healthcare policy; and I try to share his optimism that fundamental change will be enacted quickly.

I wrote last week about Paul Levy, CEO of Beth Israel Deaconess Medical Center (BIDMC) in Boston. His hospitals face a $20 million operating shortfall this year. In addition to monitoring a monthly dashboard of revenue and cost variances with his executive team, Mr. Levy went to the well for ideas. Over the past few months, he has conducted town hall meetings with BIDMC employees to outline the IDN's challenges and seek their input.

By Mr. Levy's account, his people are rising to the occasion. He has received recommendations for cost reductions from clinicians, support staff, and executives alike. To avoid laying-off personnel, many employees are voluntarily foregoing scheduled pay increases and forfeiting some of their earned time accruals. (Read more about it here.)

I'm a big fan of Mr. Levy's candid and inclusive approach. By challenging his employees as a team, he is unleashing a deep reservoir of cost-reducing creativities and sensibilities. Because the cuts must be substantial and happen very quickly, BIDMC has little choice but to hit payroll and staffing; fittingly, he made that clear to everyone upfront.

I urge CEOs to follow Mr. Levy's lead as a matter of ongoing practice. Don't wait until the stakes are this high. Have open and frank discussions with your people about reducing costs and ask them to suggest new ways of saving money each week. Furthermore, the role is a natural fit for your supply chain executive. Put him or her in charge of the initiative and collaborate often.

Is this just wishful thinking? No. Look at this example from Stanford Hospital & Clinics. The CEO challenged her staff to reduce 6 percent from all non-labor operating costs. The supply chain and value analysis teams led the charge, finding consolidation opportunities by evaluating 20,000 items actively purchased from over 6,000 vendors, analyzing the terms of long-standing service agreements, and asking the entire staff to bring new ideas for assessment.

And it's working. The IDN is on track to save $14 million.

Stanford Hospital & Clinics did not wait until the expense situation reached critical state. Instead, they got ahead of the curve, creating a culture that celebrates finding ways to save money each and every day. It's a deep well you can revisit time and again.

Finally, the second (or third) of my own two cents: When you begin this process, make sure you have ways of measuring success. Projects can start with much fanfare and optimism, only to lose steam because you have no effective means to track your actual savings. There are tools out there to help, and – of course – I'm glad make recommendations.

Invest in creating a culture eager to root out unnecessary expense. Invest in the right supply chain tools to monitor your progress. And invest in your supply chain executives, charging them to lead the attack while working with them as partners. The time has never been more right, the motivation has never been higher, the savings have never been more needed. And – I know this – the savings are there.

Sincerely,

Mike

An Open Letter Part II: A Penny Saved Is a Penny Earned

By Mike Merwarth, President of MediClick

Though my teenage daughters roll their eyes each time I recite Benjamin Franklin's appeal to personal thrift, I hear a more empathetic response from hospital executives. After all, IDNs routinely survive on margins between zero and four percent. Because we operate so close to the edge, we've trained a sharp eye on the bottom line to make sure there's a buffer between us and the red ink.

In my last note, I urged hospital CEOs to make the supply chain a strategic priority. It remains the richest trove for rescuing dollars from the expense column of our financial statements, but that won't happen without making a firm commitment to the people running your supply chain and investing in the tools they need to get the job done.

In this note, I want to run through a simple model to make the case that investments in supply savings do considerably more for your bottom line than investments aimed at growing your revenue base. Stay with me on this. Even if it looks like an accounting exercise, you'll see that it goes to the heart of strategy and operations.

Let's look at a hypothetical IDN and its income statement:

Hypothetical 20 Hospital IDN (Income Statement)
		% of revenue
Revenue	$1,000,000,000	100%
Supply Expenses	($250,000,000)	(25%)
Payroll Expenses	($400,000,000)	(40%)
Other Expenses	($330,000,000)	(33%)
Margin	$20,000,000	2%

 

Its cost structure and margins are typical of an IDN its size. However, the CEO is not comfortable with the tight margin and wants to look at his options by modeling some changes to revenue and expense over the next few years.

He turns first to his business office and asks them to come up with ways to increase revenue by ten percent and show its impact on the bottom line. They've been studying demographic data for months and believe the graying of the baby boomers will soon lead to a spike in demand for knee and hip replacements. They recommend aligning with the highest producing (by case volume) orthopedic practices in key markets, repositioning the IDN as the place to go for hip and knee replacement surgery, and repurposing their OR suites for more orthopedic procedures.

Soon enough they expect the efforts to generate an additional $100 million in revenue per year. Their model looks like this:

Hypothetical 20 Hospital IDN Income Statement (10% Revenue Increase - More Hip & Knee Procedures)
		% increase
Revenue	$1,100,000,000	+10%
Supply Expenses	($275,000,000)	+10%
Payroll Expenses	($440,000,000)	+10%
Other Expenses	($363,000,000)	+10%
Margin	$22,000,000	+10%

 

While the move into orthopedics achieves the desired revenue growth, it carries with it a proportional increase in expenses. The additional volume means a need for more staff to cover the procedures and more supplies for the cases. As a result, the $100 million in new revenue only adds $2 million to the bottom line, for a 10% margin increase. For an IDN approaching $1 billion in annual expenses, that really doesn't put the bottom line on firmer footing.

The CEO turns to his supply chain team to tackle the expense problem. He challenges them to decrease supply costs by two percent.

The vice president of supply chain has been studying some data, too. At their current orthopedic case volume, she sees that the clinicians are using hip and knee kits from several different manufacturers at a wide range of price points. She knows that with the right tools, she can make a solid argument to the value analysis team to consolidate to fewer products, increase volume and market share with certain vendors, and negotiate an IDN-wide contract with much better prices. She anticipates savings of $5 million, and her model looks like this:

Hypothetical 20 Hospital IDN Income Statement (2% Supply Expense Decrease)
		% increase
Revenue	$1,000,000,000	+/-0%
Supply Expenses	($245,000,000)	-2%
Payroll Expenses	($400,000,000)	+/-0%
Other Expenses	($330,000,000)	+/-0%
Margin	$25,000,000	+25%

 

That $5 million in supply savings falls directly to the bottom line, increasing the margin by 25 percent and creating a wider financial cushion for the CEO. Better yet, with the analytical tools now available to her, the supply chain executive can better manage her supply contracts, analyze information in real-time, and demonstrate that the money she expects to save is making its way to the bottom line.

In an ideal world the CEO can pursue both projects simultaneously. But today's environment requires healthcare executives to preserve the hospital's capital while acting swiftly to protect their margins. If you're willing to make the investment in your people and the tools they need, your supply chain team is the quickest route to reducing costs and expanding margins.

So, Benjamin Franklin didn't just coin a folksy adage on frugality to pass from doting fathers to disinterested daughters. In the hospital world, each penny we save falls straight to our bottom line, fortifying our financial health and keeping our margins in the black.

Do you have a story similar to this hypothetical vice president of supply chain? If so, I'd love to hear how you contributed to your organization's profitability by rescuing dollars from the expense column.

Sincerely,

Mike Merwarth

An Open Letter to Hospital CEOs: Make Your Supply Chain Strategic

Dear CEOs:

It’s only fitting that our attention turns to evolution during this month when Charles Darwin would celebrate his 200^th birthday. But I’m not writing about finches on the Galapagos Islands. Instead I want to focus on the evolution of the hospital business model and the reasons we need to make the supply chain a key piece of our overall strategy.

This is an open letter to hospital CEOs. I’ve worked with hospitals for more than 25 years, and so – like you – I’ve experienced the days when clinical decisions ruled and payments covered expenses and provided us modest margins.  Throughout the 90’s I watched the advent of managed care and capitation, the alarming decline of our bottom lines, and the resulting mergers and acquisitions to align with physicians and capture market share. Reimbursement descended into a complex maze of payer contract negotiation, coding optimization, even congressional lobbying.

It was an era of consolidation, fueled by the realization that only the biggest among us could negotiate sustainable payer contracts and achieve economies of scale in overhead and supply expense.  The age of the integrated delivery network (IDN) emerged.

The IDN concept was indeed well adapted to its new environment, but we all see that conditions have begun changing again. We now find ourselves caught in a vise between declining reimbursement and increasing supply costs.  The squeeze is on, and our industry is being forced to reevaluate our current business models to determine a strategy to evolve and survive. 

Over the past two years, I’ve watched as many IDNs have gone into survival mode.  They have begun spinning off unprofitable facilities, recognizing the need to insulate themselves from losses, even if it means giving up hard won market share.  This may be necessary, but it certainly doesn’t constitute a long-term strategy. 

Today’s healthcare environment requires hospital CEOs to balance expansion with smart cost containment.  To accomplish this, we must make the supply chain strategic.  It’s no secret that supply costs represent the largest operating expense after personnel, and in some IDN’s the two have reached parity.  When supply costs are combined with “services contracts” (by this I mean everything from lawn maintenance to physician contracts), the total expense typically doubles.

It’s no longer acceptable to limit the materials managers’ role to ordering and delivering product.  Their position must evolve along with our pressing need to control expenses. Supply chain executives belong at the table when the hospital makes its most important strategy decisions.

Over the next few weeks I'll explore with you what our hospitals can do to evolve and adapt to this new world by focusing on cost controls. We will discuss what it means to elevate supply chain executives to key roles. We will explore why you should invest in your supply chain to gain long-lasting benefits. We will look at the value analysis process and what senior executives can do to support materials management as they work to rein in the ever-inflating costs of clinical preference items.

I’m eager to host this learning series, and I hope you’ll participate in it with me.  I look forward to sharing my thoughts with you and hearing about yours in return. At any point, please give me your ideas on making the supply chain and cost reduction a strategic priority in healthcare. Also, if you have any stories about ways you’ve accomplished this in your organization, I would love to hear them.

Sincerely,

Mike Merwarth