ANALYSIS OF HOSPITAL COSTS: A MANUAL FOR MANAGERS

1 ANALYSIS OF HOSPITAL COSTS: A MANUAL FOR MANAGERSbyDonald S. Shepard, Hodgkin, Anthony, 29, 1998 Institute for Health PolicyHeller SchoolBrandeis UniversityWaltham, MA 02254-9110 USAT elephone: 617-736-3975 Fax 617-716-3965E-mail: for theHealth Systems Development ProgramWorld Health OrganizationGeneva, SwitzerlandiiTable of ContentsACKNOWLEDGMENTSIVCHAPTER 1: of the Finding and ANALYSIS as Management Tools5 CHAPTER 2: COMPUTATION OF UNIT COSTS USING LINE-ITEM Define the Final Product of the Cost Define Cost Identify the Full Cost for Each Assignment of Inputs to Cost Allocation of All Costs to Final Cost Computing Unit Cost for Each Cost reporting Results33 CHAPTER 3: USING COST DATA TO IMPROVE MANAGEMENT OF ANINDIVIDUAL Cost Center or Department HOSPITAL HOSPITAL Revenues43 CHAPTER 4: USING COST DATA TO IMPROVE MANAGEMENT OF A Estimating Volumes in a HOSPITAL Allocation of a Budget among Applications to Improve HOSPITAL Refining the HOSPITAL s Role in the Health System55 REFERENCES581.

2 Methodology of cost analysis582. Country studies583. Other Studies60 APPENDIX I: TABLES FOR COMPUTING UNIT COST AT ' HOSPITAL X'62 APPENDIX II: STEP-DOWN ALLOCATION USING DIRECT COST66 APPENDIX III: EXAMPLES OF STUDY SUMMARY SHEETS69 APPENDIX IV. TABLE OF ANNUALIZATION FACTORS73 APPENDIX V. EXERCISES74ivACKNOWLEDGMENTSWe are indebted to many people for their generosity in providing us time, advice, knowledgeand relevant background documents. We particularly thank Joseph Kutzin, the WHO official whocommissioned this work, who gave us copies or leads on numerous relevant studies and invaluablefeedback on an earlier draft. We also thank Andrew Creese, Guy Carrin and Claudio Politi, both fromWHO/CIO, for their helpful comments on an earlier draft. We are grateful to the authors of severalstudies referenced throughout the document for making their work available to us.

3 Finally, we wish togratefully acknowledge financial support from the World Health Organization and contributors to itsspecial programs, namely the Danish International Development Agency (DANDIDA) and the for International Development (USAID). We benefited from field tests in Bangladesh and Zimbabwe coordinated by JamesKillingsworth and Tom Zigora and supported by WHO and the British Department of Finance forInternational 1: of the ManualAccording to a major World Bank study of public hospitals (Barnum and Kutzin, 1993), theshare of public sector health resources in developing countries consumed by hospitals ranges from 50to 80 percent. This MANUAL seeks to help MANAGERS make the best use of these resources. By betterunderstanding the costs of various activities, MANAGERS can improve the efficiency of various hospitaldepartments, as well as HOSPITAL systems as a whole.

4 Finally, the data can help national policy makersdecide which curative care is best delivered in hospitals, and to examine the tradeoffs among variouspreventive, primary curative, and secondary curative MANUAL is written for all officials involved with the management and funding of hospitals indeveloping and transitional economics. Thus, our target audience includes HOSPITAL MANAGERS (bothfinancial and programmatic), public sector MANAGERS at the district, regional and national levels of thehealth system, and persons responsible for non-profit and private HOSPITAL type of information available for cost ANALYSIS varies substantially across countries andhospitals, from extensive to rudimentary. Hospitals vary in the extent to which costs are allocated tospecific HOSPITAL departments, and the accuracy with which such allocations are recorded.

5 In light ofthis, we spell out alternative approaches wherever possible, and suggest what approaches can be takenwhen information is incompleteThis MANUAL provides a framework for both deriving and analyzing HOSPITAL costs. Chapter 2shows how to compute unit costs. Since often times data may be incomplete, the chapter also showshow cost allocations among cost centers can be imputed from staffing data or approximated from otheravailable information. Complementary information from each department can be obtained frominterviewing HOSPITAL personnel ( , staff time, wages, allowances, supplies, space occupied, andactivities performed), or from extracting data from management information systems or medicalrecords ( , amounts of care provided). Chapters 3 and 4 apply knowledge gained from the previouschapters by discussing ways in which cost data can be utilized at the level of the individual HOSPITAL (chapter 3) or the HOSPITAL system (chapter 4).

6 In many hospitals in developing countries, particularlysmaller ones, costs may not be reported at all by individual departments, or that reporting may be veryincomplete or arbitrary. Thus, chapter 4 shows how to compute unit costs when line item data arecompletely missing or not usable. Since MANAGERS of various units of the health system are concernedwith different parts of the health system, we expect that many readers will consult this manualselectively and concentrate only on the components that apply to them. The MANUAL has been used inand benefited from workshops in Bangladesh and Harare. Appendix V contains case studies based onthose workshops. We found that the workshop MANUAL proved a stimulating format for introducing thetopics in this MANUAL , and encouraging MANAGERS to think more broadly about strengthening theirinstitutions.

7 These case studies can be used to facilitate that Finding and ANALYSIS as Management ToolsIn both developing and industrialized countries, hospitals are viewed as vital and necessarycommunity resources that should be managed for the benefit of the community (Institute for HealthPolicy Studies, 1996; World Health Organization 1987, 1992; Van Lerberghe and Lafort 1990). As6such, HOSPITAL management has a responsibility to the community--to provide health care services thatthe community needs, at an acceptable level of quality, and at the least possible cost. Cost finding andanalysis can help departmental MANAGERS , HOSPITAL administrators, and policymakers to determine howwell their institutions meet these public finding and cost ANALYSIS are the technique of allocating direct and indirect costs asexplained in this MANUAL .

8 They are also the process of manipulating or rearranging the data orinformation in existing accounts in order to obtain the costs of services rendered by the HOSPITAL . Asfinancial management techniques, cost finding and ANALYSIS help to furnish the necessary data formaking more informed decisions concerning operations and infrastructure investments. If structuredaccurately, cost data can provide information on operational performance by cost center. Thisinformation can be compared to budgeted performance expectations in order to identify problem areasthat require immediate attention. These data give management the material to evaluate and modifyoperations if necessary. Moreover, knowledge of costs (both unit and total) can assists in planning forfuture budgets (as an indicator of efficiency) and to establish a schedule of charges for patient services.

9 A HOSPITAL cannot set rates and charges which are realistically related to costs unless the cost findingsystem accurately allocates both direct and indirect costs to the appropriate cost , cost finding and ANALYSIS are also of value to management in ensuring that costs do notexceed available revenues and subsidies. It is the best available technique for accomplishing 2: COMPUTATION OF UNIT COSTS USING LINE-ITEMEXPENDITURE DATATwo fundamental items of financial data needed by a HOSPITAL manager are allocated costs bycost center (a program or department within a HOSPITAL ) and the unit cost of HOSPITAL services. A unit ofhospital services may be as small as one meal, or as broad as an entire inpatient stay. This chapterexplains how to allocate costs by cost center and how to compute unit costs. To perform thesecalculations precisely, the HOSPITAL needs an accurate and comprehensive financial accounting system.

10 In many hospitals, however, existing accounting systems have gaps, such as excluding some costs orlacking the data to relate the costs to specific cost centers. In these cases, estimates are needed. Thischapter provides a number of suggestions for generating such approximations. It is organized based onseven steps for computing unit costs, a framework built on the procedures of the UNICEF MANUAL foranalysis of district health service costs and financing (Hanson and Gilson, 1996)1. The steps are:1. Define the final Define cost Identify the full cost for each Assign inputs to cost Allocate all costs to final cost Compute total and unit cost for each final cost Report leading the reader through this framework, we explain what data elements are needed, howdifferent cost items can be treated, and how costs can be computed in certain situations or cases.