Guest Commentary: ICD-10 Won’t Help on Cost Control

October 24, 2014

In a world where price matters, per-unit revenue must exceed per-unit costs for hospitals to be profitable.

That’s easier said than done. Charge codes describing treatment mechanics have expanded and become more precise. The proliferation of revenue-cycle consultants speaks to the complexity of codifying treatment activity.

Implementing ICD-10 in 2015 will complicate the challenge. AthenaHealth estimates there will be up to 69,000 diagnostic codes.

Here’s the elephant in the room. The gargantuan coding task supports revenue collection, not cost control. As long as the payment system reimburses for treatment activity and not treatment outcomes, doctors and hospitals must document the treatment process in excruciating detail.Given coding’s importance, it is not surprising that most hospitals account for costs in relation to charges. The formal name is RCC: “ratio of costs to charges.” This is the equivalent of driving a car from the back seat. The car is going in the right direction, but it’s all over the road.

A better but far-from-ideal model allocates costs to billable activities through relative-value unit, or RVU, metrics generated by finance departments. RVU mechanics are clear and use actual costs; however, they measure only hospital-based activity, frustrate clinicians who have little understanding of cost allocation and disconnect treatment prices from treatment costs.

Robert Kaplan, a Harvard Business School professor, pioneered the science of “time-driven, activity-based costing,” or TD-ABC, in the late 1980s. Kaplan’s methodology maps and measures resources required to produce products and services over full-activity cycles. TD-ABC is considered best practice in many industries.

TD-ABC is coming to healthcare. More than two dozen health systems have undertaken pilot projects. A leading healthcare analytics firm, Strata Decision Technology, advances hospitals’ cost-accounting capabilities through its data-driven product suite. Strata has extended its business platform to support TD-ABC adoption.

Fairview Health Services in Minnesota has employed process mapping and activity costing since the late 1990s. With Strata’s help, Fairview is moving to TD-ABC to enhance resource efficiency, optimize utilization over full-care cycles and support pricing transparency.

Healthcare cost-accounting systems are complex to design and daunting to implement. Best practice will evolve through experimentation and incremental improvement.

The late Supreme Court Justice Louis Brandeis once observed, “Sunlight is said to be the best of disinfectants.” Attributing costs accurately and transparently is essential to efficient operations, fair pricing and customer trust. Winning health companies will master cost accounting to meet market demands for better healthcare at lower prices.

David Johnson spent 28 years as an investment banker at Merrill Lynch, Citigroup and BMO Capital Markets before launching 4sight Health, a healthcare consulting firm.