The McKinsey Quarterly: 'Transforming US Hospitals'

By: Kurt D. Grote, Paul D. Mango, and Saumya S. Sutaria
Reviewed By: Abhas Gupta

This short article outlines preëmptive steps that hospitals can take to stave off competition and increase profits in the next decade. Before diving into the article, let's quickly outline the two basic approaches for revenue growth:

Increase margins
• Decrease operational costs (salaries, day-to-day expenses, etc.)
• Decrease supplier costs (medical devices, medical equipment, administered drugs, etc.)
• Lower malpractice insurance (improved service quality leads to decreased premiums)
• Increase reimbursement (the federal government is increasing reimbursements of top-performers thanks to an August '06 Executive Order)

Increase volume
• Capture larger market share (get more patients)
• Improve turnover rates in abundant service areas (many cardiologists have month-long waiting times for appointments; improving their turnover rates directly increases profits)
• Market directly to patients in consumer-driven services

One important caveat to hospitals increasing margins is that insurance companies would be inclined to reimburse less, so hospitals may actually have little incentive to improve on this front. Also, approaches to increase patient volume only apply to areas where competition for patients exists (urban hospitals, primarily). 'Transforming US Hospitals' identifies several best practices of hospitals around the country and predicts the changing landscape of the health care industry. The primary recommendations to hospitals include:

• Reorient operations along clinical-service lines -- these are essentially "focused factories" (see previous post), but are more applicable to a hospital setting. By dividing a hospital up into its clinical-service lines (diagnostic imaging, cardiology, orthopedics), management can more easily isolate low performers, adopt best practices within these divisions, and hold people accountable for poor performance


• Restructure relationships with physicians - physicians need incentive to modify their behavior for not just efficiency, but also costs (i.e. selecting cheaper devices, prescribing generic drugs, etc.). One important suggestion: give physicians lower than average base pay with performance pay "linked to metrics on quality, service, and cost"


• Commit to superior service and quality -- with increasing information about service and quality available to insurance companies and patients, hospitals will need to excel in order to attract more customers. Moreover, better quality service should result in lower malpractice insurance premiums


• Improve collection means - more and more medical services are being paid out-of-pocket each year; however, only 50-60% of patient charges are collected (compare this with 95% for the credit card industry). Hospitals need to either "learn from retailers about how to manage revenue cycles and improve collections" or partner with financial firms

As I mentioned in the first post, everyone in healthcare is looking for ways to cut costs. Physicians need to realize that performance-based pay is likely to become the standard compensation structure in the next decade. Therefore, it is imperative that physicians attain a basic knowledge of economic and management principles so they're not caught off guard. I will soon publish a series of posts entitled "Consulting Frameworks 101", so stay tuned.

This article can be accessed at McKinsey Health Care. Registration and subscription may be required.