From the basement to the board room: How strategic is your supply chain organization?

As everyone who is familiar with hospital financials knows, supplies are the second largest operating expense for a health system, after labor costs.

Furthermore, due to growing pressures on costs, healthcare organizations have increasingly leveraged reductions in the costs of supplies, physician preference items and purchased services over the last 15 years.

Nonetheless, supply chain departments often remain undervalued within provider organizations. They literally tend to be housed in the basement of providers' facilities and have historically been viewed merely as order takers, processors of invoices, deliverers of products – all of which are important, but which fails to capitalize on the benefits that a well-functioning, progressive supply chain team provides.

A confluence of events have occurred within the last few years which require health systems to develop "strategic" supply chain organizations in order to succeed in the rapidly changing U.S. healthcare landscape. System integration, consolidation, geographic expansion, ongoing cost pressures, technology, innovation and care delivery model changes are just some of the factors making the operation of healthcare systems more complex than ever.

To remain competitive in today's environment, organizations now need supply chain talent with unique qualifications that were not necessary in the past. Advanced education, analytics acumen, the ability to bridge and build strategic relationships as well as a broadened big-picture perspective are core qualifications now required to succeed as a supply chain professional.

We see four broad industry-wide developments pushing the supply chain department to a more central position in the overall operations and capabilities of progressive health systems:
1.) Ongoing operating margin pressures on healthcare organizations
2.) Advent of big data and increased use of technology across business functions
3.) Supply chain emergence at intersection of cost, quality, and outcomes
4.) The shift to value-based payment

Ongoing downward price pressure on healthcare organizations
This trend is not new --cost pressure remains one of the top concerns for hospital administrators. In fact, hospital CEOs ranked financial challenges as the No. 1 issue facing their organizations in 2015, for the 12th year in a row, based on the responses of 338 CEOs polled by the American College of Healthcare Executives. With payment decreasing and an ongoing shift in volume from in-patient to outpatient visits, the ability to grow services revenue is contracting. Additionally, the growth in high-deductible health plans has resulted in some patients delaying or withholding medical care. As a result, hospitals must incessantly lower costs in order to remain viable.

In 2014, the average operating margin for a non-profit hospital was a paltry 2.6 percent, according to Moody's Investor. Modern Healthcare reported that hospitals have seen their average operating margin decrease from 3.6% to 3.1% (from 2012 to 2013). Additionally, 61.3% of organizations in Modern Healthcare's analysis had seen operating margins deteriorate year over year.

It should be noted that industry-wide margins seem to have rebounded somewhat in 2016, relative to the previous few years. According to a study released in 2016 by Moody's, operating margins have hit highs not seen in several years – due in large part to hospitals being able to control expenses. The median operating margin was up to 3.4 percent last year. Furthermore, in 2016 Moody's finally reversed its negative forecast for non-profit hospitals- a forecast that had been in place since 2008.

Increased deployment of technology
Technology is playing a greater and greater role in the delivery of care. The implementation of and integration with electronic health records (EHRs) and other healthcare business systems has occurred with the advent of meaningful use. Also, with the Affordable Care Act, there is increased emphasis on tracking and reporting patient outcomes. Thus, there is also a critical need for quality, normalized data so that leaders can make informed decisions in real time.

This increased deployment of and reliance on technology-enabled data within healthcare has implications for the supply chain as well. Competency with managing large amounts of data from disparate systems has become imperative for leading healthcare supply chains. Additionally, most advanced health systems are now able to establish correlations between clinical data and supply chain data.

Moreover, data infrastructure will be essential as health systems move further into the value-based payment model. Many of the currently available data solutions generate dashboards but are not sufficiently broad or technically capable. Analysis, reporting and mining requires access to disparate sets of data. The lack of integrated data from acute care, post-acute care and ambulatory providers is one of the major challenges that health systems are facing in making this transition.

At the highest level, providers need better information on procedure cost so they are more equipped to understand the complete cost to deliver quality patient outcomes. However, it remains difficult to obtain data in a manner that can be integrated into various systems, from the enterprise resource planning (ERP) and materials management information system (MMIS), to EHRs, billing systems, and product registries for clinical research.

Leading supply chain organizations are starting to look at the data already within their responsibility in an effort to establish processes around synthesizing that information and maintaining data integrity. These processes include deploying tools to cleanse the data before it can be integrated into actionable reporting. That's not a one-time event, but rather an ongoing maintenance process.

Fortunately, many supply chain teams are already capturing product data that is subsequently used for a variety of purposes (e.g. inventory management, analytics, etc.). They can use this knowledge and experience to help their organizations access the necessary data for important objectives, such as efficient patient cost-to-serve with the desired clinical outcome for quality patient care. Data management and analytic capability will continue to rise in importance for successful supply chain organizations moving forward.

Supply chain emergence at intersection of cost, quality, and outcome
The Cost, Quality, and Outcomes (CQO) Movement refers to the intersection of cost, quality, and outcomes, and a more holistic view of the correlation between cost (all costs associated with delivering patient care and supporting the care environment), quality (patient-centered care aimed at achieving the best possible clinical outcomes), and outcomes (financial reimbursement driven by outstanding clinical care at the appropriate costs) as opposed to viewing each independently. Launched in 2013 by the Association for Healthcare Resource & Materials Management, an affiliate of the American Hospital Association, the CQO movement is a strategic approach to managing the supply chain at the intersection of these three operational measurement categories.

In the recent past, supply chain organizations have generally become successful at overseeing and managing expenses for hospitals, including both the price paid for supplies and, to a lesser degree, the processes associated with the procure-to-pay cycle. In the evolving healthcare model, however, looking at supply chain costs alone is not enough. Hospitals and healthcare systems need to understand "total cost of ownership"– cost of supplies, cost of procedures, cost of delivered care, which are all dependent upon quality and outcomes, which in turn determine reimbursement levels. All of these must be taken into account, in order for the supply chain to deliver on its full potential to help healthcare delivery organizations succeed in this new healthcare landscape.

Under this new model, the intersection of cost, quality, and outcomes is where supply chain can most effectively help improve both the quality and the affordability of healthcare. Under the CQM model, the supply chain function will begin to take a more holistic view of the correlation between cost (all costs associated with delivering patient care and supporting the care environment), quality (patient-centered care aimed at achieving the best possible clinical outcomes) and outcomes (financial reimbursement driven by outstanding clinical care at the appropriate costs). As a result of this shift, the traditional supply chain function is beginning to be supplemented by the addition of clinical personnel, primarily nurses, to generate input for utilization management and product selection committees led by physicians. This integrated, cross-departmental approach will continue to emerge as supply chain's role in impacting overall provider results, both financial and clinical, continues to grow.

The shift to value-based payment
The seismic shift from fee-for-service to value-based payment models is dramatically impacting the whole US healthcare industry, and it has specific application to supply chain. The growth of bundled-payment arrangements is one reason hospitals and physicians increasingly are working together to lower the cost of implants and other supplies. That represents a big change from the past, since many physicians and surgeons traditionally have insisted on their own preferences for devices and other supplies without regard to cost.

Historically, even though many studies have shown little clinical variation between types of implants among leading suppliers, the challenges for hospitals to reduce costs for these high-priced implants were monumental. Physicians often develop preferences for certain devices or manufacturers during their medical residencies, and device makers and their representatives spend millions of dollars each year ensuring that those relationships are maintained through gifts, paid travel, consulting agreements and on-site technical assistance.

Now, for the first time, doctors are being pulled deeply into the value equation by their own financial interests. Under bundled payment, hospitals and physicians split any surplus, giving them a powerful joint incentive to not only coordinate care and improve quality, but also to manage supply costs to keep overall expenses low. If the surgeon and the hospital are using a very expensive device, or if they do not have a competitive cost for that device, they now have a common cause to work together to negotiate a better price. Numerous studies have shown that the implant cost can account for up to 40% of the total cost of a case.

Bundled payments create a powerful new dynamic that has the potential to break the stranglehold that device makers have had because it puts hospitals and physicians on the same financial page—achieving the best patient outcome for the lowest cost and making the biggest margin possible.

Given the wide variation in prices paid for implants by hospitals and the significant percentage that the implant itself consumes of the diagnostic related group (DRG) reimbursements for patients, it's natural that supply chain leaders have focused much of their attention here. But this is about more than just the cost of the implant itself. An increasing percentage of supply costs associated with orthopedic procedures can be attributed to use of peripheral products, such as cutting guides, antibiotic bone cement, pin guides for surgical navigation systems, disposable instruments and biologics. Additionally, it will be incumbent upon supply chain leaders to work collaboratively with clinicians and financial leaders to collect the data on the costs associated with the implant and other supplies used in patient care and, more importantly, to correlate that data with other factors related to the cost and quality of care in order to make the best sourcing decisions. Ultimately, success in payment bundling programs for high cost and/or high volume DRGs depends on decreasing clinical variation through standardization of supplies and initiation of care pathways.

Conclusion
The case for investing to develop a clinically-integrated, technology-enabled, strategic supply chain department is stronger than ever. Building a strong, cross-functionally integrated supply chain department can become a competitive advantage for health systems in their respective markets. By contrast, allowing your supply chain to remain mired in mediocrity is becoming more and more of a competitive disadvantage.

SIDEBAR: Here are a few questions to ask when evaluating whether or not your supply chain function has strategic capabilities?
1.) What is the senior supply chain leader's title (SVP, VP or Director)?
2.) Do all of the members of the supply chain department have college degrees?
3.) Do your physicians know what supply chain is, and are they engaged in the product selection process for clinical preference items?
4.) What percentage of your orders are electronic versus manual?

The views, opinions and positions expressed within these guest posts are those of the author alone and do not represent those of Becker's Hospital Review/Becker's Healthcare. The accuracy, completeness and validity of any statements made within this article are not guaranteed. We accept no liability for any errors, omissions or representations. The copyright of this content belongs to the author and any liability with regards to infringement of intellectual property rights remains with them.

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