I get it. You’re a seasoned healthcare financial expert. You’re supposed to think of Ratio of Charge (RCC) costing as lazy and evil. To be clear, this is not an article designed to rise RCC from zero to hero, however, let’s not discount some of the benefits of getting started with a bare bones RCC cost model. Let’s look beyond the hype and have an honest and practical discussion about building your first cost model and why it’s okay to start with an RCC model.

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For those of your who subscribe to the Becker’s Hospital Review report you may notice that it is beginning to read like TMZ Entertainment News with article headings such as "Hospital CFO charged with vandalizing CEO's house". I can’t help but to theorize that a lot of this craziness is a result of a general burnout in healthcare, and an overwhelming fear about the political and public demands to decrease costs AND increase quality of care. Furthermore, if you believe everything you read, there seems to be no way to ease into a more advance costing model.  Ironic how expensive it is to figure out how to control your costs.

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If I just raised your blood pressure, I apologize. Now that we’ve stated the problem, we can move toward what can be done today to put a solution in place, and better position you to understand and manage the costs in your healthcare system.

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There are many ways to approach cost accounting in healthcare.  Some are certainly better than others. Yes, I absolutely agree that Activity Based Costing (ABC) is better than RCC in terms of actual decision making.  But, if you’re just getting started or if your current cost model is old and dusty, you have some legwork to do before you are ready to embark on building an ABC model.  Think of an RCC model as a petri dish where you can experiment with your data and work through preliminary issues in a controlled, inexpensive environment.

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As you become more advanced in your cost model development, you will discover that there are many ways to implement an ABC system.  Due to the trade-off between accuracy, availability of data, and the cost to implement, there is not a one-size-fits-all model that will work for every hospital. Even for a hospital that already has a viable cost model, what works today may need to be redesigned a year from now to accommodate for operational changes or the availability of improved data. But let’s not get ahead of ourselves! 

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An RCC model has the humble makings of your future advanced cost model and the truly meaningful profitability analysis you are seeking. An RCC model is the out of shape, yet motivated runner going out for the first of many early morning jogs. I’ll illustrate with a personal story:

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The other day, my step-daughter noticed a woman jogging and commented that the runner’s “form” was terrible. (This particular daughter is going to college next year on a cross-country scholarship, so she happens to know what she’s talking about.) Nonetheless, let’s put this in perspective: At least this woman is off the couch! Surely she’s progressed from where she started and with consistent and deliberate practice she will progress even further.

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So what’s better, the Netflix marathoner on the couch, theorizing about future optimal workouts, or the runner who is out there and working towards a better form? RCC is not the end game, but it can ignite the momentum toward more meaningful profitability reporting.

 

Here are the first six steps get your Service Line profitability reporting off the couch, using RCC cost modeling:

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1. A warm up, stretching out your data collection and analysis muscles. Always a great start! Begins the thought process on the team (internal and/or external) that will be necessary to gather and analyze financial, operational, and clinical data. Forces you to systematically gather, combine, and correlate your data in ways you may not have done before.

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2. Are your shoes on the right feet? Identification of which resources are in the wrong cost center or are shared resources. What are the differences between the home, paid, and working cost centers of your employees? What are your fixed assets by cost center and are they sitting in the right place in your General Ledger?

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3. Let’s go! Chargemaster Evaluation. What kind of services are you providing in each of your revenue-producing departments? The ChargeMaster may not give you a complete picture of all services provided, but it will give you a decent idea of patient care offerings by department.  What kind of things are you not charging for, but should be and are you charging for anything you shouldn’t be? There may be opportunities to standardize your ChargeMaster for a proper listing of services your hospital provides. A full ChargeMaster audit may be appropriate.

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4. Pace Yourself: General Ledger Evaluation. How does your Chart of Accounts look? Should better standards be put in place to organize your G/L accounts and departments to facilitate profitability benchmarking reports? How well are you matching revenues to expenses at the cost center level? There may be some data issues or reclasses to be performed either within your General Ledger or your Cost Model.

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5. It’s Easy! Let’s put one foot in front of the other:

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• Step 1: Multiply Price per Charge Code * Quantity for given time period. 

• Step 2: Divide the result for each Charge Code result from Step 1 to the Total Charges for that department to obtain your RCC % for each Charge Code.

• Step 3: Multiply the RCC % from Step 2 for each Charge Code * Total Costs for that department.

 

If you’ve done the math properly, then the sum total allocated cost for each charge code will be the same as the total costs you started out with for that department.

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6. It’s Hard! Feel the burn… This will be the beginning of your cost model transformation. Now that the math is done, it’s all for naught if you don’t take the opportunity to look at your results at the granular level. When costing by RCC, you will see things that will not make sense. Really think through why. Perhaps there is an expensive fixed asset that is not used for all types of patients. An RCC model will simply spread across all charges based on weighted charge amount, regardless of patient type or service type. In contrast, an ABC model could be configured to handle many such scenarios. You will find an RCC model will integrate your General Ledger and Clinical data in ways that enable you to think at a deeper level about resource consumption at your hospital. 

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All of the above must be addressed before any costing system is going to be useful to your hospital. Build your cost model one step at a time. Cost models are supposed to be iterative. For more information on the differences between the different types of cost models, you can read my healthcare costing white paper, “Achieving Clinical and Operational Excellence,” co-authored with Oracle’s Healthcare Division.   

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Here’s the bottom line: The ultimate goal should be to work toward an ABC system, but only at the level of detail that is sustainable by your hospital. RCC analysis offers direction and early momentum with low investment.

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Now is the time to take action. Put an hour on your calendar this week to look in detail at the General Ledger and Charges for just one high-impact department. I guarantee that you will learn something new and your hospital will be one step closer to more accurate service line profitability reporting.