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Chapter 3: Hospital profit margins
Hospital CEO survey series
In chapter three of our series, we explore why pressure on hospital profit margins is leading some health system CEOs to pursue new revenue streams. Find out how value-based payments intersect with margin concerns, why increasing volume may no longer help, and which strategies CEOs can consider to manage their margins moving forward.
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- Increasing volume may no longer be the answer to improving margins
- How do value-based payments intersect with margin concerns?
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Hospital profit margins, a top concern for health system CEOs
In the two years since we started our survey of US hospital and health system CEOs, improving financial performance and operating margins have climbed the list of concerns for CEOs, and these issues are now hovering near the top. With stagnating or declining hospital operating margins becoming more common, many health system CEOs are reassessing their current revenue streams. They are getting more innovative when it comes to when, where, and how to treat patients. Chapter three of the series—which is based on a survey of 20 hospital and health system CEOs—focuses on how CEOS are managing margin pressure and searching for new revenue streams.
What is the root cause of declining hospital operating margins? In addition to plummeting revenues and rising costs, the CEOs we surveyed attributed it to three main factors:
- Increased headcount costs
- Investments in clinical innovation
- Population health initiatives
Increasing volume may no longer be the answer to improving margins
Some CEOs say that the health care industry’s transition from volume- to value-based provider reimbursement models could be a hindrance to margins. Among trends that are challenging these hospital leaders to make do, or—in the case of value-based care—do more with less.
Here are some ways CEOs of hospitals and health systems are challenging the status quo and searching for new revenue streams:
- Many health systems are being urged and incentivized to treat patients outside hospital walls. To illustrate the impact, the proportion of revenue from inpatient services relative to outpatient services has fallen 18 percent since 1994.
- CEOs are pursuing new cost-cutting measures. Among these are developing new staffing models, shifting patients to outpatient services, and reducing administrative and supply costs.
- Health systems are looking for new revenue sources to offset rising costs. Competing for funding can be rigorous: For example, teaching and research hospitals are seeing less grant support. However, until this year, funding has not generally increased and inflation has eroded the value of some of these grants.
- Hospitals and health systems are also leveraging the revenue potential of developing a physician network. Some hospitals are looking to capitalize on their intellectual property (IP). Hospitals and health systems can work with employees to develop any number of innovations—medical devices, training videos, health information technology (HIT) tools, or patient safety solutions.
- Health systems are continuing to pursue growth through mergers and acquisitions (M&A). They are working to increase their physician networks, expand their geographic reach, and diversify their specialized offerings and talent. Such growth can assist with building clinically integrated networks and provide the scale needed to reduce costs.
“The margins of the health care delivery system are under fire. And if you looked at them against other businesses that have to survive, they are challenging, and they are not going in the right direction.”
—CEO of a large, faith-based health system
How do value-based payments intersect with margin concerns?
Many surveyed CEOs agree that population health management is the key to success under value-based payment models. CEOs also should consider the following approaches to improve margins:
- Increase system efficiencies beyond what is needed to be profitable. Many hospitals and health systems have reduced costs and increased efficiencies at the margins of their organizations, but long-term sustainability may require organizational restructuring.
- Operate as a consolidated system. Many health systems have grown through acquisition, and have not fully realized new efficiencies and synergies system-wide. Consolidating where appropriate and looking for synergies across the system can improve efficiency.
- Pursue or expand new revenue streams. Many forward-looking CEOs are pursuing revenues from new payers, selling IP, and launching philanthropic organizations.
- Diversify beyond the core hospital. As inpatient revenues decline, many CEOs are partnering or integrating physician practices, investing in outpatient services, step-down care, urgent care, etc.
- Improve revenue cycle systems. Despite upgrades to revenue cycle systems in recent years, many health systems are still leaving money on the table. They may be able to leverage scale and improve efficiency by reducing the number of supply chain vendors and non-critical employees.
“[W]e are looking at [if] we need to focus on partnering, merging, aligning, acquiring other health assets in the state to be able to get to more scale, drive down overall operating costs, and also have more access points and attractiveness for the consumer and—to be honest—a little more leverage with the insurers.”
—CEO of a large nonprofit health system