Primer on Avoidable Costs

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Every health care institution needs to reduce avoidable costs.

These days, every health care provider needs to focus on reducing avoidable costs—not just health system operating expenses, but the total cost to payers—even if risk-based reimbursement contracts are not on the horizon.

Here's why.

  • As the American population ages, patients will be sicker, more likely to be Medicare/Medicaid beneficiaries, and more likely to receive medical care rather than surgical procedures. That means hospitals can expect an influx of comparatively unprofitable cases, unless patients are managed better outside the hospital than they are today.
  • Value-based purchasing programs, which affect the entire health care industry, in part reward institutions for how well they reduce avoidable spending.
  • It can take years to become skillful at managing avoidable costs in populations, so even if providers are not early adopters of capitated or shared-savings models, they should start building their population cost-management competencies now.

Avoiding health care costs doesn’t have to mean reducing
profits—even in fee-for-service economics.

Until health care providers are paid for the total cost of care, the financial incentives for reducing utilization are mixed. Substituting physical therapy for a joint replacement procedure means lower payments to doctors and hospitals, for instance.

But for populations already being managed, such as health system employees, cost avoidance has a direct financial benefit. Likewise, interventions that reduce low-profit medical inpatient admissions can be economically rewarding. And Medicare’s value-based purchasing programs also offer incentives for reducing preventable admissions.

Compare your population’s health care spending to avoidable cost benchmarks to figure out where you should focus.

The best way to identify populations and conditions with the biggest cost-reduction opportunities is to look at avoidable cost benchmarks: rates of utilization and spending for specific health care services in comparable well-managed populations.

Other ways to identify avoidable costs have some disadvantages. The patients with the highest costs don’t always have the highest avoidable costs, nor do they necessarily continue to have high costs in the future. Similarly, looking at how utilization varies person-by-person only tells you that variation exists, not why the variation is happening. To understand the reasons for the variation, you need to benchmark the use of specific health care services.

Your population can almost certainly spend less on inpatient medical admissions, outpatient surgery, and prescription drugs.

In our work with hospitals and health systems through the Crimson Population Risk Management analytics initiative, we have found that inpatient medical admissions, outpatient surgery, and prescription drugs consistently rank among the top cost-avoidance opportunities. The Crimson Population Risk Management cohort includes 50 institutions in 17 states, representing 700,000 covered lives (predominantly health system employees, and their dependents).

When you’re searching for avoidable costs, be sure to slice your data by payer type. For example, while ED use is a distant fifth among avoidable cost drivers in the overall population, ED use is the second biggest area of avoidable costs for Medicaid enrollees.

Scrutinize under-spending as well as overspending.

To reduce overall health care costs, it is as important to fund the right interventions as it is to reduce unnecessary utilization. Milliman MedInsights, which supplies the benchmarks for Crimson Population Risk Management, found that “well-managed” populations have more spending on immunization, physical exams, and preventive screenings than “loosely managed” populations, yet their overall health care spending is substantially lower.

Be realistic about which avoidable costs you can tackle, and when.

As you build your population health management infrastructure, be aware that just because you have identified areas of avoidable cost does not mean that you are ready to address them. Consider not only your organizational readiness to tackle the avoidable costs, but also the investment required and the financial return to the institution if you succeed.

Your new key competencies: provider engagement, care management, and plan management.

To manage avoidable costs, providers will need capabilities few have mastered today, including functions typically associated with payers.

For one thing, providers will need to be able to engage other health care providers effectively in collaborative initiatives: a familiar challenge, but a challenge nonetheless.

Reducing avoidable costs will also require care management competencies, such as patient-centered medical home programs—delivering and coordinating care across time and locations.

Ultimately, providers will need to go even further, adopting insurance-based cost control levers such as utilization management and value-based benefit design. These functions require skills completely different from caring for patients or operating a health care facility, and require a new business model—one that’s more like an insurance company than a provider of health care services.

Prepare to transform care, not just reduce it.

To thrive under total-cost accountability, health care providers will need to not just reduce utilization, but transform it: helping patients make the best choices about what types of care they get. In some cases, this means promoting lower-cost care settings: home health instead of skilled nursing facilities, for example. In other cases, patients (and the system as a whole) would be better off from a less-intensive intervention, such as physical therapy rather than surgery.

Care transformation will require tremendous management effort and major cultural upheaval, but the results will be worth it—more effective, less intensive, more responsible care for our patients and our communities.


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