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ASANTE TEACHING HOSPITAL: ACTIVITY-BASED COSTING Melissa Jean and Courtney Young wrote this case solely to provide matenal for class discussion. The authors do not intend to Mustrate either effective or ineffective handling of a managenal situation. The authors may have disguised certain names and omer identifying Information to protect confidentiality. This publication may not be transmitted, photocopied, digitized or otherwise reproduced in any form or by any means without the permission of the copyright holder. Reproduction of this material is not covered under authorization by any reproduction rights organization. To order copies of request permission to reproduce materials, contact Ivey Publishing, Ivey Business School, Westem University, London, Ontario, Canada, NGG ON1; (1) 519.661.3208; (e) cases@ivey.ca; www.heycases.com. Copyright @ 2016, Richard Ivey School of Business Foundation Version: 2016-09-14 In August 2015, Courtney Young had only two weeks left in her internship at Asante Teaching Hospital (Asante), a prestigious not-for-profit hospital in Johannesburg, South Africa, to organize the cost data she had gathered from staff interviews into clear recommendations for the chief executive officer (CEO). The hospital's maternity ward competitors had begun offering bundled pricing for natural births, and Young wondered if Asante should do the same. In order to calculate the costs of the service, Young planned to employ both activity-based and time-driven activity-based costing techniques. With this information, Young would be prepared to present the results of her analysis and recommendations for a pricing strategy to the CEO. ASANTE TEACHING HOSPITAL Asante had served its community for 40 years, and was the top-ranked hospital in the region for surgery, trauma, neonatal care, and teaching, as evidenced by its status as the official emergency facility for visiting presidents and prime ministers. Asante had 274 beds, employed 1,652 staff, and served over 22,000 patients each year with an annual budget of over R378 million. The hospital received 100 per cent of its funding from a private foundation, and was governed by a board of directors. Because Asante received no government support, patients paid for their services through a combination of insurance coverage and out-of-pocket payments. If patients were unable to afford services, they could apply for coverage under Asante's Patient Welfare Program. This program was jointly funded by the foundation, donations, and any hospital surpluses. The charitable mission of the foundation was to improve living conditions and opportunities for millions of people, without regard to race or religion. Despite Asante's not-for-profit status, it operated like a competitive enterprise whose revenue figure was comprised of cost recovery from patients and their insurers. As a not-for-profit organization, Asante's challenge was to extract maximum benefits for each dollar of annual funding from the foundation. Examples of these benefits included more doctors learning at a higher level, and advances in eye surgery that created greater benefit for those suffering from cataracts. Quantifying these metrics objectively (even soft ones such as "better") was an important part of the challenge for the organization.Asante's CEO was a chartered professional accountant, and was recruited in 2013 from a for-profit hospital in California, where he had earned a reputation for disciplined cost control. This skill set appealed to the board because it had the potential to broaden the number of positive patient outcomes through astute cost management. THE ENVIRONMENT Location Johannesburg had a population of 4.4 million in the city itself, 7.8 million including the metropolitan area, and 10.3 million with the outer suburbs and townships. The city's unusual history had left vast segments of rich and poor citizens, but growth in the middle class had been strong in the decades since the end of Apartheid." The city and townships were economically varied, but with an average gross domestic product of R249,900, " Johannesburg residents' wealth was higher than that of any other area in Africa. In particular, the city's middle class had grown rapidly, which meant that many residents could afford levels of health care their parents had never imagined. Although the buying power of Johannesburg residents had increased, only 20 per cent of South Africans had private health insurance coverage. Government spending on health care comprised less than half of total health expenditure. Approximately 70 per cent of all doctors and most specialists worked only in the private sector; the remaining 30 per cent served the public sector." A Competitive Landscape Competing hospitals in the region operated on a for-profit basis, so they were able to raise capital from investors to expand and earn profits from operations to pay dividends. By contrast, Asante's not-for-profit model meant that it needed to survive independently-any surplus from one department was used to offset care in another department. Competition was stiff in the health care industry, and as the population's wealth grew, so did the health care marketplace. Competitors generally offered cheaper services with fewer variations in price, but some argued that these organizations provided a lower quality of care and fewer perks in terms of comfort, such as enhanced privacy for mothers. The maternity ward pricing and services offered by competitors for natural births without complications varied across the city (see Exhibit 1). All but Johannesburg Hospital offered bundled pricing for labour with no complications. Hospitals in the best sections of the city tended to have the newest facilities and the highest prices. St. Luke's Hospital was housed in a modern building and was located in the affluent suburb of Sandton. In sharp contrast, Johannesburg Women's Hospital and Metro Hospital were located in low-income areas. All competitors except St. Luke's were configured for efficiency, with four patients per room, which rendered them less appealing to the growing demand for privacy among maternity ward patients. Privacy was a core driver of perceived luxury, and Asante was the only hospital that offered single rooms to patients for an additional fee.While Asante's higher prices could be justified by its premium level of care, insurance providers often scrutinized and debated its long bills before mothers could be discharged. These situations put significant financial strain on patients, undermining Asante's commitment to the best patient experience. INSURANCE COVERAGE The Patient Perspective Given the lack of government-sponsored health care, one of the first priorities of families ascending to a stable middle-class income level was the purchase (often through payroll deduction) of private health insurance. Like fire and auto insurance, health insurance required consumers to pay a steady monthly premium even if there were no claims. When an accident, fire, or illness did occur, policy holders were still responsible for some portion of the cost, often referred to as the deductible or out-of-pocket portion. This meant that patients, though insured, were still sensitive to price and were worried about unexpectedly high bills. Seventy per cent of Asante's patients were covered by private health insurance, which typically reimbursed the patients for up to 70 per cent of the cost of care received. The billing procedure at discharge could be overwhelming for new parents, who were often already nervous about their new baby. The Hospital Perspective Management had an ongoing struggle with insurance providers to receive full payment for Asante's premium level of care and patient comfort. Asante included every supply item on the invoice, which was one reason for Asante's lengthy patient bills. Insurance providers naturally appreciated low costs, but also preferred bundled pricing because of its simplicity. THE BILLING SYSTEM The existing invoicing system billed Asante's patients for the specific services and supplies used in their particular situation. Since patient needs varied widely (even beyond the simplistic distinction between "with complications" and "without complications"), expectant parents at Asante had no certainty regarding the cost of a birth. Prices at Asante ranged from R13,912 to R19,917 for a natural birth." These costs were broken down for the patients in dizzying detail upon final discharge, which could be overwhelming for some patients. Some new parents were forced to wait for hours at discharge while their bill was being meticulously compiled and vetted by the insurance providers. The stress of anticipation and the disappointment that their birth cost more than expected was often upsetting to parents, even when much of the cost was covered by insurance. Three broad categories of care were provided in the maternity ward, from no complications (Level 1) to most complications (Level 3). Complications could range from prolonged labour (Level 2 complication) to fetal distress (Level 3 complication) (see Exhibit 2). THE TASK Before the end of her internship, Young needed to recommend a pricing strategy for the natural birth maternity ward services at Asante. The options included a single bundled price for all natural birth deliveries, three bundled prices (for each of the three different levels of care), or the status quo.To begin her analysis, Young determined the total overhead of the maternity ward by identifying cost drivers and applying those drivers to the total hospital overhead costs (see Exhibit 3). Given her understanding of the operations, she believed that utilities, rent, housekeeping, laundry, information technology, and dining hall expenses would vary with the length of stay. With the extra time involved, she thought that the general and administrative expenditures would be driven by the amount of time the registration clerk used to process the patient's paperwork. Total staff costs for the maternity ward (see Exhibit 4) were based on employees working a standard 42- hour, five-day work week, taking an average of eight personal leave days and six sick days per year, and twelve days of holidays. Each employee participated in weekly training for an average of two hours per week. The only exceptions were residents who worked 80 hours per week, but were still entitled to the same number of personal leave days, sick days, holidays, and employee training. The chief financial officer indicated that benefits and taxes added an additional 23 per cent to these costs (see Exhibit 5). ACTION REQUIRED In order to finalize her pricing recommendation, Young needed to assign costs to each level, and also consider incorporating a markup to help the hospital cover any unexpected costs. She thought a 20 per cent markup would be reasonable. With this information, she would build her presentation to the CEO, which would include a review of the total costs for each level of delivery, as well as her pricing recommendation.EXHIBIT 1: MATERNITY WARD COMPETITOR INFORMATION Asante Johannesburg Johannesburg Metro St. Luke's Teaching Women's Hospital Hospital Hospital Hospital Hospital Average Days in 3 2 3 3 2 Ward Obstetrician Services Yes Yes No Yes No Paediatrician Services Yes Yes No Yes Yes Midwife No Yes Services Yes No Yes Baby Accommodation Yes Yes Yes No Yes Postnatal Care Yes No Yes Yes No Average Price 16,915 5,271* Not Available 7,906 13,177 Note: * Not a bundled price. Source: Company documents. EXHIBIT 2: SELECTED HOSPITAL INFORMATION Level 1 Level 2 Level 3 Average Days in Maternity Ward 3 3 4 Total Natural Birth Maternity Ward Patients 4,160 240 390 Total Maternity Ward Patients 11,975 Total Maternity Ward Square Feet 30,294 Total Hospital Square Feet 455,000 Note: Patient volumes shown as an annual total. Source: Company documents.EXHIBIT 3: TOTAL ANNUAL MATERNITY WARD OVERHEAD (IN R) Overhead Item Total Equipment Depreciation 363,672 General and Administrative 314,622 Insurance 233,991 Utilities 7,454,026 Rent 16,195,458 Housekeeping 206,241 Laundry 395,295 Information Technology 6,119,349 Dining Hall 856,684 Security 302,076 Groundskeeping 898,940 Marketing 105,412 Source: Company documents. EXHIBIT 4: ANNUAL SALARIES FOR MATERNITY WARD STAFF BY POSITION Position Salary OB/GYN-Total for Team of Three 35,403,451 Paediatrician-Total for Team of Four 23,477,139 Midwife/Nurse 114,557 Resident 231,841 Registration Clerk 9,092 Practical Nurse 7,122 Note: OB/GYN = Obstetrician/Gynecologist. Source: Company documents EXHIBIT 5: BREAKDOWN OF MATERNITY STAFF TIME PER DELIVERY (MINUTES) Position Level 1 Level 2 Level 3 OB/GYN 30 37 80 Paediatrician 43 55 71 Midwife/Nurse 1,422 1,422 1,600 Resident 225 240 412 Registration Clerk 43 43 60 Practical Nurse 99 99 110 Note: OB/GYN = Obstetrician/Gynecologist. Source: Company documents.Case Study: Asante Teaching Hospital: Activity-Based Costing Case Question{s): As Courtney Young, prepare a report to the CEO including the detailed cost analysis, pricing strategy, implementation guidelines and any other matters you see important. At minimum, your report must provide information: I. II. III. IV. V. VI. SWOT Analysis. Time-Driven activity-based costing analysis for each of the three levels of care for natural births in Asante's maternity ward Single bundled price for all three natural birth deliveries Bundled price for non-natural birth deliveries. Please state any assumptions you make. If you do not have any cost information, please make reasonable assumptions. Qualitative analysis of alternative pricing options. A clear reconnnendation(s) with action plan(s). Provide detailed gures and calculations to substantiate your