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1 ALHP 415 Case 1 Instructions This is the first of two cases for the class. Its intended to help you review the concepts weve talked about in class and to help you see how these could be applied in a real world setting. You are welcome to use your books, notes and other resources to complete the case. Your responses will be graded based on the accuracy of your answers, the work you did to arrive at those answers, and the clarity of your explanations. Read over your answers before you turn them in to make sure they make sense and to check for bad grammar or unclear writing. You should work in your assigned groups to complete the case. If you absolutely cannot be in class to complete the case with your group, you will need to complete it on your own. If someone from your group is not in class, the group members who are in class should complete the case together. One person from each group should submit a copy of the case with the names of everyone who worked on the case. If someone was absent and did not work on the case with your group, do not include their name one your submission. Please turn in a word file with your written answers and an excel file that shows your calculations. Please submit these in Canvas. The scenario You work for a hospital thats starting its budgeting process for next year. Unfortunately, theres been a lot of turnover in the finance and management departments so no one at the organization is really sure how to go about creating the next years budget. When the COO (chief operating officer) realizes that youve had high-quality training in the field of health care finance, she enlists your help in creating a new budget. Projecting revenue The first thing you have to do is project hospital revenue. A helpful intern has collected information (and listed it for you under the heading volume in an excel worksheet). Unfortunately, while the intern knows a great deal about accounting he doesnt know much about health care and he cant tell you how to forecast the revenue numbers you need. Hes compiled a lot of information including the average price or gross charge for a day of care, the average price or gross charge for a discharged patient and the average price or gross charge for an outpatient procedure. You know that revenue is equal to the number of services you provided times the amount of money you get for each of those services. To estimate the amount of money the hospital receives for each service the intern has found the average amount the hospital is paid for each day of care it provides, and the average amount it receives for each discharged patient.

2 1. If the hospital is reimbursed based on DRGs, which average reimbursement amount (per day or per discharge) is more useful in forecasting hospital revenue? You notice that the average reimbursement rates your intern has provided you are the gross charges from the hospitals chargemaster document. Your intern suggests using these as the prices to multiply time volume to project revenue. 2. Think about whether this is a reasonable way to forecast the actual amount of revenue the hospital will receive. If it isnt (nudge nudge), what additional information would help you project the revenue the hospital actually expects to collect? 3. Use the relevant information from the volume and revenue assumptions to forecast budgeted revenue in the Projected Income Statement (P&L) portion of the spreadsheet. Youre considering ways to make your revenue forecasts even more accurate next year (not in this exercise). Youre considering breaking your volume and pricing information down into subcategories to get even more accurate revenue forecasts. 4. To improve your forecast accuracy, what categories could you ask your intern to use in dividing volume and prices? (Think about what factors, other than volume, determine a hospitals revenue.) 5. Aside from the budgeting work hes doing for you, your intern is also doing some budgeting work for a physician practice. He mentions that hes seen a lot of codes he doesnt really understand in his work there, including ICD-10 codes and CPT codes. He asks which one of these affect a practices revenue and what information each code tells him. Whats the right answer to his question? Projecting expenses Your intern supplies you with a list of expenses, broken down by hospital department. There are three departments in the hospital. The inpatient department is responsible for caring for patients who need one or more days of care in the hospital. The outpatient department is responsible for caring for patients who receive a procedure then go home the same day. The central management department includes expenses for the hospitals management team as well as all of the hospitals building expenses. This department doesnt earn revenue.

3 You ask the intern for more information about how he came up with these numbers. He tells you that because staff are hard to find, you offer employees set hours and dont send them home early, or take them off the schedule if you have fewer patients than expected. Contracted services include vendors providing services like the cafeteria and environmental services. The hospital has outsourced these to other companies and pays a set rate for these services every year. You ask about the supplies and medication expenses and learn that these are average amounts used, and that the prices you pay to purchase medications and supplies from vendors are constant and you dont qualify for any kind of volume discount but that these costs clearly increase as you treat more patients. The budget for central management expenses stays relatively consistent from year to year regardless of fluctuations in the number of patients treated. 6. Which of the expense categories are variable? 7. Project budgeted expenses in the Projected Income Statement (P&L) at the bottom of the spreadsheet 8. Now that you have projected both revenue and expenses, completed the Projected Income Statement. Whats the budgeted profit for the year? Examining department expenses You have separate managers for the inpatient and outpatient departments, and youd like to be able to give each manager separate information about their departments performance throughout the year. Since both these departments earn revenue you want to see how profitable each is. You realize that to do this youll need to break the budget for the entire organization into budgets for each department. Using the template on the second worksheet Expenses by dept list out the revenue and expenses from each of those departments. You can copy the amounts from the budget worksheet and use the paste special- values command to paste to make things easier. 9. When you total up the expenses for the inpatient and outpatient departments, are these equal to the hospitals total expense number (the one you found on the first worksheet)? 10. If they arent equal, whats been left out? (If they are equal, you might want to look at your answers again.) You realize that to get the full cost of the inpatient and outpatient departments, you also need to divide up the cost of the central management department between both other departments. And this makes sense to you (I hope!) because the central management department does things that the other two department needs like pay for and maintain facilities and equipment, and employ a management team (CEO, COO, etc.). So some of the central management costs are necessary for the other two

4 departments to function and should be included in the departments costs when you are calculating departmental profits. 11. What is the word that describes costs, like the central management costs, that are shared between multiple departments? 12. What is the term for dividing up the cost of shared resources, and assigning that cost to different products or departments? You decide, based on the number of employees in each department, to assign 60% of the central management costs to the inpatient department and 40% of the central management costs to the outpatient department. 13. Add lines to the inpatient department budget and outpatient department budget so you can add in the costs of central management and to get updated net income numbers for each department. Volume planning The manager of the outpatient department comes to you for advice. The outpatient department is currently considering offering procedures to a new insurer. The new insurer has many insured individuals in the hospitals market so accepting the contract would increase the number of procedures done. But the insurer has been unwilling to offer rates that match the reimbursement the outpatient department currently receives for its services. You start trying to analyze the situation by calculating the average cost per procedure for the outpatient department. You can calculate this using the volume information from the budget and the expenses youve assigned to the outpatient department. 14. What is the average cost for one outpatient procedure at the current level of volume (you can use the Current cost per procedure template on excel worksheet to help you here). 15. You think that the contract with the new insurer may bring in an additional 1,000 outpatient procedures. You have capacity in the outpatient department to do these additional procedures without hiring more staff or expanding facilities or equipment. If you accept the contract and get the additional 1,000 patients, what will your cost per outpatient procedure be? (You can use the cost per procedure with 1,000 additional procedures template on the excel worksheet to help you figure this out. Be sure to keep in mind that some costs are fixed and some are variable, and to include the costs you identified in question 13). 16. Why did the cost per procedure go down?

5 17. The insurers contract would pay you only $350 per outpatient procedure. You want to find out how the outpatient departments profits would change if you accept the contract. You know what your expenses would be if you accepted the contract (you had to estimate the expenses for the outpatient department to answer #15). You can easily find how much additional revenue youll earn if you accept the contract (because you know the price and additional volume). If you accept the contract, what will the net income for the outpatient department be. Is this greater or less than your profits would be if you reject the contract? 18. Your managers are surprised to learn that taking the contract increases profits even though the price is lower than the average cost per procedure. They ask you, What is the lowest price you can contract to do an additional procedure for without losing money (i.e. having a contribution margin below zero). What is it? Using the budget for performance monitoring Since you put together the initial budget a few of the budgeting assumptions have changed. Eventually, all of these changes were incorporated into the budget approved by the organizations board. Its now a year later and the budget you created, as well as actual results, are presented in the worksheet thats aptly named budgeted vs. actual results. 19. Using the budgeted P&L as well as the P&L with actual results, find the profit, revenue and expense variances the hospital experienced last year. (You only need to do these for the P&L, not the rest of the budget.) 20. Which is more responsible for the variance between budgeted and actual profits? Revenue or expense variances?