Quality Healthcare

Grandview Medical Center is a 210-bed, not-for-profit, acute care hospital with a long- standing reputation for providing quality healthcare services to a growing service area.
Grandview Medical Center competes with three other hospitals in its metropolitan statistical area (MSA) – two not-for-profit and one for-profit. It is the smallest of the four but has traditionally been ranked highest in-patient satisfaction polls.
Hospitals are accredited by The Joint Commission, and independent, not-for-profit organization whose mission is to improve the safety and quality of healthcare provided to the public through accreditation and related services. Although accreditation is optional for hospitals, it is generally required to qualify for governmental (Medicare and Medicaid) reimbursement, and hence most hospitals apply for accreditation. Grandview Medical Center passed its latest Joint Commission survey with “flying colors,” receiving the Gold Seal of Approval from that accrediting body.
In recent years, competition among the four hospitals in Grandview’s service area has been keen but friendly. However, a large for-profit chain recently purchased the for-profit hospital, which has resulted in some anxiety among the managers of the other three hospitals because of the chain’s reputation for aggressively increasing market share in the markets they serve.
Relevant financial and operating data for Grandview Medical Center are contained in Exhibits 1.1 through 1.5, and selected industry data are contained in Exhibits 1.6 and 1.7. In addition to the data in the exhibits, the following information was extracted from the notes section of Grandview’s 2018 Annual Report.
1: A significant portion of the hospital’s net patient service revenue was generated by patients who are covered by Medicare, Medicaid, or other government programs or by various private plans, including managed care plans, that have contracts with the hospital that specify discounts from charges. In general, the proportional amount of deductions is similar between inpatients and outpatients. The gross and net patient service revenue and operating expenses breakdown for both inpatient and outpatient services is given in Exhibit 1.4.

2: Grandview has a contributory money accumulation (defined contribution) pension plan that covers substantially all of its employees. Participants can contribute up to 20 percent of earning to the pension plan. The hospital matches, on a dollar-for-dollar basis, employee contributions of up to 2 percent of wages and pays 50 cents on the dollar for contribution over 2 percent and up to 4 percent. Because the plan is defined contribution plan (as opposed to a defined benefit plan), Grandview has no unfunded pension liabilities. Pension expense was approximately
$0.543 million in 2016 and $0.588 million in 2018.

3: The hospital is a member of the State Hospital Trust Fund, under which it purchases professional liability insurance coverage for individual claims up to $1 million (subject to a deductible of $100,000 per claim). Grandview is self-insured for amounts above $1 million but less than $5 million. Any liability award in excess of $5 million is covered by a commercial liability policy; for example, the policy pays $2 million on a $7 million award. The hospital is currently involved in eight suits involving claims of various amounts that could ultimately be tried before juries. Although it is impossible to determine the exact potential liability in these claims, management does not believe that the settlement of these cases would have a material effect on the hospital’s financial position.
Assume that your management consulting group has been hired by Grandview Medical Center to perform a detailed analysis on the facility and then present your findings to the hospital board and the organization(when presenting to the entire organization, it cannot be assumed that everyone is financially savvy as your consulting group and the C-Level executives, so clear explanations and examples are needed). As your consulting group prepares for the presentation, several relevant factors come to light. First, in reviewing the policy decisions made by Grandview’s board of trustees over the past few years, in 2016 it was noted that the board
made the decision to significantly expand the hospital’s outpatient setting, and if Grandview Medical Center did not offer such services it would lose the patients to other providers.
Second, the board chair has great concern about the decline in profitability over the past few years and has not been assuaged by the recent modest upturn. Perhaps because she is a CEO of a local company, the chair focuses on return on equity (ROE) as the key measure of profitability. She has requested that management develop some strategies to improve profitability and estimate the impact of the strategies on the hospital’s ROE.
Third, the hospital CEO meet with your group to inquire about also performing an economic value-added analysis (EVA) on the hospital. The CEO stated that the overall cost of capital is 4 percent and requested that your group also discuss your findings, implications, and applicability of the EVA analysis to the hospital with the board and the entire organization.

EXHIBIT 1.1
Grandview Hospital: Statements of Operations (millions of dollars)

2016    2017    2018

Revenues
Net patient service revenue $30.57 $28.56 $42.65
Other revenue $1.24 $2.87 $3.56
Total revenues $31.81 $31.44 $46.21
Expenses
Salaries and wages $12.25 $12.47 $35.00
Fringe benefits $1.83 $2.41 $2.57
Interest expense $1.18 $1.60 $1.78
Depreciation $2.35 $2.66 $6.78
Medical supplies and drugs $0.62 $0.66 $0.78
Professional liability $0.14 $0.20 $0.22
Other $9.04 $10.34 $11.85
Total Expenses $27.40 $30.33 $58.96
Net Income 4.401 1.111 -12.754

EXHIBIT 1.2
Grandview Hospital: Balance Sheets (millions of dollars)

2016    2017    2018

Assets
Cash and investments $4.67 $5.07 $2.80
Accounts receivable (net) 4.359 5.674 12.413
Inventories 0.432 0.523 0.601
Other current assets 0.308 0.703 0.923
Total current assets
$9.77
$11.97
$16.73
Gross plant and equipment $47.79 $55.33 $70.55
Accumulated depreciation -11.82 -14.338 -17.009
Net plant and equipment $35.97 $41.00 $53.54
Total assets $45.74 $52.96 $70.28

Liabilities and Net Assets
Accounts
payable
$0.93
$1.25
$3.76
Accrued
expenses
1.46
1.503
4.176
Current portion of LT debt 0.11 1.341 1.465
Total current liabilities $2.50 $4.10 $9.40
Long-term debt 15.673 19.222 29.39
Net assets 27.567 29.645 31.51
Total liabilities and net
assets
$45.74
$52.96
$70.30

EXHIBIT 1.3
Grandview Hospital: Statements of Cash Flows (millions of dollars)

Cash Flows from Operating Activities 2017 2018
Net income $1.1 ($12.75)
Depreciation and noncash expenses 2.633 2.756
Change in accounts receivable
-1.315
4.739
Change in inventories -0.091 0.178
Change in other current
assets
-0.395
-0.22
Change in accounts
payable
0.325
0.507
Change in accrued expenses
0.043
-0.327
Net cash flow from operations $2.31 ($5.12)

Cash Flows from Investing Activities
Investment in plant and equipment ($7.69) ($15.33)

Cash Flows from Financing Activities
Change in long-term debt $3.55 $19.43
Change in current portion of long- term debt
$1.23
$2.12
Net cash flow from financing $4.78 $21.55
Net increase (decrease) in cash ($0.60) $1.10
Beginning cash $4.67 $5.07
Ending cash $4.08 $6.17

EXHIBIT 1.4
Grandview Hospital: Revenue and Expenses Allocation (millions of dollars)

2016    2017    2018

Operating Revenue
Gross inpatient service $26.117 $29.148 $33.216
Gross outpatient service $6.535 $9.130 $11.912
Gross patient service revenue $32.652 $38.278 $45.128

Contractual allowances
$1.729
$5.196
$7.516
Bad debt and charity care $2.127 $2.506 $3.030
Total revenue deductions $3.856 $7.702 $10.546
Net patient service revenue $28.796 $30.576 $34.582
Operating Expenses
Inpatient service $20.573 $22.229 $24.771
Outpatient service $6.831 $8.098 $9.187
Total operating expenses $27.404 $30.327 $33.958

EXHIBIT 1.5
2016
2017
2018
Grandview Hospital: Selected Operating Data
Medicare discharges
2,721
2,860
3,741
Total discharges 8,784 8,318 8,576
Outpatient visits 32,285 32,878 36,796
Licensed beds 210 210 210
Staffed beds 193 197 178
Patient days 44,085 42,434 40,062
All-payer case mix index
1.2869
1.2993
1.3161
Full-time equivalents 610.8 625.8 819.3

EXHIBIT 1.6 +Quartile Median -Quartile 2018

Selected Industry Financial Ratios (200-
299 beds)

Profitability Ratios

Liquidity Ratios
Current Ratio 2.53 1.99 1.48
Days cash on hand 32.35 15.89 6.24

Debt Management Ratios
Debt ratio 62.90% 48.40% 35.20%
Debt to equity ratio 127.00% 64.70% 26.90%
Times interest earned 4.29 2.23 1.14
Cash flow coverage 5.32 3.22 1.76

Asset Management Ratios

Other
Average age of plant (year) 8.86 7.39 6.14

a Deduction/Gross patient service revenue
b Total revenues/Current assets
c Current liabilities/[(Total expenses – Depreciation expense)/365]

Notes:
1 The upper quartile is based on the higher numerical value, regardless of whether a high value is good or bad. The interpretation is left to the analyst.

EXHIBIT 1.7 +Quartile Median -Quartile
2018 Selected
Industry Operating Ratios (200-299 beds)
Profit Indicator
a Profit per discharge $89.04 ($21.30) ($120.08)
b Profit per visit $6.22 $0.66 ($7.01)
Net Revenue Indicators
c Net revenue per discharge $4,091 $3,411 $2,815
d Net revenue per visit $201 $139 $98
e Medicare revenue percentage 43.47% 36.6’% 31.25%
f Bad debt/charity care percentage 7.89% 4.76’% 2.97%
g Contractual allowance percentage 25.27% 20.02% 12.12%
h Outpatient revenue percentage 25.26% 21.03% 17.44%
Volume Indicators
i Occupancy rate 67.12% 58.10% 47.84%
j Average daily census 173.23% 144.73% 114.39%
Length-of-Stay Indicators
k Average length of stay (days) 6.80 6.07 5.41
l Adjusted length of stay 6.48 5.36 4.52
Intensity-of-Service Indicators
m Expense per discharge $3,937 $3,392 $2,972
n Adjusted expense per discharge $3,417 $2,924 $2,572
o Expense per visit $202.23 $141.97 $111.53
p All-payer case mix index 1.2795 1.1756 1.0259
Efficiency Indicators
q FTEs per occupied bed 4.59 4.15 3.77
r Labor-hours per visit 4.68 5.84 8.66
Unit Cost Indicators
s Salary per FTE $24,447 $22,517 $20,347
t Employee benefits percentage 19.58% 17.04% 15.18%
u Liability expense per discharge $80.94 $42.05 $18.31

a
(Net inpatient revenue – Inpatient expenses)/Total discharges
b (Net outpatient revenue – Outpatient expenses)/Total visits

c Net inpatient revenue/Total
discharges
d Net outpatient revenue/Total visits
e Medicare net patient revenue/Total net patient revenue
f (Bed debt + Charity care)/Gross patient revenue
g Contractual allowances/Gross patient revenue
h Net outpatient revenue/Total net patient revenue
i Patient days/(Staffed beds X 365)
j Patient days/365
k Patient days/Total discharges
l Average length of stay/Case mix
index
m Inpatient expenses/Total discharges
n Expense per discharge/Case mix
index
o Outpatient expenses/Total visits
p Sum of DRG weights/Total
discharges
q Inpatient FTEs/Average daily census
r (Outpatient FTEs X 2,080)/Total
visits
s Total salaries/Total FTEs
t Fringe benefit expense/Total salaries
u Inpatient professional liability expense/Total discharges
DRG: Diagnosis-related group; FTE: full-time equivalent
Notes:
1
The upper quartile is based on the higher numerical value for the ratio and the lower quartile on the lower numerical value, regardless of whether a high value is good or bad. The interpretation is left to the analyst.