News

Age-old inventory management ideas still break some new ground

by John Hall

It has been seven years since a groundbreaking study set materials management on its heels with the startling assertion that $11 billion could be saved in the healthcare supply chain if hospitals and their business partners conducted more efficient product movement, order management and information sharing. The study, known as the Efficient Healthcare Consumer Response (EHCR), was hailed by many as a watershed; it also generated new business for consultants, provided impetus for a spate of late-1990s dot-coms, spawned a number of important trends and gave birth to even more euphemisms, including “resource management” as the nom de plume for something materials managers had been doing all along.

While EHCR validated the assertions of many hospital supply experts, many materials management veterans regarded it as yet one more study with claims that looked better on paper than in practice.
To many, history has validated that opinion. In fact, many argue the hospital industry is in no better shape as a business than it was when the study was released in 1996. Today, approximately one-third of U.S. hospitals have negative operating margins. And by the end of 2004, nearly two-thirds of U.S. hospitals will still be losing money, according to the Healthcare Financial Management Association (HFMA). At the time of the EHCR study, total U.S. healthcare expenditures were $1.2 trillion, and supply costs were approximately $83 billion. Today, healthcare expenditures are more than $1.3 trillion and supply expenses exceed $125 billion, an increase of slightly more than 50 percent that would proportionately change the projected EHCR opportunity to approximately $16.5 billion.

“Today, the healthcare industry has made very little progress in capturing the $11 billion in process cost savings opportunities identified by EHCR,” HFMA noted in a 2002 report. HFMA asserted that while “healthcare institutions have done a reasonably good job in implementing solutions that address individual segments of the supply chain … they are lacking in technology and perspective in implementing solutions that target the entire supply chain.”

“Over the past decade, pressures from the government, payers and the public have forced the healthcare industry to take a hard look at its business practices and change — with visible results,” HFMA added in its report. “Hospitals and health systems have reallocated staff, reduced waste, streamlined processes, cut spending, and, in conjunction with group purchasing organizations, driven down product pricing. But, unfortunately, the pressures have continued and hospitals and health systems are left with a continuing dilemma — how to increase revenue and reduce costs while continuing to improve quality of care.”

One industry veteran, Lynn James Everard, has asserted that distributors bear the brunt of that failure. Hospitals, he says, have made tremendous strides in getting product pricing to a reasonable level. But today, according to Everard, “Hospital distributors have an opportunity to change the discussion from price to … the real cost of a product, which consists of the cost to buy it, stock it, manage it, distribute it (internally or externally), use it, bill for it, and collect for it.”

To their credit, however, most major healthcare distributors – including Richmond, VA-based McKesson Med-Surg, Cardinal Health, McGaw Park, IL, and Richmond-based Owens & Minor – today offer hospitals sophisticated inventory management programs (in innumerable variations of the stockless and just-in-time theme) with demonstrable success.

The EHCR authors hinged the success of many of their predictions on full scale adoption of a host of best practices and enabling technologies, including activity-based costing, the Health Identification Number (HIN) and Universal Product Number (UPN) identification standards, electronic data interchange, and bar coding. Today, the industry still struggles, debates and lags on these initiatives.

Untapped potential
That said, the EHCR study was a wake-up call for many hospital materials managers, many of whom have made remarkable strides toward improving their own internal supply chains. To some observers, however, one of the most fundamental opportunities for improvement – inventory management – still remains largely untapped.

How critical is inventory management? According to HFMA, a 3 percent reduction in supply inventories can result in as much as a $10 million reduction in operating expense for a typical 300-bed hospital with a $300 million supply budget.

“Many hospitals don’t have a clue about what’s in their inventory. You’d be surprised at the number of hospitals that don’t even book it,” said one prominent contract materials manager who asked to remain anonymous. “Many hospitals don’t book their inventory because they don’t want to take a hit. They do it for presumably sound reasons, including efforts to obtain financing for needed improvements.”

In general, many at the top levels in hospital administration don’t fully understand the dollars involved in inventory, and neglecting the task of managing those dollars only hurts hospitals in the long run, the manager said. “They can’t generate meaningful reports, capture patient charges, or validate whether they’re doing things efficiently from an inventory control standpoint. If you don’t have the data to back you up, you can’t present a compelling case for product conversion, better purchasing practices or standardization with your physicians.”

Supplies can consume as much as 25 percent of an organization’s operating budget, according to generally accepted estimates. Considering the total cost of hospital materials management, and adding labor and logistics to materials and equipment costs, that estimate can jump to 35 to 45 percent. In a white paper authored in July 2003, HealthLink Inc., a Houston-based health care IT consulting firm, noted that no other department, other than human resources, oversees 25 to 46 percent of a hospital’s expenses. “Unfortunately, many healthcare organizations have not recognized materials management as any more than a customer service/support department, rather that one of the remaining areas that can truly impact profitability,” the firm noted in its report.

Unofficial inventory – still the last frontier?
Years before EHCR, materials managers wrestled with ways to get inventory outside their domain – from surgical suites to labs – under control. Today, in spite of having infinitely better technology to help them do that, they still struggle with unofficial inventory, which tends to be kept in departmental depots, rather than central locations. A fear of running out of supplies contributes to overstocking, which raises the risk of product expiration and waste.

Experts view unofficial inventory in much the same way physicians view cholesterol as a silent killer. Bloated, un-booked inventories and their associated hidden costs can choke an institution’s cash flow.

In its April 2003 survey of hospital supply chain executives, HFMA identified control over unofficial inventory as among the top 10 strategies for successful supply chain management initiatives. That same survey revealed that 27 percent of total supply inventory at U.S. hospitals is unofficial. In fact, 13 percent of respondents indicated their unofficial inventories accounted for more than 50 percent of their institutions’ total inventory.

For unofficial inventory in the OR, arguably the biggest culprit, those numbers are even more compelling. The OR generates approximately 42 percent of a typical organization’s revenues, yet is probably one of the most underutilized (68 percent) areas, according to McKesson Corp. in a 2002 report it co-authored with the HFMA. Many of the inefficiencies can be traced to poor on-time case starts (which averaged a dismal 27 percent) in addition to poor resource and supply management.

In recent years, hospitals have slowly begun to implement automated systems that track and manage point-of-use OR inventories, allowing more accurate charge capture and better inventory control. These include bar code scanners and automated supply cabinets manufactured by companies such as Omnicell, Palo Alto, CA, and Pyxis, the San Diego-based Cardinal Health unit. HFMA’s survey found that while many hospitals are using such point-of-use systems, surprisingly few are fully utilizing them or making use of other automated inventory tracking tools.

“Some ORs have bought dispensing equipment to manage charges and inventory, but these are not always successful,” said Jack Anderson, a materials management veteran and president of Material Resources Inc., a Carolina Beach, NC-based consulting firm. “One hospital bought a pile of Pyxis units, stuffed their inventory into them, and then built a storeroom for back-up. The net result was an inventory increase.”

Anderson said his experience shows that “OR inventories are generally a mess. They are out of control and their value is unknown, but they represent a significant savings opportunity at most every hospital.”

Anderson said the typical hospital OR inventory is five to six times greater than that of a central storeroom. “Turnover is about two times a year, or 180 days on hand. Obsolescence and outdates are huge. Most often, not-for-profit hospitals only guess at their OR inventory value, and actual physical counts and valuations are rare.” Moreover, Anderson adds, there is little control over new items coming into the OR.

Many hospital ORs have scheduling systems that include inventory management tools, says Anderson. In many cases, this inventory capability is not used because preference cards take too long to set up and maintain and the protocols for identifying and correcting inventory variances are not in place. “OR scheduling systems were justified as being able to control and reduce inventory,” he said. “Once purchased, however, 95 percent of these hospitals don’t use the inventory module.”

Other industry officials don’t echo those sentiments, however.
“Ten years ago, most hospitals turned a blind eye toward clinical department-level inventory. The OR was viewed as a money-maker, so everyone thought it best to leave it alone,” said David Kaczmarek, another materials management veteran who is now vice president of The McFaul & Lyons Group, Horsham, PA.

Kaczmarek asserts that hospitals today are doing a better job of managing unofficial inventory because there is greater awareness among administrators and purchasing staff about the value of inventory control at the department level, and the impact that bloated inventory can have on their bottom line. Kaczmarek attributes some of the change to a maturing of the materials management profession. “When we started talking about resource management 10 years ago, we predicted every materials manager would begin looking at the kinds of charges going on in clinical departments. Supply chain awareness is greater now.

“We’ve made huge progress in convincing hospitals to book their OR inventory,” Kaczmarek adds. “We still don’t see a majority of hospitals managing their OR inventory, however. While automated supply cabinets can help, they tend to be more of an ordering mechanism than an inventory management mechanism.” On the other hand, Kaczmarek noted, supply cabinets can provide detailed usage information that can be used to fine-tune inventory levels, providing they are used correctly.

Sean Angert, vice president of supply chain performance improvement, at the hospital alliance Premier Inc., said a number of factors, including the shortage of skilled clinical personnel, have been pushing matters such as inventory management toward the top of many hospital agendas.

“The nursing shortage has made OR inventory management more critical than ever,” Angert said. “A lot of hospitals are looking for materials professionals to manage their clinical department inventories.” Angert said a substantial number of Premier hospitals are “re-focusing materials management and rationalizing how much time an inventory clerk needs to be manually counting $1,500 to $2,000 in supplies on a nursing unit, half of which are not chargeable, versus re-directing that clerk’s time to manage such areas as the cath lab and surgical services.”

Premier boasts of having the industry’s largest comparative database of supply chain costs for acute care hospitals, with more than 50 indicators measuring performance in cost, productivity, and operations. Using a tool called Supply Focus, the database benchmarks such things as inventory turns, “which have been increasing every year consistently in clinical departments in particular,” Angert said, adding he has seen a greater use of consignment and a sharper focus on inventory management and control over clinical inventory levels.”

An OR inventory success story
Executives such as William Stitt, director of material services for Reid Hospital and Healthcare Services, Richmond, IN, have succeeded in marshalling unofficial inventory through a potent combination of technology, relationship-building, and sheer will.

For years, Reid struggled with a huge inventory and a patchwork of solutions, none of which worked very well. “There wasn’t a lot of continuity in managing inventory across various departments,” Stitt said.

A year ago, Stitt created an inventory control coordinator position at the hospital to serve as a liaison between departments. The individual performs item masters, manages stock and non-stock inventory, assists with par levels; works with the storeroom to set min-max levels, and works with vendors in setting up new items.
“One of the biggest challenges we faced was obsolescence,” Stitt said. “The prevailing attitude was, ‘We may someday need that.’”

Stitt said his department also worked hard to develop a positive relationship with Reid’s OR department. “The inventory control coordinator spends a lot of time with surgery staff,” he said. “Historically, the OR was an island unto itself. Now, we do all of the surgery purchasing.”

In addition to implementing handheld bar code scanners to perform par levels, Stitt’s department worked with IT staff to implement a new facility-wide intranet system for ordering supplies. Today, OR and other staff use the system to review and order supplies. Reid’s value analysis team monitors and approves every request. Employing that strategy, Stitt and his staff have reduced the number of on-hand items by 20-25 percent, and lowered par levels on existing stock by another 20 percent. 

HPN

October
2003