Ensuring Cost-Effective Facility Solutions

Mark E. Grube, Managing Director, and James Medendorp, Vice President, Kaufman, Hall & Associates, Inc.

Kaufman Hall greatly appreciates the assistance of Jones Lang LaSalle (Chicago), and Ted Spicer (ted.spicer@am.jll.com), a Managing Director in the firm’s Healthcare Solutions vertical, who helped develop the Case Example at the end of this paper.

IntroductionDriven by unsustainable costs, U.S. healthcare must become more efficient, effective, accessible, and affordable. A new business model, based on value rather than volume, will demand much lower healthcare costs. At the same time, hospitals and health systems will face revenue challenges. Inpatient utilization has been flattening or falling during much of the last decade nationwide. Such declines are compounded by flat or decreasing payments and by new competitors, which in many markets are rapidly encroaching on hospitals’ low-intensity services in emergency departments, outpatient centers, and physician offices.

Current trends represent a significant shift from the past 20 years, when the industry centered largely on the hospital, and organizational leaders focused on building volume and expanding capacity. Many health systems formed during this time through aggregation strategies. They added hospitals that duplicated services within or in adjacent communities because fee-for-service payment encouraged volume growth and an ever-increasing need for beds, equipment, and services. As a result, many organizations now are operating with outsized service delivery systems that are over-invested in inpatient capacity and under-invested in primary and ambulatory care.

To ensure long-term sustainability, hospitals and health systems will need to focus on providing services in community-based outpatient and home settings. Pursuing additional bed towers, and maintaining unneeded inpatient and costly hospital-based ancillary services may no longer be a viable strategy for many organizations.

Most hospitals and health systems face a significant capital gap to meet the requirements for the new ambulatory delivery system. Cost-effective facility solutions are critical, as brick-and-mortar structures often represent organizations’ largest capital investments, and therefore the largest potential savings opportunities.

This paper discusses key strategies that hospitals and health systems can employ to address their facility-related challenges, and explores how a health system is using one such strategy—outsourced facilities management—to ensure cost-effective facilities.

A Strategic Approach to FacilitiesTo succeed in today’s healthcare environment, hospital and health system delivery networks will need to be highly efficient. Network reconfiguration is a broad and complex task that may take a number of years to fully implement (Figure 1). A “blueprint” that provides clear

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guidance of the changes to be made, their interdependencies, the sequence of changes, and the potential challenges can guide the process.

The blueprint should be based on a comprehensive integrated strategic financial plan,1 which in turn aids in the development of an effective facilities plan. The integrated planning approach bridges finance, strategy, clinical operations, and management. It provides a clear picture of the organization’s current financial and capital position and likely trajectory over the next five to 10 years.

Organizations should do an intensive analysis of their current operations and service distribution systems, traditional and nontraditional competitors, and payer and purchaser demands, and compare them to future needs. As part of this process, they will need to evaluate their portfolio of businesses, services, and facilities, identify core and non-core functions, and reassess where capital should be directed moving forward.

An iterative process will help hospital and health system leaders quantify the gaps between current resources and future needs, and the potential impact of identified operating pressures. It also will help them reexamine existing initiatives and identify potential cost-restructuring strategies, and provide a framework for rigorously testing alternative initiatives or groups of initiatives to pinpoint the best portfolio of strategies. Careful planning matches the results of these analyses with the appropriate scope, scale, and location of services and facilities going forward.

Organizations may choose to pursue one or more of the following facility strategies: • Facility-related capital avoidance and reductions • Divesting/closing unneeded capacity • Retrofitting current capacity to accommodate needed future capacity • Reducing ongoing facility-related operating costs • Outsourcing of facilities management

The following sections describe each of these strategies.

© Copyright 2014 by Kaufman, Hall & Associates, Inc.

Figure 1. The Network Reconfiguration ProcessSource: Kaufman, Hall and Associates, Inc.

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45Strategic Goals

Current

Assessment

Future State Gap

Analysis

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Prioritization

• Identification of initiatives and roles for various service sites within the system• Development of a multiyear implementation plan

• Identification of gaps between current service distribution, portfolio, and goals

• Objective assessment of current services, performance, and competitive positioning

• Tangible near- and long-term objectives to drive planning

• Planning framework for decision making

Point of View and

Guiding Principles

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Facility-Related Capital Avoidance and ReductionsThrough comprehensive service distribution planning, healthcare leaders map how functions are spread across the organization’s service area, and clearly define those services and businesses that are core to the overall mission at each location. An accompanying facilities plan often reveals unnecessary duplication of services. Thorough planning ensures there is an appropriate level of care at each location, and that assets are used to the greatest extent possible. Projections indicate what facilities will be needed in the near and more distant future.

For example, an integrated delivery system with four independent affiliated hospitals recently agreed to refine its service distribution network. The goal was to develop a service line strategy across a large regional area that would reduce capital expenditures and optimize the system’s success as an accountable care organization.

As one component of the plan, the system designed a regional plan for cardiac services. Routine interventional procedures such as percutaneous coronary interventions, stents, and cardiac electrophysiology will be moved out of the system’s large academic medical center to smaller community hospitals that can provide them at lower cost. Cardiac surgeries, meanwhile, will be centralized at the academic medical center where higher volume helps to ensure that high-quality care can be provided, and the smaller hospitals no longer will have to support those higher-level services.

By focusing functions in the most appropriate sites, the system will avoid having to maintain all levels of services at each hospital. The system is projected to achieve $5 million in annual operating savings from these initiatives.

Divesture/Closure of Unneeded CapacityIn the event that an organization identifies facilities that are (or soon will be) unneeded or underutilized, leaders may opt to close them and divest of the property, if possible. Selling the property can bring in added capital. In either case, the organization would realize significant savings by eliminating maintenance, utility, and operational expenses.

For instance, a $3 billion regional health system with five hospitals sought to optimize the distribution of inpatient and ambulatory services across its metropolitan market. Through a structured planning process, the system’s leaders decided to eliminate service duplication by closing neonatal intensive care units and obstetrics programs at two facilities and merging them with existing programs at a third location. The system also consolidated two destination inpatient cancer programs located within five miles of each other. These and other initiatives have helped the system avoid $150 million of spending to-date. An additional $30 million to $50 million in annual operating savings has been identified.

Another example involves a community hospital that evaluates whether to make major renovations to an inpatient wing built in the 1960s. Utilization trends indicate that the space will not be needed within the next three to five years. Rather than upgrade the facility, leadership may decide to do minimal work to keep the space functional for the short term, with the plan of closing and de-molishing it in the near future.

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Retrofitting of Current Capacity to Needed Future CapacityAlternatively, that same community hospital may consider converting the wing to another function, such as an outpatient facility with amenities including a larger waiting area and more ingress/egress accessibility. By converting existing space to accommodate needed future capacity, organizations can maximize use of their facilities and save on the costs of purchasing or building a new structure.

For example, leadership of a regional hospital that has 10 operating rooms, but will need only eight of these going forward, may renovate and convert the 10 rooms into eight larger rooms to allow for more types of procedures and more room for equipment and clinical teams.

Reduction of Ongoing Facility-Related Operating CostsAnother strategy involves increasing operating efficiencies to ensure that existing facilities are used to their maximum capacity. For example, a hospital with semiprivate patient rooms may want to convert to private rooms, but lack the capital for an extensive renovation of two patient floors. Instead, management should examine occupancy patterns, including by day of week and month of year. Space on the first floor may be viable as private rooms the majority of the time. Such a plan would allow them to close the second inpatient floor to reduce expenses.

Outsourcing of Facilities ManagementGiven the increasing pressure to adapt service delivery to provide greater value faster to patients and other stakeholders, health systems can look to external experts to deliver services that, while important, are not core to the organization’s mission. Traditionally referred to as “outsourcing,” this final strategy of integrated support services includes facilities management, real estate, capital/project management, clinical engineering, dietary services, and environmental services. All facilities in an organization’s portfolio can be considered, including acute care hospitals, ambulatory or surgical sites, medical offices, clinical space, laboratories, and physician offices.

Comprising a significant portion of an organization’s assets and expenses, such real estate represents significant cost reduction opportunities for hospitals and health systems. Any organization can benefit from having a rigorous facilities management process. However, many do not have the capacity or expertise in-house. Exploring opportunities with outside firms that have specific expertise in integrated facilities management can help organizations significantly lower their facility cost structure through five means:• Property management: optimizing the management performance

of real estate assets through initiatives to maximize efficiencies, increase revenues, improve occupancy, accelerate appreciation, and other strategies

• Management of building and plant operations: overseeing building functions such as maintenance and engineering, and implementing strategies to reduce energy consumption

• Real estate administration: centralizing and managing administration of leased properties

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• Strategic sourcing: reducing costs and maximizing performance associated with vendor and service contracts

• Performance contracting: managing contracts with outside experts aimed at maximizing facilities performance, such as heating and cooling system specialists

While other industries have outsourced real estate and facilities management for decades, it is a relatively new strategy in healthcare. Many organizations could benefit from a close evaluation to determine whether they really need to own or manage all of the properties in their portfolio. Commonly outsourced functions are those that are not central to an organization’s business model, and standardized or commoditized services. Hospitals and health systems that may particularly benefit from such an approach include those with facilities with unrealized value that are located in strong, dynamic markets (Figure 2).

Benefitting from Best PracticesThe strategies employed by facilities management firms should be founded in best practices, and firms should offer services and levels of assistance based on an organization’s unique and specific needs.

Hospitals traditionally have maintained facility functions largely internally, and brought in outside consultants as needed to advise on or provide planning related to specific assets or service needs, such as ventilation or plumbing systems. When an organization hires a facilities management firm, such services typically are included as part of the agreement. Many firms also will assume management of personnel and provide additional professional training for staff.

What Can Be Achieved? A Case Example Faced with mounting costs and declining revenues, a $2+ billion regional health system with multiple hospitals hired a national facilities management firm to provide facilities-related functions. The system has nearly 2,000 beds, 15,000 full-time equivalent employees, and more than 3,000 physicians. The firm, which has

a multi-year contract with the system, oversees management of the health system’s engineering, biomedical equipment, design and construction, and vendor and sourcing contract services.

In total, the firm manages a nearly 10 million square-foot portfolio for the health system and oversees 150 employees associated with facilities management who handle everything from grounds maintenance to building operations for its owned and leased facilities. The firm has helped the health system achieve $35 million in savings from 2011 to 2013 (Figure 3).

The following sections summarize some of the initiatives and results realized to date.

Project ManagementThe health system spends about $100 million annually on project management, and has 30 employees providing related functions such as interior design and facilities planning.

As an example, the facilities management firm is helping to negotiate the development for commercial use of a piece of unused property owned by the health system. The system does not want to sell the land, but will not need it for additional capacity for many years. Leasing the land to an outside real estate developer in the interim will help the organization capture new revenues from the property, rather than continuing to simply incur maintenance costs. To date, such initiatives have led to nearly a 100 percent development of formerly vacant lease space (Figure 4) and decreased lease costs by $2.7 million over a three-year period.

Biomedical EquipmentThe health system has approximately 40,000 pieces of biomedical equipment and a staff of 60+ full-time employees overseeing biomedical equipment functions. Overall, the system spends more than $6 million annually on new/replacement equipment and $30 million annually for maintenance. The facilities management firm is helping the health system quantify the total costs associated

Figure 3. Savings Achieved 2011-2013Source: Jones Lang LaSalle, IP, Inc. Used with permission.

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Figure 2. Determining Core Competencies and Outsourcing OpportunitiesSource: Jones Lang LaSalle, IP, Inc. Used with permission.

OutsourcingOpportunity

Commodity Value Contribution Strategic

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Commonly Outsourced:• Processes not central to business model• Standardized or commoditized services

Opportunity:• Strong commercial market• Dynamic market conditions• Unrealized value

Insourced:• Critical to system’s distinctiveness in that service• Critical source of strategic advantage

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with the ownership and operation of biomedical equipment, and look for savings opportunities.

Compared with some models that encourage health systems to engage a single original equipment manufacturer (OEM) to maintain all equipment, the approach employed here allows for greater value across a broader spectrum of equipment. The approach also maintains high value relationships with all OEMs, which often translate into better acquisition pricing for new equipment.

Energy and Sustainability ServicesHealth systems are traditionally significant consumers of energy. Purchased utilities and related services cost the health system approximately $20 million annually.

The facilities management firm deployed experts in energy demand management to evaluate facility design and operations. This evaluation yielded more than 90 initiatives, many of which required little to no capital investment to implement. Through the first three years of the engagement, the team has achieved approximately $5 million in energy and utility savings, received nearly $1 million in incentives and rebates to support capital improvements, and implemented an aggressive sourcing strategy for natural gas that has yielded more than $2 million in cost avoidances.

Being Prepared for Tough DecisionsAchieving sustainable cost reduction requires organizations to make an “all out” effort to keep the costs of care below revenue at all times. For many organizations, the approach to facility spending should include strategies such as facility retrofitting, divestiture, and outsourcing.

Because every hospital and health system is different, healthcare leaders must be rigorous in ensuring that facilities plans are developed to meet their organization’s specific needs. Initiatives that result in significant savings for one entity will not necessarily work for another organization.

A systemized approach is critical. While there must be accountability and focus at a local level, it also is important to view businesses, services, facilities, and associated expenses in the context of the larger system. Hospital and health system leaders must address internal politics and make the tough decisions about priorities and the best use of limited resources. As the integrated strategic financial plan and its accompanying facilities plan are implemented, the results should be regularly monitored and adjusted, as appropriate. Difficult decisions likely will need to continue to be made and supported into the future.

If implemented appropriately, a new approach to facilities planning and management will allow hospitals and health systems the flexibility to participate in developing networks, maximize returns on investments, and maintain highly efficient costs of care delivery—all of which will be increasingly critical to their long-term sustainability and success.

Mark E. Grube (mgrube@kaufmanhall.com) and James Medendorp (jmedendorp@kaufmanhall.com) can be reached at 847.441.8780.

Reference1 Sussman, J.H., Kelly, B.R.: Navigating the Gap Between Volume and Value:

Assessing the Financial Impact of Proposed Health Care Initiatives and Reform-Related Changes. Chicago, IL, Health Research & Educational Trust and Kaufman, Hall & Associates, Inc., June 2014.

Figure 4. Impact on Vacant Lease SpaceSource: Jones Lang LaSalle, IP, Inc. Used with permission.

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99% Reduction in Vacant Lease Space