Key challenges hospitals must address to improve supply chain team effectiveness

A major underlying reason many hospitals and health systems do not manage physician preference items (PPIs) effectively is that their supply chain teams lack adequate time, staffing or clinical knowledge to oversee the hundreds of supplies that fall into this category, which in turn represents only a fraction of total supplies the department must manage.

The problem is PPIs constitute a much greater proportion of supply expenses.

Here are a few examples of the challenges inherent to many supply chain departments.

Volume of supplies. Supply chain staff who process purchase orders often are tasked with processing many orders within a specific time period. The unintended result is that the supply chain procurement specialist tends to focus on turn-around time because of the need to meet vendor order cutoff times daily. Consequently, the specialist has insufficient time to properly focus on-contract versus off-contract spend. Moreover, specialists all too often are not fully informed about the implications of contracts and contract terminology. Time constraints and lack of resources lead to contract non-adherence resulting in the loss of anticipated cost savings.

“New” supplies. For tracking reasons, the Food & Drug Administration requires suppliers to issue new catalog numbers for devices and other items that have been even only slightly modified or issued a new label or claim with the product. Often these slight modifications come with as much as a 20% to 30% increase in the list price of the device. Because these new catalog numbers are issued before contracts expires, they represent supplies not on contract, so the price has not been negotiated.

For example one large health system in the Northeast processed an average of 55 “new” devices each day over one month. Eleven of those devices had already been implanted in patients. A cost analysis found these medical devices were priced higher than the original devices covered in the purchase agreement. This situation is all too common, where the hospital or health system would be inclined to process and pay for the devices without question so the patient bill can be processed.

CMS billing changes. In 2018, CMS removed total knee replacement procedures (DRG 470) from the inpatient-only list; these procedures can now be performed and reimbursed as outpatient procedures, resulting in a reduction in reimbursement of 25%, from $12,433 to $9,300 based on national estimates. Supply chain procurement specialists, however, are often unaware of such changes to the inpatient and outpatient prospective payment systems. Yet if payment for the procedure decreases, while expenses remain the same, the hospital or health system’s margin is negatively impacted, sometimes significantly.

Cost transparency. A hospital or health system will often base a cost estimate for a device on average charges of that device at the service line level. Admittedly, because they are averages, these cost estimates are neither entirely accurate nor frequently updated. A supplier, on the other hand, will provide a more patient-level estimate of the cost of a device, which may vary greatly from the hospital-based average cost. If the price of a supply needs to be verified, a physician often will rely on the price quoted by the supplier’s representative rather than the price negotiated in the purchase agreement. The supplier then, effectively, is managing the contract.

Even hospitals and health systems that have not encountered such challenges are not necessarily immune to excessive PPI costs. They may just have the good fortune of having above-average supplier pricing.

We performed retrospective audits of supply chain spend across various service lines at 20 hospitals and health systems and found that ineffective management of PPI costs, coupled with poorly negotiated contract terms, resulted in excess spend between 18% and 25%. In other words, the contractually negotiated price of a device may have been $250, for example, but an audit of supply chain spend found that the price actually paid was $300. Such excess payment can sometimes be recouped, but it is always better to proactively prevent such spend in the first place.