Surprised that the national average rate that employer-sponsored health plans pay hospitals is 2.5-times higher than Medicare’s reimbursement rate? Or that there is actually no relationship between the volume of publicly covered patients a hospital serves to the prices it charges commercially-insured patients? This price transparency is important as states and employers work to rein in health care spending, but what do health care purchasers know about a hospital’s costs for providing patient care?

The Hospital Cost Calculator developed by the National Academy for State Health Policy (NASHP) with support from Arnold Ventures can be used as a complement to recent findings reported in RAND Corp.’s Nationwide Evaluation of Health Care Prices Paid by Private Health Plans to help purchasers and regulators better understand hospitals’ costs, their public and commercial payer mix, and their cost recovery from Medicare, Medicaid, and commercial payers.

State officials responsible for cost containment strategies, including administrators of state employee health plans, and employers can use NASHP’s hospital cost calculator to understand the relationship between health plans’ hospital payments and the hospital’s reported costs. Understanding the difference between a hospitals’ costs and the payments it receives is critical data that can be used to initiate informed conversations about appropriate payment reimbursements.

The calculator uses Medicare cost report (MCR) data that is annually submitted by hospitals to the federal government to calculate a number of cost variables for individual hospitals, including cost-to-charge ratios, profit margin, and more. There is no additional reporting burden on hospitals for states and employers to use this calculator. The calculator includes detailed instructions and has embedded formulas to help users access and leverage critical information from MCRs, which are often hundreds of pages long for each hospital. The MCR is the only nationally available, public information that provides hospital cost data.

The federal reporting instructions are standard for all hospitals so the information in each hospital’s MCR is comparable across hospitals. While all hospitals receiving Medicare payments must submit these reports to the federal government, some may be hard to find. Some states require hospitals to submit their MCRs to a certain state agency that is permitted access to the data. Also, there are organizations that provide these reports in a well-organized manner for a fee (annual and/or per hospital MCR). For more information on MCRs, read the NASHP blog, Why Compare What Employers Pay to What Medicare Pays? 

While the calculator can be used to analyze hospitals’ costs, it is not currently designed to provide analysis about a hospital’s level of efficiency or whether the costs are appropriate given the quality of care provided. However, because the calculator uses the MCR data, comparing multiple hospitals is one way to account for efficiency. For example, in comparing two hospitals in a state, if the data from Hospital A shows that Medicare covers 88 percent of its costs, and at Hospital B Medicare covers 103 percent of its costs, that could indicate that hospital B uses its reimbursements more efficiently to provide patient care.

However, there may be additional criteria to consider – some of which is highlighted in the calculator – such as payer mix. The calculator uses weighted data to account for each payer’s proportion of the population served by the hospital so that comparisons across hospitals with different payer mixes can be made. But, other considerations may be necessary. For example, it may useful to review a hospital’s MCR data over time using the cc to identify a cost trend. Has a hospital made capital investments, such as building or purchasing new facilities, in recent years that increased its costs? Such information could be useful in considering a hospital’s certificate-of-need application. NASHP will continue to refine this calculator to integrate potential efficiency and quality measures, but the data on costs is a valuable place to start. The calculator’s goal is to provide data to inform discussions between purchasers of care and hospitals.

Officials from several states have reviewed the calculator and expressed interest in leveraging what they are learning from its analysis of their hospitals in different ways, such as:

• Pursuing a more robust insurance rate review process to help contain health care cost growth;
• Further informing hospital global budget parameters; and
• Negotiating hospital reimbursement as a reference to Medicare rates.

An early version of this calculator, with more limited calculations, was used by the Montana State Employee Health Plan to negotiate with hospitals and providers to establish a reimbursement rate based on Medicare rates.

While the calculator includes numerous metrics for analyses, there are several that stand out:

• Financial statements. Net income, reserves, and profit margins are reported for the entire hospital, with no adjustments made for Medicare-disallowed costs. (Medicare disallowed costs include those unrelated to patient care, like research and lobbying, as well as non-patient care-related revenues such as those from hospital cafeterias and parking lots.)

These data points are clearly important to a state or other purchaser in gaining an understanding of some basic information on the financial health of a hospital when pursuing cost-containment measures, as the goal of this initiative is to stem rising health care costs, not impoverish hospitals.

• Cost-to-charge ratio (CCR). The CCR shows the percentage of charges that represent actual operating costs during a one-year period. The ratio generated by the calculator is displayed in two formats:
  • CCR: This ratio equals costs divided by charges. For example, a CCR of 25 percent means that a hospital’s costs are 25 percent of charges. The lower the percentage, the larger the profit margin on its charges.
  • Charges as percentage of costs: This ratio equals charges divided by costs. A ratio of 500 percent means costs are multiplied by – or grossed up – by 500 percent to establish charges.

These ratios are useful when evaluating insurer or third-party administrator (TPA) network discounts off a hospital’s chargemaster rates, which are like list prices for a car and often bear little relation to what providing services actually cost. Insurers often boast about their negotiated discounts with hospitals, but if a hospital’s costs are only 25 percent of its charges, is a discount of 30 percent off chargemaster rates really a good deal?

• Charity care/bad debt/uninsured patients: The NASHP calculator specifically uses a hospital’s costs – and not its higher chargemaster rates – for this calculation. Typically, hospitals report their expenses for charity care, bad debt, and services for the uninsured at their chargemaster rates. However, recent changes in accounting rules require these calculations to now be based on costs and, as a result, in their audited financial statements hospitals may no longer report the higher chargemaster rates. While the Centers for Medicare & Medicaid Services and the Internal Revenue Services have not adopted the new accounting rules requiring costs – not chargemaster rates – to be reported, the calculator does report at the cost level.

Using costs to indicate a hospital’s uncompensated care is a more accurate representation of this category and can be used to more clearly understand a hospital’s overall profit margin.

• Payer mix: Payer mix is the percentage of hospital patient care charges attributable to Medicare, Medicaid, and commercial – which represents insurers, employer self-insured plans, Veterans Administration, and self-pay, etc.

When assessing hospital costs to develop meaningful cost-containment strategies, the payer mix is important as it helps clarify the hospital’s recovery of costs from each category of payer.

• Profit/loss: NASHP’s calculator calculates profit and loss by payer type. Using the global CCR applied to specific payer-type charges, the calculator is able to calculate the related costs for each group and its profit margins.

It is important to look at payer mix and profit/loss together. Consider the example highlighted by a NASHP analysis using the calculator of one hospital in Colorado:

• The hospital’s data showed a 40 percent loss for Medicaid, but because Medicaid was only 9 percent of the hospital’s payer mix, the loss was limited to only that relatively small portion of the facility’s patient population.
• The same hospital showed a 13 percent profit for Medicare, which comprised 21 percent of its patient population.
• And it reported a 54 percent profit for its commercially-insured patients, who made up 70 percent of its patients.

On the whole, this hospital is profitable. By looking at the payer mix and profit/loss indicators or measures in tandem, policymakers can achieve a clearer, more holistic picture of the financial health of a hospital.

• Multiples of Medicare: The calculator also includes hospital payments and costs for commercial payers (commercial insurance, employer self-funded plans, etc.) It calculates the required payments from this segment to allow the hospital to break-even.
  • The break-even point is the point at which revenue equals costs, which would result in zero profit and zero loss. Breakeven is calculated in the calculator in the following way:
    • Level 1: Commercial patient costs plus any balance of government program payments, charity care, and uninsured.
    • Level 2: Level 1 plus all Medicare-allowed costs.
    • Level 3: Levels 1 and 2 plus all Medicare disallowed costs. Physician direct patient costs are not included in the add-back of disallowed costs, as related reimbursement is processed through other channels, such as the Medicare resource-based relative value-scale (RBRVS) physician payment system, fee schedules, etc.
    • Level 4: Levels 1, 2, and 3 plus hospital non-operating income and expenses.

As states develop budgets for state employee health plans and other public purchasers, and consider developing public option health plans, this calculator can be useful to lower costs by developing rates using Medicare as a reference, negotiating increases above Medicare reference rates to account for public payer balances, but that are still lower than their current spending. The calculator also helps states find an appropriate rate that can achieve savings but still keep hospitals financially viable. What better data to use than a hospital’s own reported costs?

NASHP staff is available to state officials who may need technical assistance in using the calculator, contact hct@nashp.org.