HLTH 8430 Week 9 Financial Performance Variance Memo Example

Memorandum

To: Finance Committee, Harmon Valley Health

From: Vice President, Financial Planning and Analysis

Date: Week 9

Re: Year-end operating margin against plan: causes, late detection and reporting changes

Result and Findings

Harmon Valley Health finished the year with an operating margin of 1.0% against a plan of 2.5%, an operating income of about $12 million against $30 million planned. Volume arrived as projected, within 1% on both inpatient and outpatient cases. The memo makes two findings. First, the margin fell short because net revenue per case declined and some costs rose faster than planned, not because of volume. Second, the shortfall surfaced a full quarter late, because our monthly reports tracked gross charges and case counts, which were on plan, rather than net revenue, which was not. All figures are rounded and illustrative.

The Bridge From Plan to Actual

Table 1 walks from planned to actual operating income. The four steps sum to the full $18 million gap.

Table 1

Operating Income Bridge, Plan to Actual (Illustrative, $ Millions)

What Drove Each Step

Payer mix. The shift was larger than planned. Commercially insured patients aged into Medicare at the expected rate, but a larger share than expected chose Medicare Advantage, and our Medicare Advantage contracts pay less per case after denials than traditional Medicare. Hospitals with more Medicare patients tend to be less profitable (Bai & Anderson, 2016), and our plan underestimated how quickly our mix would move.

Denials. The initial denial rate on Medicare Advantage inpatient claims rose through the year, much of it for medical necessity and level-of-care disputes. Federal auditors found that a portion of plan denials involved care that traditional Medicare would have covered (Office of Inspector General, 2022), which suggests a share of our denials may be recoverable on appeal, but appeals take months and recovery is uncertain. National research shows that billing complexity and denial rates vary widely by payer (Gottlieb et al., 2018), and our plan used a single blended denial assumption.

Supplies and purchased services. Both ran over plan. Neither is unusual, but together they account for about a third of the gap.

Why We Learned of It Late

Each driver was visible in our own data before it reached this committee. The payer mix shift appeared in monthly case counts by payer from the second month, but the monthly report showed case counts in total, not by payer. The denial rise appeared in the denial management system weekly, but denial rates were reported only to the revenue cycle team, not to finance. Supply prices appeared in purchase history monthly, but the monthly report compared supply spending to budget in total, where higher prices were partly hidden by lower use in some departments. Net revenue per case, which would have shown all of the revenue drivers together, was calculated only at the quarterly close.

As a result, the monthly report showed gross charges and volume on plan for the first five months, and the committee first saw the margin shortfall at the second quarterly close. A healthcare finance text notes that reports built on gross charges can mask problems in collections and payer mix (Cleverley & Cleverley, 2018), which is what happened here.

Three Changes to Monthly Reporting

Net revenue by payer, monthly. The monthly report will show cases and net revenue per case for each major payer, including Medicare Advantage separately from traditional Medicare, against plan. Owner: Vice President, Revenue Cycle, starting next month.

Initial denial rate by payer, monthly. The report will show the initial denial rate and dollars denied by payer, with the trend over the past six months. Owner: Director, Patient Financial Services, starting next month.

Supply price and use, separately. Supply variance will be split into price and use components by category, so that higher prices cannot hide behind lower use. Owner: Director, Supply Chain, starting next quarter.

Together these changes would have shown the shortfall in the second or third month of the year rather than at the second quarterly close. None requires new systems; each uses data we already collect, and the added preparation time is estimated at a few hours a month across the three owners. The committee should also expect the first months of the new report to show the problem more starkly than the old one did, which is the point of the change rather than a sign that results have worsened. I recommend the committee adopt them and review the first three months of the new report at its next meeting.

References

Bai, G., & Anderson, G. F. (2016). A more detailed understanding of factors associated with hospital profitability. Health Affairs, 35(5), 889-897. https://doi.org/10.1377/hlthaff.2015.1193

Cleverley, W. O., & Cleverley, J. O. (2018). Essentials of health care finance (8th ed.). Jones & Bartlett Learning.

Gottlieb, J. D., Shapiro, A. H., & Dunn, A. (2018). The complexity of billing and paying for physician care. Health Affairs, 37(4), 619-626. https://doi.org/10.1377/hlthaff.2017.1325

Office of Inspector General. (2022). Some Medicare Advantage organization denials of prior authorization requests raise concerns about beneficiary access to medically necessary care (Report No. OEI-09-18-00260). U.S. Department of Health and Human Services.