Hospital Profit Planning under Medicare Reimbursement

• Published in: Operations research Vol. 32; no. 2; pp. 250 - 269
• Main Authors: Morey, Richard C, Dittman, David A
• Format: Journal Article
• Language: English
• Published: United States INFORMS 01.03.1984; Operations Research Society of America; Institute for Operations Research and the Management Sciences
• Subjects: 276 pricing profit planning; 543 hospital profit planning; 768 profit satisficing for hospitals; Cost Allocation; Cost reduction; Costs; Departments; Financial Management - methods; Financial Management, Hospital - methods; Health administration; Health care costs; Heuristic; Hospital administration; Hospital costs; Hospital planning; Hospital utilization rate; Hospitals; Linear programming; Management science; Medicare; Medicare - economics; Medicare-US; Models, Theoretical; Nonlinear programming; Planning Techniques; Pricing; Profit maximization; Profit planning; Profitability; Profits; Reimbursement; Reimbursement Mechanisms; Revenue; United States; United States
• ISSN: 0030-364X; 1526-5463
• DOI: 10.1287/opre.32.2.250

The federal Medicare regulations reimburse hospitals on a pro rata share of the hospital's cost. Hence, to meet its financial requirements, a hospital is forced to shift more of the financial burdens onto its private patients. This procedure has contributed to double digit inflation in hospital prices and to proposed federal regulation to control the rate of increase in hospital revenues. In this regulatory environment, we develop nonlinear programming pricing and cost allocation models to aid hospital administrators in meeting their profit maximizing and profit satisficing goals. The model enables administrators to explore tactical issues such as: (i) studying the relationship between a voluntary or legislated cap on a hospital's total revenues and the hospital's profitability, (ii) identifying those departments within the hospital that are the most attractive candidates for cost reduction or cost containment efforts, and (iii) isolating those services that should be singled out by the hospital manager for renegotiation of the prospective or "customary and reasonable" cap. Finally, the modeling approach is helpful in explaining the departmental cross subsidies observed in practice, and can be of aid to federal administrators in assessing the impacts of proposed changes in the Medicare reimbursement formula.