A disciplined approach to capital today's healthcare imperative: St. Louis-based BJC HealthCare adopted a finance-based approach to capital based on the approach used by successful companies in other industries, and in so doing better secured the organization's financial future

Healthcare Financial Management, July, 2007 by Patrick J. Dupuis, Kenneth Kaufman

The statistics tell the story:

> Health care is one of the largest, most complex industries in the United States, now accounting for nearly $2 trillion in expenditures and 16 percent of gross domestic product. (a)

> The industry is labor-intensive, employing more than 14 million people. (b)

> Health care is also capital intensive, with projected expenditures of $45.5 billion in construction in 2007. (c)

Competition remains intense, payments are constrained, labor and supply costs continue to escalate, and technology-enabled advances regularly alter the landscape.

The capital challenges are clear. But how well are hospitals and health systems meeting those challenges?

The simple fact is that many could do better. BJC HealthCare, a health system based in St. Louis, provides an example of how a finance-based approach to capital can help hospitals and health systems effectively achieve their strategic, operating, and financial goals. BJC's approach to capital, modeled on the approach used by successful companies in other industries, is applicable to all healthcare organizations. Although larger hospitals and health systems would benefit most in real dollars gained, small hospitals can similarly achieve favorable and important benefits too.

A Value and Finance-Based Approach

A description of the fundamental characteristics of BJC's approach to capital follows.

A value focus. BJC's approach is fundamentally focused on value. It recognizes that maximum value in health care can be achieved only by careful and rigorous planning around capital resources. As exemplified in other industries, this integrated planning approach challenges operating managers to develop and explore innovative ways to improve processes to generate maximum value and stakeholder satisfaction. Initiatives are tied to concrete metrics; benchmark measurements ensure that the organization sustains improvements and long-term competitiveness. Managers meet their goals by focusing on streamlining and simplifying value-added processes, while eliminating or automating non-value- added work. Improved processes drive out extraneous costs and increase quality and transparency.

In essence, the approach is a different way of looking at organizational management: An organization taking this tack looks to improve processes first, remove costs second, and spend capital last. The approach upends the mind-set that the answer to every problem is an endless amount of allocated capital. On the contrary, constraining capital forces managers to attack inefficient processes, and once fixed, process improvements can delay or even eliminate the need for large capital expenditures.

Consider, for example, how a U.S. hospital might typically respond to rising occupancy. For many hospitals, such a trend might point to the need for a new bed tower. However, a sustained reduction in average length of stay (LOS) and improvement of other throughput procedures could obviate the need for the bed tower.

A finance-based-discipline. BJC's approach also recognizes that discipline must be applied to capital structure management to improve overall productivity of organizational resources. A hospital's or health system's capital capacity must grow each year to fund patient and community needs, reinvest in current initiatives, access and service debt, and retain strong financial reserves. The capital formation techniques used by financial executives to build and manage capital capacity determine the effectiveness of an organization's continued competitive strategic and financial performance.

A finance-based approach to capital formation involves a highly coordinated relationship between operating cash flow and balance sheet management. Such coordination ensures that every organizational dollar--whether "fixed" as property, plant, and equipment (P&E) or invested within a portfolio of financial products-is working to maximum productivity. Each dollar must achieve the best possible return within appropriate flexibility and risk contexts.

The capital approach must be founded on a clear definition of strategic mission for the organization. It begins with an analysis of the organization's cash-generating capabilities and true capital investment needs. A thorough understanding of the most basic concept of financial management, namely "the time value of money," is central to such analysis. Simply stated, a dollar today is worth more than a dollar tomorrow. The premise is that, whether for-profit or not-for-profit, entities should invest in assets whose returns exceed costs over some defined period of time. A multiyear horizon is required--typically five years or more.

Multiyear Planning at BJC

A multiyear plan allows an organization to quantitatively identify the profitability and liquidity requirements of its strategic initiatives and address the issues of funding and financing required to meet such objectives. Using multiyear modeling, executives are able to evaluate the risk of not achieving returns that exceed costs, Based on the range of possible outcomes. Advanced tools that integrate strategic, financial, and capital planning are essential.