Blog Post

Value-Based Enterprise Conversation Series: Rationalized


The trend of consolidation in the healthcare industry has enabled many health systems to expand their regional or national footprint and improve patient access. At the same time, these mergers and acquisitions have resulted in clinical congestion for systems that acquire operations with overlapping markets and services. Such redundancy can blunt the very advantages and efficiencies that health systems hope to gain by expanding their enterprises.

An effective rationalization strategy enables a health system to contain costs, maximize resources, and enhance the efficiency of care delivery. That may mean some tough decisions for health executives and Boards of Directors, but becoming an optimally rationalized system calls for leadership to guide their organizations into a new era of value-based care.

As part of our ongoing series of conversations about the value-based enterprise, ECG Principal Kevin Kennedy shares his thoughts on the barriers that healthcare executives encounter when trying to build a rational enterprise – and the importance of overcoming them.

What does it mean for an organization to be “rationalized”?

Suppose your health system takes care of 200,000 people, and you aspire to take care of 250,000 people over the next 5 years. How would you design that health system? It would probably have fewer hospitals and more outpatient sites, and would be built around an ambulatory model that treats hospital beds as an ancillary service. It would congregate similar sorts of care in single sites to take advantage of economies of scale, with minimal duplication of services.

How close are health systems to achieving that scenario?

Most health systems are the opposite of that. They have too many hospital beds in too many different sites. They don’t have enough outpatient sites, and the ones they do have are often inconvenient. Many systems are set up to deliver care the way care was delivered in the 1970s. In short, they’re not laid out in a fashion that we’d consider rational for patients’ needs now or for the next 5 to 10 years.

Have any systems done this well?

Shockingly few health systems are actually doing this or doing it right. There are some very important reasons to do it and some very real barriers – political barriers, governance barriers, a perception of loss, physicians who don’t like it – and so far most folks are succumbing to those barriers.

What are some of the advantages of building a rationalized health system?

It’s a pretty well-known fact that systems that do a higher volume of certain treatments do a better job in terms of cost and quality, because they have higher utilization of what’s often expensive and highly specialized equipment. For example, a health system that has four hospitals in a metro area may be able to support one linear accelerator at each site; but if you had one major cancer center, you might be able to get by with two instead of four. Staff get more proficient at doing things because they’re doing them more often. Physicians get more and more subspecialized. You can reduce physician travel time, reduce call burden, all those sorts of things.

But mostly it’s the “expertise effect” of getting really good at doing something very specific that produces better outcomes for patients. There are lots of studies that show that quality improves with volume just because the proficiency goes up. And yet most systems are set up not to do that. They tend to have multiple hospitals with overlapping clinical service areas, and having a dialogue about doing things differently is often very difficult because of the loyalties that administration, physicians, and other stakeholders have to their campus and not to the system as a whole.

You said there are very few health systems that are doing this. Is there another industry we could look at to find an advanced model of rationalization?

Commercial banking has some interesting parallels. Think about Bank of America. They’ve probably shrunk their branch network by at least half in the past 20 years, consolidated in-person services at fewer and fewer sites that are larger and larger, and they’ve typically left behind an ATM at the old sites. And that works just fine.

At first it’s maybe a little jarring. I remember being disappointed when Bank of America closed the branch in the lobby of our building. But they had a map that showed there was another branch just two blocks away. And I realized that 90% of the time, when I was walking into the branch, I was just using the ATM and leaving. The ATM’s still there, so it’s not that big a deal.

But imagine if you let the branch managers vote on a decision like that. They’d come up with all kinds of reasons as to why their branch was absolutely essential. They would swear that service would suffer and that they’d lose customers. And that’s the state that many health systems are in now – letting the branch managers decide how many branches you should have. And to run a more efficient organization in a time of declining revenues and declining margins, you have to be able to make difficult decisions on a strategic basis and on a centralized basis. Because the decentralized approach won’t get you where you need to be.

When we talk about rationalization, we’re often talking about it in reference to a health system. Does this have application for a smaller enterprise? Say, a community hospital?

I think the need is most acute in multi-hospital facilities, because that’s where you tend to see the service overlap. And we’ve seen it more, lately, because of all the merger and acquisition activity. Systems come together and they go from having four hospitals in a metro area to having 12. And yet they won’t change any of the ways care is delivered because of concern about stakeholder backlash. That might not be sustainable.

For smaller organizations that have a single site, they probably need to think more strategically about the future of care being in outpatient settings. It can be a difficult financial decision to make – to think about, for example, building an ambulatory surgery center when you have inpatient OR capacity. But if you don’t do it, someone else is going to build that surgery center, and you’ll have even more inpatient OR capacity.

I’ve talked with CFOs who say “If I build this ASC, I’m going to lose 500 cases from my inpatient ORs, and that’s going to cost me a million dollars.” And I tell them “Yes, but if you don’t build it, you’re going to lose 400 cases this year and another 400 next year, and then another 400 the year after that, because your surgeons, or someone else, is going to build a surgery center across the street from you that you don’t control.”

People tend to have a bias for favoring the status quo, and they resist change based on the expectation that what happened last year will always continue. You need to be able to look into the future a little bit and see that it’s going to be different, and decide how to develop a rational system based on what those differences are going to be.

You’ve written extensively about this topic in the past. Has anything in the industry changed since you first wrote about it?

We have seen some innovation with health systems that are starting to reorganize at the regional or even national level, making decisions about care delivery, and matrixing those decisions instead of completely leaving them to the local CEOs. And while that’s sometimes frustrating for local CEOs, I think it’s probably the right decision. Many systems have gotten smarter about encouraging and rewarding system thinking.

Can you cite any specific examples of how some of that approach is working?

We worked with a health system that’s gone through a lot of merger and acquisition activity. They had four hospitals that were spread over one region and then acquired three other hospitals, so now they have seven. And instead of letting the local CEOs make decisions about, say cardiac care, they formed a regional management committee and made it very clear that decisions will be made by the executives who have responsibility for the region, not for each individual hospital. The committee absolutely wants input from the local operating executives, but at the end of the day those decisions are going to be made at the regional level with an eye toward optimizing care for the system as a whole and for the population they take care of, not just for the local medical staff. So we’re starting to see companies reorganize in a way that enables those sorts of decisions to be made in a more balanced way.

What kind of decisions does a committee like that make?

One of the decisions that system is struggling with is TAVR. It’s a fairly innovative cardiac procedure that involves replacing a valve through a catheter instead of by opening the chest. And of course, each of those hospitals wants to be the one that tries TAVR. But you need a fairly large population to support it, and you can’t have seven TAVR programs. That market probably needs three, and there’s already two of them up and running that are owned by other health systems. So only one of those hospitals is going to get it.

That system will go through a very methodical and rational approach for deciding the best place to put that program. And if they didn’t have that regional governing structure in place, you’d have four different hospitals, each trying to do it, and each one of them would fail, because you wouldn’t have enough volume. But by making the hard decisions and taking their lumps up front, they’re going to develop one program that can potentially be very successful.

Kevin Kennedy has a unique understanding of shifting trends in the healthcare industry. In a 25-year consulting career, Kevin has guided hospital executives and physician leaders through periods of dramatic change, and he is highly regarded for his informed perspective on the industry’s changing conditions, new models of care, and the business arrangements required to achieve clinical integration.