Understanding costs on a granular level has never been more important for hospitals and health systems. Alternative payment models such as bundled payment and capitated/global payment models require a full understanding of costs to ensure accurate pricing to maintain profits and avoid loss. Health systems also need to identify pockets of unnecessary cost that can reduce per-patient spending and the fixed overhead burden.

Increasing competition, particularly in the outpatient space where physician practices and clinics are so important, is putting pressure on pricing and requires an understanding of how care can be delivered more cost-effectively.

However, more than two-thirds of hospital executives do not have a high degree of trust in their overall cost accounting systems, according to a 2018 survey from Kaufman, Hall & Associates, LLC. Without confidence in their costing system, getting actionable information such as physician cost data is nearly impossible.

Many healthcare organizations face these challenges to effective cost accounting:

  • Overly simplistic methods
  • Resource-intensive processes
  • Data lacks timeliness, insights to guide decisions
  • Hospital-centric models
  • Lack of buy-in from key stakeholders

A robust cost accounting system can deliver results on a granular level, allowing health systems to gain the intelligence required to make timely, strategic decisions based on current conditions and negotiate care contracts with confidence. A best-in-class system can also help engage physicians across the continuum of care, which is key to containing costs while maintaining clinical quality.

Challenge 1: Overly simplistic methods

Healthcare organizations that don’t have a modern cost accounting system likely rely on a ratio-of-cost-to-charge (RCC) approach, a rudimentary costing method that doesn’t provide the most accurate results. Because it is less sophisticated than other methods, executives take findings with a grain of salt, understanding that RCC may not present an accurate picture of health system metrics. Clinicians, too, will resist data about their costs if they don’t trust the methodology.

Solution: Robust cost accounting solutions allow health systems to move past RCC to more advanced approaches and more accurate results. The key to success for many organizations is to start with a basic approach. RCC may be a good first step before moving to worked RVUs (relative value units). This is a better measure of resource allocations for costing since worked RVUs (wRVU) measure the amount of completed work (provider time, skill, and effort). This approach allows health systems to compare the productivity of physicians in different practice areas and thus, calculate cost more effectively.

In any case, don’t wait for perfection before releasing information to key stakeholders. Sharing information, receiving feedback, and making modifications will improve data quality and utility over time.

Challenge 2: Resource-intensive processes

Cost accounting is perceived as a drain on valuable organizational resources such as staff time and capital resources, so many organizations shortchange the process. As a result, reports aren’t created frequently enough, or they contain outdated or incomplete information.

Solution: A modern cost accounting system can securely pull data from various IT systems to deliver more accurate and timely information. The data loading and costing work can be a highly automated process. The resulting reporting packages can be automated, so employees are free from compiling data and reports, and can instead spend time reviewing, analyzing, and presenting results.

For physician cost accounting, the key is to focus on “meaningful granularity,” which includes percentages of productive vs. non-productive (i.e., teaching) time, average hours spent at different locations, salary level, and specialty. Once this data is built into a cost accounting system, the initial effort to identify the data does not have to be repeated. This efficient process makes ongoing maintenance easy for organizations to justify.

Hospital data illustration

Challenge 3: Data lacks timeliness, insights to guide decisions

Receiving data that’s inaccurate or ill-timed to guide short-, medium-, or long-range planning is likely what led 71% of finance leaders to distrust their cost accounting systems. Outdated data, lack of detail, and inability to incorporate information from across the continuum of care limit usefulness of data to guide action.

Solution: Organizations need a system that can load data daily, weekly, monthly, and that data must cover the full continuum of care to be meaningful. Costing processes should be flexible as well, with the ability to process costing data monthly, quarterly, or year to date.

With the ability to allocate costs to episodes and sites of care, finance leaders and physicians gain much better insights into cost variations and profitability across procedures, service lines, physicians, etc. These insights can drive key decisions about where costs can be reduced, where services might be expanded (or contracted), and other important considerations.

Challenge 4: Hospital-centric models

The traditional costing structure is focused on the hospital side of the organization and on spreading historical general ledger (GL) cost over volume. Between 2012 and 2018, however, the percentage of physician practices owned by hospitals or health systems nearly doubled from 25% to 44%.

In fact, health systems now derive roughly 50% of their revenues from outpatient services. Not understanding costs and profitability outside the hospital is a big vulnerability, as outpatient services are also where hospital-based systems face the greatest competitive threat. A large part of the outpatient segment is the physician billing. Most organizations don’t have expertise in physician costing since they have focused so much on hospital costing. Organizational processes may not be set up to generate data at the right level since physician activity has not previously been a focus.

Solution: On the provider side, costs should be assigned to each individual physician, based on provider-specific salary, activity, and care setting. In addition, costs for shared services (office staff, clinical supplies, etc.) should also be considered. This allows for an “apples to apples” comparison among physicians, service lines, and departments. The only way to truly understand hospital costs is to consider every patient touchpoint.

Challenge 5: Lack of buy-in from key stakeholders

Leaders, physicians, and other care providers may be reluctant to support new costing initiatives for a couple reasons. First, they may not understand the role they play in cost accounting or the opportunities these processes have in helping to manage costs and think strategically. Focusing exclusively on improvements within the finance office and failing to engage C-suite leaders and clinical stakeholders overlooks key change management opportunities. Additionally, a lack of transparency into where the data is sourced and how the results are calculated makes it difficult for stakeholders to trust the results.

Solution: Executive leaders must understand the goals, expectations, and resource requirements for any cost accounting project. Education on the front end and back end will create more buy-in from all stakeholders. In addition, near real-time analytics, supported by precise costing data, all at the appropriate level of detail, can bring great insight and improve decision-making for all stakeholders. Finance leaders can demonstrate this benefit by delivering valuable analytics and strategic insight across the organization.

Engaging physicians is key to realizing cost reductions. Physician and service line analytics can uncover opportunities to expand services that benefit providers and support an organizational mission for growth and profitability. The robust nature of physician cost accounting also can show the value that physicians bring to academic settings where there are many layers to physicians’ contributions to the organization. Access to accurate costing data engages physicians, especially when they can understand how their performance compares to their peers and to expectations.


Physician-based cost accounting enables more meaningful organizational planning and performance assessment across the care continuum by providing a more complete picture of profitability. Once healthcare organizations have this fuller view of the patient journey, they can improve financial planning initiatives, reduce costs, and strengthen contract negotiations using reliable cost data. As a result, organizations can drive strategic growth for the future with confidence.