Material Management in the Operating Room
By Darlene Amendolair, RN
Cut cost--cut cost--cut cost is all the OR managers are hearing today. Administrators continue to complain that Operating Rooms are overstocked in supplies and those supplies must be standardized to save money. One report for the EHCR1 states that management of supplies can save $11 billion in the healthcare industry. OR managers are very aware that 50% of all their costs are consumable supplies, but it can be hard to determine where spending cuts can be made.
There are several strategies to use when formulating successful cost reductions. One strategy, managing supply inventory, is a combination of many tasks. Reducing or moving to share risk with vendors through consignment for slow-moving items is one such task. It is also essential to perform a physical count annually to assure that inventory documents reflect what is actually on the shelf. Eliminating obsolete items will increase shelf space and reduce labor cost encounters when counting those items.Decreasing excess inventory will probably result in the greatest "bang for your bucks." Developing adequate par levels for supplies to avoid stock-outs and losing access to capital is the most common approach to managing inventory. Lastly, it is important to develop tracking systems to assure the right supplies are on the shelf when needed, but not in excess. This will assure that the efforts to manage cost can be monitored as well.
Understanding the terms that are most familiar with material management is a good beginning. Many terms like PAR level, number of turns per year, stock-outs, backorder, on-hand, and economic order point are used to understand how to manage inventory or stock. Is inventory considered an asset or an expense? What is the value of your inventory, how much money has been expended, and how much is it costing to keep it there? Also consider the cost of not having the items in stock when needed. Reducing inventory cost not only reduces the capital tied up on inventory, but also reduces the handling costs, waste, and the risk of money loss due to obsolescence while freeing up valuable storage space. Once a product is on the shelf and until it is actually used, it costs the hospital money. This expense is in the form of money that is not available for other uses such as paying off hospital expenses or accruing interest. In addition, this extra handling of the inventory costs the hospital in terms of labor and processing expenses. It has been reported in the literature2 that these holding costs can equal up to 10% of the value of the inventory itself.
Turns Ratios is a benchmark to help measure what you have on hand. It is the relationship between the value of the inventory on hand and the annual supply expenses.Inventory turns ratio = annual expense/ value of the physical inventory.
The more turns of a product in a year's time the less on-hand inventory. Surgery departments can have a wide range--anywhere from two to 24 turns. This great difference is the result of the variety of products, the critical nature of some of those products and varying utilization of those items. The higher the turns, the less money tied to products that are infrequently used. For example, an OR with an inventory of $2 million and with two average turns, the hospital can free up $1 million by increasing it to four turns. This may be considered a one-time savings, but by reducing the inventory, holding costs can be reduced by $100,000 which can be realized year after year.
Increasing the number of turns may result in a decrease in on-hand inventory but may create a shortage of supplies to meet the need. This can produce an emergency overnight, costing much more than what was actually saved. Yet optimizing the number of turns from an average of two to an average over 10 can free 30% of the inventory costs. Clinical Initiative Center suggests that best performers have 12 -15 turns per year.
More common terms in defining how best to manage the inventory include3:
Lead Time is the length of time between ordering the item to when it is received and put away. Lead time can vary with the type of supply, vendor, critical nature of the supply and delivery systems. Even though you can develop and average lead time for most, it is important to recognize that some items need be ordered a little earlier.
Demand is the average usage of the item over a period of time. Automated inventory system can provide the best ideal of the historical demands of all items purchased. This is usually expressed in days or weeks.Demand and lead-time are critical elements in developing the PAR level.
Safety Stock is the amount of inventory it takes to prevent stock-out. This is the balance between the high cost of having the item on hand and the cost of not having the product. A good example is an internal stapler the OR may have more on hand because the cost of procedure cancellation would far outway the cost of additional inventory. This can also be considered a PAR level.
Order Cycle, like lead time, is the point when it is recognized that an item needs to be ordered to the actual placement of that order.
Reorder point is the level of inventory on the shelf at which point an order is identified. The mathematical formula to define the reorder point includes: the Demand (D = 20 days), Lead Time (LT= 3 weeks) and Safety Stock (SS=10). Reorder Point = (D x LT) + SS.Reorder point = (20 x 3) + 10 = 70 units.
Reorder quantity is the number of items ordered each time the reorder point was reached. This is based on either experience or a mathematical formula called EOQ = economic order quantity. The formula integrates S = Setup cost, which encompasses the order processing costs. D = Demand (annual usage), CC = carrying cost (holding cost) usually 10% of the product cost, P = price of the product.
One strategy that is important in managing the multi-million dollar hospital supplies is developing partnerships, establishing shared risk activities and enhancing relationships with distributors and manufacturers. Consignment is an effective means of shifting the risk to the vendor. In this arrangement, the vendor would own the material until the patient consumes it and the reduction or elimination of slow moving items should be considered. Consignment maybe the best choice for items that live on the shelf more than 6 months.If a vendor will not consign, look for one that does. Consignment is good for vendors because it is easier to sell something once it is in the hospital and on the shelf. This is particularly essential for high cost items such as heart valves. In negotiating with vendors to consign merchandise, OR material manager should negotiate price, demand no restocking fees, make sure that they break down the packaging to each item and establish and maintain good documentation. This practice reduces obsolescence, holding costs, and loss of the supply while freeing up capital for other purposes.
Management of obsolescence is a good category to tackle. It is very tempting to avoid new technology and keep the less expensive, established products. Unfortunately, industry will not let this routinely vary for very long. Few manufacturers desire to continue supporting equipment that has been replaced with second and third generation items. Even though the Federal Government has asked that manufacturers support technology for at least 10 years, this has been difficult in the world of medical technology. The best strategy to manage obsolescence is to avoid it by developing ongoing teams to assess the application of new technology, keep inventory levels down to effective levels and keep abreast of the future with a well-defined plan.
Careful and thoughtful selection of new technology will optimize the outcome of the purchase as well as assure efficient use of valuable supply resources. Obtaining new technology must be a team approach. The team should include physicians and material managers as well as OR managers. In OR Manager, (September 1999)4, the author describes a very effective model to increase the likelihood of the best choice to optimize the outcome of that new purchase.This model focuses on criteria-based decision-making. First the team needs to define the expected outcome--for example, improve patient-outcome, reduce cost or improve operational efficiency. Once this criterion is defined, the team will evaluate if the new product meets one or more of these criteria, and then progress to an evaluation phase. If the product meets the established trial standards, it moves into purchase and implementation phase. Finally, outcomes are measured over a set period of time to assure that the new product truly is meeting the expected outcome measures. This also will give the team an opportunity to evaluate their process as well.
Capturing costs at the point-of-consumption through the use of electronic scanning and perpetual inventory allows the hospital to reduce inventory levels and at the same time decreases the incidences of human error and eliminates labor-intensive manual counting. Automation increases the relationship between hospital and vendor. As the UPN (universal product number) becomes commonplace on medical materials, scanning at the point of consumption will be routine. Bar-coding technology will result in data being inputted into automated systems quickly and virtually error-free. This improved data collection will reduce both holding and labor costs. Bar-coding is essential to improving supply chain management streamlining efficiencies and reducing the spiraling cost of materials.
The analysis of cost per case/procedure has been the focus in the last few years. A number of methods are being used to attempt to accurately predict the cost per procedures. Ratio cost to charge (RCC) is oldest method and most widely used in hospitals today. This method estimates the cost of the procedure through evaluating the charges. The major advantage is that it is used widely in reporting Medicare reimbursement. The major disadvantage is that the method does not help in cost containment.
The next method is Relative Value Units (RVU). This method measures the relative amount of resources consumed by each procedure. RVUs are clinically based instead of reimbursement based, which is its major advantage. It also presents a method for determining the costs of obtaining resources. The major disadvantage is that this method assumes that resources have equal weight and cannot account for variability. Activity Based Costing (ABC) is the "new guy on the block." This method is the most accurate, but the most time consuming. Each task associated with this procedure is the analysis of its labor and supply cost. ABC provides a precise accounting of consumed resources and allows adjustments for procedure variability. Unfortunately, this method is new and time consuming to produce results. In order to precisely identify opportunities for cutting cost and standardizing supplies/ procedures, ABC accounting is the best method.
E-commerce is the emerging material management strategy that will reduce some of the holding and administrative costs related to purchasing and storing supplies. The evolution to E-commerce is not only the result of the advancing technology of Internet access, but also the realization that hospitals spend 39% of their cost of supplies on moving and handling these supplies. This saving target makes Internet purchasing a very lucrative opportunity. The train is moving very fast to find ways to save some of the enormous amount of money hospitals spend in managing their material inventories. The 1996 ECRI report indicates that there is an $11 billion dollar savings opportunity. With the development and expansion of EDI (Electronic Data Interchange), GPOs are scrambling to link individual customers with sellers. Companies like Neoforma, Medibuy and others are accelerating their efforts and investing great sums of capital to deploy Internet technologies. The companies using E-commerce will have less overhead and increase their ability to provide service faster. These efficiencies will play a part in lowering costs to the buyer.
Better understanding of the basics of inventory management will have positive results in meeting the demand to reduce expenditures within the Operating Room. OR managers must find methods to reduce the quantity of on-hand inventory. Organizational challenges such as downsizing of personnel, the inflexibility in operational budgets and the constant demand to introduce new technologies require that capital be freed up to meet those needs and reduce on-hand inventories. OR managers need to work on developing relationships with Material Management, distributors and manufacturers to improve in delivery systems; to purchase in desired quantities; consign slow moving supplies; and to negotiate optimal price. Creating automated systems is a must if OR managers can hope to meet these demands. The future of E-commerce and just-in-time delivery systems lies with newer tools that can aide in that endeavor. OR managers need to continue preparing themselves for these and future challenges of the OR environment.
Darlene Amendolair, RN is the Director of Operative Services at the Medical College of Georgia Hospital & Clinics in Augusta, GA.
- For a complete list of references, see the web page: www.infectioncontroltoday.com