Strategies for Reducing Cost by Managing Medication Inventory Across the Health System

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1 Strategies for Reducing Cost by Managing Medication Inventory Across the Health System Pharmacy Under Pressure These are challenging times for health system executives. Health care reform is driving reimbursements down some predict by 15 to 20 percent over the next few years. While there may be increased patient volume driven by the Affordable Care Act, this added revenue cannot easily make up the difference. For example, a hospital with a 2.8 percent operating margin would need to generate $71 million in new revenue to equal $2 million in savings. 1 As a result, chief financial officers (CFOs) are looking for ways to stay solvent without taking their eyes off of their primary mission quality patient care. According to Todd Nelson, a technical director with the Healthcare Financial Management Association, CFOs are now looking at Pharmacy as another area for cost savings. They realize there is a tremendous opportunity to partner with the clinicians in Pharmacy to actually improve patient care and lower costs, Nelson says. 2 While the overall hospital supply chain has made large improvements in recent years, Pharmacy has largely stood on the sidelines with respect to making inventory management improvements. As many Pharmacy leaders will attest they have been contributing to cost savings largely through staffing reductions rather than focusing on the same tasks their supply chain colleagues have undertaken. In all fairness to the Pharmacy teams, traditional supply chain tools didn t seem up to the task of dealing with controlled substances, patient specific orders and the consequences of stock outs. But as medications alone can be 5 to 8 percent of operating expense 3 and the total Pharmacy budget can make up 10 percent of operating expense and is growing (up 36 percent since ) Pharmacy may be the last big opportunity for savings. At the same time, hospitals continue to consolidate into health systems with 105 deals in alone. According to the American Hospital Association, over 60 percent of hospitals were a part of a health system by the end of Yet according to a study by Northwestern University researchers, Mergers that do not lead to [facility] closures appear to decrease costs in the first year by an estimated 5 percent. However, after three or four years, there is no longer a significant reduction in costs. 7 Where will they find additional savings? These newly merged hospitals already have picked the low hanging inventory fruit with conventional Pharmacy automation. For example, over 95 percent of large hospitals already use automated dispensing cabinets 8. KLAS Research suggests that: With providers tightening belts all around, many want to improve their bottom line through better drug inventory management. Pharmacies want to decrease inventory on hand money on the shelf and expired medications money in the trash. The solution is to look beyond your single hospital Pharmacy to all the hospitals in your health system. The efficiency gains reported by those doing enterprise-level inventory management are attractive. Providers reported high ROIs from a consolidated inventory management approach. 9

2 The Limitations of Hospital-level Inventory Management HEALTH SYSTEM CHALLENGES Excess Inventory Can t optimize package size, quantity, discounts, safety stock. Expired Meds Excess inventory expires before it can be used. Shortages Meds not available where needed. Inconsistent Workflows and Procedures Distracts management attention from clinical care. Figure 1 Health system challenges when hospitals are managed individually. Even the most talented Pharmacy supply chain leaders run into limits as they seek to optimize medication inventories at the individual hospital level. These limits are not the result of anything the Pharmacy can control. Instead, they result from fundamental inefficiencies and boundaries imposed by medication demand, wholesalers and the simple lack of scale in a single hospital. The bottom line is that hospital pharmacies typically average 9.5 inventory turns, 10 yet should be aiming for 14 to 16 turns 11 or more. The challenges fall into several categories. Excess Inventory Inventory can pile up for a variety of reasons, all beyond the pharmacist s control. For example: Manual ordering processes that rely on human intervention enable irregular order patterns and stocking levels. The minimum package size is much larger than what is needed for current patient demand. Certain low usage medications must be stocked regardless of the demand. Not only is this excess inventory taking up shelf space and tying up scarce cash, it will eventually expire. Even with the services of a reverse distributor, pharmacies can end up receiving only a small fraction of the purchase cost of the expired medications as well as the labor involved in gathering, returning, reordering and restocking the items. Drug Shortages Drug shortages continue to be a thorn in Pharmacy s side with 238 current items listed by ASHP 12. With each Pharmacy on its own, every buyer is spinning their wheels searching for scarce supplies. Those lucky enough to find supplies are tempted to hoard them. Communicating who has a medication that is in demand is laborious and ineffective. As a result, availability will vary across the health system depending on which hospital was able to acquire product. The rest are simply out of luck. Strategies for Reducing Cost by Managing Medication Inventory Across the Health System 2

3 Inconsistent Management Practices Each individual director of Pharmacy has to deal with everything from setting up policies and procedures to workflows and constantly changing formularies. For example, the typical formulary has more than 2,000 line items 13 that change constantly due to contract updates, stock outs, shortages, and changes in policy or operations processes. Not only is every Pharmacy different, but each Pharmacy within a system is challenged to use the desired best practices to perform at peak efficiency. Managing Medications Across the Health System BENEFITS OF CONSOLIDATION Demand Aggregation Minimize inventory and expirations by combining demand. Inventory Visibility and Transfer Manage shortages and demand fluctuations Standardization Use best practices to free up management time for clinical care. Figure 2 Benefits when hospital pharmacies are managed across the health system. Managing inventory at the health system level unlocks savings that are simply impossible to achieve in a single hospital. Aesynt is working with Intermountain Healthcare, a 22-hospital health system in Utah and southern Idaho, to demonstrate the advantages of health systemwide inventory management. According to Brent Johnson, Intermountain Healthcare s Vice President of Supply Chain: We installed a 20,000-square-foot pharmaceutical fulfillment center and invested in $8 million to $10 million worth of robotic equipment. We buy pharmaceuticals in bulk and use the robots to break them down and prepackage orders. That way, every hospital doesn t have to buy in bulk, which means they don t have to buy more than they need. This system helps us manage expiration dates, too. We expect to reduce pharmaceuticals inventory for hospitals and our 26 retail pharmacies, many of them in our clinics, by 40 percent. 14 How are they achieving these savings? Aesynt s Insyte TM Medication Logistics software enables Intermountain Healthcare to manage its medication inventory across the health system to achieve levels of efficiency that just are not possible at the single hospital level. Strategies for Reducing Cost by Managing Medication Inventory Across the Health System 3

4 Demand Aggregation in a Centralized Stocking Location Insyte supports consolidating medication inventory into a centralized stocking location, or a virtualized location, by combining multiple pharmacies together using a hub and spoke distribution model to support other individual hospital pharmacies, unlocking the power of demand aggregation. Demand aggregation, also known as risk pooling, is an important concept in supply chain management. It suggests that demand variability is reduced if one aggregates demand across locations, because it becomes more likely that high demand from one customer will be offset by low demand from another. This reduction in variability makes it possible to reduce safety stock and, therefore, reduce average inventory. 15 Demand aggregation is powerful and becomes more useful for large numbers of hospitals. Supply chain experts have found that if the number of independent stocking locations decreases by n, the expected level of safety inventory will be reduced by the square root of n (square root law). 16 For example, if a health system consists of ten hospitals, a centralized stocking location will allow the safety stock to be reduced by up to 1/3. Therefore, if each hospital needs inventory of 10, the health system would need a total of 10x10 = 100. Using demand aggregation, that safety stock could be reduced by the square root of 9 or 3 x 10 = 30. In addition to the sheer power of aggregating demand, several other processes reduce inventory. Package sharing enables a central pharmacy or consolidated service center to break down medications that are available only in large quantities into smaller, more manageable amounts to share with the supported hospitals. Consolidating high cost/low usage medications also reduces total inventory. For example, Intermountain Healthcare was able to store most supplies of a $23,500 rattlesnake antivenom kit in the central Supply Chain Center, stocking only first doses at the individual hospitals. Their network can share the central safety stock to ensure patient requirements with fewer total doses, while avoiding stockpiles of the needed kit at each facility. This approach impacts inventory levels and expiration risks across the system. Enterprise-Wide Inventory Visibility, Transfer The capability to find and move medications across the health system provides insight to increase responsiveness and uses existing inventory more effectively. Medication shortages no longer need to be endured. Existing supplies can be consolidated in the centralized stocking location and distributed to the individual hospitals as patient needs dictate. As a result, there are no more hidden stockpiles that can expire while other hospitals in the system do without. Finally, Pharmacy buyers are relieved of the burden and duplication effort involved with tracking down scarce supplies. Patient needs change over time. The perfect inventory level can turn into excess over time. Inventory visibility enables Pharmacy management to locate and transfer existing medication from over stocked locations to those in need, helping to keep total inventory levels and expirations down. Strategies for Reducing Cost by Managing Medication Inventory Across the Health System 4

5 Standardization Insyte supports use of common formularies, policies and procedures, and workflow across the health system to bolster best practices and free management time for clinical care. The average hospital pharmacist spends upwards of 16 percent of his time on business management activities directors can spend 50 percent or more. 17 A centralized management approach reduces that time, which can be redirected to clinical care. Doing More With Less As hospitals continue to consolidate and health systems grow, there is opportunity to both bolster financial results and improve clinical care. This possibility can be realized through centralization of medication inventory and the use of tools such as Insyte Medication Logistics to manage that inventory across multiple locations. The power of demand aggregation, enterprise-wide inventory visibility and standardization is waiting to be unlocked. References: 1. Elevating Supply Chain Value Analysis, Christopher O Conner, Healthcare Executive Insight, In Struggle to Cut Expenses, Hospitals Eye the Pharmacy, R. Edwards, HH&N, November Aesynt estimate. 4. Demonstrating the Value of Pharmacy Services. McDaniel, Michael. ASHP 2012 Annual Meeting. 5. A Wave of Hospital Mergers, The New York Times, August 12, Number of Hospitals in Health Systems, , American Hospital Association Chartbook, accessed November ASHP national survey of pharmacy practice in hospital settings: Dispensing and administration Dranove and Lindrooth. Northwestern University, Hospital Consolidation and Costs: Another Look at the Evidence March Inventory Management in Pharmacy Automation, KLAS Research, July ASHP national survey of pharmacy practice in hospital settings: Monitoring and patient education Beyond Purchasing Managing Hospital Inventory. author/authorinfo.jsp?id=4953 Accessed August 29, Drug Shortages: Current Drugs ASHP Drug Shortage Resource Center. DrugShortages/Current. Accessed September 20, Crownover F. Managing NDC and Product Changes. Pharmacy Purchasing & Products. May IHC Supply Chain VP Intermountain man: interview with Brent Johnson by Toby Gooley, DC Velocity, October 28, Supply Chain Risk Pooling, Pietro Romano, BlackwellReference.com, Accessed November 6, Supply Chain Management, Chapter 11, Sunil Chopra & Peter Meindl, Pharmacists Desired and Actual Times in Work Activities: Evidence of Gaps From the 2004 National Pharmacist Workforce Study, Jon C. Schommer, et al, J Am Pharm Assoc. 2006;46(3): Cranberry Woods Drive, Cranberry Township, PA / Aesynt Incorporated. All Rights Reserved. Aesynt and Insyte are trademarks of Aesynt Incorporated.