Economic Outlook: Spring 2012 by Premier, Inc.

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S P R I N G • 2 0 1 2 • A T W E LV E M O N T H OUTLOOK

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WASTE NOT, WANT NOT SPRING • 2012

THE NEW HEALTHCARE IMPERATIVE THE KEYS TO BENDING THE COST CURVE

DOING MORE WITH LESS Cutting costs while improving patient care

A NATIONAL STRATEGY FOR MORE AFFORDABLE HEALTHCARE

About the publication The Economic Outlook is Premier’s flagship publication, highlighting the emerging economic and industry trends that impact our membership and shape the healthcare landscape. As an important thought leadership resource, the publication provides strategic insight to financial, clinical, and supply chain healthcare executives across the country. An important aspect of the Outlook’s long-term strategy is promoting collaboration among internal and external subject matter experts to build consensus from diverse points of view. The publication harnesses the expertise of our network of healthcare leaders to illuminate best practices and strategies necessary for performance improvement. Our goal is to provide our members and healthcare organizations with valuable, timely information and business intelligence derived from the industry’s most progressive participants. The focus of this edition of the Outlook is “bending the cost curve” in healthcare by reducing waste, optimizing resources, and developing new measures of quality and effectiveness. The content is intended to help our readership understand the causes of waste; identify strategies to eliminate those causes; gain awareness of value-driven models aimed at improving patient care; and realize how shifts in the healthcare landscape such as collaboratives and enhanced coordination are changing the cost curve. We welcome your comments and questions. For additional information, please email economicoutlook@premierinc.com. premierinc.com/economicoutlook

letter 04 EXECUTIVE LETTER A DRIVING FORCE TO REDUCE HEALTHCARE WASTE Mike Alkire, chief operating officer, Premier healthcare alliance

features 06 WASTE NOT, WANT NOT

38 ECONOMICS

FACE TIME Mark McClellan, M.D., Ph.D., director, Engelberg Center for Health Care Reform, Brookings Institution..............................................….…… 06

A CONVERSATION WITH Mark Zandi, chief economist, Moody’s Analytics......................................... 38

PAYMENT REFORM, ALIGNING INCENTIVES AND DRIVING CHANGE IN THE DELIVERY SYSTEM: The keys to bending the cost curve Gail R. Wilensky, Ph.D., senior fellow, Project HOPE...................................……10 DOING MORE WITH LESS: Cutting costs while improving patient care Sharon Begley, senior health and science correspondent, Reuters........… 13 A NATIONAL STRATEGY FOR MORE AFFORDABLE HEALTHCARE Harold D. Miller, president and CEO, Network for Regional Healthcare Improvement; executive director, Center for Healthcare Quality and Payment Reform...............................................................................… 18

22 PERSPECTIVES THE COST OF HEALTHCARE: Does more care equal better care? Anne Hauert, MBA, director, Premier healthcare alliance; Eric M. Johnson, manager, Premier healthcare alliance; Neeta N. Kirpalani, manager, Premier healthcare alliance; John Martin, M.P.H., senior director, Premier healthcare alliance; Doug Miller, director, Premier healthcare alliance.……..............................……22 WHAT ARE OUR MEMBERS DOING TO REDUCE WASTE AND SUCCESSFULLY BEND THE COST CURVE?.....................................................…..30

BEHIND THE NUMBERS: Financial and economic trends impacting our members..................... 42 Premier’s guide to economic indicators……………........................................ 48 Premier’s supply chain solutions……………....................................……........... 50 Premier’s inflation summary………..………………………….................…....…….... 51

52 COMMODITIES OVERVIEW 2012 COMMODITIES OUTLOOK: A brief reprieve?............….................... 52 Minimizing raw materials risk.......................................................………...........54 Copper market overview……..……………...........................................………..........56 Cotton market overview……………………………....................................……..........58 Energy market overview……………………………………………..................…….........61 Food market overview…………………………………………………………….................. 64 Plastic resins market overview…………………………………………….......….......... 66 Rubber market overview………....................………………………..................…....... 68 Steel market overview ………...………….....….....................................……..............70

PREMIER MEMBER SURVEY RESULTS: Waste and resource utilization.……..................................................................…..32

34 TRENDS IN COST AND UTILIZATION GROWING MOMENTUM FOR APPROPRIATE USE OF HEALTHCARE RESOURCES..................................................................................……34 ABSTRACTS OF COST AND UTILIZATION ANALYSES CONDUCTED BY THE PREMIER HEALTHCARE ALLIANCE.....................................................…..36

OUTLOOK LEADERSHIP

EDITORIAL STAFF

Managing director Mike Alkire, chief operating officer

Design and production Christopher Cardelli, director, creative services Sung Ginader, senior graphics designer, creative services Bryan Verrone, project manager, creative services Arkon Stewart, designer, StewartMarr smart marketing

Project directors Durral Gilbert, senior vice president, supply chain emerging services Amy Denny, vice president, contract management Neeta Kirpalani, manager, economic projects

Editorial support Amanda Forster, senior director, public relations Alven Weil, director, public relations Bryan Alsop, senior manager, corporate communications

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Executive letter A driving force to reduce healthcare waste

ment. As Peter Orszag, former director of the federal Office of Management and Budget, says: “We spend more than $800 billion a year on healthcare that does not make us healthier.” Why do we allow this? While there’s no doubt that this is an extremely complicated issue, I think most would agree that these results are simply unacceptable. And with deep reimbursement cuts looming, it’s clear that they’re also unsustainable. At the heart of the problem Shingo noted that people “resign themselves to certain problems,” becoming hostage to routine rather than proactively trying to solve problems. In the case of healthcare, we seem to be content to eliminate the waste we recognize, even though that may only be the tip of the iceberg.

Members of the Premier alliance, The late Japanese industrial engineer Shigeo Shingo, a leading expert on manufacturing practices, once said that “the most dangerous kind of waste is the waste we do not recognize.” Shingo was also co-creator of the Toyota Production System, a method known for eliminating anything that does not improve processes or increase added value. The company’s recent quality stumbles aside, Toyota has achieved a great deal of success with this strategy, which has become known as the “Toyota Way.”

Part of the trouble is that the healthcare industry has no standard definition as to what comprises waste. We rely instead on multiple definitions, which are almost always based on the lens through which we’re looking. To a chief operating officer, waste might be excess staffing or a less-than-fully-productive labor force. For a chief medical officer, it might mean hospital-acquired conditions and readmissions. Meanwhile, supply chain executives may define waste in the context of overuse or misuse of medical and surgical supplies. In reality, they’re all correct.

For close to a decade, healthcare has followed Toyota’s best practices, with many providers actively employing the same principles to successfully eliminate waste. Even so, the healthcare sector has yet to truly find its way in this regard. Our industry remains far from consistent, with variation and waste remaining very real problems.

At Premier, we’ve set out to determine what causes hospitals to be less effective and efficient than they could or should be. Based on years of data collection, benchmarking, collaborative activities, and subject matter experts working for and with Premier members, we have a unique understanding of both hospital operations and the factors that can contribute to waste.

We’ve seen multiple reports that have detailed the amount of waste in care delivery. The Institute of Medicine points to $810 billion annually spent on avoidable complications, unnecessary or duplicative services, and missed opportunities for timely disease prevention and manage-

Depicted on an industry-first Waste Dashboard – already available to participants of our QUEST®: High Performing Hospitals collaborative – we have identified 12 common causes of waste, which are based on a holistic look at healthcare delivery. The categories can be linked to

several drivers of waste: inefficient labor management; product overutilization or misuse; failure to leverage appropriate supply contracts for best pricing; and excessive complications, length of stay, or readmissions. The Premier-defined categories include: • • • • • • • • • • • •

Staffing inefficiency; Excessive premium dollar utilization; Sub-optimized skill mix; Medication errors; Pharmaceutical selection and utilization; Unnecessary testing; Product selection/contract non-compliance; Inappropriate level of care; Inappropriate length of stay; Hospital-acquired conditions/infections; Inadequate turnaround/cycle times; and Excessive readmissions.

A methodology that categorizes waste and identifies the dollars at stake is a good start, but it’s not nearly enough. Hospitals need to implement practices that tackle waste in each of these areas. For example, an ongoing research analysis using Premier's Supply Mix Index™ allows for cross-hospital comparisons of supply efficiency and drivers of supply-cost variance. Because it demonstrates a more direct correlation to supply expense per patient case than does the Case Mix Index, the Supply Mix Index can be especially helpful in identifying cost variances and utilization by resource and physician practice patterns. For this edition of the Economic Outlook, we surveyed our hospital members on the topics of resource utilization and waste. According to the 730 respondents, the top two barriers preventing resource optimization are misaligned incentives between hospitals and physicians and a lack of data systems that effectively measure performance and connect care. Our respondents also recommended four specific strategies to maximize resource utilization: • Standardizing treatment protocols and physician order sets; • Improving hospital-physician alignment;

“The most dangerous kind of waste is the waste we do not recognize.”

• Using clinical data sets to identify resource optimization opportunities; and • Formalizing cost savings goals built into incentive plans.

on community-acquired pneumonia patients; and • $800,000 to $1 million from reductions in bowel surgery clinical practice variations.

Driving out waste

Presbyterian Healthcare Services in Albuquerque, N.M. used Premier’s cost and quality improvement technologies to identify high-volume diagnoses for each of its business lines. In comparing actual costs per case versus expected, Presbyterian found a number of opportunities in the high-volume cardiac surgery APR DRGs.

As always, Premier alliance members are setting the standard. In this case, it’s around data-driven waste reduction and enhanced resource utilization. I’d like to highlight a few examples, which are documented in more detail elsewhere in this publication. Banner Health developed an impressive process to evaluate resource use and standardize care practices, particularly in high-volume populations. It established multiple clinical consensus groups, with each led by a physician, often a chief medical officer. Each group also includes a nursing leader and clinicians from varying disciplines. The goal is to develop clinical practice guidelines that can then be adopted throughout the health system. This process has resulted in annual savings of: • $1 million from more appropriate use of abdominal adhesion barriers in cesarean sections; • $850,000 from improved use of CT scans

Meanwhile, Premier team members learned that Presbyterian was using an expensive anticoagulant for nearly 60 percent of its cardiac valve patients, compared to less than 1 percent of similar patients in its peer group. This one drug increased costs by about $11,500 per patient without adding any clinical benefit. We were able to gain the buy-in of Presbyterian’s physicians by providing actionable data from our comparative database, which in turn sparked meaningful dialogue and led to a re-evaluation of this specific clinical practice. As a result, use of the drug is now in line with that of Premier top-performing members and contributes nearly $2 million a year to the health system’s bottom line, without negatively affecting clinical outcomes.

The Toyota Way has been compared to “squeezing water from a dry towel,” with the ultimate goal being the total elimination of waste. While squeezing that towel dry and completely eliminating waste in healthcare might be more than we can expect, we must start somewhere. Defining the most intensive areas of waste and sharing best practices in waste reduction are integral first steps. By collaborating, analyzing, and sharing data and best practices across thousands of providers in our alliance, we’re driving unnecessary expenditures out of healthcare while we raise the bar on clinical effectiveness. In so doing, we’re also helping to reduce the nation’s debt and keeping people out of the hospital. In short, we’re working together to transform healthcare – and that’s really the whole point of our existence. Sincerely,

Mike Alkire Chief operating officer Premier healthcare alliance

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FACE

TIME with Dr. Mark McClellan, Brookings Institution

Mark McClellan, M.D., Ph.D., is director of the Engelberg Center for Health Care Reform and Leonard D. Schaeffer Chair in Health Policy Studies at the Brookings Institution. At the center, his work focuses on promoting highquality, innovative and affordable healthcare. A doctor and economist by training, he also has a highly distinguished record in public service and in academic research. Dr. McClellan is a former administrator of the Centers for Medicare & Medicaid Services and former commissioner of the Food and Drug Administration, where he developed and implemented major reforms in health policy.

Itâ&#x20AC;&#x2122;s said that there are a number of factors that can lead to waste in healthcare: the overutilization of resources and interventions, an inappropriate level of patient care, excessive readmissions or length of stay, etc. How do you believe healthcare providers can efficiently and cost-effectively cut waste out of the system?

The usual opportunities, including the overuse, underuse or misuse of medical care, provide several initiatives that could help cut waste from the system. First, healthcare providers involved in treating patients across the continuum of care should receive the right results, share information and work together. The second step would be supporting data exchange through interoperable information systems, which would prevent duplicative services and help streamline acute and non-acute care for patients. Finally, it is important that providers focus on prevention and are equipped with checklists and up-to-date information for their patients.

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What are the policies that need to be changed to eliminate waste?

Many payment policies, for both health professionals and consumers, focus on paying more for more services rather than getting it right once and avoiding unnecessary costs. Policy change should be motivated by creating better care at a lower cost. Changes like hiring nurse practitioners or pharmacists to help with chronic disease management or investing in IT systems to avoid duplicative tasks would be invaluable. More importantly, cost-effective, outcomes-focused care will require quality improvement initiatives such as bundled payments and accountable care and payments based on shared savings or added value. Bundled payments give hospitals the opportunity to obtain the resources necessary to make investments in care transformations and delivery system reforms. In healthcare, consumers want to have access to the latest and best treatments. However, we don’t always know what treatment works best for patients. Obtaining better evidence would help solve this issue. Many medical trials focus on broad target populations and take place in conditions that are not reflective of the real world. The Sentinel Initiative, a new public-provider collaborative that uses electronic health data to prospectively monitor the safety of marketed medical products, is one example of an existing opportunity to learn from the delivery of care and innovative clinical trials.

How can we scale and expand existing examples of cost-effective, outcomes-based healthcare? In other words, how do we create systems, rather than pockets, of excellence?

Coordinated, accountable care forces providers to look beyond their four walls, and provider organizations partnering with physicians in their communities is very important. This includes exchanging and sharing information that prevents both readmissions and first-time admissions. Many Premier members, for example, are taking steps to adapt to a comprehensive, outcomes-based approach to delivering care that includes the realignment of capital investments and the realization that better patient outcomes is a good business strategy.

The next decade holds promises – personalized therapies, sophisticated surgical techniques (nano devices, microsurgeries), and the use of genomic treatments – that are invaluable and are what should be encouraged with healthcare reform. As things change for providers, they are also changing for manufacturers of medical products, which are also facing a valuebased environment. Devices, drugs and other medical products need to demonstrate positive results just as providers do with clinical outcomes. We’re seeing more payment contracts based on demonstrated results, and I expect this trend will only continue.

ECONOMIC O U T LO O K

What do you believe is the role of the healthcare consumer in payment reform?

One of the most effective ways of delivering care is by providers empowering patients to proactively take responsibility for their own health. Traditionally, providers havenâ&#x20AC;&#x2122;t been successful in supporting this, and insurance and healthcare financing structures are changing to reflect that trend. The most rapidly growing form of insurance is value-based, which takes the notion of consumer-directed plans a step further by including incentives, including lower copays for using more effective

medications and monitoring of chronic diseases or lower premiums for patients who participate in prevention efforts, such as weight loss or smoking cessation. Healthcare organizations should pay attention to how patients are changing the way they want to spend their money. As more healthcare quality information becomes public, people will be better equipped to choose where and how they want to receive care.

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Payment reform, aligning incentives, and driving change in the delivery system THE KEYS TO BENDING THE COST CURVE >

Gail R. Wilensky, Ph.D., is a senior fellow at Project HOPE, an international health foundation. She is a former administrator of the Health Care Financing Administration, now the Centers for Medicare & Medicaid Services (CMS), and a former chair of the Medicare Payment Advisory Commission.

At a time when consensus is a rare commodity, reaffirmed by the partisan response on both sides of the political aisle to the presidentâ&#x20AC;&#x2122;s 2013 fiscal year budget, a surprising amount of agreement has developed around the notion that changing the delivery system and aligning incentives will play an important role in fixing what ails American healthcare. And furthermore, that both of these will require finding new ways to reimburse providers that reward the kind of behavior we would like to see.

The Affordable Care Act (ACA) primarily focused on expanding coverage and reforming various insurance practices, especially for those with individually purchased insurance. While significant, these changes focus on the relatively easy challenges that have plagued U.S. healthcare. The ACA includes some limited delivery system changes, such as value-based purchasing for hospitals and nursing homes, which will begin in 2012 and 2013, as well as those for accountable care organizations (ACOs), which are also scheduled to begin in 2012.

While many agree that healthcare should shift away from the current incentives in fee-for-service reimbursement that encourage the provision of additional complex services, there is less agreement about what should replace it. That was the rationale for establishing the CMS Innovation Center. Criticized by some for taking too long to get going, the center now seems to be moving ahead with some interesting pilot studies. These include a bundled payment initiative announced last November, a group of pioneer ACOs started over the summer, and a variety of initiatives that support the expansion of primary care. The bundled payment initiative can be seen as an extension of two earlier CMS demonstrations, the Premier Hospital Quality Incentive Demonstration™ (HQID), which rewarded hospitals for improving quality, and the Physician Group Practice (PGP) demo, which may be seen as a precursor to ACOs, since it requires both quality and efficiency metrics to be reached in order to share in the savings produced. Instructive, and to me surprising, was the difficulty the multi-specialty group practices involved in the PGP demo experienced in surpassing the required 2 percent savings threshold, even though all 10 participants were able to significantly improve their standing on the quality metrics. In fact, given the newness of the ACO concept and the difficulty PGP participants had in reaching minimum savings targets, it was perhaps surprising that ACOs weren’t also subjected to pilot studies before they were put into legislation. Time will tell whether the concept is truly “ready for prime time.”

Fortunately, Medicare and CMS are not the only groups engaging in pilot projects. Additional impressive initiatives are underway in the private sector, including ones that increase the focus on physicians. United Health Care (UHC) has engaged in a series of demos, some of which involved performance-based contracting with physicians and provided incentives for those that scored well on both quality and efficiency metrics. Like the Medicare group practice demo, UHC found it easier to improve quality metrics as compared to efficiency metrics, and is revising some projects to see whether stronger incentives will produce a different outcome.

ECONOMIC O U T LO O K

Why the need for pilot projects?

The bundled pilot projects will test a variety of models involving different combinations of providers, which providers receive payment, how the payment is determined, and how payment is distributed among providers included in the model. In one model, the episode is the inpatient stay, and physicians are paid separately. In another, the hospital receives a single payment for all services provided during an inpatient stay, including payments for all physician services. In two of the models, the episode includes post-acute care in addition to the hospital stay, although they differ the length of time covered after hospital discharge.

While these are interesting ways to bundle payments and encourage efficiency and quality across the current boundaries of reimbursement, I am surprised that CMS has not focused on bundling payment pilots that encompass different ways to reimburse physicians separately from hospitals or that encourage the formation of multi-specialty group practices, a strategy shown to produce higher quality.

Unless the assumption is that most physicians will be part of hospitals or integrated delivery systems within the next five years —an unlikely assumption—it’s hard to imagine much of an improvement in incentive alignment or delivery systems. That’s because physicians, who currently serve as the captains of the health team, are being reimbursed using a fee schedule that includes more than 7,000 different billing codes that reward neither efficiency nor quality.

UHC has also bundled episode-based payments for its organ transplant Centers of Excellence and reported good efficiency and quality outcomes with those.

UHC and Blue Cross Blue Shield (BCBS) of Michigan are involved with a number of patient-centered medical home demonstrations featuring a variety of blended payment strategies. BCBS of Michigan says its activities encourage the creation

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However, most of the major payment changes – those that could substantially realign incentives, reduce costs, and help drive delivery system reform – are associated with various pilot projects or other initiatives that will come out of the Innovation Center at CMS.

At a time when consensus is a rare commodity, reaffirmed by the partisan response on both sides of the political aisle to the president’s 2013 fiscal year budget, a surprising amount of agreement has developed around the notion that changing the delivery system and aligning incentives will play an important role in fixing what ails American healthcare.

of “physician organizations” using a physician group incentive program. The objective is to help physicians develop and use shared information systems and processes of care that aggregate population-level quality and efficiency outcomes instead of focusing on a narrow set of performance measures based on individual physician performance. Initial efforts have been limited to primary care physicians, but there are plans to include specialist office visits as well. Many private payors are actively trying other strategies. Examples include the Alternative Quality Contract, which is used by Blue Cross of Massachusetts and involves global fees, and the pay-forperformance and bundled episode payments that the Integrated Healthcare Association of California has been experimenting with for several years.

The challenge going forward The amount of experimentation in both the public and private sectors is impressive, but the difficulties in going from interesting, small-scale pilot projects and demonstrations to changing how healthcare is organized, delivered, and financed cannot be overemphasized. The challenges tend to be somewhat different between the private and the public sectors. In the private sector, even large groups have difficulty making an impact unless their models are adopted by other private payors to determine if they are scalable and politically viable in various sectors of the country. The public sector faces some of the same issues, in addition to perpetually changing leadership both in HHS and the White House, since most pilots require anywhere from five to 10 years from point of design to evaluation. The historical

precedence has not been encouraging; even successful demonstrations rarely become law. However, the Secretary of Health and Human Services was given authority in the Affordable Care Act to scale up, even to the point of nationwide use without the necessity for new legislative authority from Congress. Only time will tell whether this will be sufficient to avoid some of the past pitfalls. And while most of this column has focused on ways to change provider incentives and behavior, we must not underestimate the importance of involving consumers and patients in driving change in healthcare.

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The last thing any healthcare organization wants to do is cut corners on quality, but by all accounts, in the United States waste in medical spending is so enormous that there are ample opportunities to do as much, or even more, with less. Phoenix-based Banner Health, one of the largest nonprofit healthcare systems in the country, with 23 acute-care hospitals, long-term care centers, and other facilities throughout seven states, offers dramatic proof of that. In 2011, it saved $41.5 million by reducing supply chain expenses and making clinical care more uniform, while still managing to improve patient care.

> Sharon Begley is the senior health and science correspondent at Reuters. She has also been the science editor and the science columnist at Newsweek, and the science columnist at The Wall Street Journal. She is the co-author (with Richard J. Davidson) of the 2012 book, The Emotional Life of Your Brain.

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Doingmore withless: Cuttingcosts whileimproving patientcare

Simply standardizing supply contracts in pharmacy, cardiology and the catheterization lab netted savings of $9 million. Reducing utilization variances in the operating room yielded another $3 million in savings. But perhaps the most impressive results came from Banner’s dozen or so “clinical consensus groups,” in which a top medical officer and a

nursing leader helped physicians develop clinical practice guidelines. These guidelines spring from electronic health records, which are mined to determine the relationship of particular treatments to patient outcomes. A consensus group in obstetrics/gynecology, for instance, discovered that surgeons at

Whatever the country is getting for its highest-inthe-world healthcare spending, it certainly isn’t best-in-the-world health, suggesting that resources could be deployed more effectively.

one hospital were using an abdominal adhesion barrier in up to 61 percent of all cesarean sections performed. In contrast, top physicians (judged by patient outcome) were using it in only 1 percent of cases, with no discernible difference in patient outcomes. Now Banner recommends that its obstetricians not use abdominal adhesion barriers in C-sections and most other surgical procedures, generating a savings of $1 million annually on a single surgical supply. Doing more with less has become a cliché, but that doesn’t make it any less imperative for healthcare providers. Healthcare spending in the United States reached $2.5 trillion in 2009, or 17.6 percent of gross domestic product.1 That is more per capita than any other country, yet the U.S. was 37th in overall health system performance (which incorporates measures such as infant mortality, life expectancy and rates of disability) in the most recent rankings by the World Health Organization.2 Whatever the country is getting for its highest-in-the-world healthcare spending, it certainly isn’t best-in-the-world health, suggesting that resources could be deployed more effectively. Figuring out how to use resources—personnel, drugs, supplies, beds, and the like—in a way that eliminates waste, maximizes productivity and simultaneously improves patient care is the new frontier in healthcare. The goal: “resource optimization.”

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The last includes steps such as penalizing hospitals that do not adhere to treatment guidelines and replacing standard fee-forservice with a capitation system that rewards resource optimization and patient outcomes while penalizing waste. As a result of these forces, the age-old strategy of doing lots of (perhaps unnecessary) procedures on patients to increase billings is no longer an option. Financial health will instead have to come not only from increasing revenue, but also from reducing costs. For one example of waste, look no further than the empty beds in every hospital. Each bed costs $1 million to build and $250,000 a year to operate, according to an estimate by Edward Litvak, CEO of the Institute for Healthcare Optimization (IHO) and adjunct professor at the Harvard School of Public Health.3 The IHO applies principles of operations research to healthcare, one of the only major industries that has resisted its implementation. Working with Cincinnati Children’s Hospital, Litvak streamlined patient flow, especially in the emergency

The pressure to generate big savings has become even more pronounced with the advent of accountable care organizations (ACOs). Part of an initiative by the Centers for Medicare & Medicaid Services, ACOs aim to provide Medicare beneficiaries with higher quality care while reducing expenditures. In practice, that means a physician group or other provider will share in any healthcare savings as long as quality measures are maintained. For example, if physicians choose a $1,000 procedure instead of a $2,000 one, they split the savings with the payor. Eventually, Medicare hopes to move to per-capita or “global” payments, in which providers earn a monthly or yearly flat fee for all care. Under this model, providers will be given a set yearly amount per patient and will share in any savings as

ECONOMIC O U T LO O K

> ever-tightening reimbursement rates, especially from Medicare; > a projected flood of new patients who will be covered under the Affordable Care Act and need efficient treatment; and > wider implementation of outcomes measures and accountability requirements.

department. His analysis showed that the hospital could use its existing beds, without the need to build more, if it set aside some operating rooms for emergencies only and scheduled elective surgeries so they would be spread more evenly throughout the day. That meant scheduled surgeries no longer had to be bumped to accommodate emergencies, and the hospital received a capacity boost equivalent to another 100 beds. It was also able to increase the number of surgeries performed without additional staff or other resources, bringing in more than $130 million in revenue per year. Litvak is now helping the Mayo Clinic in Florida implement similar resource optimization steps.

long as quality is paramount. For example, in today’s world, doctors are paid every time they order a $2,000 MRI for back pain, even though research has shown that imaging does not improve outcomes and can lead to unnecessary and risky surgery.4 But in a global payment scenario, the doctor may choose instead to recommend services that don’t cost anything, such as bed rest and exercise, and which have been shown to produce equally good outcomes. They would then keep the money saved from the MRI as a new form of reimbursement. Unlike 1980s-era HMOs, which tried to keep their costs below such fixed payments by denying care, ACOs are run by doctors, not insurers, and do not share in savings unless they meet quality measures, such as controlling the blood pressure of a patient with diabetes. That provides an incentive not to skimp on care. At the same time, the per-patient, rather than per-procedure, reimbursement offers incentives to provide quality care for less, since the physicians keep part of the difference between expected and actual costs of care. One ACO pioneer, the University of Michigan Health System, has already shown the viability of the new approach. In a five-year demonstration program, its faculty group practice (including most of the medical school’s nearly 1,600 clinical faculty) saved Medicare more than $22 million on the cost of care for patients, and shared in those savings.

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Hospitals and other providers have an incentive to pursue resource optimization strategies with even greater urgency, given the perfect storm of healthcare economics:

The realization that many medical procedures do not benefit patients, and the best estimate is that fully one-third fall into that category, opens the door to dramatic reforms leading to better resource utilization.5 >

Other studies reveal that generic diuretics as front-line treatments for hypertension are as effective as pricier drugs, and that

Another Banner consensus group examined the treatment of patients with community-acquired pneumonia. Records indicated that those patients were receiving more CT scans than comparable patients at other top-performing hospitals. Clinical outcomes data showed that traditional X-rays are usually just as effective and much less costly and also that pneumonia patients on oral (not intravenous) antibiotics by day four experienced shorter hospital stays. Result: the consensus group established a performance benchmark incorporating a limited number of CT scans and use of

National data bear the fact that spending and quality care do not go in lockstep. In the 2012 cardiovascular hospital rankings from Thomson Reuters, for instance, the typical outstanding hospital, judged by the quality of care, spent $31,204 on each coronary bypass; lower quality hospitals spent $35,440. The best hospitals spent $8,301 on each heart attack patient they admitted, while the also-rans spent $9,765. The top hospitals also spent less on pharmacy costs and supplies: $1,955 on supply costs per discharge versus $2,239 for hospitals in the lower tier, and $987 and $1,051, respectively, on pharmacy costs. Using resources wisely, in other words, produced better outcomes for patients.8, 9, 10 References 1. Centers for Medicare and Medicaid Services; National Health Expenditure Data; https://www.cms.gov/NationalHealthExpendData/25_NHE_Fact_Sheet.asp 2. World Health Organization; The World Health Report 2000; http://www.who.int/whr/2000/en/annex01_en.pdf 3. Interview with Edward Litvak, CEO of the Institute for Healthcare Optimization (IHO); February 17, 2012 4. Chou, Roger; Qaseem, Amir; Owens, Douglas K.; Shekelle, Paul; Diagnostic Imaging for Low Back Pain: Advice for High-Value Health Care From the American College of Physicians. Annals of Internal Medicine. February 1, 2011, 154:3; 181-189. http://www.annals.org/content/154/3/181.abstract. 5. Kelley, Robert. Where can $700 billion in waste be cut annually from the U.S. healthcare system? Thomson Reuters, Healthcare Analytics. October 2009. http://www.factsforhealthcare.com/whitepaper/HealthcareWaste.pdf 6. Clinical trial: The CATT Research Group. Ranibizumab and Bevacizumab for Neovascular Age-Related Macular Degeneration. N Engl J Med 2011; 364:1897190.http://www.nejm.org/doi/pdf/10.1056/NEJMoa1102673 7. FDA Alerts Health Care Professionals of Infection Risk from Repackaged Avastin Intravitreal Injections. http://www.fda.gov/Drugs/Drugsafety/ucm27029 6.htm 8. Thomson Reuters 50 Top Cardiovascular Hospitals Study; January 2012. 9. HealthLeaders Media FactFile, Financial Trends; October 2011 10. HealthLeaders Media FactFile Costs of Care; July 2011

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Similarly, interim results of a clinical effectiveness trial in patients with age-related macular degeneration showed equivalent outcomes in visual acuity between bevacizumab and ranibizumab. While the difference in the relative cost of therapy, at $50 and $2,000 per dose, respectively, is substantial, concerns over off-label use of bevacizumab and reports of serious ocular infections associated with the compounding of this product cloud the picture. Authors of the clinical effectiveness trial have also noted differences in the rates of adverse events that require further research.6,7

Medical centers understand that physician support is necessary for resource optimization reform. And getting that support requires data and evidence. At Banner, the OB/GYN clinical consensus group examined both outcomes and utilization data before recommending that elective C-sections and labor inductions prior to the 39th week of pregnancy be discontinued unless there were clear medical necessities. This wasn’t an arbitrary choice, since babies delivered during the 38th week or earlier had greater use of the neonatal intensive care, higher hospital readmissions, and other complications compared to those delivered later. “Reliable, well-organized data and the presentation of that data were critical to getting our clinicians engaged and to quickly gaining consensus for a new standard of care across our large organization,” said Dr. John Hensing, Banner Health’s executive vice president and chief medical officer. “Data is truly the currency of adoption.”

oral antibiotics by day four. Within the first year, physicians had reduced use of CTs and put pneumonia patients on oral antibiotics sooner. Patients go home sooner, and the health system saves at least $850,000 a year on reduced CT costs.

ECONOMIC O U T LO O K

Earlier this year, a study by Henry Ford Hospital physicians concluded that performing CT scans in the emergency department for patients experiencing dizziness may not be worth the expense. Less than 1 percent of the CT scans performed in the emergency department revealed a serious underlying cause, such as intracranial bleeding or stroke, which required intervention. That suggests that implementing stricter ED guidelines for CT scans would be cost-effective without compromising the quality of care.

angioplasty was both less expensive and more effective against a certain form of heart disease than bypass surgery. Using the more expensive options noted above has long been considered medically acceptable and (because the reimbursement was higher) financially desirable. But as the ACO model spreads, and resource optimization becomes the Holy Grail, that will no longer be true.

WASTE NOT, WANT NOT

The most painless route to better patient care plus cost savings – not a bad working definition of resource optimization – is by eliminating procedures that do not benefit patients and may actually harm them. In the current fee-for-service system, there is little incentive for that. Why not do a CT scan on every dizzy ER patient or an MRI on everyone with an aching back, or stent everyone with angina? Do it, bill for it, and collect. In the ACO model, which private payors are also adopting, wasting resources hurts the bottom line. The realization that many medical procedures do not benefit patients, and the best estimate is that fully one-third fall into that category, opens the door to dramatic reforms leading to better resource utilization.5

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A NATIONAL S TRATEGY for M ORE A FFORDABLE H EALTHCARE

One of the greatest challenges that our nation will face over the next decade is how to make the American healthcare system more affordable while maintaining and improving its quality. The high and rapidly rising cost of healthcare is the major driver of the federal deficit. It is making American businesses uncompetitive in the global marketplace, and it is increasingly unaffordable, even for families with health insurance. It’s not enough to “bend the curve.” Both a slower growth rate and absolute reductions in per capita spending will be needed. > Harold D. Miller is president and CEO of the Network for Regional Healthcare Improvement and executive director of the Center for Healthcare Quality and Payment Reform. He is also adjunct professor of public policy and management at Carnegie Mellon University.

ECONOMIC O U T LO O K

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WASTE NOT, WANT NOT

The best national strategy will be one that helps communities innovate, rather than one that imposes a one-size-fits-all approach.

Two myths have prevented creation of an effective strategy for controlling healthcare costs:

Myth #1: Reducing costs requires rationing care. No one wants a solution that denies timely, quality care to people who need it. The good news is that healthcare costs can be significantly lowered without a hint of rationing. That can be accomplished by improving disease prevention; diagnosing and treating serious conditions at an earlier stage; avoiding unnecessary and potentially harmful tests, interventions, and medications; eliminating dangerous and expensive infections and medication errors; and educating chronically ill patients on how to manage their conditions to prevent costly hospitalizations.

Myth #2: There is a single national solution to reducing costs. Although a simple, “silver bullet” solution would be nice, there are many barriers to achieving higher-value healthcare. No single policy change can overcome them all. Moreover, the significant differences across the country in the structure of healthcare and the diversity of cost and quality issues make it unlikely that any one-size-fits-all national solution will work. Comprehensive, community-based solutions will be essential.

Five elements needed for community-based healthcare transformation Communities need five things to create higher-value healthcare systems: 1. Actionable information and analysis on cost and quality It’s a well-known adage that “you can’t manage what you can’t measure,” yet today, it is virtually impossible for anyone – providers, purchasers, or patients – to understand what’s driving healthcare spending or how to change it. Physicians don’t know how often their patients are hospitalized; hospitals don’t know whether patients receive appropriate care

after discharge; and neither employers nor patients know which providers deliver the highest quality, most efficient care. It’s not a lack of data; it’s a lack of actionable information. While the increasing use of electronic health records (EHRs) will provide additional data, it won’t necessarily be the kind of information we need to fix the healthcare system. In a growing number of communities, providers and purchasers are working together to analyze claims and clinical data to find win-win-win opportunities – changes that will lower purchasing costs and improve patient care without bankrupting healthcare providers. Other communities can do this, too, but only if providers and payors remove the veil of secrecy that has shrouded cost, quality, and price information. 2. Payment systems that provide both flexibility and accountability Unfortunately, as soon as potential win-win-win opportunities are found, the current healthcare payment system usually turns them into win-lose scenarios. That’s particularly true for providers. Today, hospitals and doctors lose money when patients don’t receive an unnecessary procedure as well as when they prevent infections, complications, and readmissions. No one in healthcare makes any money at all when patients stay well. The issue is not loss of revenue per se, but the fact that the reduction in providers’ revenues is typically greater than their reductions in costs. This is a major problem for hospitals, with their high fixed-cost structure and need to maintain standby services for the community. The solution isn’t just providing more “incentives” to physicians, hospitals, and other providers to deliver higher quality, more efficient care. For example, although the “shared savings” model is being touted by many as a fundamental reform in payment, it’s really just a new flavor of pay-for-performance based on the same, fundamentally flawed fee-for-service system.

True payment reform gives healthcare providers the flexibility to redesign care and the accountability to ensure that treatment is delivered as efficiently and with the highest degree of quality possible while avoiding the insurance risks associated with treating sicker patients. The two basic payment reform concepts that can do this are episode-of-care payment (a single payment for all of the services associated with a single acute episode) and comprehensive care payment (a single risk-adjusted payment to cover all of the services a patient needs for a particular condition or set of conditions over a period of time). While these payment models have demonstrated that they support better quality, lower-cost care, their success depends upon having the data and the information described earlier. Providers need to know that they can deliver quality care for the price being paid, just as purchasers and patients need to know they’re getting a better deal than they’re getting today. 3. Fundamental redesign of healthcare delivery With both flexibility and accountability, healthcare providers can innovate in ways that have never been possible. For example, instead of a “patient-centered medical home” that requires the patient to make separate visits to a primary care practitioner, specialist, and testing lab, more flexible payment methods could enable providers to bring coordinated care to the patient’s home, workplace, assisted living facility, or similar location when they need it most. A better payment system would enable hospitals to stop trying to fill beds with unnecessary procedures to cover the costs of essential services, and, instead, to work with physicians to deliver the right care in the right place at the right time. Most providers will need both time and training to make this transition. The techniques that other industries use to produce higher quality, lower-cost products and services can help, but not

ECONOMIC O U T LO O K

until healthcare providers are paid in ways that enable and reward value. 4. Meaningful patient engagement Patients also need to play a major role by improving their health, following care instructions, and choosing the highestvalue providers and services. More patient-centered, coordinated care delivery will help by reducing the barriers that many patients face today. But patients must have insurance benefit designs that enable and reward them for supporting higher-value healthcare. In particular, patient cost-sharing rules need to make good preventive care affordable (e.g., low co-pays on chronic disease medications), while creating strong incentives for patients to choose providers that offer high-quality care at a lower price. Payment reform will help here, too, since episode-based and comprehensive care payments will enable patients to more easily determine and compare the total cost of care.

5. A neutral facilitator of change All of these changes – better information, payment systems, delivery structures, and consumer engagement – are necessary to achieve higher-value healthcare, and they must be made in mutually accommodating ways. For example, providers can’t change the way they deliver care without a supportive payment system, nor can payors change the way they pay if providers aren’t ready to accept and manage new payment systems. Moreover, all payors and providers must embrace change in order to make payment and delivery system changes feasible. How do all of these changes get coordinated? A growing number of communities are recognizing that Regional Health Improvement Collaboratives (RHICs) are an ideal mechanism for developing coordinated, multi- stakeholder solutions to healthcare cost and quality problems. A Regional Health Improvement Collaborative is a nonprofit, community-based organization that provides a neutral, trusted mechanism through which all of the stakeholders in the

community – physicians, hospitals, employers, health plans, government, and patients – can jointly plan, facilitate and coordinate the many different activities required to successfully transform their healthcare system. RHICs can only be successful, though, if the stakeholders in the community are willing to collaborate, and trust takes time to build. Sharing data is a good starting point, since RHICs can use that information to help providers and purchasers identify and capitalize on mutually beneficial opportunities.

Supporting community-based healthcare transformation We can control healthcare costs without rationing, but only if we do it at the community level and only if we address all of the major barriers in a coordinated way with all of the stakeholders engaged. The best national strategy will be one that helps communities innovate, rather than one that imposes a one-sizefits-all approach.

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WASTE NOT, WANT NOT

you can’t manage what you can’t measure

P E R S P E C T I V E S ECONOMIC O U T LO O K

Thecost ofhealthcare Doesmorecare=bettercare?

I. What is the nature of the problem? Anne Hauert, MBA, director, data optimization, integrated service center, Premier healthcare alliance Eric M. Johnson, manager, operations and performance management, Premier healthcare alliance Neeta N. Kirpalani, manager, economic projects, Premier healthcare alliance John Martin, M.P.H., senior director, research operations, Premier healthcare alliance Doug Miller, director, operations support, Premier healthcare alliance

The term â&#x20AC;&#x153;wasteâ&#x20AC;? is gaining extensive use in healthcare. Widely believed to be approaching $1 trillion in the U.S. healthcare system, or nearly half of all healthcare costs, it is clear that identifying, eliminating and preventing waste is the new healthcare imperative.1 Waste, in the simplest form, is cost that adds no value and has no bearing on outcomes. And these costs are often redundant, appearing multiple times and overlapping at different touchpoints along the continuum of care. While health industry leaders focus on reducing waste and controlling costs within their four walls, wasteful spending often contains interdependencies and is not restricted to care delivery within one organization or sector. The Institute of Medicine, for example, estimates that high administrative costs for insurers, physicians, and hospitals account for

$200 billion of waste. The overuse of tests and the use of brand name drugs instead of generics add another $200 billion. Errors and avoidable complications tally to $75 billion, while fraud represents another $75 billion, and these are just a few examples.2 Addressing waste in healthcare spending will require a diverse team of industry leaders with knowledge of clinical, financial and operational practices that can orchestrate the integration of health and the development of system-wide solutions.

II. Why identify waste in the U.S. healthcare system? The steady rise in healthcare spending in the United States over the last 50 years has been at the forefront of priorities for many industry stakeholders, legislators and the public. A 2011 report by the Organisation for Economic Co-operation and Development (OECD) estimates that healthcare spending as a percentage of GDP has increased rapidly in the U.S., rising from about 5 percent in 1960 to over 17 percent in 2009 – 5 percentage points more than in the next two highest countries, the Netherlands and France. This trend is also observed in health spending per capita. Health expenditure in the U.S. has grown faster than in all other highincome OECD countries since 1970, increasing five-fold in real terms, even when taking population growth into account.3 Given the increasing importance of healthcare as an economic issue, it begs the question: In the United States, do we pay for more care or for better care? According to Dr. Jack Wennberg, a leading researcher of unwarranted variation in the healthcare industry, “Up to one-third of the over $2 trillion that we now spend annually on healthcare is squandered on unnecessary hospitalizations; unneeded and often redundant tests; unproven treatments; overpriced, cutting-edge drugs; devices no better than the less expensive products they replaced; and end-of-life care that brings neither comfort nor cure.”4

Unlike the market for many consumer goods such as food or electronics, supply and demand function very differently in healthcare. Many experts believe that healthcare demand remains relatively inelastic (price insensitive) for patients, especially those who are insured. Further compounding the problem are a number of other factors, such as a lack of price transparency for the public, information asymmetry for physicians, innovation that drives higher costs, and market forces such as consolidation, physician employment, and reimbursement reductions.

Percentage of respondents (n=623)

Figure 1

Improving healthcare efficiency will require identifying inefficiencies and their impact on patient care. A recent member survey conducted by Premier revealed that more than 50 percent of respondents believe that waste significantly influences care optimization efforts at their organizations (Figure 1). In light of these results, Premier engaged in research designed to understand the waste reduction and resource optimization priorities of our membership. The overarching goal of this research was to present evidence that supports the common causes of waste and the effectiveness of resource optimization and waste reduction strategies, in addition to providing a few examples of data-driven approaches used to identify waste reduction opportunities. This evidence has been gathered from published research studies, survey results, expert opinion, and findings from our own analyses of our large healthcare databases. An understanding of the drivers and magnitude of waste within an organization should help to prioritize and focus efforts to improve system efficiency.

Impact of waste on patient care

45% 38.5%

40% 34.3%

35% 30% 25% 20% 15%

13.3%

12.2%

10% 5%

1.6%

0% 1 - No impact

5 - A great deal of impact

Note: Based on a scale of 1 to 5 (1 = no impact, 5 = a great deal of impact), more than 50 percent of respondents selected either 4 or 5, indicating they believe that waste has a significant impact on patient care. Source: Premier online survey for Economic Outlook Spring 2012 publication

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III. What are the common causes of waste? Dr. Don Berwick, former administrator of the Centers for Medicare & Medicaid Services, categorized waste in six dimensions at the Institute for Healthcare Improvement National Forum this past December:5 • Overtreatment: The waste that comes from subjecting people to care that cannot possibly help them, care that is rooted in outmoded habits, supply-driven behaviors, and ignorance of science.

force people to do things that make no sense and convert valuable nursing time into meaningless charting rituals or limited physician time into nonsensical and complex billing procedures.

• Failures of coordination: The waste that comes when people, especially those with chronic illness, fall through the slats. They get lost, forgotten and confused, resulting in complications, decays in functional status, hospital readmissions and dependency.

• Pricing failures: The waste that comes as prices migrate far from the actual costs of production plus fair profits.

• Failures of reliability: The waste that comes from poorly executing what we know to do and results in safety hazards and worse outcomes. • Administrative complexity: The waste that comes when we create rules that

Figure 2

+ + + + + + + + + + + +

• Fraud and abuse: The waste that comes from theft and from the blunt procedures of inspection and regulation that impact everyone because of the misbehaviors of a very few. To address these challenges and identify key factors influencing waste across the Premier alliance, we assembled a crossfunctional team of internal and external subject matter experts. The team sought

Twelve common causes of waste

Hospital-acquired conditions/infections Product selection/contract non-compliance Excessive readmissions Medication errors Pharmaceutical selection and utilization Unnecessary testing Inappropriate level of care Inappropriate length of stay Inadequate turnaround/cycle times Staffing inefficiency Excessive premium dollar utilization Sub-optimized skill mix

to identify underlying practices and processes that drive unnecessary costs and generate inefficiencies. The end product was categorization of 12 common causes of waste (Figure 2). Based on the derivation of these common causes and understanding the need to uncover the underlying opportunities that drive waste, Premier employed a collaborative methodology that combines clinical, operational, and supply data to streamline the waste identification process. Known as the “Waste Dashboard,” this resource currently encompasses 16 metrics, each chosen to measure the common causes of waste among our membership. The dashboard will be available this spring to all Premier member hospitals using QualityAdvisor™, SpendAdvisor® or OperationsAdvisor®. All of the measures are individually important in identifying waste. Aggregate analyses of an initial cohort of 218 hospitals in Premier’s QUEST® initiative revealed existing opportunities in all 16 metrics, despite evidence demonstrating that they perform at a lower per-patient cost than other hospitals. Opportunity areas include: • Staffing inefficiency: The average hospital could save $4.5 million by performing at the top 25th percentile; nearly 15 percent of the cohort had opportunities in excess of $10 million. • Blood utilization: 13 percent of the cohort had more than $1 million in blood utilization waste, and another 9 percent had more than $500,000. • Readmissions: While several hospitals had at least 500 fewer readmissions than expected, others had more than 2,000 more readmissions than expected.

IV. What data-driven approaches are used to identify waste reduction/resource optimization opportunities?

Staffing inefficiency can be caused by poor clinical and operational practices and outcomes, and the key to efficiency is having the ability to ensure that the right number of employees, with the right

skills, are working at the right place (where they are needed) at the right time. Measuring productivity is a necessary and good first step because it shows, on average, if staffing is at expected levels. Productivity alone is not enough, because it

ECONOMIC O U T LO O K

Staffing inefficiency

Establishing the variation in collective hours worked in an ICU by census levels illustrates why measuring correlation is important (Figure 3). On some days staffing was well below desired levels, while on other days, it was well above. In a census of 17 patients, for example (highlighted in red), the range of hours worked

The Institute of Medicine, for example, estimates that

high administrative costs for insurers, physicians, and hospitals account for $200 billion of waste.

The overuse of tests and the use of brand name drugs instead of generics account for another $200 billion.

Errors and avoidable complications tally to $75 billion of waste.

Fraud represents another $75 billion of waste.

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P E R S P E C T I V E S

Given the variability in results and significance of the dollars identified in these measures, it is important to understand how to uncover underlying waste reduction opportunities. â&#x20AC;&#x153;Perfecting the efficiency of unnecessary processes is not our goal. Of course we must do things right, but only if they are the right things to do,â&#x20AC;? says Dr. Richard Bankowitz, chief medical officer for the Premier healthcare alliance. Below are three examples of data-driven approaches that effectively identified waste reduction opportunities.

does not specifically measure variability, which indicates how effectively hospital leaders manage staffing as activity ebbs and flows. Correlating hours and activity in each department and comparing the results to top performers is the best way to measure how well a department matches staffing to demand.

Figure 3

Hours worked

500 450 400 350 300 250 200 150 100 50 0

Daily hours worked at varying census levels in an ICU case study

Desired staffing level Actual hours worked in a day

14 15 16 Census levels

Source: Premier generic example

Figure 4

Facility RBC utilization rate for coronary artery bypass graft and cardiac valve surgery July 2010 - June 2011

Percentage of surgeries with RBC utilization

100%

Facility RBC utilization rate Database average

80% 60% 40% 20% 0% 0

200

400

600 800 Total surgeries

1,000

1,200

1,400

Source: A database maintained by the Premier healthcare alliance

Figure 5

Facility RBC utilization rate Septicemia and disseminated infection: Major and extreme severity of illness levels July 2010 - June 2011

Percentage of cases with RBC utilization

100%

Facility RBC utilization rate Database average

80% 60% 40% 20% 0% 0

200

400

600

800 Cases

Source: A database maintained by the Premier healthcare alliance

1,000

1,200

1,400

by all staff in the department in one day ranged from ~250 hours to ~430 hours. Further, the department used the same number of work hours on days when the unit’s patient census varied from 12 to 20 (highlighted in blue). The variation from the desired staffing levels – in one department in one hospital – cost this organization $400,000 annually.

ranged from 10 to 100 percent (Figure 4). There was also substantial variation in blood use in the subset of septicemia patients categorized as having major or extreme severity of illness (Figure 5).

A key example of resource overutilization occurs with blood utilization and transfusion practices. Unnecessary blood transfusions not only deliver significant costs to the healthcare system, they also carry safety risks for patients, including, but not limited to, allergic reactions, infections, fluid overload and increased mortality.6

Excessive readmissions

We conducted an analysis on red blood cell use (RBC), using data from 435 hospital members participating in a database maintained by the Premier healthcare alliance for the 12 months ending June 2011. The study identified APR-DRGs with the greatest variation in utilization compared to a peer group of hospitals with the lowest rates of red cell use and better-than-expected mortality rates. Large variations in transfusion practices can be seen across facilities for like procedures and diagnoses. Utilization rates in cardiac surgery, for example,

Preventable readmissions contribute significantly to healthcare waste and the total cost of care. The Centers for Medicare & Medicaid Services has estimated the cost of avoidable readmissions at more than $17 billion per year.7 Furthermore, the readmission rate is increasingly identified as the indicator of a local health system’s ability to support coordinated care between inpatient and community-based providers. As a result of payment reform, much work has been focused on reducing readmissions, with the overall intent of decreasing costs.

Figure 6

30-day readmission rate

Observed readmission rate 4 qtr moving average

11.5% 11.4%

Q211

Q111

Q410

Q310

Q210

Q110

Q409

Q309

Q209

Q109

Q108

Q407

Q307

Q207

Q107

Q408

11.1%

11.0% Q406

11.3%

11.2%

11.2% Q306

11.6%

11.5%

11.3%

Q308

11.5%

Q208

Percentage

12.0%

Using patient discharge data for a sample of Premier members (n=444), we examined recent observed readmission rates and their associated costs. This analysis revealed that there was relatively little change in 30-day readmission rates from 2006 to 2011, regardless of the cause of the initial hospitalization (Figure 6). These results align with national trends as readmission rates have shown only marginal improvement nationally in recent years. For example, patients hospitalized for congestive heart failure, pneumonia, surgery, hip fractures, or other medical conditions had 2009 readmission rates either the same or slightly higher than in 2004.8

Source: A database maintained by the Premier healthcare alliance O UTLO O K • SPR I NG 2 0 1 2 |

ECONOMIC O U T LO O K

Resource utilization: blood and transfusion practices

P E R S P E C T I V E S

Physicians often use transfusions empirically to elevate blood counts based on historic prescribing habits, although evidence-based guidelines indicate that they are only beneficial for patients when there is a clear indication or when a specific threshold is met. Raising awareness of current transfusion guidelines that back the development of educational programs and real-time clinical decision support tools is an important strategy for reducing overutilization and practice variation.

Through the Medicare inpatient readmission penalty program, a requirement within the Affordable Care Act of 2010, hospital reimbursement will be reduced for higher than expected readmissions. In fiscal year 2013, hospitals face a penalty of up to 1 percent of their Medicare inpatient payments if readmissions are higher than expected. The penalty rises to 2 percent in 2014 and 3 percent in 2015. Consequently, we are seeing a number of healthcare efforts, such as the CMS Innovation Center’s Partnership for Patients initiative and measurement development activities, that include a focus on reducing preventable readmissions.

over the same time period (Q309 – Q211). The average length of stay for the initial stay for readmitted discharges (6.1 days) was approximately two days longer than that of non-readmitted discharges (4.2 days).

■

$1.95

■

$13.5

■ $13.0 $2.16 $12.5

■ ■

$12.0 $2.05

$13.2

$12.0

■

Billions

$2.15

■

Total aggregate cost Average cost per case

30-day readmission discharge costs

■

Figure 7

■

In addition to evaluating costs, we conducted further research on the average length of stay for readmitted discharges

$2.25

Measuring and reducing preventable readmissions has been a major challenge for healthcare providers. Since cases with complications carry a significantly longer length of stay and generate 3.5 percent ($302 million) of the aggregated cost of readmissions, preventing even a small percentage of these readmissions could have a large impact on waste reduction. We know that planned readmissions will occur and contribute to increased costs. However, with Premier’s recent development of a measure that identifies the disease groups that contribute to excessive readmissions, we’ve taken an important step to help our members understand where they truly need to focus their efforts to reduce excessive waste.

Further analysis for the period Q310 to Q211 revealed insight into the major diagnostic categories and MS-DRGs accounting for the highest percentage of readmissions. The 5.8 million discharges analyzed during this time period carried a total cost of $55.4 billon. At more than $8.7 billion, the readmission stays accounted for 15.7 percent of that total cost. The highest volume of readmitted cases and total costs resides with major diagnostic categories (MDCs) 5, 4 and 8 which represent diagnoses associated with the circulatory, respiratory and musculoskeletal systems, respectively (Figure 8).

Though readmission rates have plateaued in recent years, the cost of care (administration, ancillary therapy, devices/supplies, imaging, palliative care, pharmacy, procedures, and room/board) associated with readmitted discharges is on the rise. Over the last two years, the aggregated total cost of readmitted discharges has increased 8.6 percent, from $1.99 billion to $2.16 billion, while the average cost per case for each of these discharges has risen 10.1 percent, from $12,000 to $13,200 (Figure 7).

Additional evaluation revealed that MSDRGs 470, 460, 292, 190 and 247 are driving high readmission case volumes and costs within MDCs 5, 4 and 8 (Figure 9).

Thousands

According to a Dartmouth Atlas Project report, readmission rates following surgery were 12.7 percent in both 2004 and 2009 and the rate for medical conditions hovered around 16 percent in both 2004 and 2009.9

$11.5

$1.99

$11.0

$1.85 Q309

Q409

Q110

Q210

Q310

Q410

Q111

Q211

Source: A database maintained by the Premier healthcare alliance

References 1. http://www.whitehouse.gov/omb/blog/09/10/ 05/AViewfromtheInstituteofMedicine/ 2. Ibid. 3. OECD (2011), Health at a Glance 2011: OECD Indicators, OECD Publishing. http://dx.doi.org/10.1787/health_glance-2011-en 4. State of the Nation’s Health, dartmed.dartmouth.edu, Spring 2007. 5. “The Moral Test,” Don Berwick IHI National Forum

2011 Keynote, http://www.ihi.org/knowledge/Pages/Presentations/T heMoralTestBerwickForum2011Keynote.aspx, abstracted March 9, 2012. 6. Maggio, Paul, MD, MBA, FACS. “Decreasing Blood Utilization.” Presentation at Stanford University, April 26, 2011. 7. Robert Wood Johnson Foundation. “U.S. Hospitals, Facing New Medicare Penalties, Show Wide Room for Improvement at Reducing Readmission Rates.”

http://www.rwjf.org/pr/product.jsp?id =72849 8. American Medical News, “Hospitals Make Almost No Headway in Cutting Readmissions,” http://www.amaassn.org/amednews/2011/10/10/prsa1010.htm 9. Robert Wood Johnson Foundation. “U.S. Hospitals, Facing New Medicare Penalties, Show Wide Room for Improvement at Reducing Readmission Rates.” http://www.rwjf.org/pr/product.jsp?id =72849

Figure 8

Readmission case counts and costs by major diagnostic category (Q310 - Q211)

Major diagnostic category

Avg cost per case

% of total cost

49,863 506 4,621 80,936 115,580 70,381 25,159 59,668 14,349 25,946 41,284 2,047 5,588 26,790 9,533 15,574

8% 0% 1% 12% 17% 11% 4% 9% 2% 4% 6% 0% 1% 4% 1% 2%

$13,699 $9,043 $10,849 $12,146 $15,517 $12,721 $13,429 $17,730 $10,093 $8,829 $11,378 $10,048 $10,956 $5,573 $11,208 $10,362

8% 0% 1% 11% 21% 10% 4% 12% 2% 3% 5% 0% 1% 2% 1% 2%

19,349

$17,325

32,433 25,794 10,000 13,429 273 12,349 1,359 1,697

5% 4% 2% 2% 0% 2% 0% 0%

$19,773 $7,494 $4,857 $10,339 $21,357 $12,565 $34,085 $17,138

7% 2% 1% 2% 0% 2% 1% 0%

ECONOMIC O U T LO O K

% of total cases

Source: A database maintained by the Premier healthcare alliance

Figure 9

Readmission rates and costs by MS-DRG

MS-DRG description 470 - Major joint replacement/reattachment of lower ext w/o MCC 460 - Spinal fusion except cervical w/o MCC 292 - Heart failure and shock w/CC 190 - Chronic obstructive pulmonary w/MCC 247 - Cardiovascular procedure w/drug-eluting stent w/o MCC

Readmit rate

Total cost

Avg cost per case

8.3% 8.0% 21.7% 20.7% 8.2%

$230,278,230 $93,442,281 $91,338,992 $73,680,288 $70,480,657

$17,026 $34,685 $7,612 $9,440 $15,252

Source: A database maintained by the Premier healthcare alliance

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P E R S P E C T I V E S

01 – Nervous system 02 – Eye 03 – Ear, nose, mouth, and throat 04 – Respiratory system 05 – Circulatory system 06 – Digestive system 07 – Hepatobiliary system and pancreas 08 – Musculoskeletal system and connective tissue 09 – Skin, subcutaneous tissue, and breast 10 – Endocrine, nutritional, and metabolic system 11 – Kidneys and urinary tract 12 – Male reproductive system 13 – Female reproductive system 14 – Pregnancy, childbirth, and puerperium 15 – Newborn and other neonates (perinatal) 16 – Blood and blood forming organs and immunological disorders 17 – Myeloproliferative diseases and disorders (poorly differentiated neoplasms) 18 – Infectious and parasitic diseases and disorders 19 – Mental diseases and disorders 20 – Alcohol/drug use or induced mental disorders 21 – Injuries, poison, and toxic effects of drugs 22 – Burns 23 – Factors influencing health status 24 – Multiple significant trauma 25 – Human immunodeficiency virus infection

Case count

What are our members doing to reduce waste and successfully bend the cost curve?

Case study 1 Materials management – eliminating dead stock and optimizing par levels East Alabama Medical Center’s (EAMC) materials management department undertook a broad plan to eliminate unnecessary inventory, including trimming back on unneeded Pyxis machines, automated devices that dispense and track medications. The ultimate goal was reducing on-hand inventory value and increasing inventory efficiency. The project involved three phases, identifying: • Inventory items not used for more than one year, an $11,700 savings opportunity; • Inventory items not used for more than six months, a $52,000 cost reduction; and • Slow-moving or dead items in Pyxis and par levels, for a savings of $30,745. Materials management worked with unit managers to adjust levels and delete items where possible. Overall, average inventory value dropped to $768,000, down from $824,000 in 2010 and from $901,000 in 2009. All told, EAMC achieved $67,000 in avoided costs and $27,000 in savings.

Case study 2 Early intervention – roving to coordinate care McLeod Health’s “rover program”is a collaborative approach to identifying and managing at-risk patients. This concept was initiated at the Florence, SC-based health system to improve the care of patients potentially at risk for clinical deterioration.

ECONOMIC O U T LO O K

Roving nurses average 1,400 monthly visits, and their work has helped to avoid an average of 75 unplanned transfers per month, for an annualized savings of $1.4 million. “Using the team of rovers offers a perfect example of the kinds of mechanisms we’ve been employing in order to address mortality issues,”said Donna Isgett, R.N., senior vice president of corporate quality and safety, McLeod Health. “Through this program we’re identifying opportunities for earlier interventions, and we’re clearly seeing quality and cost benefits in doing so.”

Case study 3 Resource optimization – sparking data-driven dialogue Using QualityAdvisor, Premier helped Presbyterian Healthcare Services in Albuquerque, N.M. identify high-volume diagnoses for each of the health system’s business lines, comparing actual-versus-expected costs per case. A number of opportunities were found in the high-volume cardiac surgery APR DRGs; one diagnosis in particular was nearly 50 percent above the benchmark. Presbyterian learned that it was using a particular (and expensive) anticoagulant for almost 60 percent of its cardiac valve patients, compared to less than 1 percent of similar peer-group patients. That one medication was adding more than $11,500 in cost per patient without providing any clinical benefit. Because the Premier comparative database information is severity adjusted and shows the performance of top-tier hospitals, it was considered credible by Presbyterian’s cardiovascular surgeons, sparking a meaningful dialogue that led to re-evaluation of clinical practice. Today, use of the drug is in line with Premier’s top-performing members and contributes nearly $2 million a year to the health system’s bottom line without adversely affecting clinical outcomes.

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P E R S P E C T I V E S

Through the program, ICU nurses rove the hospital 24/7 to assess and identify patients at risk for changes in conditions. The roving nurses work with the patient’s standard nurse to review clinical data, evaluate the patient, provide critical care perspectives, and when needed, coordinate transfers to ICU. It’s a proactive way to identify patients who might be at risk for complications due to issues such as unplanned or critical care transfers, and it’s proving to be highly effective.

Premier member survey results In early 2012, Premier, in collaboration with Customer Care Measurement & Consulting LLC, distributed an online survey to more than 10,000 healthcare leaders across our membership.

More than 700 leaders (n=730) responded to the survey, and the results provided valuable insights about waste reduction efforts and resource optimization priorities impacting the industry today.

What are the key factors influencing waste? Survey respondents indicated that the overutilization of resources and interventions (such as unnecessary testing), an inappropriate level of care, and product selection are the primary contributors to waste at their organizations.

1 - Less influence

1. Overutilization of resources and interventions (i.e., imaging, medical devices, therapies etc.)

3.2%

9.2%

26.9%

42.2%

18.5%

3.64

621

2. Inappropriate level of care (i.e., overuse, misuse or underuse of particular interventions and missed opportunities for earlier interventions that can lead to higher costs and may impact quality of care)

3.7%

14.6% 28.7%

38.1%

14.9%

3.46

617

3. Product selection (i.e., product conversion and standardization opportunities to better pricing)

2.4%

13.5% 32.4%

40.5%

11.1%

3.44

620

Key factors influencing waste

5 - More n=survey influence Mean respondents

What are the factors impacting resource utilization? Survey respondents indicated that the top three factors impacting inefficient resource usage include lack of standardization specific to treatment protocols and processes, lack of clinical coordination of care, and defensive medicine.

1 - Less impact

5 - More impact

Mean

1. Lack of standardization specific to treatment protocols and processes

1.8%

6.4%

18.3%

41.1%

32.5%

3.96

2. Lack of clinical coordination of care

1.4%

7.3%

20.4%

41.9%

29.0%

3.90

3. Defensive medicine (the practice of diagnostic or therapeutic measures conducted primarily as a safeguard against possible malpractice liability)

2.7%

9.1%

23.5%

36.3%

28.3%

3.78

4. Lack of measurable evidence of effectiveness (including quality and cost metrics and evidence-based literature)

1.4%

7.4%

27.5%

41.3%

22.4%

3.76

5. Preventable hospital readmissions

2.9%

10.1%

24.9%

35.9%

26.2%

3.73

6. Lack of vendor standardization specific to products

3.7%

11.3%

29.4%

37.5%

18.1%

3.55

7. Increased demand by patients for costly advanced medical treatments and technologies

3.2%

13.6%

29.9%

33.3%

20.0%

3.53

8. Physician employment

6.2%

19.3%

31.4%

28.5%

14.5%

3.26

Factors impacting inefficient resource usage

What are the barriers impacting resource optimization and the implementation of cost-control initiatives? Misaligned incentives between hospitals and physicians and a lack of discrete data systems to measure performance top the list of barriers impacting resource optimization and the successful implementation of cost control measures.

2nd barrier

Top / 2nd barrier

1. Misaligned incentives between hospitals and physicians 2. Lack of discrete data systems to measure performance 3. Real or perceived lack of time and/or resources to implement initiatives 4. Physician relationship(s) with suppliers and vendors 5. Hospital relationship(s) with suppliers and vendors 6. Other

27.7% 22.5% 23.6% 18.3% 6.0% 1.9%

23.6% 25.6% 22.3% 19.1% 7.8% 1.7%

51.3% 48.1% 45.9% 37.4% 13.8% 3.6%

What is the relative impact of several strategies on resource optimization effectiveness? Survey respondents indicated that the most effective strategies included: • Using clinical data sets to identify resource optimization opportunities; • Improving hospital physician alignment; and • Having formalized savings goals built into incentive plans.

ECONOMIC O U T LO O K

Top barrier

Formalized cost savings goals built into incentive plans

22.0%

Focused consultative engagements

Standardization of treatment protocols and physician order sets

14.7%

16.0%

Improving hospital physician alignment

What are strategies for reducing waste?

Using clinical data sets to identify resource optimization opportunities

22.4%

The call to action for healthcare leadership is to practice value-driven models of care and treatment, while recognizing and leveraging the interdependencies inherent in healthcare. When presented with a series of strategies often used to reduce waste, survey respondents selected quality improvement, patient safety, and value analysis initiatives among the top three. They also indicated that those initiatives were the most effective in tackling waste.

24.9%

% employed by overall effectiveness Strategy/initiative

Somewhat/ Very Somewhat Overall effective effective Neither very ineffective

Quality improvement infrastructure and task force

76.7%

83.3%

81.3%

68.1%

64.4%

Patient safety task force Value analysis team

71.9% 63.8%

81.0% 66.7%

76.1% 66.8%

54.2% 55.6%

65.3% 55.4%

Labor management system and culture

56.1%

64.3%

60.9%

45.8%

42.6%

Lean program

54.9%

66.7%

55.7%

45.8%

52.5%

Operations improvement infrastructure and task force

52.2%

64.3%

54.6%

38.9%

47.5%

Six Sigma program

26.4%

40.5%

25.3%

29.2%

20.8%

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P E R S P E C T I V E S

Barriers preventing resource optimization

TRENDS IN COST A N D UTI L I Z ATI O N ECONOMIC O U T LO O K

Growing momentum for appropriate use of healthcare resources

As the cost of providing medical care to our nation’s population continues to grow, several physicians’ associations have recently launched initiatives to help control rising healthcare expenses. The American College of Physicians, for instance, recently convened a work group to identify the most commonly overused screening or diagnostic tests. As its resulting report noted, “The process resulted in a list of 37 tests that the workgroup believes clinicians often use in a manner that does not reflect high-value, cost-conscious care and does not adhere to currently available clinical guidelines.”1 A sample of items is included in the list below; the full list of 37 tests is available at: http://annals.org/content/156/2/147.full. The American Board of Internal Medicine Foundation, a group that works toward advancing medical professionalism to improve healthcare, has created the Choosing Wisely™ program. As part of this initiative, nine specialty societies, including the American College of Cardiology, the American Academy of Family Physicians, and the

American College of Radiology, will identify their specialty’s top five tests or procedures that they feel should be evaluated by physicians and patients. The Choosing Wisely lists will be released in April 2012 and will be available at www.choosingwisely.org. Premier’s focus on resource utilization provides our members with a data-driven approach to evaluating the costs and quality outcomes of several products and procedures used in patient care. The studies highlighted in the following pages are examples of ongoing efforts within Premier to showcase opportunities to reduce costs and improve quality.

References 1. Amir, Qaseem; Alguire, Patrick; Dallas, Paul; Feinberg, Lawrence; Fitzgerald, Gaith; Horwitch, Carrie; Humphrey, Linda; LeBlond, Richard; Moyer, Darilyn; Wiese, Jeffrey; Weinberger, Steven. “Appropriate Use of Screening and Diagnostic Tests to Foster High-value, Cost-conscious Care.” Annals of Internal Medicine. 17 January 2012. Volume 156 Number 2. 2. Ibid.

Clinical situations in which a test does not reflect high-value care include:2 • Using MRI rather than mammography as the breast cancer screening test of choice for average-risk women; • Screening low-risk individuals for hepatitis B virus infections; • Performing imaging studies in patients with nonspecific low-back pain; • Screening for prostate cancer in men older than 75 years or in adults with a life expectancy of less than 10 years; and • Performing coronary angiography in patients whose chronic stable angina symptoms are controlled with medical therapy or who lack specific high-risk criteria.

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Abstracts The following abstracts, developed by the Premier healthcare alliance, provide an overview of studies that analyze trends in cost and utilization. The full articles are available to Premier members.

Resource utilization management The next logical step in managing costs and enhancing quality outcomes Carole Gilroy, R.N., M.S.N., MBA Vice president, Premier Performance Partners Supply chain service line leader Resource utilization management (RUM) is the critical evaluation of supplies and services used in delivering care to determine if they add value to the quality outcome or the patient experience. We have developed a process, effective in both single hospitals and integrated delivery networks, for evaluating RUM based on service line and high-cost/high-volume procedures. Premier products, such as SpendAdvisor® and QualityAdvisor™, provide directional information that can serve as the foundation for formulating a resource utilization program. Recommended action items and steps necessary for an effective RUM program are included in the full article.

TRENDS IN COST A N D UTI L I Z ATI O N ECONOMIC O U T LO O K

Oncology costs drive strategies that will transform healthcare Philip E. Johnson, M.S., R.Ph., FASHP Oncology director, Premier healthcare alliance Healthcare is experiencing significant change, and within the industry, cancer care has come to the attention of many key stakeholders for its rapidly rising costs and varying clinical outcomes. In 2010, biotech medications accounted for 70 percent of the increased drug costs in America, according to an analysis conducted by Medco, a prescription benefit management firm. The National Institutes of Health predicts that spending on cancer drugs will increase from $125 billion in 2010 to between $158 billion and $207 billion in 2020. While there is hope that cures will be found, perhaps from the nearly 900 medicines and vaccines currently undergoing testing, there is also growing concern that the gains in life expectancy and quality of life will be small and come at an unaffordable, unsustainable cost. Clearly we must develop a cancer strategy that offers greater value, starting with a focus on prevention and early detections, and Premierâ&#x20AC;&#x2122;s Pharmacy program is dedicated to creating an optimal oncology business strategy as one of its top priorities. This article focuses on the essential components of this business strategy and its impact on the membership.

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E C O N O M I C S ECONOMIC O U T LO O K

A conversation with Mark Zandi

Chief economist, Moody’s Analytics; co-founder, Economy.com

Mark Zandi is chief economist and co-founder of Moody’s Analytics, where he directs research and consulting. Zandi’s research interests include macroeconomics, financial markets and public policy. A trusted adviser to policymakers and an influential source of economic analysis for businesses, journalists and the public, Zandi has frequently testified before Congress on topics including the economic outlook, the merits of fiscal stimulus, financial regulatory reform and foreclosure mitigation.

82 38

What is your estimate for GDP growth in the next 12 months? What sector of the economy (or single factor) do you anticipate will have the largest impact on this growth?

I expect that we will see continued economic growth this year, with real GDP growth of between 2.5 and 3 percent in 2012. To provide some context around this, the economy grew just under 2 percent in 2011 and needs to continue growing at that rate to generate enough

jobs and maintain a stable rate of employment. Businesses are investing in hiring more aggressively, and the economy is starting to gain some traction. The key sector that will have the largest impact on growth will be manufacturing, and unfortunately, that’s the industry that’s been hit the hardest during the recession and, of course, over the past few decades. We have experienced some rebounding, with the revival of the auto industry and because export growth is doing quite well. I also expect continued sturdy growth from the healthcare sector, which has been a stalwart in job creation.

The key sector that will have the largest impact on growth will be manufacturing ... I also expect continued sturdy growth from the healthcare sector, which has been a stalwart in job creation.

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Describe the impact of federal debt and long-term interest rates on this growth.

Our fiscal problems are serious, but they aren’t likely to have serious implications for our economy this year. However, if we don’t make changes to spending and tax policies, we will encounter serious hurdles to growth in the future. Eventually, global investors who are buying our Treasury debt will begin to balk, and interest rates will rise, and that will undermine our growth prospects. So it’s important that we use fiscal policy to support long-term growth and that we have a clear and credible path. In some ways, we’re already on that path. In raising the debt ceiling, there was bipartisan support for a $4 trillion deficit reduction, including significant reductions in Social Security,

Medicare and Medicaid. We agreed to about $2.5 trillion in spending cuts, which is halfway to our goal. Fiscal sustainability will require achieving deficits that are small enough to maintain a stable debt-to-GDP ratio over the next few years. Given the importance of unemployment on healthcare’s payor mix ratios, what changes do you expect to see over the next 12 months in the U.S. unemployment rate? What signals are companies looking for in the macroeconomic environment as they continue to increase hiring?

Unemployment is still high, although I’m optimistic that we will see reductions this year. The peak unemployment rate was 10 percent in late 2009 and 2010. That rate is now down 2 percent, and I expect it

to be well below 8 percent (7.7 to 7.8 percent) by this time next year. That’s progress and good news. The full employment rate in a good economy is 5.5 to 6 percent, so even in my optimistic outlook, it’s going to take a long time to get there. We probably won’t reach that point until 2015 or perhaps even 2016. We’ve dug ourselves a very deep hole, and we still have a long way to go (Figure 1). However, overall layoffs are quite low, so that’s very encouraging. The problem, though, is that the rate of hiring is still incredibly low, and it’s not because businesses can’t hire more. Instead, it’s a lack of confidence coupled with the legal environment, including healthcare and regulatory reform, which have left businesses cautious and reticent about hiring.

Figure 1: Economy slowly gains; healthcare leads the way

Employment, January 2008 = 100

110

105

100

90 2008

2009

■ Overall economy Source: U.S. Bureau of Economic Analysis, Moody’s Analytics

2010

■ Healthcare

2011

■ Hospitals

2012

Overall, the nightmare of the recession is fading. Regulatory uncertainties are beginning to abate, and the policy environment has been more stable over the past year and will continue to stabilize even further. “Bending the cost curve” in healthcare is a significant priority for legislators, policy experts, payors and providers. Describe overall inflation (CPI) rates for the last two to three years in the U.S. economy. Describe inflation rates specific to healthcare during this same time period.

Overall, inflation has been running 2 to 2.5 percent, with swings resulting from shifts in food, energy and commodity prices. Healthcare inflation, broadly speaking, has been on average a point higher than that (3.5 percent), and

inflation at hospitals has been even higher (4.5 to 5 percent). As has been the case for several decades, healthcare inflation has outpaced regular inflation by a pretty healthy margin. The gap has narrowed in the last two years, in part due to the effects of the recession and attention to the healthcare sector by policymakers, but there is still a meaningful gap (Figure 2).

What causes this gap?

A number of factors, but mainly an aging population and increasing demand for healthcare services. The largest age group in the U.S. is 52 years of age. And if you’re 52 and not going to the gym regularly, you already have a problem. Even if you’re going to the gym, odds are that you will have a problem in the next decade or so. There’s a powerful demographic

tailwind behind healthcare demand, and that puts pressure on prices. The supply side of the market has a hard time keeping up with demand. For example, there is a significant demand for end-of-life care, which is difficult to address and adds to healthcare costs. As a society, we haven’t yet come to a consensus on how to deal with that. Higher income households that receive top-tier healthcare benefits from employers don’t have the same kind of pressures in buying healthcare services as they do with buying other products or services. As a nation, we are aggressive consumers of healthcare. The cost curve will bend one way or the other; if not, the economy will break underneath it. The real question is whether we want to bend the curve gracefully and efficiently or whether we end up being crushed by it.

E C O N O M I C S ECONOMIC O U T LO O K

Figure 2: Healthcare cost curve must bend

Consumer price inflation, % change year ago

0 2000

2001

2002

2003

2004

2005

■ Overall economy

2006

2007

■ Healthcare

2008

2009

2010

2011

2012

■ Hospitals

Source: U.S. Bureau of Labor Statistics, Moody’s Analytics

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Behind the numbers

In an effort to understand the impact of economic and industry trends on our membership, Premier distributed an online survey to approximately 10,500 healthcare leaders across the country, inquiring about the financial priorities and challenges they expect to impact their organizations in the coming year. The survey (n=730) yielded a wealth of perspectives on the key objectives of the Premier healthcare alliance. Strategies for tackling healthcare costs A report by the Office of the Actuary in the Centers for Medicare & Medicaid Services predicts that national health

Financial and economic trends impacting our members

spending will reach $4.6 trillion and comprise 19.8 percent of GDP by 2020.1 Since financial pressures are a significant concern for healthcare organizations, we asked survey respondents to specify the top drivers of healthcare costs, annual savings goals, and the effectiveness of specific financial and economic strategies at their organizations. A majority (41 percent) of C-suite respondents selected healthcare legislation as having the greatest or second-greatest impact, followed by the lack of clinical coordination of care (33 percent) and the overutilization of products and services

(30 percent). Other significant cost drivers included patient demand for healthcare services and the misalignment of payment and quality incentives (Figure 1). When asked about the specific costsavings goals of their organizations as a percentage of the operating budget, the

Figure #1

Drivers of healthcare costs (C-suite respondents*)

Biggest driver Second-biggest driver Total 1

Healthcare legislation

23.3%

17.3%

40.6%

Lack of clinical coordination of care

17.8%

15.0%

32.8%

Overutilization of products

15.5%

14.2%

29.7%

10.1%

13.4%

23.5%

10.9%

11.8%

22.7%

10.9%

6.3%

17.2%

and services 4

Patient demand for healthcare services and care

Misalignment of quality and payment incentives Labor costs

Pharmaceuticals

0.8%

11.0%

11.8%

New clinical technology

7.0%

3.9%

10.9%

Malpractice litigation

3.1%

6.2%

10 Medical devices

0.8%

3.9%

4.7%

11 Hospital errors

0.0%

E C O N O M I C S ECONOMIC O U T LO O K

*Biggest driver (n=129); second-biggest driver (n=127)

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46.8% 45.2%

25% 20%

6.4% 9.5%

15% 10% 5%

16-20%

21% or higher

9.1% 9.0% 14.3%

20.2%

30%

2.6% 3.8% 4.8%

35%

5.2% 1.9% 6.0%

40%

29.9% 32.1%

45%

16.9%

50% 36.4%

Percentage of respondents who know their organization’s annual cost savings goal

Figure #2

Formal goal for annual savings by hospital size

0% 1-5%

6-10%

■ Large (> 500 beds)

11-15%

■ Midsize (200-500 beds) ■ Small (< 200 beds)

My organization does not have a formal goal for annual cost savings

Figure #3

Strategies employed in response to current economic challenges

Very effective

Somewhat effective

Expansion of market share

24.8%

47.1%

Physician recruitment and employment

23.7%

52.4%

Revenue cycle enhancements

17.7%

51.0%

Emphasize high-margin services

13.7%

49.2%

Mergers and acquisitions

13.5%

33.1%

Debt restructuring

8.1%

40.5%

Sale of assets to raise cash

3.4%

13.2%

10% 5%

21.5% 23.7% 26.4%

26.0% 28.2% 21.8%

0% Decreased by 30% or more

Decreased 10-29% ■ Spring 2011

9.3% 4.7% 4.3%

15%

15.1% 12.0% 12.3%

20%

7.0% 9.8% 11.9%

25%

16.0% 18.2% 19.1%

30%

5.0% 3.3% 4.3%

Percentage of respondents

Figure #4

Change in capital budget since last year

Decreased 1-9%

Unchanged

■ Fall 2011

Increased 1-9%

■ Spring 2012

Increased 10-29%

Increased by 30% or more

Figure #5 Area where largest capital investment will be made next year

IT and telecommunications

43.1%

Infrastructure (i.e. construction)

30.1%

Imaging equipment

11.1%

Surgical suites

7.2%

Other clinical equipment

4.2%

Other

3.1%

Laboratory equipment

1.2%

majority indicated a target goal of 1-5 percent, while 79 percent of those representing midsize hospitals indicated a target goal of 1-10 percent (Figure 2).

telecommunications. More than 43 percent selected this category, up from 34 percent a year ago (Figure 5). Capital spending for infrastructure is also an investment priority for 30 percent of those surveyed. This is comparable to spring 2011 results, when 29 percent noted infrastructure was a capital investment priority.

Respondents indicated that the largest capital investments their organizations will make in the next 12 months will be in information technology (IT) and

E C O N O M I C S ECONOMIC O U T LO O K

Organizations employ a number of financial strategies when faced with significant competitive and cost containment pressures. Our participants reported that their most effective strategies were in the areas of market share expansion (25 percent) and physician recruitment and employment (24 percent) (Figure 3).

capital budget constraints. Thirty-five percent of respondents indicated an overall decrease in their capital budgets as compared to only 28 percent of respondents in spring 2011 (Figure 4).

Figure #6

Capital budget constraints

20% 15% 10%

10.7% 8.2%

25%

2.6% 2.5% 3.7%

30%

14.0% 15.1% 7.4%

35%

22.2%

28.4%

40%

33.5% 35.2%

45%

38.3%

39.2% 39.0%

Forecast for 2012 patient admissions

Percentage of respondents

Healthcare organizations are facing significant cost constraints and reimbursement cuts. When healthcare leaders were asked to quantify the change in their capital budgets since last year, 65 percent indicated that their capital budgets remained flat or had increased from the prior year. Overall, this figure is slightly lower than the previous two surveys, which were conducted in spring and fall 2011, when 72 and 69 percent, respectively, indicated that capital budgets were stable or increasing. It appears that healthcare organizations continue to struggle with

0% Increase by more than 5%

Increase by up to 5% ■ Overall

No change ■ Acute

Decrease by up to 5%

Decrease by more than 5%

■ Non-Acute

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The introduction of ACOs, bundled payments and other quality-based initiatives, regulatory requirements to implement health IT, and reimbursement reductions have resulted in closer collabo-

15%

8.9% 10.8%

20%

11.3% 12.1%

25%

12.6% 16.1%

30%

18.90% 19.9%

23.7% 25.3%

Percentage of physicians employed through hospital-owned practices

51 to 75%

76 to 99%

4.5% 3.4%

10% 5% 0% 0%

1 to 10%

11 to 25% ■ Fall 2011

References 1. https://www.cms.gov/NationalHealthExpendData/03_NationalHealthAccountsProjected.asp

ration among physicians and hospitals. We asked survey participants to identify the percentage of physicians in their organizations who are employed through hospital-owned practices. More than 60 percent of respondents indicated that up to 50 percent of physicians are employed, a 5 percent increase from fall 2011 results. Furthermore, only 12.4 percent of respondents indicated no physician employment at their organizations, a 7.8 percent drop from fall 2011 results (Figure 7).

Figure #7

20.2%

Data from Premier’s comparative database support this conclusion. Outpatient volumes have exhibited a year-over-year growth rate of 3.4 percent, and outpatient surgery volume has increased by 4.6 percent over the same period. Inpatient volumes (-0.6 percent) and inpatient surgery volume (0.3 percent) both remained relatively flat during this time period. These metrics are based on a sample of 444 healthcare facilities that

Physician employment continues to rise

12.4%

We also asked participants to forecast their 2012 patient admissions as compared to 2011. Half of them indicated that they expect an increase, while the remaining 50 percent anticipate admissions will either remain flat or decrease. These results may signal a plateau in expected patient admissions, as 60 percent indicated growth in admissions in the fall 2011 survey results. However, strong growth in the non-acute care sector is evidenced by 29 percent of respondents, who expect that patient admissions in this sector will increase by more than 5 percent. That is an 18 percent increase from fall 2011 (Figure 6).

submitted both inpatient and outpatient data to a database maintained by the Premier healthcare alliance over two years, from Q3 2009 through Q2 2011.

Percentage of respondents

Patient admissions begin to plateau

26 to 50%

■ Spring 2012

100%

About the survey In early 2012, Premier, in collaboration with Customer Care Measurement & Consulting LLC, commissioned an online survey of more than 10,000 healthcare leaders across our membership. The survey respondents (n=730, 7.0 percent) represented a cross-section of organizational roles, geographies, and types of organizations, including both the acute and non-acute healthcare markets. An overview of the respondent profile is below: Organization type

Percentage of respondents 15% 30% 19% 15% 3% 1% 0% 2% 1% 1% 2% 8% 4%

Geographic area

Percentage of respondents

C-suite Supply chain or materials management Physician Clinician Service line or practice area manager/director Quality improvement Finance and/or accounting Office administrator/manager Marketing/communications/public relations Other

19% 27% 1% 5% 26% 3% 1% 9% 0% 7%

E C O N O M I C S ECONOMIC O U T LO O K

Large hospital (501+ beds) Midsize hospital (between 200 and 500 beds) Small hospital (less than 200 beds) Critical access hospital Academic medical center Ambulatory or outpatient center Physician-owned specialty hospital Multi-specialty group practice Single-specialty group practice Surgery center Senior-living facility Multi-hospital system/IDN Other

Organizational role

Rural location

6% ■ ■ ■ ■ ■ ■ ■

Northeast Mid-Atlantic Southeast Midwest Southwest Northwest West Coast

27%

9% 6%

10% 10%

■ Yes ■ No

54%

46%

32%

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Price indexes: CPI, PPI, and CMS marketbaskets

▲▲▲▲▲▲▲▲▲▲▲▲▲▲▲▲▲▲▲▲▲▲▲▲▲▲▲ What price indexes are important in the healthcare industry? Industry stakeholders – including suppliers, healthcare systems, and the Centers for Medicare & Medicaid Services (CMS) – use three key price indicators when examining inflationary pressures in the marketplace. They are the consumer price index (CPI), producer price index (PPI), and the CMS marketbaskets. CPI and PPI are both economic indicators that measure the average change over time in the prices of fixed goods and services. A primary use of the CPI is to compare a household’s cost for a specific basket of finished goods and services with the cost of the same basket during an earlier benchmark period. The weight given to each basket item is fixed. The PPI uses a similar benchmark approach, but it measures price changes reported by establishments at the wholesale, rather than the retail, level. While both indices measure inflation, they differ in the goods and services eligible for inclusion.1

Economic indicators that are more specifically used within the healthcare industry are CMS marketbaskets. CMS uses the marketbaskets to measure how much more or less it would cost at a later time to purchase the same mix of goods and services purchased during a base period. These indicators reflect price inflation facing providers of medical services. A brief summary of each index appears below, accompanied by recent relevant data designed to provide member organizations with additional budgeting resources.

How are these indexes calculated?

categories in the consumer price index. There are two medical care classifications, medical care commodities and medical care services, with each containing several item categories (strata).2 The CPI-U increased 0.4 percent before seasonal adjustment from January 2012 to February 2012 and 2.9 percent before seasonal adjustment for the 12 months from February 2011 to February 2012. The categories of medical care commodities and medical care services increased 3.3 percent and 3.4 percent, respectively, from February 2011 to February 2012.3 Producer price index (PPI)

Consumer price index The CPI measures price change from the consumer’s perspective and includes goods and services purchased for personal consumption by urban U.S. households. While there are many categories within the CPI, the two most commonly used in healthcare are the CPI for all urban consumers (CPI-U) and the CPI for medical care. Medical care is one of eight major

In contrast to CPI, PPI measures price change from the perspective of the seller and includes the entire market output of U.S. producers. Since PPI captures price movement prior to the retail level, it may foreshadow subsequent price changes for business and consumers.4 The PPI for finished goods, which is the most commonly used measure of PPI, rose 3.3 percent for the 12 months that ended

February 2012. The 12-month change from February 2011 to February 2012 for the net output of selected industries is pharmaceutical and medicine manufacturing, 4.8 percent; medical equipment and supplies manufacturing, 0.6 percent; and surgical and medical instrument manufacturing, -0.6 percent.5 Additional information is available from the Bureau of Labor Statistics at www.bls.gov/CPI and www.bls.gov/PPI. CMS marketbaskets The CMS marketbaskets are used to update payments and cost limits in the various CMS payment systems. Individual marketbaskets are produced for many of the payment systems to more accurately measure their own inflation indices. The:

The marketbasket of interest for most hospitals is the Inpatient Prospective Payment System (IPPS), which is expected to closely approximate a hospital’s projected change in Medicare revenue. In FY 2012, CMS revised its estimated marketbasket update for hospitals that report quality data to 3 percent.

The marketbaskets are constructed from mutually exclusive spending categories, which are weighted using data collected via hospitals’ Medicare cost reports and corresponding price indices. The overall hospital price index is the sum of each category’s product weight and corresponding price index. The price indices, or price proxies, which are used to calculate the marketbasket, include data from the Bureau of Labor Statistics, most commonly the producer price indices.

It is important to note that the key cost category in the index is compensation expense, which includes labor and benefits, and is weighted at 60 percent. The index also includes major purchasing categories, such as food, pharmaceuticals, blood, and equipment.

The marketbasket levels and percentage changes are updated quarterly, with each new forecast containing an additional quarter of historical data.7 CMS sets payment updates prospectively for the following fiscal year using a marketbasket containing the latest available data at the time the final regulation is published. Once this update has been determined, it is generally not revised for more currently available data. However, because marketbasket data is updated quarterly, the current marketbasket may be different,

Additional information may be obtained from the Centers for Medicare & Medicaid Services at www.cms.gov/MedicareProgramRatesStats/05_MarketBasketResearch.asp. References: 1. www.bls.gov/ppi/ppivcpi.pdf 2. www.bls.gov/cpi/cpifact4.htm 3. www.bls.gov/cpi/home.htm 4. www.bls.gov/ppi/ppiover.htm#Link6 5. www.bls.gov/ppi/ 6. www.cms.gov/MedicareProgramRatesStats/ 05_MarketBasketResearch.asp 7. http://www.cms.gov/MedicareProgramRatesStats/downloads/mktbskt-pps-hospital2006.pdf 8. Ibid.

E C O N O M I C S ECONOMIC O U T LO O K

• Prospective Payment System (PPS) hospital marketbasket updates inpatient hospitals’ operating and outpatient PPS payments as well as cost limits for children’s hospitals, cancer hospitals, and religious non-medical healthcare institutions. • Skilled nursing facility marketbasket updates payments to skilled nursing facilities. • Home health agency marketbasket updates home health PPS payments. • PPS hospital capital marketbasket updates inpatient hospitals’ capital PPS payments.

depending on the variances in the forecast data and data currently available.8

• RPL marketbasket updates inpatientrehabilitation, psychiatric, and long-term care PPS payments. • Medicare economic index is used in conjunction with the sustainable growth rate to update the physician fee schedule.6

CPI-U, Medical care CPI, and IPPS marketbasket rates (2005-2012) 5%

Annual percent change

4% 3%

■ ▼

▼ ■

■ ▼

■

▼

▼ ■

2% 1% 0%

■ -1% 2005

2006

■ CPI-U

2007

Medical care CPI

2008

2009

2010

2011

2012

▼ Medicare marketbasket - inpatient hospital

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Premier’s supply chain solutions Premier’s Medical-Surgical Inflationary Calculator A resource to help proactively manage medical-surgical supply spend in 2012-2013 The Medical-Surgical Inflationary Calculator is a quick and easy-to-use resource designed to help members estimate Premier medicalsurgical supply spend during the budgeting process. The calculator: > Compares Premier’s contractual price protection and suppliers’ price inflation estimates to deliver a detailed estimate of projected supply costs; > Prepopulates the spend profile from one SpendAdvisor® report and enables users to manually adjust for expected changes in spend; > Compensates for off-contract spend with an optional SpendAdvisor report; > Alerts members to contract categories that will be renegotiated in the current year; > Provides aggregate inflation estimates by line of business; and > Analyzes spend by individual facility or IDN. The calculator is located on Premier’s Economic Outlook website (premierinc.com/economicoutlook). For more information about the Medical-Surgical Inflationary Calculator, please contact the Premier Solution Center at solutioncenter@premierinc.com.

Premier’s Drug Budget Tool

Premier’s Supply Mix Index™

A resource to help navigate the way to proactive drug expense management in 2012-2013

A methodology to calculate supply cost indexes for every Medicare Severity - Diagnosis-Related Group (MS-DRG).

The Drug Budget Tool v. 6.7 saves time and money by prepopulating profiles for analysis and enabling users to evaluate their drug purchases. The tool is designed to: > Analyze 90 percent of annual drug purchases; > Examine entire systems as well as multiple hospitals from one SpendAdvisor report; and > Automatically fill in all of the application’s analytic cells. The tool can be found in the PharmacyConnect® section of Premier’s website, under the Financial Management heading (login required). If you would like to learn more about the Drug Budget Tool, please email Jerry Frazier, director of Premier’s Center for Evidencebased Pharmacy Practice, at jerry_frazier@premierinc.com.

The Supply Mix Index methodology, which combines clinical and supply cost data from more than 350 hospitals, is designed to: > Enable the calculation of a hospital’s Supply Mix Index based on the unique mix of services provided to patients. The Supply Mix Index can also be calculated across systems, within service lines, and at other levels within a system. > Be statistically sound. The MS-DRG Supply Mix Index weights were calculated using more than 3.7 million patient-level records from Premier’s QualityAdvisor™ database. > Demonstrate a more direct correlation to supply expense-per-patient case than does the Case Mix Index (CMI). Premier’s Supply Mix Index is based on the supply cost within a case, while the Case Mix Index incorporates other significant, nonsupply-related expenses. > Allow for cross-hospital comparisons of supply efficiency and intensity. Premier’s new methodology will initially be used in the executive-level reporting application of SupplyFocus®, which is used by acute care facilities. SupplyFocus is also included with OperationsAdvisor®, Premier’s labor productivity and benchmarking product. To learn more about Premier’s Supply Mix Index methodology, please email Mark Hiller, vice president of innovative solutions, at mark_hiller@premierinc.com.

Inflation summary

Range of supplier inflation estimates: These figures show the range of supplierreported inflation estimates for products within a service line. The range does not take into account Premier contract price protection or utilization data. Average of supplier inflation estimates: The supplier’s estimate of the average percent increase is based on a true average.

Projected Premier contract inflation estimates are calculated as follows: Pharmacy – Projections are derived from the Premier Drug Budget Development Tool. All others (except Foodservice) – Projections reflect the expected weighted average percent change in contract pricing for the existing contract portfolio as of April 1, 2012.

Range of inflation estimates

Average of inflation estimates

Projected Premier contract inflation estimates

Alternate Site Healthcare

0% - 12.0%

3.76%

0.20%

Cardiovascular Services

0% -

5.0%

2.64%

0.01%

Clinical Laboratory Services

0% - 15.0%

3.93%

1.28%

Facilities

0% - 15.0%

5.66%

2.03%

Not applicable

Foodservice *

1.0% -

5.0%

Imaging

0% - 15.0%

4.73%

0.72%

IT / Telecommunications

0% - 14.0%

5.24%

0.10%

Materials Management

0% - 15.0%

4.21%

1.44%

Medical Surgical Distribution

0% -

5.0%

2.20%

0.00%

Nursing

0% - 12.0%

3.62%

0.47%

Pharmacy **

0% - 15.7%

5.55%

4.30%

Surgical Services

0% - 15.0%

3.23%

1.00%

Women and Children's

0% - 12.0%

3.06%

0.17%

E C O N O M I C S ECONOMIC O U T LO O K

Service line

* Foodservice estimate extracted from Bureau of Labor Statistics ** Pharmacy data derived from Premier's Drug Budget Development Tool Estimated inflationary changes are subject to change.

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C O M M O D I T I E S O V E R V I E W ECONOMIC O U T LO O K

2012 COMMODITIES OUTLOOK

E RI

P E R

E I R

? E V

2012

2011

2010

500 450 400 350 300 250 200 150 100 50 0

2009

Thompson Reuters/Jefferies CRB index

2008

To say that 2011 was a volatile year in the commodity markets would be a huge understatement. After peaking in May 2011, the Thomson Reuters/Jefferies CRB commodities index declined 15 percent overthenextseven months. The pullback in prices impacted most major commodities, with the exception of oil and gold.

133%

98%

179%

147%

424%

296%

241%

92%

Jan 08 Jan 09 Jan 10 Jan 11 Jan 12 Many economists believe that commodity pricing will conSource: Jefferies.com Note: The index is composed of 19 commodities: aluminum, cocoa, coffee, copper, corn, cotton, crude oil, gold, heating oil, tinue to increase over the long lean hogs, live cattle, natural gas, nickel, orange juice, silver, soybeans, sugar, unleaded gas, and wheat. term. Limited supplies of most commodities are under presPolitical relations with Iran may have the outlines three scenarios for China’s sure from a rapidly growing world populamost potential to drive a spike in commodigrowth and its associated impact on tion and developing economies. According ties prices, specifically oil. A Bank of commodity prices:2 to a recent Wells Fargo report, “As long as America Merrill Lynch economist estimated emerging market economies continue to • Full speed ahead (8-14 percent growth) – that increased instability in the Middle East grow at a relatively strong pace, the added Commodities prices could climb even could add $20-$40 per barrel to oil prices.4 population entering the middle classes in higher than in 2011. those countries should fuel demand for Most economists project that non-oil com• A hard landing (4-6 percent growth) – commodities and keep prices relatively modity prices will decline in 2012, with the While 4-6 percent would be strong growth high. For example, just the transition of International Monetary Fund predicting a for a mature economy, this significant of a 5 percent of the population of the three 14 percent decrease. However, changes in reduction in China’s growth could lead to most populated countries from the lower the strength of the global economy, global large declines in many commodities. classes into the middle classes is estimated political affairs and international monetary • Slow but steady growth (high single-digit to add 140 million new consumers into the policy definitely could affect commodity growth) – This rate of growth would likely world economy.”1 pricing in the coming year. lead to continued upward pressure on commodity prices, with spikes in some markets. China, one of the world’s most rapidly The following pages include market growing economies and a huge commodity Other key factors that will influence the overviews for several key commodities that importer, can single-handedly move complay a significant role in the healthcare commodities markets in 2012 are the Euromodities markets. The Wall Street Journal supply chain. Included are the primary pean economic recovery and international drivers impacting raw material pricing, political relationships supply and demand projections for 2012, with Iran. The European China’s impact on key commodities and a 12-month price outlook for specific Central Bank (ECB) The percentage change in China’s Premier product categories. recently announced a consumption of these stimulus program to commodities, 2000-2010, References and in their prices, provide $660 million to 1. Aleman, Eugenio, Wells Fargo Securities Economics Dec. 31, 2000, to financial institutions. Group. “Special Commentary – Commodity Price Dec. 31, 2010 ■ Consumption Volatility to Continue.” 12/30/11. https://www.wellsThe last ECB stimulus in fargo.com/ ■ Price December 2011 was foldownloads/pdf/com/research/special_reports/Commodity_Price_ Volatility_to_Continue_12302011.pdf lowed by an 11 percent (accessed 2/28/12). increase in the TRJ/CRB 2. Pleven, Liam. “As China Goes, So Go Commodities.” The Wall Street Journal. 12/14/11. index.3 Therefore, it is http://online.wsj.com/article/ likely that the latest SB1000142405297020401200457707397176829092 round of stimulus 2.html?KEYWORDS=as+china+goes+so+goes+commodities (accessed 2/27/12). will lead indirectly to 3. Reuters. “Expect Commodity Swings as Monetary OIL COPPER SOYBEANS COTTON commodity investments Stimulus Ends.” http://www.cnbc.com/id/46603526 (accessed 3/2/12). that could provide up4. Ibid. 2 ward price momentum. Source: The Wall Street Journal ; U.S. Energy Information Administration; International Copper Study Group; U.S. Department of Agriculture; SIX Telekurs; IntercontinentalExchange Inc. O UTLO O K • SPR I NG 2 0 1 2 |

Minimizing raw materials risk A sample of Premier’s contracted suppliers identified key raw materials that serve as primary cost drivers of their products’ pricing. Potential category and market impacts are shown for the raw materials featured in this publication.

In order to minimize the risk associated with raw materials’pricing, healthcare facilities should: • Review categories that may be impacted by fluctuations in raw material costs; • Use the inflation tables in this publication to locate suppliers with firm pricing in a

Energy Premier contract impact* Medical and surgical product distribution Integrated platform (chemistry and immunochemistry analyzers, automation, reagents, consumables, and service) Advanced wound care

Base metals Premier contract impact* Surgical instruments Surgical energy products Ice machines and water-dispensing products and services

Organic and inorganic chemicals Premier contract impact* Hematology analyzers, automation, reagents, consumables, and service Housekeeping products

category impacted by raw materials of interest; • Refer to the contract launch materials in Supply Chain Advisor® to identify a category’s lowest-cost provider; and • Reference the inflation tables to find suppliers that offer utilization-review programs.

Energy consists of: • Fuel/transportation (90%) • Crude oil (7%) • Natural gas (3%) Other 5%

Base metals 4% Organic and inorganic chemicals 4%

Paper 1% Precious metals 1%

Energy 38%

Natural and synthetic rubber 2% Cotton 2%

Plastic resins 14%

Electronic components 3% Price increase risk High Moderate Low Labor 26%

Plastic resins Premier contract impact* Custom-procedure trays/packs, gowns, and related products Respiratory therapy products Safety IV catheters *Refer to contract-specific price protection information in the inflation tables.

Labor Premier contract impact* Clinical reference laboratory testing services Sterile reprocessing Enterprise image management solutions

C O M M O D I T I E S O V E R V I E W ECONOMIC O U T LO O K

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COPPER MARKET OVERVIEW

2010

2011

2012

500 450 400 350 300 250 200 150 100 50 0

2009

cents/pound

Average monthly copper prices (London Metal Exchange)

Jan 09

Jan 10

Jan 11

Jan 12

Source: U.S. Geological Survey: Copper Statistics and Information

Copper market update Copper prices declined 23 percent in late 2011 due to slowing European and Chinese demand and economic uncertainty in the European Union. Copper prices are expected to rise and stabilize during the first half of 2012 as demand in China rebounds and Europe’s banking outlook continues to improve.1 Although China’s year-over-year demand for copper is expected to decline in 2012, the country will continue to be the

dominant global copper consumer, accounting for approximately 40 percent of worldwide use.2 > Global copper demand in 2012 is expected to exceed its production by 250,000 tons.3 > Japanese demand for copper may remain high in 2012 as reconstruction continues after the earthquake and tsunami of March 2011.4 > U.S. copper demand is relatively unchanged compared to 2010.5 > The U.S. ranks third in copper

Product categories with high copper content and 12-month price outlook Construction services Energy efficiency services HVAC equipment, controls and services Ice machines and dispensers Maintenance, repair and operations Medical gas pipeline equipment, services and accessories Price increase risk: ■ High

■ Moderate

■ ■ ■ ■ ■ ■ ■ Low

consumption worldwide, with 45 percent of copper and its alloys used in building construction, 23 percent in electronic products, 12 percent in transportation equipment, 12 percent in consumer and general products, and 8 percent in industrial equipment and machinery.6 > Other economic factors influencing the supply and demand of copper include potential labor and union strikes, weather conditions, and decreased investments in mining, leading to deterioration in ore grades.4 References 1. Copper traders brush off China CPI spike. Retrieved from http://www.theaustralian.com.au. 2. China copper demand growth to decline 50% in 2012. Retrieved from http://www.commodityonline.com. 3. International Copper Study Group, October 2011. 4. Copper fundamental outlook: 2012 deficit may hit 200,000 tonnes. Retrieved from http://www.copperconnects.com. 5. Ibid. 6. U.S. Geological Survey, Mineral Commodity Summaries, January 2012.

COPPER MARKET OVERVIEW

Projections for 2012

Demand outpaces production

Impact on copper prices

C O M M O D I T I E S O V E R V I E W ECONOMIC O U T LO O K

Factor

Comments The global growth in copper demand for 2012 is expected to exceed production by 250,000 tons.3

Asian demand

China is still the dominant consumer of copper, although growth compared to prior years is expected to decline.2 Other economic factors influencing the supply and demand in copper

Market uncertainty

include potential labor and union strikes, weather conditions, and decreased investments in mining, leading to deterioration in ore grades.4

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COTTON MARKET OVERVIEW The Cotton “A” index is an estimate of the world price of cotton. It is an average of the five lowest quotations for a sample of 19 cottons traded internationally.

Cotton “A” index 250

150

2010

2011

2012

100

2009

cents/pound

200

Jan 09

Jan 10

Jan 11

Jan 12

50 0

Source: Cotton.org and Bloomberg.com Note: Index values were unavailable from June 23, 2010, through August 1, 2010, and again from June 10, 2011, through August 1, 2011, due to insufficient quotes from merchants.

Cotton market update More stable prices in 2012? The past two years have seen unprecedented volatility in cotton prices. After years where prices ranged between 50 cents and 70 cents per pound, cotton began its climb in 2010 when the average price of cotton rose 68 percent over 2009. Cotton prices peaked in March 2011 with the month’s average price at nearly $2.30 per pound. In April, however, a downward slide began, and by December 2011, the average price was 95 cents. In early 2012, cotton prices have remained steady at around $1 per pound. Much of the pricing support in recent months has come from China, where the government is focused on building its strategic reserves. The consensus of market observers is that cotton prices will not exceed

$1.10 in 2012. The International Cotton Advisory Committee recently projected an average cotton price of $1.07 per pound for the 2012/2013 crop year, which begins in August.1 This forecast for very moderate price changes in the coming year is based on the expectation that production will exceed consumption, leading to a rise in cotton inventories.2 Similarly, the National Cotton Council of America’s 2012 Cotton Outlook

predicts that upward forces on prices will be limited as a result of increases in year-end stocks.3 Morgan Stanley anticipates that cotton prices for the 2012/2013 crop year will average 80 cents per pound.4 The Morgan Stanley report cites slow retail sales and the end of the Chinese reserve purchasing program after the first quarter of 2012 as the key drivers of lower prices in 2012.5

Product categories with high cotton content and 12-month price outlook Bandages, dressings and gauze Lap sponges, OR towels and specialty sponges Restraints and fall prevention Reusable textiles and textile services Advanced wound care Price increase risk: ■ High

■ Moderate

■ ■ ■ ■ ■ ■ Low

COTTON MARKET OVERVIEW

Projections for 2012

Factor Decreasing global production

Impact on cotton prices

Comments Expected drop in 2012/2013 production, although production is expected to continue to exceed consumption. Stocks/use ratio expected to be 53 percent, up from 40 percent in

Consumer demand

Consumer demand will be tied to the strength of the global economic

C O M M O D I T I E S O V E R V I E W ECONOMIC O U T LO O K

Higher estimated stocks (inventories) for 2011/2012

2010/2011.*

recovery. In addition, many manufacturers may have moved to alternative fibers when cotton prices peaked in 2011. * Source: USDA References 1. International Cotton Advisory Committee. “Global Cotton Mill Use: Short-term Respite but Medium-term Uncertainty.” 2/1/12. http://icac.org/download/press-releases/pr_february_2012.pdf (accessed 2/14/12). 2. Ibid. 3. Cotton.org. “The Economic Outlook for U.S. Cotton 2012.” http://www.cotton.org/econ/reports/upload/12annmtg_all_final.pdf (accessed 2/14/12). 4. Agrimoney.com. “Cotton prices – are they in for another trouncing in 2012?” 1/4/12. http://www.agrimoney.com/feature/cotton-prices---arethey-in-for-another-trouncing-in-2012--135.html (accessed 2/15/12). 5. Ibid.

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Q&A

COTTON MARKET OVERVIEW

O&A WITH JON DEVINE Senior economist with Cotton Incorporated

Is $1 per pound or greater the new norm for cotton? Will prices ever revert to the levels prior to 2010? To address the question of whether or not cotton prices will remain elevated relative to historic levels, we can look at recent price movement. Following the peak in prices last March, the worldâ&#x20AC;&#x2122;s cotton prices have fallen significantly, and demand has reportedly been weak since the peak. Prices have since stabilized, and currently, New York futures have been trading at levels between 90 and 95 cents per pound. As price levels above 90 cents per pound have been rare in the past, it is interesting that these higher levels have remained in spite of weak demand, record production, and a

large increase in world cotton supplies. That may be directly related to prices for those crops that compete with cotton acreage. For instance, both corn and soybean prices remain high. For cotton to maintain acreage, cotton prices would have to be competitive. At current levels, cotton is less competitive than it has been the last two seasons, with a reduction in world cotton acreage forecast for the 2012 harvest. The International Cotton Advisory Committee expects global decreases of 8 percent in cotton acreage and 6 percent in cotton harvests, while the

National Cotton Council anticipates an 8 percent drop in U.S. cotton acreage. Markets tend to look toward the future, so threatened reductions in acreage and harvests might partially explain why cotton prices have sustained such high levels. Once corn and soybean prices rose, they remained at higher levels, even with the collapse in demand that occurred with the onset of the credit crisis and the global recession. Since cotton must compete with these crops, a similar trend could be expected for cotton prices, suggesting that they will remain higher than those prior to the 2010/11 crop year.

How does the pace of the global economic recovery influence cotton prices? The intermittent recovery from the global recession has added further uncertainty to the worldâ&#x20AC;&#x2122;s global commodity markets. The greatest impact for cotton may have been in downstream supply chains. During the recession, retailers responded to the uncertainty of consumer demand with smaller orders and lower inventory levels. While import volumes indicated some recovery in demand in 2010 and early in 2011, total textile and apparel imports into the U.S. in 2011 were

lower than they were in 2010. If the U.S. is representative of global end-use, then the reduction in inventories will emerge as a contributing factor to the slowdown in demand that has allowed prices to drop so sharply during the spring and summer. Given the gentle recovery in the U.S., and the occasional relief regarding the European debt crisis, consumer demand may gradually improve. If this occurs, especially in combination with

increased growth in emerging markets, there could potentially be some light upward pressure on cotton prices. An anticipated decrease in acreage could also lead to slightly higher cotton prices in the coming season. Regardless, considering the large accumulation of world cotton supplies following the events of last year, there is little chance of seeing a rally comparable to the elevation in 2010/11.

ENERGY MARKET OVERVIEW

[ OIL ]

The U.S. Energy Information Association (EIA) expects the price of West Texas Intermediate (WTI) crude oil to average about $100 per barrel in 2012, almost $6 per barrel higher than last year. Based on recent futures and options data, the market believes there is about a 1-in-15 chance that the average WTI price in June 2012 will exceed $125 per barrel and about a 1-in-50 chance that it would be more than $140 per barrel. For 2013, EIA expects WTI prices to continue to rise, reaching $106 per barrel in the fourth quarter of next year.

[ GASOLINE ]

The EIA says regular-grade motor gasoline retail prices will average $3.55 per gallon in 2012 and climb to an average of $3.59 per gallon in 2013. This compares to $3.53 cents per gallon in 2011. During the April through September peak driving season, prices are forecast to average about 7 cents per gallon more than the annual average. Recent options and futures price data imply that the market believes that there is about a 25 percent chance that the U.S. average pump price of regular gasoline could exceed $4 in June of this year.

[ NATURAL GAS ]

Natural gas working inventories continue to set record seasonal highs, reaching an estimated 2.86 trillion cubic feet (Tcf) at the end of January 2012, about 24 percent above the same time last year. EIAâ&#x20AC;&#x2122;s average 2012 Henry Hub natural gas spot price forecast is $3.35 per million British thermal units (MMBtu), a decline of about $0.65 per MMBtu from the 2011 average spot price. The EIA expects Henry Hub spot prices to average $4.07 per MMBtu in 2013. C O M M O D I T I E S O V E R V I E W ECONOMIC O U T LO O K

Source: U.S. Energy Information Administration

International crude oil market Absent a significant oil supply disruption, the EIA anticipates that world markets will continue to gradually tighten in 2012 and 2013, as increases in global consumption outpace production growth in countries that do not belong to the Organization of

the Petroleum Exporting Countries (OPEC). World liquid fuels consumption is predicted to grow by an annual average of 1.3 million barrels per day (bbl/d) in 2012 and 1.5 million bbl/d in 2013, with supply from non-OPEC countries increasing by 0.8 million bbl/d in 2012 and 0.9 million bbl/d in 2013. The EIA expects the market to rely on both inventories and increases

in production of crude oil and noncrude liquids from OPEC members to meet world demand growth. A number of significant uncertainties could push oil prices higher or lower. Should a significant oil supply disruption occur without OPEC members increasing production or if planned non-OPEC projects come online more

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ENERGY MARKET OVERVIEW

U.S. gasoline and crude oil prices Crude oil Retail regular gasoline

4.50 3.50 3.00 2.50 2.00

2009

2010

2011

2012

2013

2014

1.50

2008

dollars per gallon

4.00

0 Jan 08

Jan 09

Jan 10

Jan 11

Jan 12

Jan 13

Jan 14

1.00 .50

Source: U.S. Energy Information Administration, Short-Term Energy Outlook, March 2012 Note: Crude oil price is average refiner acquisition cost. Retail prices include state and federal taxes.

Jan 11

Jul 11

Jan 12

Jul 12

Jan 13

2014

2013

Historical spot price STEO price forecast NYMEX futures price 95% NYMEX futures price confidence interval

2012

260 240 220 200 180 160 140 120 100 80 60 40 20 0

2011

dollars per barrel

West Texas Intermediate (WTI) crude oil price

Jul 13

Source: U.S. Energy Information Administration, Short-term Energy Outlook, March 2012 Note: Confidence interval derived from options market information for the 5 trading days ending March 1, 2012. Intervals not calculated for months with sparse trading in "near-the-money" options contracts

ENERGY MARKET OVERVIEW

slowly than expected, oil prices could be significantly higher. If the pace of global economic growth fails to accelerate in countries that belong to the Organization for Economic Co-operation and Development (OECD), or if economic growth slows in non-OECD countries, reduced demand could result in lower prices.

OECD consumption fell by 490,000 bbl/d in 2011 and is expected to decline again in 2012, as very modest consumption growth in the United States and Japan will be offset by a decline in consumption in Europe. Non-OECD countries are likely to account for most of the world’s consumption growth over the next two

years, with the largest contributions coming from China and the Middle East. The EIA believes that non-OECD consumption will grow from 1.3 million bbl/d in 2011 to 1.5 million bbl/d in 2012 before slowing to 1.3 million bbl/d in 2013.1 References 1.http://www.eia.gov/forecasts/steo/index.cfm

Projections for 2012

Factor

Impact on oil prices

Comments

Increasing demand from

Continued worldwide demand in areas such as China and the Middle East

emerging economies

has increased, causing prices to rise.

Political events that could cause

A dispute over oil transportation and transfer fees between South Sudan

temporary supply disruptions

and its northern neighbor, Sudan, has reportedly led South Sudan to shut down production of about 350,000 barrels per day. Additionally, the European Union has agreed to ban all Iranian oil imports to its member countries beginning in July of this year. This situation could also lead to a reallocation of global crude oil flows. C O M M O D I T I E S O V E R V I E W ECONOMIC O U T LO O K

Lastly, negotiations for a voluntary debt write-down continue between the Greek government and its bondholders. These ongoing financial challenges not only impact economies within the eurozone, but also have the potential to affect near-term growth prospects and demand for petroleum products. OPEC production

The EIA expects OPEC members’crude oil production to continue to rise over the next two years, as it accommodates increasing world oil consumption. OPEC crude oil production is expected to grow by about 250,000 bbl/d and 520,000 bbl/d in 2012 and 2013, respectively.

Source: U.S. Energy Information Administration

O UTLO O K • SPR I NG 2 0 1 2 |

FOOD MARKET OVERVIEW The food price index from the Food and Agriculture Organization of the United Nations is an average of six commodity groups: meat, dairy, cereals, oils, fats and sugar. FAO food price index

200 150

2009

2010

2011

2012

100

2008

2002-2004 = 100

250

Jan 08

Jan 09

Jan 10

Jan 11

Jan 12

50 0

Source: FAO.org

Food market update

Corn -9%

Soybeans Lean hogs -8% -3%

Wheat -25%

Global food prices The Food and Agriculture Organization of the United Nations’ food price index peaked in February 2011. Since then, the index has declined steadily, ending 2011 down 11 percent from its peak in February. Prices in nearly all food categories have decreased with agricultural commodities like wheat, corn and sugar leading the way. Only cattle prices have increased in the last year. Rising prices for cattle have been driven by strong demand in foreign markets and reduced supply due to the drought in Texas and surrounding states.1 While the U.S. population has doubled over the last 60 years, the size of cattle population has remained relatively unchanged.1 Although there may be price relief in the short term, many believe that

Live cattle 16%

Sugar -21%

Coffee -21%

Source: CNNMoney.com. Price change shown is from 2/15/11 – 2/15/12.

the age of declining food prices has come to an end. According to a recent Reuters survey, “the era of cheap food may well be over, as rising crop production struggles to keep pace with soaring global demand, particularly from the mushrooming middle-class populations of developing nations such as China and India.”2 The United Nations has reported that food production must increase 70 percent by 2050 in order to feed the world’s estimated 9 billion people. U.S. food prices The USDA projects food prices will increase 2.5 - 3.5 percent in 2012,

following inflation of 3.7 percent in 2011.3 In a presentation at the USDA’s annual Outlook Forum, chief economist Joseph Glauber noted that high prices have “prompted a global production response for most commodities. As a result of increased plantings and generally favorable yields, record production levels have been reached this year which have helped moderate prices for most crop prices.”4 References 1. Knutson, Jonathan. “No beef with prices.” 2/13/12. Agweek.com. http://www.agweek.com/event/article/id/19535/ (accessed 2/15/12). 2. Reuters.com. “Food inflation in focus amid lofty crop price outlook.” http://www.reuters.com/article/2011/07/2 5/us-markets-grains-pollidUSTRE76043220110725 (accessed 7/25/11). 3. USDA. “Food Price Outlook 2012.” http://www.ers.usda.gov/briefing/cpifoodandexpenditures/consumerpriceindex.htm (accessed 2/24/12). 4. Glauber, Joseph. “Outlook for U.S. Agriculture in 2012.” 2/24/12. http://www.usda.gov/oce/forum/2012_Sp eeches/Glauber.pdf (accessed 2/24/12).

FOOD MARKET OVERVIEW Food categories and 12-month price outlook Inflation forecasts Category

Subcategory

Q2 2012

■ = > 5%

6.6% 24.7% 52.3% 10.0% 6.1% 1.3% 1.0% -1.1% 1.0% 3.7% -8.7% -18.2% 3.0% 6.0% 0.0% 0.0% 0.0% 0.0% 0.0% 5.0% 2.0% 1.5% 3.0% 3.0% 3.0% 3.0% 5.0% 6.0% 6.0% 4.0% 4.0% 3.0% 6.0% 4.0% 4.0% 2.0% 7.0% 5.0% -3.0% 0.0% 1.0% 2.0% 2.0% 2.0% 2.0% 2.0% 2.0%

■ = 0.1% - 4.9%

2012 5.8% 19.8% 42.0% 7.8% 5.7% -0.6% -1.5% -1.9% -1.0% 0.4% -5.7% -13.5% 3.0% 7.0% 7.0% 5.0% 5.0% 5.0% 5.0% 10.0% 3.5% 2.5% 3.0% 3.0% 4.0% 3.0% 5.0% 5.0% 5.0% 5.0% 5.0% 5.0% 6.0% 5.0% 4.0% 6.5% 8.0% 5.0% 1-2% 3.0% 4.0% 4.0% 3.0% 3.0% 3.0% 4.0% 4.0%

■ ■ ■ ■ ■ ■ ■ ■ ■ ■ ■ ■ ■ ■ ■ ■ ■ ■ ■ ■ ■ ■ ■ ■ ■ ■ ■ ■ ■ ■ ■ ■ ■ ■ ■ ■ ■ ■ ■ ■ ■ ■ ■ ■ ■ ■ ■

C O M M O D I T I E S O V E R V I E W ECONOMIC O U T LO O K

Poultry Whole Birds Poultry Breasts Poultry Wings Beef Ribeyes Beef Rounds Pork Bellies/Bacon Pork Hams Pork Loins Pork Butts Pork Spare Ribs Dairy Cheese Dairy Butter Oils and Shortening Potatoes Frozen Beverages Juice and Juice Bases Beverages Drinks, Drink Bases/Mixes, Other Beverages Soda, RTD and Fountain Syrup Beverages Coffee Beverages Tea Beverages Hot Cocoa Bakery Breads and Rolls Bakery Desserts Produce Vegetables - Lettuce/Salads Produce Vegetables - Potatoes Produce Vegetables - Tomatoes Produce Vegetables - Onions Produce Vegetables - Other Produce Fruits - Citrus Produce Fruits - Melons Produce Fruits - Grapes Produce Fruits - Bananas Produce Fruits - Berries Produce Fruits - Apples Produce Fruits - Avocados Produce Fruits - Other Tomatoes Canned Fruits Canned Apple Products Canned (including sauce) Fruits Frozen Vegetables Canned Vegetables Frozen Seafood Shrimp, Value-Add Seafood Shrimp, Non-Value-Add Seafood Fish, Value-Add Seafood Fish, Non-Value-Add Seafood Other, Value-Add Seafood Other, Non-Value-Add

Impact on contract pricing

■ = < 0%

Source: U.S. Foods Commodities Department O UTLO O K • SPR I NG 2 0 1 2 |

PLASTIC RESINS MARKET OVERVIEW

20 09

20 10

20 11

20 12

250 240 230 220 210 200 190 180 170 160 150

20 08

Index - base year 1982 = 100

Plastic resin prices

Jan 08

Jan 09

Jan 10

Jan 11

Jan 12

Source: Bureau of Labor Statistics – Producer Price Index – Commodity – Plastic Resins and Materials

Plastic resins market update According to the Producer Price Index, plastic resin prices increased 8 percent in 2011. Rapid increases in the first half of the year were followed by subsequent declines in pricing. In early 2012, plastic resin prices appear to have rebounded, with prices for polyethylene, polystyrene and polyvinyl chloride rising in January.1 Because plastic resin is derived from crude oil and natural gas, its pricing often aligns with the market swings of these key commodities. Plastic resin will continue to be significantly impacted by a number of factors, including global economic instability and a shift from crude oil to natural gas. Other factors include, but are not limited to, exchange rates, weather patterns, geopolitical events, and threats of war or political instability.

Product categories with high plastic resin content and 12-month price outlook Custom procedure trays/packs, gowns and related products Can liners IV therapy products - sets and tubing Contrast media injectors disposables Patient bedside products Price increase risk: ■ High

> Crude oil prices – In recent months, crude oil prices have spiked to $120 per barrel on concerns that Iran, the world’s third largest oil producer, would cut exports to the European Union. International relationships with Iran and developments regarding Iran’s nuclear program could continue to influence oil prices in 2012. The U.S. Energy Information Administration (EIA) projects average 2012 crude oil prices of $100 per barrel in 2012, up 6 percent from the 2011 average.

■ Moderate

■ ■ ■ ■ ■

■ Low

> Natural gas prices – The EIA predicts that natural gas prices will average $3.10 per thousand cubic feet in 2012. This estimate is 21 percent lower than the average price in 2011. A warm winter in the U.S. has resulted in a huge surplus in supply, driving prices to 10-year lows.2 > Supply – World supply of resins will increase in 2012, with a new plant scheduled to begin production in 2012. The Chevron Phillips’ Saudi Arabian plant is expected to come online in the first quarter.3

PLASTIC RESINS MARKET OVERVIEW

Projections for 2012

Factor

Impact on plastic resin prices

Comments Crude oil prices are expected to rise 6 percent in 2012.

Global economic recovery

The strength of the global economic recovery will influence consumer

C O M M O D I T I E S O V E R V I E W ECONOMIC O U T LO O K

Feedstock costs

demand for plastics products.

References 1. Manolis Sherman, Lilli. “Commodity Resin Prices Move Upwards.” PlasticsTechnology. http://www.ptonline.com/articles/commodity-resin-prices-move-upwards (accessed 2/10/12). 2. Foxbusiness.com. “Low Natural Gas Prices Hammer Power Prices.” 2/15/12. http://www.foxbusiness.com/news/2012/02/15/low-naturalgas-prices-hammer-power-prices/ (accessed 2/16/12). 3. Esposito, Frank. “Phillips Sumika closing Texas PP plant.” 9/13/11. Plastics News.com. http://plasticsnews.com/headlines2.html?id=23121 (accessed 2/16/12).

O UTLO O K • SPR I NG 2 0 1 2 |

NATURAL AND SYNTHETIC RUBBER MARKET OVERVIEW Price change percentages since June 2009 Crude oil Natural rubber China, SIR-20 Butadiene

500% 400% 300%

2010

2011

2012

200%

2009

Price change percentage

600%

Aug 09

Jan 10

Jan 11

Jan 12

100% 0%

Source: Propurchaser.com

Natural and synthetic rubber market update Natural and synthetic rubbers are used extensively in the healthcare industry for exam and surgical gloves. Natural rubber is derived from latex sap extracted from a rubber tree, while synthetic rubber is synthesized from chemicals that result from petroleum refining.1

turing industry, with the remainder serving other sectors such as transportation, construction, healthcare, mining, etc.2 Healthcare competes for natural and synthetic rubber raw materials not only with tire production, but also with car hoses, seals and grommets. Scotiabank Group forecasts that global automotive sales will climb to more than 61 million units in 2012, marking a 4 percent increase over 2011 sales.3

Several important trends are expected to impact natural and synthetic rubber pricing in 2012:

> Butadiene (BD) price increases and manufacturing capacity reductions: Synthetic nitrile butadiene rubber is > Automotive sector growth: composed of more than 65 percent Almost 60 percent of global rubber BD, and BD prices have increased is used by the world’s tire manufac419 percent since June 2009. BD’s surging Product categories with high rubber price is forcing Asian content and 12-month price outlook synthetic rubber proExam gloves ■ ducers to manage their Surgical gloves ■ severely eroding margins by charging more Price increase risk: ■ High ■ Moderate ■ Low or cutting operating

costs.4 For example, China's Shen Hua Chemical Industrial Company Limited recently closed its Nantong BD rubber plant for approximately one month. The shutdown was attributed to high BD raw material costs and poor domestic demand, among other factors. The foremost cause, however, is decreased tire production due to lower demand from the U.S. and Europe, since the largest single use for BD is in the production of styrene butadiene rubber for automobile tires. Other rubber producers have also reduced plant operating capacity to 60-70 percent.5 > Natural rubber latex prices falling: Thailand, Indonesia and Malaysia are the world’s top natural rubber-producing countries. Natural rubber prices have fallen by about 45 percent since February 2011, due to lower demand resulting from the global economic slowdown, the Japanese earthquake

NATURAL AND SYNTHETIC RUBBER MARKET OVERVIEW and flooding in Thailand. Recent heavy rains have also limited tapping and supplies.6 “Natural rubber is facing an increasingly attractive future due to its renewable nature, while synthetic rubber is tied to the prices of oil, which is a depleting resource,” said Dr. Elli Luhat, member of the Malaysian Rubber Board. In addition, locally allocated financial assistance to clone plant material and properly tap trees is expected to help increase yield.7 > Global demand for rubber: Demand is now diminishing after rapid 15 percent growth in 2010. According to the International

Rubber Study Group, global rubber consumption reached 25.9 million tons in 2011, 6 percent higher than in 2010, which reflects a reduction in the demand for vehicles and tires. Worldwide rubber demand is forecast to reach 27.2 million tons in 2012, with a moderate 5 percent growth rate.8

ringgit. As a result, healthcare products such as exam and surgical gloves manufactured in Asia are more costly in the U.S. compared to five years ago.

> Currency exchange rates: The U.S. dollar remains weak against the Chinese yuan and Malaysian

Projections for 2012

Factor Automotive sector

Impact on rubber prices

Comments Healthcare products using natural and synthetic rubber compete with the growing automotive industry for raw material supplies.

Butadiene (BD) prices, and

Prices are increasing, and supply is constrained.

manufacturing capacity Natural rubber prices have fallen by about 45 percent since February 2011

falling

due to lower demand and recent heavy rains.

Currency exchange rates

The U.S. dollar remains weak against the Chinese yuan and

C O M M O D I T I E S O V E R V I E W ECONOMIC O U T LO O K

Natural rubber latex prices

Malaysian ringgit. Crude oil prices

The two monomers used for nitrile gloves (butadiene and acrylonitrile) are derived from oil.

References 1. International Rubber Study Group (IRSG): http://www.rubberstudy.com/storyofrubber.aspx 2. Ibid. 3. Scotiabank Group Global Auto Report January 30, 2012; http://www.gbm.scotiabank.com/English/bns_econ/bns_auto.pdf 4. FocusAsia rubber makers hike offers, cut output as BD costs surge; February 8, 2012; ICIS news; http://www.icis.com/Articles/2012/02/08/9530284/asia-rubber-makers-hike-offers-cut-output-as-bd-costs-surge.html 5. China's Shen Hua shuts butadiene rubber plant on poor demand; February 2, 2012; http://www.platts.com/RSSFeedDetailedNews/RSSFeed/ Petrochemicals/7124334 6. Thai Government To Spend THB15 Billion To Boost Natural-Rubber Prices; 17 January 2012; International Rubber Consortium Limited; http://www.irco.biz/BlogMoreDetail.php?id=2811 &ShowContent= news 7. Malaysia tops in rubber upstream sector; February 12, 2012; http://www.theborneopost.com/2012/02/12/malaysia-tops-in-rubber-upstream-sector-elli/ 8. International Rubber Study Group (IRSG): 20 December 2011 www.rubberstudy.com

O UTLO O K • SPR I NG 2 0 1 2 |

STEEL MARKET OVERVIEW

Steel market update > World crude steel production for 2011 was 1,527 million tons, or 6.8 percent higher than 2010. Every major steel-producing region increased production with the exception of Japan and Spain.1 > There was a 1.7 percent year-overyear increase to 117.1 million tons in December 2011 for world crude steel, according to production numbers for the 64 countries reporting to the World Steel Association.2 > The U.S. produced 86.2 million tons of crude steel in 2011, an increase of 7.1 percent when compared to 2010.3 > China’s crude steel production for June 2011 was 695.5 million tons, an increase of 8.9 percent when compared to 2010.4 > In the European Union, production increased 2.8 percent in 2011 to

177.4 million tons. Italy’s production increased to 11.3 percent to 28.7 million tons, while Spain’s decreased 4.6 percent to 15.6 million tons.5

Product categories with high steel content and 12-month price outlook Surgical instruments Standard and safety hypodermics Spinal implants and related products Orthopedic total joint implants Steam sterilizers Price increase risk: ■ High

> A 5.4 percent increase (to 1,473 million metric tons) in world steel demand is expected in 2012, following an estimated 6.5 percent growth in 2011.6 > China’s apparent steel use is expected to increase 6 percent in 2012, following an estimated 7.5 percent increase in 2011.7

> Steel demand in the U.S. has rebounded and is forecast to grow 5.2 percent (to 93.8 million metric tons) in 2012. Demand increased an estimated 11.6 percent in 2011 due

■ Moderate

■ ■ ■ ■ ■

■ Low

to new fiscal policy initiatives that gave a boost to the industrial and energy markets.8 > Experts expect steel prices to increase 32 percent this year, the second-largest jump since modern records began in the 1940s.9 > In November and December 2011, the price of basic steel rose 33 percent.10

STEEL MARKET OVERVIEW Projections for 2012

Factor Growth in the auto sector

Impact on steel prices

Comments Steel industry experts expect steel prices to increase by an average of 32 percent.

Demand from China

Chinese demand for steel will increase, as will prices.

Lukewarm demand in the U.S.

U.S. demand for steel is forecast to grow due to new fiscal policy initiatives, despite a depressed real estate market. Limited output may keep prices high.

References 1. “World Crude Steel Output increases by 6.8 percent in 2011,” World Steel Association, 23 Jan. 2012 http://worldsteel.org/mediacentre/press-releases/2012/2011-world-crude-steel-production.html 2. Ibid. 3. Ibid. 4. Ibid. 5. Ibid. 6. “World Steel Short Range Outlook,” World Steel Association, 18 Apr. 2011 < http://www.worldsteel.org/?action=newsdetail&id=322> 7. Ibid. 8. Ibid. 9. Ibid. 10. “Steel Forecast to Rise by up to Two Thirds,” 11 Financial Times, Jan. 2012 http://www.ft.com/intl/cms/s/0/758d30da-2720-11e0-80d7-00144feab49a.html#axzz1nPqwro4I

C O M M O D I T I E S O V E R V I E W ECONOMIC O U T LO O K

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