Outpatient Services Implications
in a Post-COVID World

For more than a decade, non-hospital-based outpatient services, especially ambulatory surgeries and imaging, have grown tremendously. The COVID-19 pandemic has fueled speculation of an acceleration in use of these services driven by a combination of economics, technological advances, and consumer preference. As a result, interest in non-hospital-based outpatient services among our health system clients has never been stronger. In addition, health systems view the comparatively high operating margins produced by outpatient surgical businesses, among others, and see opportunity.

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But for health systems, there are some serious strategic implications of this trend. These implications can be categorized by the following:

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• Addition vs. displacement

• Margin (percent) vs. margin (absolute)

• Market share and service concentration

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Addition vs. Displacement

 

This is a critical concept. Many health systems view investment in non-hospital-based outpatient services as complementary to their existing hospital-based services. This view, in turn, is based on an often-underexplored premise: that the act of introducing these services will not result in displacement but, instead, will result in additional volume and, implicitly, market share gains, though at whose expense is often unclear. Either that, or the service will be additive, even if there is little or no market share gain, which means increased cost to someone.

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There may be reason to assume that the introduction of new outpatient services is indeed additive—and that is certainly the case in high-quality, high-growth markets. Although the data is extremely hard to find, our analyses suggest that the historical rise in the use of nonhospital-based outpatient services only modestly affected the rate of use of hospital-based services—and often, only for the Medicare-insured population. If this is correct, it would mean that the increased use of nonhospital outpatient services merely resulted in an increase in the overall volume and intensity of service, along with cost, because it was largely additive and not displacing.

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But today, much of the talk about non-hospital-based outpatient services implies that displacement--specifically, avoidance of more expensive inpatient services—is the goal. That makes sense, but it also means that health systems contemplating a more robust non-hospital-based outpatient services strategy must contend with the economic effects of displacement and the imperative of gaining market share or “surfing” on a market’s high population growth—especially among the substantially higher-paying commercially insured. Up to now, a good deal of the shift to outpatient care has been “additive,” meaning it had relatively little effect on reducing inpatient services for Medicare but added more outpatient services. In the future, this shift is likely to be less additive and more substantive.

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Margin (Percent) vs. Margin (Absolute)

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The prospective margins achieved by well-run ambulatory surgery centers (“ASCs”) would catch anyone’s attention. They have certainly caught the attention of health systems. For example, a 30 percent operating margin is not uncommon. That’s certainly some exciting economics!

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But couple that with the idea that non-hospital outpatient surgeries are now intended to displace inpatient surgeries and one faces an interesting dilemma: An outpatient surgery business may generate 30 percent margins while a hospital generates 8 percent margins on its inpatient business. But an average outpatient surgery may generate $3,000 in revenue, while the average inpatient surgery might generate $30,000. While return on invested capital (“ROIC”) for the outpatient facility is much higher, absolute ROIC is still lower. $900 in operating profit, or $2,400? Which would you choose?

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If you’re a health system, the answer is clear: You need inpatient volume for the absolute margin it brings. Margins in ASCs are a function of cost, more favorable reimbursement (because payers would rather spend money on outpatient surgeries than inpatient surgeries), and payer mix, since ASCs have more commercially insured patients and fewer Medicaid patients. If you’re a patient or health plan, the opposite answer is clear: You want outpatient volume to displace inpatient volume. Therein lies the dilemma.

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Market Share and Service Concentration

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If success during the pandemic and beyond requires increased emphasis on consumer preference and cost, then all health systems should adopt what many academic medical centers have known for a long time, even if execution remains a challenge: Concentration of more highly acute services, and the shedding of lower acuity services to lower-cost venues, is critical to success. 

This strategy, wise at it may be, hinges on two crucial execution capabilities. The first is the ability to gain market share, since only the distilled essence of that market share—the high-acuity cases—will end up being where you really make your money. The second, just as difficult, is exercising the discipline to share those less acute services and the revenues associated with them with your partners, even though your instinct is to take them all. Healthcare organizations naturally lean toward extracting the maximum revenue from any given patient relationship. As the old saying goes, “If you refer a patient to another provider, you’ll never see the patient again.” But this tendency, natural as it might be, is self-defeating—and it isn’t conducive to developing long-term relationships with consumers.

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While the example used here relates to academic medical centers that specialize in high-acuity tertiary and quaternary services, a similar approach could be useful to community-based providers that may wish to specialize in certain service lines and form alliances with academic medical centers for others. The key is the combination of alliances that enhance service quality and market share.

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Conclusion

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In the end, any successful outpatient strategy must focus on reducing cost to the consumer (and, hence, revenue per unit of service), reorganizing the organization’s cost structure, and making up for the reduced revenue per unit by increasing market share—especially commercially insured market share. We know: Simple to define, difficult to execute. But clarity of the end goal is always helpful to execution.