BACKGROUND / PURPOSE:

In the past, an activity based cost accounting system was implemented for the Section of Plastic Surgery at the University of Michigan. The results of that accounting system were accurate and useful, but the system requires significant time and resources to implement. Alternative cost accounting methods are less time and resource intensive with regard to implementation, but the accuracy of those accounting systems has been untested. This study tests the accuracy of the following alternative cost accounting methods: relative value unit (RVU) costing, cost-to-charge ratio costing, and cost-to-payment ratio costing.

METHODS:

Fiscal year 2004 billing records for all operative cases (n = 3,332) in the Section of Plastic Surgery were examined. An activity-based cost accounting system (ABC) was designed to allocate the following costs to each surgical encounter: physician salary, clinic overhead, general section overhead, physician assistant salary, malpractice insurance and departmental and health system taxes. The ABC costs were considered the true costs, which would be used in the accuracy evaluation of the following alternative cost accounting methods: relative value unit (RVU) costing, cost-to-charge ratio costing, and cost-to-payment ratio costing. RVU costing was accomplished by adding up the RVU values (as published by the Centers for Medicare and Medicaid Services). This total RVU value was then divided by the total costs for the section of plastic surgery in order to determine a “cost-per RVU” factor. Costs were then assigned to individual procedures by multiplying the RVU's for the individual procedure by the “cost-per RVU” factor. The next alternative costing method, cost-to-charge ratio costing, was implemented by dividing the section's total costs by the total charges (bills submitted to payers) in order to determine a “cost-to-charge factor.” Costs were then assigned to individual procedures by multiplying the charges for each procedure by the cost-to-charge factor. The last alternative cost accounting method, cost-to-payment costing, was accomplished by dividing the section's total costs by the total payments (money collected by the section from payers) in order to determine a “cost-to-payment” factor. Costs were then assigned to individual procedures by multiplying the payments for each procedure by the cost-to-payment factor. The costs for each procedure were then used to determine operating income by subtracting revenues (i.e. payments) from the calculated costs. These estimates of operating income were then compared to operating income as calculated using true cost numbers (i.e. ABC costing).

RESULTS:

Fiscal year 2004 total costs were $3,842,781, and the average cost per procedure (as allocated with ABC) was $1,153.30. Compared to ABC based estimates, individual procedure operating income calculated using alternative costing estimates deviated an average of 496%, 323%, and 111% for RVU costing, cost-to-charge ratio costing, and cost-to-payment ratio costing, respectively.

CONCLUSIONS:

As compared to ABC costing, alternative costing methods result in very inaccurate results. Considering the small operating margins and the overall trend of decreasing healthcare reimbursements, the need for accurate cost estimation will become increasingly important in order to ensure financial feasibility of surgical practice. Due to problems with accuracy, alternative cost accounting methods (such as RVU costing, cost-to-charge ratio costing, and cost-to-payment costing) should not be applied even though they require less effort to implement relative to activity based costing.