Digits Save Lives...and Costs by Improving Effectiveness

Part 2

Some hospitals, along with some health insurance companies, are using video technology to connect patients in outlying areas with specialists in urban centers. This video technology connects local and regional hospitals to large urban medical centers where most medical specialists practice medicine.

These video hook-ups provide information for both the specialist doctor and the patient. The specialist doctor has the benefit of a high definition video, both televisions and cameras, along with internet connected medical equipment and a nurse at the patient’s side to carry out instructions. The patient sees the specialist doctor on a video in the room.

The costs of these video systems have been declining. The typical system costs between $30,000 and $50,000. Thirty-five hundred hospitals now employ the system. These systems have a unit growth rate of 15% a year. They are about to become mainstream.

This innovation for both specialist doctors and patients offer us some good examples of cost reduction techniques.

We have examined several thousand examples of cost reduction efforts. There are four basic approaches to reducing costs:

*Reduce the rate of costs you pay for people, purchases and capital
*Reduce the costs that are not contributing to output because they are wasted or idle
*Redesign the product or the process to reduce components and activities
*Use fixed costs with more customers

The latter two of these four basic approaches to reducing costs improve the effectiveness of a cost structure by reducing the number of activities required for the completion of an Output. We call these activities Intermediate Cost Drivers (ICDs). (See “Audio Tip #189: The Effectiveness of the ICD” on StrategyStreet.com.) Effectiveness measures the ratio of ICDs to Output (ICD ÷ Output = Effectiveness).

A company improves the effectiveness of its cost structure by reducing activities, that is, ICDs. It reduces these activities by redesigning the product, or the process, the company uses to produce the product.

The company may redesign the product by reducing activities or components that make up the current product. The company may do this by reducing:

Performance standards which enables the company to eliminate activities
Components that are part of the current product

There are also several cost reduction alternatives available to the company who wishes to redesign the process to reduce activities. The company may use one of these recurring patterns of process cost reduction techniques:

- Shift the activity to others with no payment for their assistance
- Automate an activity
- Reduce the movement involved in the process
- Reduce errors the process produces
- Standardize activities
- Accept risk of lower revenues or higher costs
- Eliminate activities with low value to the customer

This new video technology improves Effectiveness with a redesign of the product. The video technology allows the patient to use an alternative form of a key component, the attending doctor. Since the specialist is at a distance, the patient does not receive the same quality of experience as he would if the specialist were physically present. The specialist doctor may be at a distance. But the specialist is more qualified than is any doctor at the patient’s location.

The process is more effective as well. The technology reduces the movement of patients. It substitutes the costs of the video technology for the costs of transportation by ambulance from the outlying locations to the urban centers. Perhaps more importantly, the process also reduces errors in the system by allowing an expert to diagnose the ailment and prescribe more immediate and more effective treatment.

The fourth basic approach to reducing cost improves a cost structure’s effectiveness by using fixed costs with more customers. These fixed costs, and their activities, become a lower proportion of the value of the final Output. (See “Audio Tip #196: Why Economies of Scale Exist” on StrategyStreet.com.) We have found two recurrent patterns to spread fixed costs activities over more customer Output:

- Acquire a similar organization and eliminate overlapping fixed costs
- Use the current fixed costs with new customer groups

The article on video technology did not offer an example of this fourth cost reduction approach. However, we can easily imagine how a hospital might employ this approach. First, the hospital system might acquire additional outlying locations and incorporate the video technology with these newly acquired hospitals as well. Alternatively, the hospital system, who already uses the video technology, might offer its technology to unrelated hospitals in similar locations near the company’s hospitals. The company would then benefit from the revenues these competing hospitals might provide and, in turn, use these revenues to reduce the effective costs it incurs for its video technology.

Of course, these are just a few of the cost reduction concepts we have observed. To date we have found more than 300 of these concepts of cost reduction. You may see more of them in the Improve/Costs section of StrategyStreet.