I suppose that the application of the business model to medicine is not only inevitable, but necessary for survival. I will not comment on the obvious disadvantages of this in terms of access to care, distribution of care, and increased regulatory interference (both internal and external), on clinical decision making. Clearly from the point of view of the business model, profitability is the primary foundation on which the long-term viability of the institution depends. The key metric driving profitability in health care is currently considered clinical volume.

Volume itself, in this case, surgical case volume, is, however, not the single most important metric. A critical metric that has been overlooked or minimized, certainly in our institution, is that of margin analysis. This concept is used to evaluate the profitability of a product or service and involves determining the difference between the revenue, or sales price, and cost of goods sold (COGS).

There are three main types of margin analysis: gross, operating (profit), and net. Gross margin analysis is the difference between revenue and COGS, expressed as a percentage. In micro terms this margin represents the proportion of each dollar of revenue retained as profit. This is calculated in the following way: Gross margin = ((revenue – COGS)/(Revenue) (100). This helps identify the higher margin procedures, and also helps guide efficiency in terms of cost savings.

The second type of margin analysis is operating margin analysis. This represents the proportion of sales (procedure) revenue after taking into account operating expenses. Operating margin= (operating income – net sales)/100. Operating income is also often known as Earnings Before Interest and Taxes (EBIT, not to be confused with EBITDA, Earnings Before Interest, Taxes, Depreciation and Amortization, which is not just a measure of profitability, like EBIT, but takes into account actual operating performance).

The third type of margin analysis is net margin analysis. This estimates overall profitability, measuring the amount of net profit generated as a percentage of revenue. This is calculated as follows: Net margin = (net income- net cost)/100. This most strongly reflects efficiency.

Clearly, in medicine we have limited control over the charges, or reimbursements, for various procedures or services. Additionally, reimbursement rates vary by payor. It is intuitively clear, however, that surgical procedures with the highest gross charge are not necessarily the most profitable. At our institution, in our department, we reviewed the cost and expense data on several key procedures – total hip replacement, total knee replacement, and lumbosacral arthrodesis.

Unfortunately, the costs associated with these procedures including implant cost, surgical time, length of stay, and implant sterilization time, just to name a few, were not known, or were incorrect. As such, we are just beginning to look into this.

It is my strong feeling that margin analysis will be an excellent guide to net revenue. To simply look at budgetary decisions and other financial projections on the basis of volume is remarkably misleading and inaccurate. Better data should result in more reasonable budgets and more accurate projections. One potential downside, however, is the preferential scheduling of higher margin procedures.1 Another component of margin analysis is payor mix, with private insurance or worker's compensation typically reimbursing at higher rates.

Private insurance typically freezes the individual patient from any concern for cost effectiveness (which, actually, patients may have, regardless of insurance coverage). By integrating margin analysis with cost effectiveness, this effect may be diminished.2 Certainly, there are additional benefits associated with margin analysis as well. Hensher et al3 pointed out the benefit of increasing health care spending in low-income countries based on the correlation of margin analysis and incremental improvements in health.

Finally, margin analysis may greatly improve the cost effectiveness of quality purchasing of medical supplies and services.4

Clearly, there are ethical considerations involved in the use of these data to shape health care delivery. Using margin analysis to drive a more profitable procedure at the expense of care access and care delivery for other necessary procedures is unacceptable. All things being equal, perhaps a higher margin could be viewed as a “tie breaker” to schedule a procedure if that procedure is not to the detriment of other aspects of care delivery. This is an issue which is not only required for the survival of the medical profession but also requires considerable ethical examination and formulation of guidelines that reflect those considerations.

As noted in the title, there are numbers, and then there are numbers. The most important number is not volume.