A peek into Hospital Industry Costing

Health care industry

Health care service is gradually emerging as one of the largest service sectors in India. It plays a vital role in both in public welfare and also for economic development of the country.

Health care industry is a broad term and encompasses the following:

1. Medical care: Covered under the umbrella term of medical care are hospitals , clinical establishments and telemedicine.
   1. Hospitals: Hospitals are further classified into Government Hospitals and Private hospitals. Under both of these categories, we have tier wise classifications.
   2. Clinical Establishments: Refers to Small clinics providing health care services like consultations, diagnostics, vaccinations. May be owned by government or by individuals including doctors or owned by trusts.
   3. Telemedicine: Telemedicine focuses on delivering healthcare services online through technology. It allows healthcare professionals to provide consultations, diagnoses, and other healthcare services to patients who are not physically present in the same location.
2. Pharmaceuticals : handles medical storge, maintenance and sale/distribution of medicines and medical consumables in hospital or clinical establishments.
3. Diagnostics: Refers to laboratories that offer analytic or diagnostic services.
4. Medical Equipments Management: division or function functioning in a health care organisation that deals with medical equipment purchase and management ( equipments used in surgical, dental, orthopedic, ophthalmologic, laboratory etc).
5. Medical Insurance: Includes institutions engaged in offering health insurance services that covers the insured individual’s hospitalization expenses and medical reimbursement facilities.
6. Medical Research: objective of medical research aims to gain new insights and knowledge about diseases and health conditions, ultimately leading to improved healthcare facilities and treatments for patients.
7. Medical Tourism: It involves foreigners travelling to India to receive diagnostic or medical care, often for procedures not readily available or unaffordable in one's home country.

In this article, I’m discussing only about Hospital Costing.

What is hospital costing? What is its significance?

Hospital costing is a process of determining the costs of providing medical service in a hospital, broken down department wise and for the entire facility. This is crucial for understanding the financial performance of the hospital and for making decisions about budgeting, resource allocation, pricing, measuring operational efficiency of depts and setting reimbursement rates.

Broader view of health care costing

1. Define the Objective of costing:

The purpose of performing costing must be determined. Understand why costing is done? It can be for Pricing, budget planning, reimbursement rate setting, or overall policy design.
Why does it matter? Costing method to be chosen, depends on the objective/purpose for which the cost analysis is done.

2. Break down the revenue streams of hospital from different services

This step refers to identifying where the money comes from. It’s about the sources of income, that a hospital earns. It can be from both clinical and non-clinical sources:

1. Clinical: Inpatient (Surgeries) outpatient services (Consultations)
2. Diagnostic tests (lab, imaging)
3. Insurance reimbursements (e.g., Ayushman Bharat, CMCHIS)
4. Pharmacy sales
5. Non clinical income like: Cafeteria, parking ticket, training program/conference
6. Grants and Donations: Government grants or subsidies, CSR Contributions, NGO support.
7. Research collaborations or clinical trials

3. Identify the profit center

Identify those departments or units, that are responsible for both revenue and expenses (e.g., pharmacy, lab). To be a profit center, it should be possible to track both revenue and costs of that department. n a hospital, following are examples of departments or units that generate revenue as well as incurs costs. They are


• Operation Theatre (generates surgical fees, has high fixed and variable costs)
• Radiology (earns from scans, incurs costs for equipment and staff)
• Dialysis unit (charges per session, has consumables and technician costs)
• Pharmacy ( medicine sales, billing for consumables, and managing its own costs.

this article, for example, let me take operation theatre as Profit Center as the revenue-generating unit for my profitability analysis.

4. Determine Activities in a profit Center:

Map out the activities that happen inside each profit Center. Understand what services or procedures each profit center performs. In this article’s example, activities associated with operation theatre are given below:


• Pre-op assessment
• Anesthesia administration
• Surgical procedure
• Post-op monitoring
• OT sterilization and turnover

5. Classify cost

In our example, We can categorize costs into direct and indirect, fixed and variable.

• Direct Costs: Can be traced directly to a specific department, patient, or procedure. Examples: Surgeon’s fee, medicines used during surgery, lab test reagents.
• Indirect Costs: Cost associated with overall hospital operations and are not directly linked to a single service. Examples: Electricity, administrative salaries, housekeeping.
• Variable Costs: Fluctuate based on service usage. Examples: Disposable syringes, lab consumables, medication.
• Fixed Costs: Do not change with patient volume. Examples: Building rent, equipment depreciation, salaried staff.

6. Determine the cost object :

Multiple cost objects can be associated with a single profit center. List all the cost objects that are relevant to the profit center. Note:These cost objects may all be involved in capturing the same pool of costs (e.g. staff time, equipment, consumables). considering the data availabilty. Out of those cost objects, identify the specific cost object to measure the cost (based on data availability, relevancy to decision making, consistency etc)

In this article’s example: Key and meaningful cost objects associated with profit center operation theatre are given below, It can be

• Surgical Procedures or
• Types of Surgery or
• Surgical Packages or
• Patient Cases or
• Equipment Usage.

For the purpose of this article, let me consider Surgical Procedures as relevant cost object.

7. Trace costs to cost object via cost Center

What is cost Center: A cost Center is a specific department or unit within the hospital where costs are incurred. Capture costs from cost centres that actually contribute to the chosen cost object, rather than muddling the data with unrelated overhead. Bear in mind that the chosen cost centers must support profitability measurement. Including irrelevant cost centers (e.g. administrative units that don't directly support the cost object) will defeat the objective of costing.

Example: if Surgical Procedures is the cost object, cost Center that support it are:

• OT Staff cost (Surgery team cost)
• OT Equipment cost (maintenance of surgical tools and tech)
• pre-op preparation unit ( preparing patient, pre-op tests, documentation)
• post-op recovery unit (Monitoring, pain management, and patient stabilization)
• Pharmacy (medicines used during and immediately after surgery)
• Support cost Center like: OT scheduling, surgical record maintenance, housekeeping services

8. Identify and Use cost drivers:

A cost driver is the factor the influences cost. Chosen cost drivers must be measurable and logical and must be relevant to the cost object being analyzed.
Why does it matter? Cost drivers are used to assign indirect costs to cost objects.

Example: Key Cost drivers associated with the cost object and cost center are

• Number of Surgeries Performed
• Staff hours Surgeon/anesthetist/nurse hours
• Type and complexity of surgery
• Operating hours of equipment/technology used

9. Calculate Costs—Applied at Each Cost Center Level

Break down total costs for each cost center. Identify the relevant cost driver for that cost center. Arrive at unit Cost per driver = Total Cost of Cost Center ÷ Total Units of Cost Driver .

Why is this step required?
This unit cost per driver calculated in this step is crucial and is what that sets the foundation for Step 10 where we apply these unit costs to procedures based on their actual resource usage.

10. Assigning those unit costs to each procedure

Total cost of procedure, which is the END RESULT, is calculated based on how much of each resource the procedure consumed. Cost per procedure= units consumed of each cost driving resource, for the procedure × unit cost per driver/resource.