It's a matter of control. Hospitals pay for numerous shipments of medical supplies on a regular basis, but who determines the cost and terms of shipping? Despite what materials managers would like, it's suppliers making most of the decisions about freight, and as a result, many hospitals don't know their total freight expenses.
"The majority of vendors don't break out freight as a separate line item on an invoice," says Aaron Derendinger, director of corporate transportation for Sisters of Mercy Health System, St. Louis.
Because the cost of a product is bundled in with the cost of shipping, hospitals don't have an easy way of assessing expenses; and, as a result, some of those bills are being paid blindly.
Move to change
However, the way shipping is handled by hospitals is on the verge of changing, says Derendinger, who--like others in the industry--is in the process of searching for a third-party freight management company.
The idea is to turn a troubling problem into an area of savings and to change who has control over shipping terms. Suppliers make most of the decisions because hospitals haven't taken control of shipping issues.
"For the most part, a supplier will say, 'We'll pay the cost of freight. We'll pay the shipping costs to get it to you, and we'll just invoice you with the amount you owe,'" Derendinger says.
This is the "prepay and add" method of shipping that hospitals have been using for a number of years. As Deren-dinger mentioned, it can involve bundling the cost of products and shipping, but even if the invoice is itemized, there are still dollars hospitals could be losing in such an arrangement.
The shipping price a vendor charges a hospital isn't necessarily the actual price to deliver the goods. While there may be justifiable incremental fees for packing and handling, the point of contention is the discount the vendor receives from their carrier contracts.
As is the case in most business arrangements, customers receive discounts for bulk business, and many vendors have negotiated deals with such carriers as FedEx, Memphis, Tenn.; United Parcel Service, Atlanta; or Yellow Freight, Overland Park, Kans. It's become financially beneficial for suppliers to handle shipping arrangements in order to continue receiving their discounts.
However, it's also become evident that not all vendors are passing the discounted shipping costs to hospitals, according to Larry Dooley, vice president of contract and program services for Novation, Irving, Texas.
"What has happened over the years, as GPOs and providers have negotiated better pricing on products, is that the vendor community has used freight as a profit center to offset their potentially declining margins on products," Dooley says.
Weighing options
Novation has taken steps to help their members receive better deals on freight by signing a preferred provider agreement with the third party logistics (3PL) company Healthcare Logistics Solutions (HLS), Westerville, Ohio.
HLS quickly is making efforts to lead the young market of freight management services by not only earning a Novation contract, but also by signing agreements with three of the other large group purchasing organizations--Consorta, Schaumburg, Ill.; MedAssets, Atlanta; and Premier, San Diego. Additionally, HLS officials are in negotiations with another large GPO.
Some of the other companies in the field include FDSI Logistics, Agoura Hills, Calif.; Logisource, Matthews, N.C.; and Cardinal Health, Dublin, Ohio, which is in the process of launching a freight management service as part of its distribution operation.
Additional companies are expected to enter the market as more hospitals and health systems realize there's a way to cut freight costs. Industrywide, it would be possible to save from $300 million to $500 million, according to Rick Bayer, president of HLS.
The basic concept is for hospitals to change processes to a "collect" system of handling freight rather than the prepay and add method, which benefits vendors. Under the collect scenario, a hospital would establish its own contract with a carrier and negotiate the best possible deal based on volume.
The difficult part is getting some vendors to use a hospital's carrier agreement, because it would take away revenue from suppliers.
"They [vendors] may pass on some of the savings," Derendinger say. "Say they save 40 percent of their shipping costs, they may pass on 10 percent of published rates to us."
Not all vendors are guilty of using freight costs as a source of income, but there isn't always a precise way for a hospital to know who is and who isn't. The more important point, though, is for hospitals to understand that it is financially worth the effort to gain control of their shipping method, Derendinger says.
To do that, a 3PL will probably be needed, or at the very least, it will make things easier because the process of getting vendors to cooperate can be a daunting task, according to Derendinger.
The savings are potentially much greater by working with a freight management company, which can aggregate the shipping volume of numerous hospitals and health systems, and therefore negotiate larger discounts with carriers.
"We were going to create this program internally, but because of the amount of effort it took to basically create something these third-party freight management companies already have, we kind of shifted gears and decided to partner with one of them," Derendinger says.
Mercy hasn't identified which company it plans to use for freight services, but the health system has had talks with major players in the industry. The key for Derendinger is finding a company skilled at getting suppliers to make changes in their business processes as well as providing hospitals with the data and savings that would be labor intensive for a hospital to achieve on its own.
One of the most challenging parts for a hospital attempting to handle the new freight model on its own would be in the facility's accounts payable department, which is often set up to deal with a single invoice per delivery. Under the new system, an invoice from a vendor and an invoice from a carrier would be needed, and both documents would have to be matched and reconciled.
"A freight management company can streamline the accounts payable process and be the billing point for an entire week of transactions," Derendinger says. "And what they'll get to you is a consolidated invoice that says, 'Here are all your FedEx shipments, for example, for last week.'"
Such a setup would give hospitals clear visibility to their shipping expenses and activities by documenting which departments and individuals are placing shipping orders, which vendor contracts are being used and which carriers and shipment methods are being ordered.
"There's a lot of mismanagement (within hospitals) of inbound freight--whether it's from buying excessive service, such as priority, first-morning delivery when you don't need it, or overpaying for it," says Dooley. "It's not about eliminating the costs, it's about managing them correctly."
Dooley says one of the jobs GPOs have is to educate their members on the benefits of freight management as well as pointing to the best ways to deal with the issue from cost and efficiency standpoints. Once a hospital starts using freight management services, he believes the information derived from them opens opportunities to further minimize costs.
"It's not that we're trying to eliminate those freight costs, because there are legitimate costs for moving products from point A to B," he says. "But we want to make the costs fair and equitable based on the activities being performed."
Mat man see, mat man do
The idea of letting a buyer of goods control shipping terms is new to health care, but it's been used successfully in the retail and automotive industries.
It's well known that large automakers have combined their clout to achieve better business deals. That strategy was employed when the companies decided they wanted to take control of freight costs about a decade ago.
"The reason it's been done in retail is that it only took one voice, and that's Wal-Mart's, to say to their suppliers, 'You will do this,'" Bayer says.
Wal-Mart Stores, Bentonville, Ark., is frequently used as an example of efficiency and savings, but unlike the hospital industry, Wal-Mart's size has allowed it to dictate terms with suppliers. The health care supply chain is too fragmented to garner the same type of clout, according to Dooley.
"Most of the industries outside of health care are more consolidated and collaborative in their supply chain efforts," he says. Everyone (in health care) recognizes there's a lot value in cost reduction through operational efficiencies in the supply chain, but the supply chain is not very collaborative."
For freight management to become an asset in health care, hospitals need to band together and let suppliers know there's a uniform movement to give providers control of shipping terms.
One of the best ways to achieve that goal is to partner with a freight management company, which can represent a large number of hospitals and health systems, all making the same request of suppliers, according to Dooley.
Additional support from GPOs also will be a factor in moving hospital shipping in line with retail and automotive businesses, but the transformation could take time.
Although Bayer feels the change could be accomplished in three to five years, a lot depends on how much vendors are determined to hold on to the current way of doing business.
"Vendors in the industry aren't welcoming what their customers are asking for, and that's going to slow the process," Derendinger says. "They are going to be reluctant, because if it's been managed as a profit center in the past, they'll be reluctant to turn that money loose."
The right approach to vendors is needed so they understand that allowing hospitals to take control of freight issues is part of an overall partnership between a buyer and seller. Mercy's strategy is to look at relationships in a long-term context and show vendors they may be losing the $3 profit they were making on shipping costs, but the change is worth it because the vendors are gaining access to a long-term partnership that will be more valuable in the long run.
Of course, not all vendors are resisting the change, a point made by Ken Peterson, vice president of systems logistics at Aurora Health Care, Milwaukee, Wis.
Peterson has been working to get the health system's contracted suppliers to deal with HLS, which has partnered with Aurora for freight management services. He estimates he's gained about $211,000 in annualized savings for inbound and outbound freight since signing the agreement. "We've had struggles with vendors and we're still struggling with some, but we've had others who are a joy to work with," Peterson says. "I think part of it [the delay] is that a number of suppliers have been putting in new ERP systems, and they just don't want to have to deal with us right now."
Other vendors, he admits, simply don't want to lose control over something they consider a normal part of their operations. However, once enough hospitals realize how much they can save by taking control of their freight, more and more facilities will be making demands on their suppliers, Peterson says.
Once hospitals start looking at this and realizing what has been accomplished in other industries, it will be hard to keep the movement from spreading throughout health care, according to Deren-dinger. "I absolutely think this is the future direction," he says. "There's no other way you could go. ... Taking the money out of their [vendors'] hands and putting it in your control is the best thing you could possibly do."
To respond to this article, please click here.
