Lessons Learned in Length of Stay (LOS)

Using Analytics & Key Best Practices to Drive Improvement

Health Solutions

February 28, 2014

Healthcare systems will greatly enhance their financial status with a renewed focus on improving clinical performance, reducing clinical variation, and specifically reducing length of stay (LOS). In this article, we will address how LOS improvements result in reduced costs, improved efficiency, and potentially increase in revenues. As reimbursement for hospitals declines through penalties for poor outcomes (e.g., readmissions, hospital acquired conditions), increase in use of observation, and payment recovery audits, pressure mounts to increase the efficiency of the clinical enterprise. At the same time, the Affordable Care Act sets into motion a growing momentum for a greater percentage of hospital revenues to derive from alternative payment methodologies, such as shared savings within Accountable Care Organization (ACO) arrangement. These alternative payment methodologies further incentivize hospitals to improve their clinical efficiency.

A Historical Perspective

When Medicare was established in 1965, Congress adopted the private health insurance sector’s “retrospective cost-based reimbursement” system to pay for hospital services. Under this system, Medicare made interim payments to hospitals throughout the hospital’s fiscal year. At the end of the fiscal year, the interim payments were reconciled for “allowable costs” with cost reports filed by each hospital. This system incentivized hospitals to increase allowable costs as they were able to pass them through for reimbursement to Medicare. As a result, Medicare’s hospital costs under this payment system increased dramatically from $3 billion to $37 billion annually (1967 to 1983).1

In 1982, noting the success of several state rate regulation programs in controlling costs, Congress mandated the creation of a “prospective payment system” (PPS). Under this diagnosis-related groups (DRG) system, Medicare pays hospitals a flat rate per case for each inpatient hospital stay based on the DRG. The implementation of the DRG based system drove hospitals to reduce costs and inpatient utilization for each DRG. One of the primary measures of this improvement in efficiency is inpatient LOS (length of stay), which decreased steadily from 6.8 days to 4.6 days (late 1980’s to early 2000’s; see Figure 1).

Hospital costs continued to increase – up to $146 billion in 2010 (see Figure 2), however, the “rate of excess growth (see Figure 3) slowed with a number of policy changes impacting reimbursement.2

  • Prospective Payment System (DRGs) – as detailed above.
  • Changes in Cost Sharing - Medicare’s inpatient hospital deductible has more than tripled in real terms, from $273 in 1975 (in GDP-inflated 2005 dollars) to $912 in 2005.
  • Managed Care Programs – Growth in costs slowed in 2005 as a large number of Medicare enrollees switched into Medicare Advantage programs.

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