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Financial Information and the Decision-Making Process

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Financial Information and the Decision-Making Process

Financial Information and the
Decision-Making Process
After studying this chapter, you should be able to do the following:
1. Describe the importance of financial information in healthcare organizations.
2. Discuss the uses of financial information.
3. List the users of financial information and their uses for it.
4. Describe the financial functions within an organization.
5. Discuss the common ownership forms of healthcare organizations, along with their advantages and disadvantages.
Real word scenario
In 1946, a small band of hospital accountants formed the American Association of Hospital
Accountants (AAHA). They were interested in sharing information and experiences in their industry,
which was beginning to show signs of growth. First published in 1947, a small educational journal
was created in an attempt to disseminate information of interest to their members. Ten years later, in
1956, the AAHA’s membership had grown to over 2,600 members. The real growth, however, was
still to come with the advent of Medicare financing in 1965.
With the dramatic growth of hospital revenues came an escalation in both the number and functions
delegated to the hospital accountant. Hospital finance had become much more than just billing
patients and paying invoices. Hospitals were becoming big businesses with complex and varied
financial functions. They had to arrange funding of major capital programs, which could no longer be
supported through charitable campaigns. Cost accounting and management control were important
functions for the continued financial viability of their firms. Hospital accountants soon evolved into
hospital financial managers, and so in 1968 the AAHA changed its name to the Hospital Financial
Management Association (HFMA).
The hospital industry continued to boom through the late 1960s and 1970s. Third-party insurance
became the norm for most of the American population. Patients either received insurance through
governmental programs such as Medicare and Medicaid or obtained it as part of the benefit program
at their place of employment. Hospitals were clearly no longer quite as charitable as they once were.
There was money, and plenty of it, to finance the growth required through increased demand and
the new evolving medical technology. By 1980, HFMA was a large association with 19,000
members. Primary offices were located in Chicago, but an important office was opened in
Washington, DC, to provide critical input to both the executive and legislative branches of
government. On many issues that affected either government payment or capital financing, HFMA
became the credible voice that policymakers sought
The industry adapted and evolved even more in the 1980s as fiscal pressure hit the federal
government. Hospital payments were increasing so fast that new systems were sought to curtail the
growth rate. Prospective payment systems were introduced in 1983, and alternative payment
systems were developed that provided incentives for treating patients in an ambulatory setting.
Growth in the hospital industry was still rapid, but other sectors of health care began to experience
colossal growth rates, such as ambulatory surgery centers. More and more, health care was being
transferred to the outpatient setting. The hospital industry was no longer the only large corporate
player in health care. To acknowledge this trend, the HFMA changed its name in 1982 to the
Healthcare Financial Management Association to reflect the more diverse elements of the industry
and to better meet the needs of members in other sectors.
In 2015, HFMA had over 39,000 members in a wide variety of healthcare organizations (HCOs).
The daily activities of their members still involve basic accounting issues—patient bills must still
be created and collected, payroll still needs to be met—but strategic decision-making is much
more critical in today’s environment. It would be impossible to imagine any organization
planning its future without financial projections and input. Many HCOs may still be charitable
from a taxation perspective, but they are too large to depend upon charitable giving to finance
their business future. Financial managers of healthcare firms are involved in a wide array of
critical and complex decisions that will ultimately determine the destiny of their firms.
This text is intended to improve decision makers’ understanding and use of financial information
in the healthcare industry. It is not an advanced treatise in accounting or finance but an
elementary discussion of how financial information in general and healthcare industry financial
information in particular are interpreted and used. It is written for individuals who are not
experienced healthcare financial executives. Its aim is to make the language of healthcare finance
readable and relevant for general decision makers in the healthcare industry.
Three interdependent factors have created the need for this text:
1. Rapid expansion and evolution of the healthcare industry
2. Healthcare decision makers’ general lack of business and financial background
3. Financial and cost criteria’s increasing importance in healthcare decisions
The healthcare industry’s expansion is a trend visible even to individuals outside the healthcare
system. The hospital industry, the major component of the healthcare industry, consumes about
6.3% of the gross domestic product; other types of healthcare systems, although smaller than the
hospital industry, are expanding at even faster rates. Table 1-1 lists the types of major
healthcare institutions and indexes their relative size.
Learning Objective 1
Describe the importance of financial information in health organizations.
The rapid growth of healthcare facilities providing direct medical services has substantially
increased the numbers of decision makers who need to be familiar with financial information.
Effective decision making in their jobs depends on an accurate interpretation of financial
information. Many healthcare decision makers involved directly in healthcare delivery—doctors,
nurses, dietitians, pharmacists, radiation technologists, physical therapists, inhalation
therapists—are medically or scientifically trained but lack education and experience in business
and finance. Their specialized education, in most cases, did not include courses such as
accounting. However, advancement and promotion within HCOs increasingly entails assumption
of administrative duties, requiring almost instant, knowledgeable reading of financial
information. Communication with the organization’s financial executives is not always helpful.
As a result, nonfinancial executives often end up ignoring financial information.
Governing boards, which are significant users of financial information, are expanding in size in
many healthcare facilities, in some cases to accommodate demands for more consumer
representation. This trend can be healthy for both the community and the facilities. However,
many board members, even those with backgrounds in business, are being overwhelmed by
financial reports and statements. There are important distinctions between the financial reports
and statements of business organizations, with which some board members are familiar, and
those of healthcare facilities. Governing board members must recognize these differences if they
are to carry out their governing missions satisfactorily.
The increasing importance of financial and cost criteria in healthcare decision making is the third
factor creating a need for more knowledge of financial information. For many years, accountants
and others involved with financial matters have been caricatured as individuals with narrow
vision, incapable of seeing the forest for the trees. In many respects, this may have been an
accurate portrayal. However, few individuals in the healthcare industry today would deny the
importance of financial concerns, especially cost. Payment pressures from payers, as described in
the beginning-of-chapter scenario, underscore the need for attention to costs. Careful attention to
these concerns requires knowledgeable consumption of financial information by a variety of
decision makers. It is not an overstatement to say that inattention to financial criteria can lead to
excessive costs and eventually to insolvency.
The effectiveness of financial management in any business is the product of many factors, such
as environmental conditions, personnel capabilities, and information quality. A major portion of
the total financial management task is the provision of accurate, timely, and relevant information.
Much of this activity is carried out through the accounting process. An adequate understanding
of the accounting process and the data generated by it are thus critical to successful decision
Information and Decision Making
The major function of information in general and financial information in particular is to oil the
decision-making process. Decision making is basically the selection of a course of action from a
defined list of possible or feasible actions. In many cases, the actual course of action followed
may essentially be no action; decision makers may decide to make no change from their present
policies. It should be recognized, however, that both action and inaction represent policy
Figure 1-1 shows how information is related to the decision-making process and gives an
example to illustrate the sequence. Generating information is the key to decision making. The
quality and effectiveness of decision making depend on accurate, timely, and relevant
information. The difference between data and information is more than semantic: data become
information only when they are useful and appropriate to the decision. Many financial data never
become information because they are not viewed as relevant or are unavailable in an intelligible
FIGURE 1-1 Information in the Decision-Making Process
For the illustrative purposes of the ambulatory surgery center (ASC) example in Figure 1-1,
only two possible courses of action are assumed: to build or not to build an ASC. In most
situations, there may be a continuum of alternative courses of action. For example, an ASC
might vary by size or by facilities included in the unit. In this case, prior decision making seems
to have reduced the feasible set of alternatives to a more manageable and limited number of
Once a course of action has been selected in the decision-making phase, it must be
accomplished. Implementing a decision may be extremely complex. In the ASC example,
carrying out the decision to build the unit would require enormous management effort to ensure
that the projected results are actually obtained. Periodic measurement of results in a feedback
loop, as in Figure 1-1, is a method commonly used to make sure that decisions are actually
implemented according to plan.

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