Hospital Network Tries Self-Distribution

Edition: March 2003 - Vol 11 Number 03
Article#: 1472
Author: Mark Thill

Over the past few years, hospital CEOs and others have maintained that hospitals should stick to what they know – patient care – and stay out of what they don’t know – such as logistics. That argument has worked to distributors’ advantage. But at least one health system is questioning that line of reasoning.

The Sisters of Mercy Health System has taken matters into its own hands. The St. Louis-based system has created a self-distribution model, which they say is saving them millions of dollars a year. And the program is still being rolled out.

Mercy is actually a system of systems, comprising eight regional healthcare networks in a five-state area: Arkansas, Kansas, Missouri, Oklahoma and Texas. Altogether, Mercy comprises 19 hospitals, a heart hospital, a psychiatric hospital, outpatient care facilities, physician practices, skilled nursing and long-term residential care facilities, clinics, a managed care organization and other health-related services.

It was Mercy’s Springfield-based network – St. John’s Health System – that began questioning the supply chain status quo several years ago.

“Springfield was unique in that it wasn’t a group of large hospitals that came together, but one large hospital in a metropolitan area, surrounded largely by rural locations,” says Chief Logistics Officer Mike McCurry. It comprises an anchor hospital (St. John’s Regional Health Center), five smaller hospitals and 90 clinics, spread out amidst 32 counties – a 22,000-square-mile area. “It was a huge logistical puzzle,” says McCurry.

Something else distinguished the Springfield network: It took very seriously the needs of its physician practices. “Physicians at the clinics demanded and received higher levels of service than any of the hospitals ever received,” McCurry says. “My challenge was to bring those high levels of service to everyone at a reasonable cost.”

With the help of Vance Moore – who at the time was a consultant with Allegiance Healthcare (now Cardinal) – McCurry and his staff decided in 1996 to take a “holistic look” at the Springfield network’s supply chain.

“I was told there were no sacred cows when I came to Springfield,” recalls Moore, who joined Mercy in 2002 to lead the system-wide implementation of the ideas he originally generated six years earlier. “My job was to understand the total cost of logistics there.” And that’s what he did.



An Epiphany

Moore discovered that like most hospitals, St. John’s operated with a silo mentality. Each department acted fairly independently from the others. “We may have had a truck, but it was used only two hours a day,” says Moore. “There was a proliferation of identical resources, not only with vehicles, but with personnel.

“For example, inside the hospital, a person from the lab bringing down tests would cross paths with someone from materials management bringing up med/surg supplies. Cross-departmental coordination was almost non-existent. “We found out that we had more than enough resources in logistics, but we had to rearrange the talent and the resources,” says Moore.

The Springfield team not only examined logistics within the hospital’s four walls, but outside as well – that is, all the way to its distributors and manufacturers. “Ultimately, we decided that we could provide our own logistics at a lower cost than buying it from the outside,” says Moore. “And we could make it more professional. It was an epiphany for us.”

McCurry describes the decision as a mental jump. “Our distributor was acting as a big warehouse. They weren’t providing us any additional service. So we asked how they were doing as a warehouse.” The answer: Not only was the distribution service costly, but service levels routinely were in the 80s and low 90s. So McCurry began looking for a building that St. John’s could buy and use as a warehouse. He found an 89,000-square-foot facility, which he figured would pay for itself in three years.

To accomplish this, the Springfield group figured it could drastically reduce the $2.2 million it was spending annually for delivery charges, which included the distributor mark-up and freight charges for non-distributed items.

“The result was that we had one owned logistical system that went everywhere every day,” says McCurry. “We saved money and met the high service demands of the physicians’ offices.” Service levels jumped to the high 90s. “Then we decided to apply it to the hospital and they loved it,” he adds. “Costs tumbled.” By revamping the courier service, the Springfield team brought down freight charges from $1.5 million to $700,000 and eliminated distributor mark-up fees of $700,000 per year – achieving a total savings of more than $1.5 million annually. Further savings have been achieved through improvements in resource management, led by Shannon Sock, chief resource officer.



Selling the Concept Internally

The team treaded lightly while implementing the self-distribution program. “Materials managers are viewed as the guys who want to save money by cutting and slashing,” McCurry says. “But in each case [during the Springfield implementation], we went to the clinicians with a service value proposition. We told them, ‘Here’s how we’re going to increase service. And by the way, it’ll save a lot of money.’”

The materials management team worked hard to minimize disruptions. Few if any product changes were made, and the clinicians were informed of the transition to self-distribution every step of the way. “As we would get ready to make changes, we would tell them, ‘our expectation is that you will not notice a change. And if you do, it’ll be that your fill rates are higher.’”



Spreading Out

Materials managers in other Mercy regions caught on to the self-distribution concept quickly. While negotiating to buy the warehouse in Springfield, McCurry made a presentation to the entire group. One of them, Lynn Britton – now Mercy’s vice president of resource optimization – “lit up,” recalls McCurry. “‘He asked, ‘Why couldn’t you do the same thing for the rest of the system?’ I told him we probably could.”

McCurry and staff studied the total volume and needs across Mercy, took a look at what already was in place in Springfield, and concluded that the Springfield operation could indeed service the rest of the system, starting with St. Louis. “We presented the concept to Mercy leadership,” recalls McCurry. “Their reaction was, ‘you saved money in Springfield and you increased service. What’s the downside?’ Frankly, we had trouble finding it.”

A total of 700 SKUs were added to handle St. Louis, with an eye toward dropping at least some of those in the future through Mercy-wide standardization. And at 89,000 square feet, the Springfield facility was big enough to service St. Louis. With the St. Louis region kicking in some money, the materials management team bought a diesel truck for the Springfield-to-St. Louis run. By February 2002, they got rolling.

In December 2002, the hospitals and some physician clinics in Arkansas were brought up, leaving Kansas, Oklahoma and Laredo, Texas. The entire Mercy system should be integrated into the operation by the end of this summer, says Moore.

“We’re not doing anything different than what distributors have done,” says Moore. “We’ve taken an individual hospital or health system and rationalized its resources. We’ve asked, ‘Could this be done better centrally?’ In almost every case, there’s a reason for centralization, but also a continuing need for regional support.” In most cases the directors of materials management in each of Mercy’s regions provide that support.



Information System Plays Key Role

Mercy would have been hard-pressed to implement self-distribution and self-contracting without one vital component – a good information system. “That’s really a part of it,” says Moore. “A centralized database.” In 2000 Mercy made a corporate decision to implement the McKesson Pathways Materials Management system.

“When you lift up the hood, you’ll find that an IDN may have 10 hospitals and 10 instances of the same software,” says McCurry. “Yet you’ll find 10 different item files.” That means that each facility refers to similar products by different names or numbers, making corporate decisions about product usage difficult or impossible to make.

“We took a different view,” says McCurry. “We decided to have one information system, one vendor file, one item file and one purchasing system.” This way, when a department in Arkansas requisitions an item from the Springfield distribution center, that item immediately shows up on Springfield’s pick list and is delivered the next day.

“If I’m ordering a blue widget in Hot Springs, it has the exact same name and number in St. Louis,” says Moore. “This allows us to leverage our purchasing, and it simplifies the entire process.” If one department urgently needs an item that is unavailable from the distribution center, the others can quickly see if they have it in stock.

“Not only that,” says McCurry, “but here’s a huge point: Because we – and not our distributors – own the information, we know what items have been used and where. Let’s say that we’ve contracted with one company for sutures. We know exactly who is using its competitor’s products and to what degree. Our opportunity and standardization reports give vital marketing information to our contract vendors and tell them not only how compliant we are, but where we’re not compliant.” Armed with that information, the vendor can approach individual department heads to talk over their usage patterns, he says.

“That kind of information is highly valuable to the manufacturer and it’s a key component as to how we’re getting them involved in our program,” says McCurry.



Manufacturers

And manufacturers are coming onboard, say Moore and McCurry.

“Their first reaction might be, ‘I only have to ship to 200 destinations today, and if a lot of IDNs start doing this, my logistics costs will go through the roof,’” says Moore. “However, by using the [Mercy distribution system] they will be able to grow their business more rapidly at a lower cost due to the support we provide our partnering suppliers. To some degree, we become almost a sales force for those vendors with whom we partner,” he adds. “We want their products to be used and we actually promote them as best we can.”

“I don’t think distributors ever learned how to change [product] usage dynamics in a healthcare system,” adds Moore. “The reason is that they’re perennially viewed as an outsider. What we’ve done is take a completely different approach to standardization.

“We’ve told our caregivers, ‘Remember our mantra: We will improve service.’ And they view product choice as one aspect of service. So we tell them, ‘we won’t affect your choice of product; our job is to get you the product you need. And we’ll do that. But consider that the products stocked at our warehouse are those that clinicians across Mercy have agreed are the best-use items. They’re all contracted for, so rest assured, we’ve gotten them at the best price. Everything you order today will be delivered before you begin work tomorrow 99 percent of the time. So we want you to have choice, but keep in mind that when you choose a product that’s not at the distribution center, you’ll have to be the judge of quality. We’ll pay the market price and however long it takes to get here is how long it takes to get here.’”



New Products?

Moore and McCurry don’t worry that self-distribution will prevent them from seeing new products. “Sales reps for traditional distribution companies have gone from being salespeople showing new products to service reps resolving discrepancies and problems,” says Moore. “Our materials managers have become account managers for us. So we really have the same kind of focused resources replicating the task, but they have more credibility [with clinicians].”

No longer burdened by inventorying, picking and delivering products, the hospital materials managers are free to think strategically – and to take time with clinicians to work on product issues, says Moore.

“There’s no shortage of manufacturers’ reps who want to call on Mercy accounts to demonstrate new products,” adds McCurry.

“I don’t think a huge number of hospital systems will do what we’ve done,” says Moore. But, given the right conditions, such as those that Mercy experienced, self-distribution is an experiment that can work.



Going it alone

Mercy pulls away from its GPO

A health system that tackles self-distribution doesn’t necessarily have to take on self-contracting, too. But it seems the two often go together. So it is with St. Louis-based Sisters of Mercy Health System. Even so, Mercy executives point out that self-contracting was a natural evolution of a comprehensive, strategic approach to materials management – and not necessarily a goal at the outset.

“The more successful you are in a disintermediation strategy from an operations perspective, the more likely you are to find opportunities in self-contracting,” says Mike McCurry, chief logistics officer. “And that’s exactly what we’ve experienced.”



On a Mission

Mercy Chief Resource Officer Shannon Sock is responsible for helping Mercy make the transition from compliant GPO member to self-contracting system. Sock, a former supply chain consultant, became director of resource management for Unity Health (now St. John’s Mercy Health Care), Mercy’s St. Louis-based network, about three and a half years ago. His mission, as articulated by Vice President Lynn Britton, was to automate materials management and develop a systematic approach to resource management.

Sock was charged with moving the organization toward one materials information system, so that the resource management department could gain greater control over pricing and conduct more materials activities electronically, including purchasing and requisitioning.

He was also charged with enlisting the support of clinicians in contracting and contract implementation. “To fully address supply cost management issues, we needed clinical resources,” says Sock. “And we needed a higher level of analytical thinking, which we knew we could get with the help of clinical and content experts.”

Figuring that clinicians would always have more credibility with their peers than would materials managers, Sock immediately recruited a veteran OR director, OR nurse and laboratory director to drive contracting for clinical-preference items. “They supported the materials management operation, but they were more influential with the users of the products,” he says.

It quickly became apparent to Sock that the purchasing team would have to apply different contracting strategies to different classes of products. At one extreme were commodities, where product choice depended on volume and price. But at the other extreme were physician-preference items. “We felt we had to be supportive of physician preferences and engage the doctors in dialogue to establish the optimal [contracting] strategy,” he says.

“To a large extent, it came down to a pricing standardization strategy, not a product standardization one,” says Sock. In other words, the purchasing team worked hard to accommodate the clinicians’ product preferences, but also strove for similar pricing for similar items, regardless of the manufacturer. “Physicians have to trust that you’ll work on their behalf to get the technology they’re interested in,” he says.



Larger Scale

In July 2001, based upon his success at the St. Louis network, Sock was named to lead resource management for the entire Mercy system. “My charge was not really related to product standardization, per se,” says Sock. “It was related to implementing a continuum of purchasing strategies.” That continuum included working with physicians on high-preference items; driving compliance on commodities; and, in the middle, formulating a strategy for higher-preference commodities, such as sutures and contrast media.

Borrowing on his prior success, Sock rolled out system-wide advisory teams to facilitate product evaluations and provide clinical input to the contracting teams.

“It was refreshing to the organization and the users of supplies to be involved in the decision-making process,” he says. Sock and his team emphasized the rationale behind good communications between the purchasing department and clinicians.

“We generated some tremendous outcomes,” recalls Sock. “We had cost reductions from 9 percent to 30 percent in some high-preference areas. And we had tremendous buy-in from physicians around some of the high-preference commodity items.

“Because they understood why decisions were made, it became easier to implement contracts. And we built confidence within the manufacturing community.”



Self-Contracting

The decision to move forward with a self-contracting model “was not taken lightly,” says Sock.

“We couldn’t implement self-contracting without having central visibility to all purchasing activity, which we achieved through implementing [the IT system]; without knowing what products were entering the system through the consolidated service center; and without the people to back it up,” he says. Clinical committees continue to meet to “evaluate product consolidation activities in a very methodical way, with hard data, product fairs and hands-on evaluation.”

Implementing all these strategies “gave us the confidence to consider self-contracting,” says Sock. “We asked ourselves, ‘What value can we bring the manufacturing industry in order to get their support for our self-contracting efforts?’ It was all about establishing closer relationships with manufacturers through the [Mercy distribution center] and being able to demonstrate successful market share impact,” he says.

Mercy brought on an executive director of group purchasing, Gary Kane, formerly of Mallinckrodt (and, prior to that, AmeriNet). Kane is creating two work groups: a contract management team, with responsibility for negotiating contracts; and a contract and price administration team, with responsibility for maintaining pricing and contract information, for collecting administrative fees, and so on.

Mercy has worked out an agreement with its GPO – MedAssets HSCA – to complete its withdrawal from the group purchasing program by the end of 2004. To serve as the vehicle for group purchasing activities, Mercy has established a new for-profit entity, Resource Optimization & Innovation (ROI). During the transition period from MedAssets to ROI, Mercy will engage in competitive bidding as well as short-term contract-rollovers. “That will enable us to gain control of the contracts as soon as possible, but also allow us to renegotiate them in a short period of time,” says Sock.



Better than GPOs?

Can a health system like Mercy out-perform the contracting pros – GPOs? Sock thinks so.

“I believe manufacturers are looking for ways to get closer to their customers, ultimately, hospitals,” he says. “Probably more important, GPOs will always have to face the diluting effect of having hundreds or thousands of members.

“As an organization that wholly owns and controls its members, supported by the investment in information resources, clinical resources and a logistics infrastructure, we have the ability to influence product utilization more than any GPO could ever have. As a result, we fully expect that the manufacturing industry will see value in that, and we’ll be able to negotiate more competitive terms as a result.

“We’ve used the mantra with our manufacturers, ‘we want to be your lowest-price, highest-margin customer. We want to work with you to impact your supply chain costs, so you can realize better operating margins, and influence market share by consolidating products and manufacturers, which ultimately leads to improved margins for those manufacturers we partner with.’

“I think that rings true with them.”