Hospital Logistics Gets a Check-Up

Symptoms such as erratic billing rates, supply closet vertigo, and constricted inventory flow have healthcare facilities diagnosing better supply chain management as the cure for what ails them. To improve their condition, they’ll need help from suppliers and service providers.



Healthcare facilities suffer from logistics headaches and hemorrhaging budgets, symptoms complicated by a pre-existing condition: an economic model that doesn’t provide a predictable revenue stream.

"Hospitals receive most of their revenue from insurance or Medicare/Medicaid payments," says Jake Groenewold, vice president, supply chain for the University HealthSystem Consortium (UHC) of Oak Brook, Ill., an alliance of 102 academic medical centers and 191 of their affiliated hospitals. "Third parties are continually scrutinizing hospital operations, driving an imperative to operate as efficiently as possible."

There’s a fly in the ointment, however: billing rates and reimbursements don’t always balance. "We can send an invoice for $3, but with our mix of managed and governed care, we might get back only 80 cents on the dollar," Groenewold notes.

"For example, my 75-year-old mother fell and broke her hip," he continues. "She went to the hospital on Saturday, had surgery on Sunday, and was in the surgical unit for three days. That is considered an ‘episode of care.’ Medicare reimburses the hospital a certain amount for that time period, regardless of the actual cost. The costs are usually more than what the hospital is reimbursed for, so in many cases, the hospital loses money."

Because they never know what percentage of billed costs they will actually collect, hospitals rarely know what their net revenue will be. "Hospitals don’t operate like McDonald’s, which can forecast that it will sell one billion hamburgers at $1 each, then actually bring in that revenue," Groenewold points out.

Given this underpinning of economic uncertainty, healthcare facilities are finding relief in well-managed procurement and supply chain operations. Hospitals and their suppliers are prescribing a number of logistics treatments to relieve supply chain aches and pains.




Doctors and administrators who don’t consider supply chain issues when selecting the best value on supplies for their hospitals could have impaired vision.

"Physician preference drives certain supply decisions," Groenewold explains. "The hospital doesn’t employ the physician, yet he prescribes, for example, the artificial hip he wants to use. The hospital has to order it; if we buy a lower-cost hip, the physician won’t use it on the patient."

Typically, supplies represent 22 to 25 percent of a hospital’s costs, but could jump to 50 to 70 percent of the expense for an individual episode of care as a result of doctor-specified orders. Many hospital organizations, including UHC, struggle to work through these issues.

"Employees with clinical backgrounds work with administrators and doctors to evaluate which products will best meet the physician’s needs," explains Groenewold. Often, the hospital is able to purchase an item that saves money while meeting the doctor’s requirements.

On a larger scale, hospitals use organizations such as UHC to leverage members’ collective purchasing power and reduce supply costs. UHC has negotiated a portfolio of supply contracts through which its members can buy.

Additional help comes from Novation, established in 1998 when two national healthcare alliances, VHA and UHC, consolidated their supply-contracting functions. Based in Irving, Texas, Novation acts as the contracting services company for members, associates, and affiliates of both alliances to help them manage and reduce supply costs. In 2007, Novation represented $33.1 billion in annual purchases. Managing contracts and supplies through Novation gives UHC a better view of its supply chain options.




Many hospitals turn to automation to improve supply processes and reduce costs. Such is the case for the 689-bed Nebraska Medical Center, the University of Nebraska’s teaching hospital. Located in Omaha, it is the state’s largest healthcare services provider, with more than 4,900 employees and 1,000 physicians on staff. In fiscal year 2007, the Nebraska Medical Center treated more than 26,000 in-patients and 445,000 out-patients.

Prior to transforming its logistics model, the Nebraska Medical Center managed inventory in a manual "stockless" environment. Under this system, staff members went to different areas of the hospital each day and assessed what stock was used. They manually keyed that information into the inventory/order management system and placed an order with a wholesale distributor. The material was delivered the next day for the staff to put away and restock.

The hospital used charge stickers to manually track supply consumption. When nurses used a product, they would remove its sticker and place it on the patient’s chart. The sticker information was later keyed into the medical center’s patient billing system.

The process created many opportunities for error. Staff could enter inaccurate information during inventory or ordering. Clinicians could forget to remove stickers from products or attach them to charts, or the stickers could fall off.

The cure for the Nebraska Medical Center’s inventory disorder proved to be a responsibility transplant. The center now outsources its financial and supply chain management responsibilities to Dublin, Ohio-based Cardinal Health, one of the nation’s largest healthcare wholesale distributors.

Although the Nebraska Medical Center is a huge consumer of medical/surgical supplies, it does not own or manage its inventory. Instead, Cardinal Health fulfills the medical center’s supply needs—both to the central storeroom and to the hospital floors and operating areas, managing the inventory at optimum levels.

Cardinal Health utilizes Pyxis inventory management systems to automate the center’s logistics. Pyxis is a combination of automated, computer-linked inventory cabinets and remote open-shelf technology dispersed throughout the hospital that tracks the use, reorder, and issue of medical and surgical supplies at the point of use.

"Our supplies management is completely automated," explains Tom Strudl, the Nebraska Medical Center’s director of resource control. "The cabinets hold and manage the inventory. When clinicians need a product, they access the system, identify the patient, select the item and quantity, and remove the product. The Pyxis system keeps track of inventory and, when a quantity on hand gets low, the system automatically reorders it when an extract is run."

Cabinets are replenished either from the central hospital stockroom or from Cardinal Health’s regional distribution center. Orders are processed through an EDI interface to the Cardinal warehouse. A snapshot is taken at 5 p.m. and the required replenishment materials are delivered and put away early the next morning.

Pyxis also simplified the medical center’s billing process. "The machines and systems are linked to our charge master system so as we consume a supply, it’s processed and billed accordingly," Strudl says.

In addition to managing inventory reorder points, if an item’s inventory level drops below a predetermined threshold, the unit automatically sends a "critical low" message to the supply room, asking for replenishment. Or, if there is a stock outage, the cabinet requests immediate action.

"The system allows us to manage supplies proactively rather than reactively," Strudl says. "And we have been able to enhance product standardization because the staff does not have the ability to order outside the system’s parameters.

"One of the biggest benefits is that product is available at the point of use when we need it," he continues. "When a nurse goes to a shelf to get an item, it’s there 99 percent of the time. Because product is easier to find, we have reduced the number of storeroom requests. Now, we use the central storeroom to hold product that has low usage volume, but we can deliver it quickly when needed."

The logistics initiative has helped reduce the medical center’s net supply cost. The center has operated under supply budget every year since implementing the system in 2003, and continual improvement efforts add to the savings.

A new products committee, comprised of clinicians, procurement, and supply distribution staff, reviews and approves products for use. "As part of our team, our logistics partner presents opportunities to standardize and looks at our buying patterns to identify areas for cutting expenses," Strudl notes.

By outsourcing its supply chain and reducing inventory carrying costs, the Nebraska Medical Center significantly cut spending. At the same time, nurses and physicians have the supplies they want where and when they need them—all of which improves patient care.




Not only do hospitals face challenges in keeping supply inventory steady, they also have legal obligations to track some of those supplies at the item level. Manufacturers and suppliers play a vital role in ensuring that these regulations are followed.

Several years ago, California passed a law requiring that the entire healthcare supply chain use electronic product pedigrees and serialize product line tracking in order to deter pharmaceuticals diversion and counterfeiting. Under this sweeping ePedigree law, the following requirements apply to the pharmaceutical supply chain:

  • Pharmaceutical products must be serialized at the smallest package or immediate container level.
  • Serialized electronic pedigrees must be initiated at manufacturing and managed at change of ownership points throughout the supply chain.
  • Pedigrees must be produced for nearly all product lines.
  • Pedigrees must be transferred in an interoperable electronic format.
  • Returns to the wholesaler or pharmacy must be included on the pedigree.

Other states are likely to follow California’s lead by instituting similar ePedigree regulations.

"The problem with ePedigree regulations is that every state’s requirements are different," says Dale Swoffer, senior vice president of information technology for the Harvard Drug Group, a wholesale distributor based in Livonia, Mich. "We hope the California law will act as a blueprint for regulation across all 50 states."

Serialization will place a tremendous data collection strain on the healthcare industry. It shifts the onus for lot tracking to the manufacturer, as opposed to the wholesale distributor. The industry faces a significant change in operations, the costs of which will likely be passed along to hospitals and healthcare facilities.

The following areas of concern were identified by the Healthcare Distribution Management Association in research sponsored by global software provider SAP.

  • Serial Number Management: For serialization to work, every number applied to an item, case, or pallet must be unique. Companies applying serial numbers must keep track of what numbers have been used, and must allocate numbers to various manufacturing plants and distribution centers in non-overlapping number ranges. A related requirement is that standard numbering formats be used so that trading partners can read them.
  • Business Process Execution: Manufacturers, distributors, retailers, and hospitals that handle serialized product will need to integrate serialization steps into normal business processes. Serialization affects business processes such as packaging, receiving, picking/packing/shipping, kitting, repackaging, and inventory movements and adjustments.

Today, each of these business processes operates without serialization. For example, items are typically picked and shipped against an order document. Serialization adds tasks to capture serial numbers and make sure they are aligned and consistent with orders. Workers must also check that the count of serial numbers scanned matches the order quantity.

"In summary, accuracy and granularity must go to a new level," SAP reports. "It is not sufficient to have accurate inventory counts. It is also required that each individual item is correctly identified."

These requirements intensify the demands on distributors such as Harvard Drug Group. "We currently push 15,000 lines a night out of our Michigan facility," Swoffer reports. "If an order consists of 20 pieces, each piece must have a unique identification. The volume of data grows quickly and exponentially."

To cope with burgeoning data management requirements, Harvard Drug Group installed Manhattan Associates’ warehouse management system (WMS) and a Vocollect voice-directed picking system in 2005.

"We needed a system to track lot numbers and expiration dates throughout the distribution process, to interface with the pedigree system and keep us compliant," explains Swoffer. "We moved from an old legacy system to a sophisticated WMS."

In doing so, Harvard Drug Group rewrote all its operating processes during the 18 months of systems implementation. The hard work paid off, however. In addition to providing the ability to track inventory, the new system allows Harvard Drug Group to increase its hourly work output.

"At our small parcel facility in Livonia, we have a very short pick window," Swoffer notes. "We pick from 4 to 9 p.m., and the FedEx truck leaves at 9:01. Without the WMS and voice-picking system, we would have had problems meeting information requirements and processing orders within that short window."

The WMS also gives Harvard Drug Group visibility into warehouse inventory and expiration dates. "Today, we can easily identify short-dated products and get them out the door so they don’t lose value," Swoffer says.

Healthcare cost management is challenging because of the nature of the business. Hospitals and medical facilities are realizing, however, that their supply chains offer tremendous opportunities to take out cost while improving service. Working collaboratively with suppliers and service providers, healthcare facilities have made considerable advances in improving their health.


Because they deal with products that affect patients’ health and well-being, healthcare industry suppliers often require special freight-handling processes. Niche third-party logistics service companies such as Priority Solutions International of Swedesboro, N.J., and NAL Worldwide of Addison, Ill., have developed services tailored especially for this market.

“Increasingly, customer shipments require temperature monitoring,” reports Tim McClatchy, director of sales for Life Science Services at Priority Solutions International. “They don’t necessarily need cold chain service, but they want us to ensure that their product doesn’t get warmer than 40 degrees Celsius. To do that, we have to monitor the top-end temperature.”

NAL Worldwide serves a number of companies that manufacture or supply larger hospital equipment ranging from beds to diagnostic imaging machines. “Because the equipment is of such high value, our customers look to us for the ability to track serial numbers,” notes Don Armstrong, NAL Worldwide’s director of marketing. “They want to know the moment a piece of their hardware comes into one of our logistics centers—and they want to know the specific model and serial number of that unit. The same applies to outbound deliveries.

“Inventory accuracy is a big issue,” Armstrong continues. “Our customers want to know that the item they’re moving is where we say it is when they log into our asset management system.”

Additionally, delivery times are often critically important. “This is the only sector we work in where delivery can be a matter of life or death,” Armstrong notes. “We are affecting whether a hospital has the equipment it needs to treat patients.”


On the federal compliance level, the U.S. Drug Enforcement Administration (DEA) has been cracking down on wholesale distribution of controlled substances. In October, for example, Cardinal Health, one of the nation’s largest distributors of pharmaceutical drugs, agreed to pay $34 million in civil penalties for allegedly violating its obligations under the Controlled Substances Act.

Cardinal Health, which operates 27 DEA-registered distribution facilities, failed to report suspicious orders of hydrocodone, the generic form of a prescription painkiller classified under federal narcotics law as a Schedule III controlled substance. Cardinal distributed the drugs to pharmacies that filled non-legitimate prescriptions originating from rogue pharmacy Web sites.

The seven U.S. Attorneys Offices that brought the suit alleged that the orders Cardinal received from these pharmacies “were unusually large, unusually frequent, and/or deviated substantially from the normal pattern.” According to the DEA, Cardinal’s conduct allowed the “diversion” of millions of dosage units of hydrocodone from legitimate to non-legitimate channels. DEA regulations require all manufacturers and distributors to report suspicious orders of controlled substances.

“The onus is on the warehouse distributor to determine if an order is suspicious,” explains Dale Swoffer, senior vice president of information technology for wholesale distributor Harvard Drug Group. “The DEA is telling warehouse distributors to look at their customers’ buying patterns and determine whether an order is suspicious, then put the order on hold. But the DEA doesn’t define suspicious.”

During its investigation, the DEA stripped three of Cardinal’s DCs of their licenses to distribute controlled substances. Those licenses were reinstated under the settlement agreement. In addition, a fourth distribution center at which the company voluntarily suspended distribution services was re-opened in September.

In addition to paying the settlement, Cardinal has expanded its training processes, installed new technology that automatically sidelines potentially suspicious orders for further investigation, and expanded its compliance management team.

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