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patients in the DRG to arrive at the cost per case.

Suppose, for example, 200 patients assigned to DRG #243 use

a total of 1,000 of the 100,000 days of care provided by nurses in delivering routine services (e.g., medical/surgical, pediatric, obstetrical-gynecological, etc.). If we further

assume that the total cost of the routine services cost center is $1,000,000, then the total cost of nursing care for DRG #243 (a) and the cost per case (b) can be calculated as follows:

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The resulting figure is later added to the cost per case of providing ancillary services (computed in a similar manner as nursing costs except charges, as opposed to days, are used to apportion costs) to arrive at the hospital's total cost per case for DRG #243.

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Once the hospital's direct patient care cost per case is determined through the cost finding procedure outlined above, direct care reimbursement rates can be calculated. To accomplish this, the hospital's cost per case must be combined with two additional factors the hospital-based physician services costs and a standard non-physician direct care cost which represents the average non-physician cost for all of the hospitals under the system (calculated separately for teaching and non-teaching hospitals and adjusted for differences in intra-state labor costs).

These three components are depicted in Equation I below.

Equation I

DRG Payment Rate

for Direct Patient

Care

Amount for Hospital-Based
Physician Services

PLUS

Portion of Hospital's Own Cost

PLUS

Portion of Standard Cost

The share of the hospital's own cost used, and that of the standard cost, depends upon the degree of variation in the amounts of resources used in treating different patients within a DRG. If, for example, they differ substantially, then greater reliance is placed on the hospital's cost.

After the DRG payment rates are set, they are multiplied by the expected number of cases to reach the reimbursable direct patient care costs which are added to other costs (such as overhead, mixed direct/indirect, etc.) to get the hospital's total reimbursable costs. A proposed rate schedule is then submitted by the State Department of Health to the hospital and the State's Hospital Rate Setting Commission. If the hospital chooses to

reject the proposed rates, then an appeals process begins and the discrepancies are worked out.

The amount of actual revenue collected by a hospital during its rate year might vary from the amount approved in the

preliminary cost base at the start of the rate year, since it is based on a series of assumptions and forecasts relating to volume, case mix, and other factors that could affect revenue. Therefore, at year's end, a final reconciliation takes place between the hospital and the Department of Health in which adjustments (in the next year's rates) are made to account for differences between actual net revenue and approved net revenue.

OVERVIEW OF THE EVALUATION'S FINDINGS

Almost immediately after the enabling legislation was in place, and the developmental work completed, a consensus began to emerge on the part of those familiar with the intricacies of the system that a comprehensive evaluation was needed. In response, the Health Research and Educational Trust of New Jersey assembled an evaluation team and raised the funds necessary to complete the

work.

In a general sense, the evaluation was aimed at increasing our understanding of the answers to four fundamental questions. First, is the system well designed and does it work as anticipated? Second, does the system make a difference in terms of the hospital's overall performance, effectiveness and efficiency in providing medical care? Third, what is the system's potential as a regulatory device, management information or data-based planning mechanism, and utilization review tool? And finally, on

balance, what are the advantages and disadvantages associated with DRG reimbursement for hospitals, third-party payers, and

others?

From these basic questions a host of more specific issues and questions emerged. These were partitioned into nine separate analytical tasks which were undertaken by the evaluation team. [2] The detailed results of the team's analysis will appear in the following four volumes:

Volume I: Introduction and Overview

(published June 1982), Volume II: Economic and Financial Analysis, Volume III: An Examination of the Classification and Control of DRG Related Data, and Volume IV: The Politics and Organizational Impact of DRG in New Jersey. Although portions of the evaluation remain unfinished, a substantial body of work has been completed. Some of the more salient observations drawn from the analysis are presented below. It is important to bear in mind, however, that the findings reported here are preliminary in nature and therefore should not be subjected to the same level of scrutiny that might be appropriate for the final reports.

A. Design Aspects Of The DRG System

During the course of the evaluation, a considerable effort was devoted to assessing the actual way in which the system itself was designed. First, an analysis was conducted to see if there was any merit to the argument that the system didn't properly account for a patient's clinical status in assigning the patient to a DRG.

Through the use of a Delphi survey of physi

cians, hospital representatives, and researchers familiar with the DRG system, 37 of the 383 DRGs initially used to classify patients in 1980 were judged to contain patients whose assignments failed to adequately recognize differences in clinical status. Additionally, sixteen categories of problems which were deemed responsible for such assignments (e.g., placing patients with different illnesses in the same DRG) were identified. The effect of all this on reimbursement levels, however, is uncer

tain.

A second aspect of the system's design, which was investigated in detail, concerned the structure and application of the reimbursement formula. The first type of analysis performed, regarding the formula's structure, was one whereby the various components of the formula were altered in an effort to assess the effect of these changes on DRG rates. Several observations can

be made as a result of this process. First, the effect on DRG rates and direct care revenue of changing the "sharing factor" (set at .5 in 1980), which in part affects the proportion of the hospital's own cost and that of the statewide standard, was small. Next, when this factor was changed, the resulting effect on the incentive/ disincentive payments (i.e., the difference between the actual cost of treating the patient and the reimbursement rate) was proportionate to the change itself. And finally, as one would expect, the greater the reliance placed on the state average, the more the efficient hospitals were rewarded and the inefficient ones penalized.

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