Working Paper

WP No 582

February, 2005

AN INSTITUTIONAL SOCIOLOGY PERSPECTIVE

OF THE IMPLEMENTATION OF ACTIVITY BASED COSTING

BY SPANISH HEALTH CARE INSTITUTIONS

Scott D. Eriksen*

Ignacio Urrutia**

* Professor, Instituto de Empresa

* Professor of Accounting and Control, IESE

IESE Business School – University of Navarra

Av. Pearson, 21, 08034 Barcelona. Tel.: (+34) 93 253 42 00 Fax: (+34) 93 253 43 43

Camino del Cerro del Águila, 3 (Ctra. de Castilla, km. 5,180 – 28023 Madrid. Tel.: (+34) 91 357 08 09 Fax: (+34) 91 357 29 13

Copyright © 2005, IESE Business School.

AN INSTITUTIONAL SOCIOLOGY PERSPECTIVE

OF THE IMPLEMENTATION OF ACTIVITY BASED COSTING

BY SPANISH HEALTH CARE INSTITUTIONS

Abstract

According to institutional sociology, hospitals will respond to external environmental

pressures and adopt Activity-Based-Costing (ABC). This theory overemphasizes conformity

and fails to consider the advantages of organizational non-conformance. A conflict of interests

between physicians and management leads to physician resistance to accepting ABC. This

paper investigates the Spanish government’s response to this resistance by creating new public

foundation hospitals, and involves a case study of the Alcorcón foundation hospital. Population

ecology is offered as an explanation for the emergence of new entities as a result of inert

existing entities’ resistance to reform.

Keywords: Activity based costing, ABC implementation, Health care, Institutional sociology,

Spanish health care sector

AN INSTITUTIONAL SOCIOLOGY PERSPECTIVE

OF THE IMPLEMENTATION OF ACTIVITY BASED COSTING

BY SPANISH HEALTH CARE INSTITUTIONS

Introduction

During the 1980s, in many developed countries there was a movement to change the

existing formulas for managing public institutions (Hood, 1995; Olsen et al., 1998; Olías de

Lima, 2001). This movement, termed New Public Management (NPM), was driven by

significant changes in the environment, combined with globalization, and brought about a

profound change of mentality among both customers and managers of public institutions

(Hood, 1995; Lapsley, 1999). The customer, who until then had perceived two forms of

receiving services – from the market and from a public administration – now held the public

administration to the same discipline as the market. The revolution in management thinking

for public administrators was the belief that they could achieve optimum levels of

productivity and customer satisfaction.

One of the most important sectors to be affected by this NPM movement was the

public health sector, which began to experience pressure to improve the management of

health services (Ham, 1997; Ruef & Scott, 1998). Part of the response to this pressure was to

introduce contemporary management practices, including improved costing systems (Preston

1992), such as Activity Based Costing (ABC). Cost control is arguably the most important

issue facing the healthcare industry, which has been transformed from a fee-for-service

model in which the healthcare provider could pass on cost increases, to a system of managed

care in which the healthcare provider receives a fixed, predetermined fee for each medical

service (Ferguson & Lapsley, 1989; Ruef & Scott, 1998). This change in the contractual

relationship between healthcare providers and the funding entities has been the primary focus

for introducing market discipline into healthcare management, one of the components of

management reform (Hood, 1995). These market pressures would suggest that the success, or

even survival, of healthcare providers, especially under capitated

1

systems such as Health

Maintenance Organizations (HMOs), where the financial risk of providing healthcare

services is shared between the healthcare provider and the HMO, depends upon two factors:

appropriate utilization of resources (i.e. identification of resource consumption on a

procedural basis) and control of costs per unit of service (Bergthold, 1990). The true

advantages are the prospective and retrospective reviews of high volume procedures in order

to assess resource utilization (Hood, 1995) and contracting with payors (Hussey and

1

Capitation is a set amount of money received or paid out. It is based upon membership rather than services

rendered and usually is expressed in terms of amo unt per member per month.

2

Holford, 1993). Typically, due to their weak cost measurement systems (CMSs), healthcare

providers enter into negotiations and contracts with payors with no realistic knowledge of

their costs (Long et al., 1983; Fowkes, 1985; Ryan et al., 1996; O’Connell & Feely, 1997;

Reichert et al., 2001).

Most prominent organizational theories suggest that organizational diversity is due

to adaptation, with adaptation theories suggesting that organizations respond to external

environmental pressures. Institutional sociology posits that an organization’s survival

requires it to conform to institutional pressures (Covaleski & Dirsmith, 1988; Oliver, 1991;

Carmona & Macías, 2001). It follows that hospitals would respond to various institutional

pressures, since hospitals seek legitimacy in the view of those various institutions; thus, the

adoption of contemporary management practices, including ABC, would not only provide

the economic benefits of a more sophisticated CMS, but would also signal the hospital’s

intention to improve efficiency. In practice, however, implementation of the ABC model in

hospitals has been very difficult (Cobb et al., 1993). While considerable attention has been

given to the technical considerations necessary for successful implementation (Hussey and

Holford, 1993; King et al., 1994; Rotch, 1995; Urrutia, 2001), less attention has been given to

the issue of resistance to the pressures for implementation.

This paper expands on previous work regarding the impact of institutional forces on

the adoption of management processes in hospitals. Specifically, it addresses the issue of

resistance to institutional pressures in the highly institutionalized Spanish health care sector.

Rather than passively responding to and complying with environmental demands, as

suggested by the institutional perspective, a resource dependent perspective suggests that

organizations will actively employ a range of strategic adaptation choices, including non-

compliance (Oliver, 1991). Consequently, the successful deployment of New Public

Management in the Spanish health care sector should consider that hospitals’ responses to

pressures to conform will depend on several factors, including why those pressures are being

exerted, who is exerting them, what the pressures are, how they are being exerted, and where

they occur (op. cit.). This paper explores these institutional factors in the Spanish health care

sector in an attempt to provide insight into the predicted strategic responses of hospitals and

the consequences of those responses.

Additionally, this study expands on the previous literature and responds to Marcon

and Panozzo’s (1998) call to go beyond English-speaking countries by examining the issue of

implementation in a significantly different setting – a Latin as opposed to Anglo-American

environment – and by focusing on costing systems as opposed to the control function, which

has been the primary focus of previous studies.

The research method involved a qualitative intensive case study of the Alcorcón

hospital over a one-year period. Data were gathered by means of a total of fifteen visits made

to the hospital, including three semi-structured interviews with the CFO and Controller,

totaling ten and a half hours. These interviews were conducted as in-depth qualitative

exchanges on a specific set of topics. The remaining twelve visits totaled approximately

36 hours. Notes were taken in all fifteen visits. The objective of the initial interview with the

CFO and Controller was to discuss and diagnose hospital cost accounting systems. We

received documentation relating to the design of the ABC system as well as the operational

plan, which included the organization chart and the portfolio of medical services offered. The

objective of the second interview was to analyze the reasons why top management had

decided to implement an ABC system, and discuss the potential problems identified in the

literature (Hussey and Holford, 1993; King et al., 1994; Rotch, 1995), which centered

3

primarily on issues internal to the hospital. The objective of the third interview was to discuss

potential sources of problems external to the hospital regarding relations with the tax

authority, the hospital proprietor

2

, and the consulting firm hired to assist in the design of the

ABC system. Each of the remaining twelve visits to the hospital had the objective of

verifying statements made by top management via observation and collaboration with

medical personnel. Additionally, we made four visits, averaging one hour each, to three other

hospitals in the area – Getafe Hospital, Puerta de Hierro Hospital, and Doce de Octubre

Hospital – to identify both common and contrasting costing practices and procedures.

A qualitative methodology is appropriate when the research aim is to understand a

complex process (Blumer, 1969), with the interview considered an accepted method within

qualitative research for the purpose of building theory (Holstein & Gubrium, 1995).

Advocates of qualitative methods stress the richness of qualitative arguments on the big

picture and the appealing explanations of how processes, chronological facts and causal links

occur (Miles & Huberman, 1994). Specifically, a case study approach was adopted as it is apt

for ‘why’ and ‘how’ questions (Yin, 2003), thus enabling the researchers to make sense of

events, iterate theory with empirics, and generate ideas for future research (Patton, 1987).

This paper is organized in three parts. The first part briefly discusses institutional

sociology theory, including criticisms. It then discusses institutional sociology in the context

of management accounting and hospitals, followed by a discussion of the Spanish health care

sector from an institutional and resource dependent perspective, including the strategic

responses to institutional pressures, specifically the resistance of health sector civil servants

and hostility to economic reforms. This part concludes with a review of studies of ABC

applications to hospitals, identifying key issues regarding implementation of ABC in

hospitals. The second part first describes the Spanish health care sector, followed by a

discussion of the Alcorcón foundation hospital. The third part contains a discussion of the

authors’ observations and conclusions regarding the penetration of ABC in Spanish health

care organizations.

Institutional sociology, the health care sector and ABC

Market-based theories view organizations as sites for economic transacting (Scott,

1995, 2001; Baxter & Chua, 2003) and suggest that behavior is directed towards improving

internal technical efficiency due to market pressures, thus emphasizing rational decision

making. In contrast, institutional sociology emphasizes cultural, normative and cognitive

factors and suggests that organizations need to appear legitimate, and that behavior may be

directed more toward environmental acceptance than technical efficiency (op. cit.). While

both of these pressures produce an isomorphism (a process which forces one member in a

population to resemble other members which face the same set of environmental conditions

or pressures (DiMaggio, 1988)), institutional sociology posits that organizations react and

ultimately conform to institutional pressures in order to achieve legitimacy, institutional

support and stability. This isomorphism can be either competitive isomorphism (e.g. Hannan

& Freeman, 1977) or institutional isomorphism (DiMaggio & Powell, 1983), of which there

are three core mechanisms: mimetic, normative and coercive forces. It should be noted that

legitimacy (the focus of institutional sociology) is not necessarily gained at the expense of

efficiency (the focus of market-based theories), and vice versa. The authors take the position

that rational behavior aimed at improved efficiency and effectiveness can coexist with

2

Instituto Nacional de Salud (INSALUD).

4

isomorphic behavior aimed at gaining legitimacy. Furthermore, increasingly in private and

public organizations, legitimacy depends on being perceived as a ‘modern’ organization,

demonstrating efficiency and rationality (Lapsley, 2001).

While institutional sociology has been studied in many settings, there is a general

lack of studies focusing on the actual process of change as opposed to the result (Dacin et al.,

2002; Scott 2001), particularly regarding this issue of resistance to change. Institutional

sociology has been criticized for its lack of attention to the role of organizational self-

interests and active agency in these responses (Covaleski & Dirsmith, 1988; DiMaggio,

1988). Likewise, institutional sociology emphasizes the survival value of conformity and

generally fails to consider the advantages of non-compliance and the ability of the

organization to maintain autonomy over decision making. In its focus on isomorphism,

institutional sociology has deemphasized both the ability of organizations to defy external

demands and the benefits of doing so (Oliver, 1991).

Institutional sociology - Management processes and hospitals

In the health care sector, there is a fundamental conflict of interest between

physicians and management, resulting primarily from their different socialization experiences

and resulting set of values. The medical profession is the dominant socialization agent for

physicians (Derber & Schwartz, 1991; Lurie, 1981), with two important consequences. First,

physicians are oriented towards effective clinical care for individual patients (Alexander

et al., 1986); and secondly, the profession operates as the primary control mechanism

(Mintzberg, 1979), due to the fact that physicians are “dominant professionals” who control

the core clinical processes (Friedson, 1975). The management group is oriented towards

efficient and effective use of economic resources for all patient groups, as well as the overall

needs of the hospital (Alexander et al., 1986). This conflict in orientation is compounded by

the fact that the core hospital processes depend on the expertise of the physicians, thus

granting them a significant degree of autonomy (Barley & Tolbert, 1991; Derber & Schwartz,

1991; Zucker, 1991) and shielding them from formal bureaucratic controls (Mechanic, 1976).

Consequently, physicians have a great deal of authority over hospital resources – their

decision making commits up to 70-80% of hospital resources (Flood & Scott, 1987;

Hillman et al., 1986) – but essentially no responsibility for the economic consequences of

their decisions (Young & Saltman, 1985; Werner et al., 1987; Burns et al., 1993).

There are two major trends which have intensified this conflict. Physicians are

increasingly becoming salaried employees of the hospital, as well as becoming integrated

into the management structure as managers and board members (Abernathy & Stoelwinder,

1990). Secondly, the significant change in funding in the health care sector via the

introduction of prospective payment schemes (PPSs) has transferred the economic risk of

providing health care services from the funding entity to the hospital

3

. In response to these

PPSs, hospitals are now seeking to develop sophisticated budgeting and costing systems

(Comerford & Abernathy, 1999). These costing systems are based on product costing

3

PPSs reimburse the health care provider a predetermined amount for standard treatment critical path protocols

of medical conditions. These treatments are classified as DRGs (diagnosis related groups) and the hospital case-

mix is the mix of DRGs. The actual treatment received depends upon several factors, including the severity of

the patient’s condition, etc., hence it must be noted that the DRG reflects an average standard cost and does not

have a direct relationship to the costs incurred for a specific patient. DRGs have the effect of clustering patients

and are the final level cost objects in a healthcare organization.

5

concepts which originated in the manufacturing sector and focus on accurately capturing

resource consumption, thus allowing for a determination of the profitability of the various

product lines (Chua & Degeling, 1991; Preston, 1992).

A number of studies have employed an institutional sociology framework to

examine hospitals’ responses to the pressures to adopt more sophisticated management

planning and control tools (Abernathy & Chua, 1996). Despite the fact that several of these

studies (op. cit.) sought to address the three fundamental criticisms of institutional sociology

– that it neglects issues of power and interest; that it assumes that practices adopted to secure

legitimacy are only symbolic and always decoupled from actual internal systems (Carruthers,

1995; Mouritsen, 1994; Chua, 1995); and that it provides only limited insight into

institutionalism as a process as opposed to as an achieved state (DiMaggio, 1988) – there

remains a lack of studies in management accounting literature exploring the resistance to

institutional change.

Institutional sociology - Strategic responses to new public management in the Spanish

health care sector

While organizational choice is possible within the context of environmental

constraints, institutional sociology has tended to focus on the passive imitation of

organizational structures, activities and routines in order to achieve stability and survival.

A resource dependence perspective diverges and argues that organizational stability and

survival are achieved via the exercise of power, control or negotiation of interdependencies.

Strategic responses to environmental pressures can range from acquiescence to compromise,

to avoidance, to defiance, and to manipulation, in order of increasingly active agency

(Oliver, 1991).

Many organizations are often confronted with inconsistencies between institutional

expectations and internal objectives; specifically in the health care sector, institutional

expectations are based on New Public Management, while the internal objectives of

physicians center on maintaining autonomy over decision making (Lapsley, 1997). In broad

terms, the response of physicians will be either in the spirit of conforming through tactics

such as pacifying and bargaining, or in the spirit of defiance, with tactics ranging from

dismissal and manipulative control (Oliver, 1991).

It is useful to consider the scope conditions under which organizations are both

willing and able to conform; an organization’s willingness to conform is bounded by

skepticism, political self-interest and control, whereas its ability to conform is bounded by its

capacity, conflict and awareness (op. cit.). Responses to these pressures to conform will

depend on the circumstances surrounding these pressures, e.g., why pressure is being exerted,

by whom is it being exerted, what pressures are actually being exerted, how those pressures

are being exerted, and in what environmental context they are being exerted. In the health

care sector, the pressure is by the funding agencies to achieve economic efficiency. However,

there is organizational skepticism about the legitimacy of this objective among clinically

trained physicians, who see this objective in conflict with their clinical objectives of

providing health care. This is compounded by the non-profit nature of the hospital (Lapsley,

1994) and the fact that physicians tend not to be subject to formal bureaucratic controls

(Mechanic, 1976). And finally, compliance would generally be perceived by physicians as a

loss of discretion and autonomy (Jones & Dewing, 1997; Doolin, 1999; Cosialls i Puedo,

2000; Kurunmaki et al., 2003). These argue for an unwillingness to conform to institutional

6

pressures, to which it should be added that the ability to conform may be limited by a lack of

capacity due to an absence of managerial training on the part of physicians.

Organizations can be perceived as structures for accomplishing collective actions as

well as repositories of corporate resources. As such they require two fundamental

competencies – reliability and accountability – to obtain public legitimacy and social support.

Reliability refers to the degree of variance of performance, and accountability refers to

organizations accounting rationally for their actions. Reliability generally requires

that organizations continually reproduce their structure, which is primarily accomplished

through processes of institutionalization and the creation of highly structured routines

(Hannan & Freeman, 1984). However, while institutionalism gives organizations the

necessary taken-for-granted character, implying organizational purposes, it also tends to

create structural inertia. The factors contributing to structural inertia can be both internal and

external. Internal factors often include internal politics, which are likely to arise when

different internal groups are pursuing different objectives, as is the case within hospitals.

ABC applications to hospitals

Studies of ABC applications (Hussey and Holford, 1993; King et al., 1994; Rotch,

1995; Urrutia, 2001) to hospitals have focused primarily on the technical considerations

necessary for a successful implementation. Despite their technical orientation, several of their

conclusions are related to the fundamental conflict of interest between physicians and

management noted in the previous section and potential conflict regarding collaboration of

the physicians in their role as clinical department directors. Hussey and Holford (1993) noted

that there must be a significant change in the attitude of hospital administrators, who initially

rejected the ABC model on the basis that the health care sector was fundamentally different

from those sectors in which the ABC model had been implemented. King et al. (1994) found

that, in the hospitals investigated, the clinical department directors did not believe that a more

sophisticated treatment of costs was necessary and consequently were suspicious and not

supportive of the implementation. These authors stressed the need to educate clinical

department directors regarding the need for and benefits of the ABC model. This conclusion

was supported by Urrutia’s study (2001) of the Spanish health care sector.

Data collection was identified as another area of potential conflict. There must be

recognition of the total dependence, regarding data collection, on the owners of the data

(Hussey and Holford, 1993); physicians are the primary proprietors of data within the

hospital and the implementation team must understand that they must negotiate with these

proprietors, as opposed to making demands upon them, regarding both the quantity and

method of data collection. The design of the ABC model necessitates the adaptation of a

horizontal process view of the hospital, based upon the hospital’s operating processes, which

contrasts with the typical vertical view of the hospital organization, based upon specialized

functional divisions or departments (op. cit.). Due to the technical complexities of health care

work, the designer of the ABC model must rely on the physicians to capture the intricacies of

the hospital’s operating processes (King et al., 1994; Lapsley, 1996)

4

. Furthermore, in

4

Each DRG has an operating process which is comprised of the protocols for the related activities, tasks, and

operations. The only way to understand the hospital operating processes is via the descriptions and specifications

of these protocols. However, there is no common language regarding these protocols. The ABC model requires

standardized protocols, but the lack of a common language contributes significantly to the inability to develop

these standardized protocols, hence there is a vicious circle.

7

situations where there is a general policy of cost reduction, generating this information may

cause problems in relations between hospital personnel and management, with the possibility

that hospital personnel may suspect that, after implementation of the ABC model,

management may use the model for objectives other than those originally identified, such as

to analyze under-utilization of productive capacity (King et al., 1994).

Finally, several studies identified the need for information systems that were capable

of capturing the different medical resources, which are utilized in every DRG, and that

considered product diversification by including a classification of patients, i.e. a case-mix

(Hussey and Holford, 1993; Rotch, 1995; Urrutia, 2001). A description of the traditional

hospital cost system is provided in the Appendix.

The Spanish health care sector and the Alcorcón foundation hospital

Article 43 of the Spanish constitution of 1978 establishes the right to health care as a

general right. In 1978, the Instituto Nacional de la Salud (INSALUD), a government agency

under the Ministry of Health, was created to oversee the administration and management of

Spanish health care services. INSALUD continued to exercise this role until 2002, when it

lost its executive powers and became a support agency. In 1986, a law

5

was enacted

regarding the transfer of health service responsibilities and resources from the national

agency, INSALUD, to Spain’s 17 autonomous communities. This transfer began in 1981

with the autonomous communities of Catalonia, the Basque Country, Galicia, Canaries,

Valencia, Navarra and Andalusia.

The politicians who govern the public heath system have the greatest impact on

INSALUD (Núñez Feijóo, 1998). The Popular Party (Partido Popular; PP) took over from

the Socialist Spanish Workers Party (Partido Socialista de Obreros Españolas PSOE) in

1996 and installed a new management group in INSALUD, with a mandate to identify

problems in the health care sector, quantify those problems, and identify possible solutions

(Ley 15/1997; Núñez Feijóo, 2000). The management group found high levels of

inefficiency, including de-capitalization and deterioration of hospital equipment, due to

underinvestment in previous years, and a centralized bureaucratic organizational model,

lacking management tools and with an overemphasis on controlling expenses rather than

managing costs. Furthermore, there was a complete lack of valid measurement tools,

combined with obsolete health care information systems. The health care infrastructure, in all

the autonomous communities except Catalonia, the Basque Country, Galicia, Canaries,

Valencia, Navarra and Andalusia

6

, was also de-capitalized as a result of an overemphasis on

controlling expenses (Núñez Feijóo, 1998).

5

Redrafted text of the General Social Security Law, and in the third Transitory Provision of Act 14/1986,

April 25, 1986.

6

In 1996, INSALU D was responsible for the health needs of 14 million people and had at its disposal an

extraordinary amount of human and material resources, including 81 hospitals, with 37,133 beds; 95 specialty

centers; 994 health centers; 1,083 primary care teams; and over 132,000 emplo yees. Furthermore, the

organizatio n had another 108 subsidized centers, with 21,916 beds. INSALUD’s total budget was approximately

1.5 billion pesetas (0.9 billion euros) and covered 10 autonomous co mmunities, plus Ceuta and Melilla, in total

covering 27 provinces (INSALUD Annual Report 1998).

8

The pretext that INSALUD would transfer hospitals to the autonomous communities

in the short to medium term effectively excluded a long-term perspective. Along with the

uncertainty regarding the transfers, the autonomous communities were not prepared, in terms of

organizational structures, to receive and administer the hospitals; in other words, it would take

time to develop the necessary infrastructure. This lack of a long-term focus resulted in a

“residual” or “minimalist” management approach for an indefinite period of time; in effect,

hospitals controlled only a few marginal aspects of the resources, as INSALUD continued to

employ the personnel and own the infrastructure resources; and without a long-term

perspective that was not going to change. This management approach resulted in a deterioration

of health care services administration and a loss of motivation on the part of physicians, due to

a lack of initiative and a clear set of objectives for the health system (Nuñez Feijóo, 1999). For

these reasons, the management group implemented both structural and cultural changes in the

organization, which led to the preparation of a general strategic plan, the first general planning

document in the organization’s 20-year history (Núñez Feijóo, 1998).

These reforms were not limited merely to improving the management of health care

services, but also were directed toward setting new trends of organizational behavior that

would promote strategic change within the organization; specifically, to consolidate the

health care system and make it more flexible (González González, 2002). These desired

changes were driven by the need to achieve a higher level of quality in the administration of

health care services and also to facilitate the transfer of hospital management from

INSALUD to the autonomous communities, which was concluded in 2002 (Uribe Ladrón de

Cegama, 2002).

Concurrent with these reforms, as detailed in the INSALUD Strategic Plan (Plan

Estratégico del INSALUD) (1997; 15), was the implementation of various actions designed to

promote the involvement of physicians in the hospital management structure and increase the

motivation of physicians to internalize this new managerial focus, which has been a common

approach to the application of New Public Management to the health care sector (Abernathy &

Stoelwinder, 1990). These actions were on the whole unsuccessful, due, among other things, to

the physicians’ lack of managerial training, and usually resulted in the medical director

becoming isolated from the clinical group (Repullo Labrador and Oteo Ochoa, 1999).

As described in the INSALUD Strategic Plan (1997), political responsibility for

avoiding deficits in any fiscal year during the legislative term was enhanced in 1998

through the acquisition of resources from the “Financial Agreement of 01/98” (acuerdo de

financiación 98/01), as well as through changes in the financing arrangements that allowed

savings by a hospital to be subsequently reinvested in the hospital rather than having to be

returned to INSALUD. This political responsibility for the economics of the system,

combined with a no deficit policy, facilitated the development of new relations with the

hospitals, culminating in the introduction of prospective payment schemes (PPSs), which

transferred the economic risk of providing health care services from INSALUD to the

hospital. In contrast to the prior method of financing, where hospitals were reimbursed for

the costs incurred in providing health care services, now the hospitals had to negotiate

prospective payments, which were essentially standard prices for treatments as defined

by DRGs.

9

Public foundation hospitals

The Alcorcón foundation hospital was created by INSALUD on December 18, 1996

and effectively began operations in 1998 (Foundation Hospital Alcorcón, 2003). It began

operations with an ABC system in place, although not operational until 2000 (Urrutia, 2001)

7

.

It also began operations with a TQM program, thus facilitating the vertical process perspective

necessary to configure an ABC system (op. cit.). The Alcorcón foundation hospital provides

public health care services to a population of approximately 220,000 people and specializes in

Allergology and Nephrology, serving approximately 400,000 people (Foundation Hospital

Alcorcón, 2003).

An intensive case study (Urrutia, 2001) of the design of the ABC system in the

Alcorcón foundation hospital, involving fifteen visits to the hospital over a one-year period,

was initiated with a series of interviews with the CFO and Controller. The CFO had prior

experience with ABC design and implementation when serving as CFO of the Ministry of the

Treasury’s currency printing factory (Fábrica Nacional de Moneda y Timbre), where an

ABC system was implemented in 1996. Consequently, the CFO was familiar with the

requirements for ABC implementation and also with potential problems identified in

the literature regarding ABC applications to hospitals (Hussey and Holford, 1993; King et al.,

1994; Rotch, 1995). Also due to his prior successful experience, he championed the idea of

implementing ABC in the Alcorcón foundation hospital. We received documentation

regarding the design of the ABC system, and the subsequent twelve visits to the hospital were

to verify statements made by top management via observation and collaboration with medical

personnel, e.g., comparison and confirmation that there were no differences of opinion

regarding statements by top management and the medical personnel.

In considering the minimum requirements for a successful implementation, three

areas of potential problems were addressed in the second interview with the CFO and

Controller, which involved the implementation team, the design of the ABC model, and the

model’s operating environment (Urrutia, 2001). Regarding the design of the ABC system, top

management had decided that the implementation team had to be multi-disciplinary and

needed to understand the hospital operating processes. They had also considered it necessary

that there be a proper classification of costs and patients, as well as a cost accumulation

process that included the proper selection of cost drivers. Top management was aware of the

absolute need for collaboration by the physicians. A subsequent visit to the hospital involved

three interviews with physicians from three of the 18 medical areas (image diagnosis,

gynecology and cardiology) with the objective of determining potential resistance on their

part. No potential resistance was detected. Reports representing output from the information

system were collected at that time.

The third interview with the CFO and Controller involved a discussion of their

presumptions regarding positive collaboration by the physicians, our interviews with the

sample of physicians, and the conclusion that their presumptions were well founded, and that

there did not appear to be a problem of potential resistance on the part of the physicians.

Having effectively discarded the internal sources of problems, the discussion then focused on

existing problems resulting from interaction with external parties such as the tax authority

and INSALUD, as well as with the consulting firm assisting in the design of the ABC system.

7

The ABC system was finalized in 2000. A costing system is not necessary to satisfy information requirements

for interactions with the tax authority and INSALUD, hence the hospital could begin operations before the

finalization of the ABC system.

10

Due to its legal status as a foundation hospital, several accounts were used that were not

commonly used in the health care sector. The use of these accounts by the hospital had

created confusion in dealing with both the tax authority and INSALUD and these issues were

ultimately resolved. There were also some design-related difficulties due to the consulting

firm, Cap Gemini’s, incomplete understanding of the clinical processes, which led to several

technical problems regarding the mapping of activities and documentation of the critical path

protocols. These design issue were eventually resolved with the collaboration of the clinical

personnel.

The objective of the subsequent visit to the hospital was to review the ABC system

design documentation we had received from top management in the initial interview. The

design of the system involved three stages: the cost classification stage, the process

assignation stage, and the establishment of valuation criteria (full vs. direct costing, actual vs.

normal costing, etc). In this visit we were also able to briefly interview the hospital director

and verify that there were no differences of opinion between top management and the

hospital director regarding the benefits of the ABC model.

The value chain of the clinical services that hospitals provide to patients is made up

of three parallel processes and involves three business functions, as depicted below:

Figure 1. Hospital Value Chain

The clinical process is the core operating process, while the technical and lodging

processes are support processes. In hospitals, patients are classified based upon diagnosis, i.e.

what clinical process is necessary to treat the identified condition. These classifications are

referred to as DRGs (diagnosis related groups) and the hospital case-mix is the mix of DRGs.

A DRG is a classification of a standard treatment protocol or critical pathway for treating a

particular medical condition. The DRG is determined by first identifying the pathology, and

secondly identifying any complications within the pathology. Hence the DRG involves

developing the expected sequence and timing of patient treatment processes and is intended

to give the physician a concrete idea of the minimum cost procedure the average patient

should receive to obtain effective treatment. The actual treatment received will depend upon

several factors, including the severity of the patient’s condition, etc., hence it must be noted

that the DRG reflects an average standard cost and does not bear a direct relationship to the

Admission Diagnosis Treatment

Patient

Solution

Lodging Process

Technical Process

Clinical Process

Admission Diagnosis Treatment

Patient

Solution

Lodging Process

Technical Process

Clinical Process

11

costs actually incurred for any given patient. DRGs have the effect of clustering patients and

are an intermediate-level cost object in a healthcare organization

8

.

The Alcorcón foundation hospital initially designed the ABC system to capture four

clinical processes – hernia, childbirth delivery, orthopedic surgery, and cataracts; the model

would subsequently be expanded to include more clinical processes. We reviewed the four

clinical process descriptions as well the critical path protocol descriptions, which were

codified as DRGs. Each clinical process contained several DRGs and we examined one DRG

from each clinical process. The following is a partial illustration of the documentation for the

clinical process for a hernia, of which there are three possible DRGs. The first four protocol

stages are diagnostic and the fifth is a treatment stage.

Figure 2. Critical Process Description for Hernia

The mapping of the clinical processes had been identified as a difficult problem by

the CFO and Controller. This involved creating a hierarchy, using the clinical process, the

business function process, the macro activity, and the task or micro activity. We reviewed

the methodology employed to codify the different tasks and activities, and also the

documentation. Costs were accumulated in cost pools at the task or micro activity level and

coded at that level. These activities could then be rolled up into the next level – macro

activities, which could then be rolled up to the next level – business function processes,

which could then be rolled up into the DRG, as illustrated below.

Figure 3. Mapping of DRG 300 of the Clinical Process Hernia

8

Managing a DRG environment is similar to managing a multi-product firm, where product-line management

requires an accountability structure which assigns responsibility for “product lines” to those who control the

production process (Comerford & Abernathy, 1999). Historically, hospital accounting systems have been designed

and used primarily to report to external parties, e.g. government and other third party payers (see the Appendix for

a description of traditional hospital cost accounting systems). There was little de mand for the accounting system to

serve as a management planning and control tool, as there were few incentives to control costs.