To determine the best contract for your organization, you need to understand the pros, cons and pitfalls. The goal of this article is to educate you on how vendors make their money. You can then use this knowledge to ensure that the income they are making from your organization is appropriate.
Many times, I have gone to hospitals and completed a contract audit, only to find that the vendors are making excessive profits well above the industry standard of 4% to 6% of the total managed volume. The best time to negotiate a contract is at the start of the contract or during contract renewal – as you, the client, are in the driver’s seat. Before you begin negotiations, you need to understand how much money the vendor is making and if they are running an efficient and effective operation.
The vendor makes money generally in tree buckets
- Stated Admin and Fees
- The admin is the portion of the vendor income that is used to provide offsite support and oversight for the location.
- The fee is generally the vendor profit for managing the account
- Incentives and rebates – in the range of 12% – 16% of the spend. If the vendor is purchasing (or proposing purchasing) of food and supplies – In the Terms and Conditions of the contract you will find language stating that they keep these fees, but they do not define the percentages
- Vendor Employees – determine what the benefits percentage is – it can be as high as 45%. The average vendor benefits are 28%.
- Stated Admin and Fees
As an example. let’s analyze a typical 300-bed hospital with an average census of 210 where the vendor is charging all the above
- Labor Spend $2,622,000, benefits charged at 38% = $996,360
- vendor income at 10 points = $99,630
- Food and Supply Spend $1,747,000
- Vendor Income @14% = $244,580
- Vendor Admin and fees $255,000
At a cursory look, you would define the vendor income at about 5%, equaling their admin and fees.
Instead, it is $599,210, or 29%, way ABOVE MARKET!
How do you to get some of this back to your organization
- Demand a 50/50 split on all rebates.
- Alternately, have the vendor contribute capital at no cost to enhance the dining model or invest in a new food court – This will improve the patient experience and benefit the hospital, guests, employees, and physicians.
- Ask for the actual cost of benefits and then give them points for employee management
- Bottom line – you want their net income to be between 4% and 5% of the total managed volume.
- On a five-year contract that’s a savings of $1,463,005 and $1,974,020
How do you ensure the vendor delivers the proposed savings or reduction in income?
There are three types of contracts that are generally used in the industry, which I review in greater detail in my three-part webinar series available at https://soriantsolutions.com/webinar-replay/
In summary, there are:
- Guaranteed Net Cost Per Patient Day
- This is a closed book P&L contract, which basically takes the net cost of the department and divides by the patient days to come up with a dollar amount per patient day – e.g. Net cost of the department is $5,000,000 at 100,000 patient days cost per patient day is $50.00.
- They also have a varied rate for when the census is above or below the guaranteed patient days which is for fixed cost (generally in the range of $7.50 to $12.50)
- Management fee
- This contract is a straight passthrough that all costs are passed back to the client
- Provides no guarantee on the vendor proposed or renegotiated contract
- Open Book P&L
- This is guaranteed contract price. If the vendor goes over the guaranteed net monthly cost of the department, they eat the cost.
- If they operate under the net department cost, they keep the savings.
- g. Net cost of the department guaranteed is $300,000 and the department operated at $280,000, vendor makes $20,000. If they operate at $320,000 then vendor loses $20,000.
- Generally, vendor in this type of contract will limit their losses to the total cost of the management fees
Please check out my webinar series, where I walk you through the pros and cons of each contract, identifying pitfalls to watch out for, and show you how this information is reflected on a typical vendor invoice. Join me as we provide useful information for you and your organization.