If the existing costing systems cannot produce the information needed or cannot be “ tweaked” to produce that information, then recourse may involve undertak- ing some form of o nce- off special exercises. Such exercises would involve finding ways of obtaining and collecting relevant data on activity and costs in order to undertake a costing exercise designed to produce the information needed.
The data for such exercise might be collected in a number of ways including the following:
• Obtaining activity and/ or cost data from other information systems in the organisation
• Undertaking surveys of staff to obtain estimates of
• time spent on activities
• consumables used in relation to particular activities
• Undertaking observations of activities to identify the resources ( and hence costs) used
• Asking operational staff to give best estimates of how their time might be split over several types of activity
The data obtained may then be suitably analysed to produce estimates of costs.
These could be the costs of undertaking a new activity or changing the level of existing activities. In estimating the costs of an activity, the purely variable costs and the purely fixed costs are easy to estimate but the difficulty comes in relation to semi- fixed costs where the relationship between activity and costs may be unclear.
There are a number of different approaches to estimating costs that can be used:
• Managerial judgement – This approach basically involves managers using their judgement to classify costs as exhibiting certain behaviours. From
these subjective profiles of behaviour, the magnitude of semi- fixed costs can be estimated.
• The engineering approach – this approach to estimating costs involves studying the processes that result in the incurrence of a cost and focusing on the relationships that should exist between inputs and outputs. It may also involve the use of time and motion studies ( or task analysis) where employees are observed as they undertake work tasks and activity- based approaches extend task analysis to the study of indirect activities and costs.
• Quantitative methods – there are also a number of approaches to estimat- ing costs using quantitative methods. A scatter diagram can be plotted enabling one to visualise the relationship between cost and the level of ac- tivity and make estimates accordingly. Alternatively, the high-low method involves taking the two observations with the highest and lowest level of activity to calculate the cost function as somewhere in between. However, both these methods lack quantitative rigour, and so recourse might require the use of multiple regression analysis ( Drury 2004). This is a statistical technique which aims to identify a quantitative relationship between a dependent variable ( i.e. costs) and one or a number of independent varia- bles which are believed to influence that level of cost. Multiple regression equations will take the following forms:
c m= 1f1 m2f2 m+ + 3f3 m4f4+ +………+z Where:
• c = cost
• f = factors which drive costs
• m = coefficient of each factor
• z = residual factor which reflects random cost variations not captured by the main independent variables
By collecting enough data points for each magnitude of cost ( and the as- sociated magnitude of the factors) a regression equation can be developed where the various coefficients and the residual factor can be established.
This equation is then, effectively, a financial model, and the estimated costs of changes in activity can be estimated by plugging suitable numbers into the regression equation and calculating the costs involved.
In public services an example of the use of such a multiple regression ap- proach might concern making estimates of changes in hospital ward costs consequent on changes to the type and level of activity undertaken by the ward. A multiple regression equation might be identified which provides a good predictor of ward costs taking account of the following factors:
• Patient numbers on ward
• Average length of patient stay
• Average age of patients on ward
• Diagnostic mix of patients
• Severity level of patients on ward
CHAPTER 7 Costing and cost information 121 Quite often it might be the case that much of the variation in costs can be explained by just two or three factors with the remaining factors having only limited impact. Also, it is important to look at the regression equation and the independent variables being used to see if they make sense. Quite often, it is easy for regression equations to suggest relationships which are spurious in nature.
However, a word of warning is necessary here. There are a number of rea- sons why these regression equations may not prove stable over time. Some ex- amples of these include the following:
• Learning effects – over a period of time staff become more proficient at performing tasks with the result that the time taken, and the costs in- volved, reduce over time.
• Practice changes – changes in professional practices are introduced which will impact on the time taken and the costs involved.
• Staff changes – new staff will impact ( in either direction) on time taken and the costs involved and also the use of other resources.
Clearly, such special exercises may be time- consuming and expensive to under- take and hence should be treated with caution. They may be appropriate where a o nce- o ff view of costs is appropriate but if such cost information is needed on an ongoing basis then it would be more appropriate to implement a new costing system.
Some examples of costing developments in public services are shown in Case studies 7.4 and 7.5.
CASE STUDY 7.4
Patient-level costing in health
Health service costing, in the UK, has evolved and become more sophisticated over a period of decades. Up until the 1970s, the only cost information produced was an analysis of expenditure by resource type. In the 1980s, the idea of specialty costing ( the costs of individual medical specialties) became commonplace and expanded the range of cost information available. Other subsequent costing initiatives have involved DRG costing, HRG costing and service line reporting introduced by Monitor ( Prowle and Harradine 2012). However, the ultimate goal has always seemed to be the introduction of patient-level costing approaches. Early approaches to this ( Prowle 1981) outlined the potential application of such costing but at that time, NHS information systems were incapable of supporting the concept on an ongoing basis.
In recent years, costing in the NHS has undergone a major change with the development of costing systems which identify the costs of the actual care individual patients receive. Patient- Level Information and Costing Systems ( PLICS) brings
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together healthcare activity information with financial information and provides detailed information about how various resources are being utilised at the patient level. PLICS, combined with other data sources, provides hospitals with a rich source of information to help understand their patients and their services.
An NHS hospital conducted an “ in- depth” review process to agree the income and expenditure methods in the patient- level costing system in order to identify areas of improvement and to check that the data were as expected. This was a rolling process which, over time, included all specialties across the hospital. A breast surgery review, led by the costing team, required input from one of the breast surgeons, the directorate management team and the finance manager for the service, with additional support from clinical coding when required. Through this patient-level costing review, the team found weaknesses in existing costing methods which meant that certain procedures were being wrongly classified. Correction of these errors resulted in the hospital gaining an extra £160,000 per annum in income.
While this example involved NHS hospitals using costing data to maximise income, the UK NHS also now has a strong focus on value- based health care ( VBHC) and linking patient-level costs with health outcomes allows the NHS to try and improve value for patient.
CASE STUDY 7.5
Course and programme costing in higher and further education
In many countries, institutions delivering higher education ( universities) and further education ( colleges) receives funding based on the number of students they recruit and an amount per student payable by the student and/ or the government, which may vary according to the type of course studied.
Such institutions usually have fairly well- developed costing systems which identify and analyse costs to individual support departments ( i.e. library, human resources) and to individual academic departments ( e.g. business, history, computing). However, usually, little routine information is available below the academic department level.
Now for planning, control and decision making, it would be useful to know the costs of delivering various academic course or programmes for comparison against the income likely to be received for students participating in these courses/
programmes. Unfortunately, this is not usually available.
CHAPTER 7 Costing and cost information 123