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Controlling Budget Variance

October 1, 2004
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Things you can change, things you can't change, and the wisdom to know the difference by Susan J. Penner

Long-term care administrators are familiar with monitoring their budgets, and they soon learn from experience that some sources of undesired budget variance (such as cost overruns or revenue shortfalls) can be controlled and others can't. In general, external sources of budget variance are usually less controllable than internal sources. For example, a government policy that cuts reimbursement for skilled nursing care is beyond the control of the long-term care administrator, but reducing unnecessary overtime expenses is not. Making a clear distinction between the controllables and the uncontrollables in the budget is critical to administrators.

Budget Variances in LTC Settings
Besides increasing management efficiency, the administrator can also use variance information in making budget reports. For example, a performance evaluation could include progress made in addressing controllable sources of variance. A budget justification report might review the impact on the facility of uncontrollable sources of variance.

The table illustrates three of the most common categories of budget variance, which I'll elaborate on below.

1. Profit variance is the difference between actual profit and projected profit (or, for nonprofit institutions, net income or net surplus). Three categories of budget variance contribute to profit variance, affecting either the expense or the revenue side:

Volume variance is the difference between actual and budgeted service units-typically, in long-term care settings, measured using patient days as the "service unit," with the actual patient days above or below budget representing volume variance. Sources of volume variance are often external and difficult to control, such as demographics or third-party reimbursement policies that limit length of stay. Negotiating contracts for skilled nursing care referrals with healthcare systems is an example of an internal source of volume variance that is controllable.

Utilization variance is the difference between the number of actual and budgeted services provided. Insurers' reimbursement restrictions for ancillary services such as physical therapy represent an external source of utilization variance that may be uncontrollable. Implementation of clinical guidelines and quality management is an internal, controllable source of utilization variance that may reduce average length of stay and associated complication rates.

Enrollment variance (in managed care settings) refers to the unexpected changes in the enrollment in managed care health plans. This is an external source of enrollment variance that is often uncontrollable. It may be possible to control this enrollment variance to some extent if the population size, characteristics (such as including Medicare beneficiaries), or volume of services are negotiated as part of a managed care contract.

2. Rate or price variance is the difference between the budgeted cost and actual cost of personnel or nonpersonnel line items in an expense budget report. Sources of fixed-rate variance may be difficult to control; for example, if utility costs increase during the budget year, the administrator usually cannot change utility providers. In other cases, the administrator may be able to control fixed-rate variance, such as contracting for pharmacy services at a lower cost rather than maintaining an in-house pharmacy department.

A change in the price of supplies per service unit is categorized as supplies variance. A shortage of raw materials, such as the global shortage of latex that occurred several years ago, is an example of an external source of supplies variance that is uncontrollable. Sources of supplies variance may be controllable if it is possible to obtain supplies at a lower price by negotiating discounts or switching to another vendor.

A change in hourly personnel wages is known as staffing-rate variance. For example, the use of overtime or registry personnel for nursing care to augment or replace the budgeted nursing staff will likely increase hourly personnel wages and, especially with chronic staff shortages, may be uncontrollable. Staffing-rate variance is controllable to the extent that scheduling and staffing can be managed, keeping overtime and registry costs within budget limits.

Rate variance also represents the difference between the budgeted and actual revenue. Increases or reductions in the per-diem bed rate paid by third-party payers is a source of revenue-rate variance, as are changes in reimbursement denials by third-party payers. Generally caused by factors external to the long-term care setting, these variances can be difficult, if not impossible, to control. Negotiating reimbursement rates may be possible in some cases, thus allowing some degree of control.