Total Joint Capacity, Contribution per OR Hour, and a Saturday Medicaid Block
Lakeside Orthopedic Center is a six-room hospital outpatient surgery department. Its fixed operating cost pool for OR staffing, depreciation, utilities, and sterile processing is $2,880,000 per year, and practical capacity is six rooms times eight scheduled hours times 250 days, or 12,000 OR hours. Last year the department used 11,210 hours across all cases; 1,180 of those hours were primary total knee arthroplasties averaging 4.5 OR hours each. Each TKA consumes $6,200 of implant cost and $1,850 of disposables; nursing is included in the fixed pool. Net reimbursement per TKA after contractual allowances and bad debt is $14,800 commercial (40% of cases), $11,200 Medicare (45%), $8,400 Medicaid (10%), and effectively $0 for the 5% uninsured. A large Medicaid managed-care plan has offered to fill a new Saturday block at the same $8,400 rate, but Saturday staffing carries a premium of $310 per OR hour. Separately, the service line director proposes dropping Medicaid TKAs, and a surgeon-led standardization effort would cut average TKA OR time from 4.5 to 3.8 hours.
1. Compute the capacity cost rate and the fully allocated cost per TKA. Then explain why the fully allocated number misleads the medical director.
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Capacity cost rate equals the fixed pool divided by practical capacity: $2,880,000 divided by 12,000 OR hours equals $240 per OR hour. A 4.5-hour TKA therefore absorbs $1,080 of capacity cost. Add variable cost of $6,200 of implant plus $1,850 of disposables for $8,050, and fully loaded cost is about $9,130 per case at capacity-based rates.
The misleading calculation is the one the medical director is likely to see: $2,880,000 divided by 1,180 TKAs equals $2,441 of fixed cost per knee, implying a full cost of $10,491. That is wrong because it dumps the entire department's fixed cost on one service line. The department used 11,210 of 12,000 hours, and 5,310 of those hours were TKA time; the other 5,900 hours served other procedures that also consume the fixed pool. A defensible allocation assigns fixed cost by hours consumed, which converges on the $240 rate, not on $2,441.
Separately identify the cost of unused capacity: 790 idle hours times $240 equals $189,600. That belongs to management and scheduling, not to any individual case. Assigning it to TKAs makes the service look unprofitable and drives volume out the door.
The practical rule: use the capacity cost rate for pricing and profitability, and report unused capacity as its own line on the service line scorecard so someone owns filling it.
2. Build the contribution margin per case and per constrained OR hour by payer, then decide whether to accept the Saturday Medicaid block and whether to drop Medicaid.
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Variable cost is $8,050 for every payer, so contribution is reimbursement minus $8,050.
Commercial: $14,800 minus $8,050 equals $6,750 per case, or $1,500 per OR hour. Medicare: $11,200 minus $8,050 equals $3,150 per case, or $700 per hour. Medicaid: $8,400 minus $8,050 equals $350 per case, or about $78 per hour. Uninsured: negative $8,050 per case.
Every payer except the uninsured clears variable cost, so no payer is losing money at the margin. The Saturday request adds a $310 per hour premium, or $1,395 per 4.5-hour case. Medicaid then nets $350 minus $1,395, a loss of $1,045 per case: reject a Medicaid-only Saturday block. Medicare nets $3,150 minus $1,395, or $1,755, and commercial nets $6,750 minus $1,395, or $5,355. Accept Saturday only if the block is filled with Medicare or commercial cases, and build a scheduling rule that enforces it rather than relying on goodwill.
Do not simply drop Medicaid. Its $350 contribution covers part of the fixed pool that no one else will pay for, and the department still has 790 unused hours, so there is no binding capacity constraint forcing the choice today. The correct answer changes when the department is genuinely full: at 100% utilization the opportunity cost of a Medicaid knee is the $6,750 commercial contribution it displaces, and then it is rational to constrain Medicaid volume. Report the decision in those terms so the board sees a capacity trade-off, not a payer judgment.
3. Evaluate the standardization proposal that cuts TKA OR time from 4.5 to 3.8 hours. Quantify what the released time is worth and state the conditions under which it is worth nothing.
Read the worked answer
The time saving is 0.7 hours per case across 1,180 cases, or 826 OR hours released per year. Those hours are only worth something if they are refilled with additional cases; otherwise the fixed pool is unchanged and the savings are $0.
Value the released hours at the contribution per OR hour of the cases that actually fill them. At Medicare economics, 826 hours times $700 equals $578,200 of additional contribution. At commercial economics, 826 hours times $1,500 equals $1,239,000. Even a blend weighted to the current payer mix, roughly 40% commercial, 45% Medicare, 10% Medicaid, and 5% uninsured, yields a blended rate near $1,008 per hour, or about $833,000 of capacity value. Compare that against the implementation cost, which is mostly surgeon time and instrument tray investment, not capital.
The savings evaporate if the released hours sit idle. That makes this a demand and scheduling problem as much as a clinical one: the service line needs a waiting list, block-release rules, and referring-physician outreach before the time is released, or the hospital will have paid for efficiency and captured nothing. It also matters that shorter cases increase room turnover, so the schedulers should release blocks in whole rooms, not fragments.
Finally, note that the per-case contribution does not change. The financial gain comes entirely from incremental volume, so present the proposal to the board as a growth initiative with a capacity constraint, and set a utilization trigger: if refill does not materialize within two quarters, the released blocks should be reassigned to other specialties.