The document outlines principles and methodologies for cost estimation in the context of healthcare, emphasizing the importance of opportunity costs and resource consumption. It discusses various types of costs, perspectives for analysis, and methods for accurately measuring and valuating resources, including considerations for capital and indirect costs. Additionally, it addresses discounting costs and benefits over time, providing frameworks for making cost analyses relevant and actionable.

1. Cost analysis
For PB.Pharm-D
Meles T.
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2. 2
Cost Estimation: Principles
• Costs in the economic sense (as opposed to the
accounting sense) are not necessarily expenditures
• An economic cost is incurred whenever a resource is consumed
• The value of that resource consumption is its opportunity
cost, that is,
• the value of the benefits foregone because that resource is not
available for its best alternative use
• For “no cost” resources, e.g., volunteer time, space,
need to impute an opportunity cost.
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3. Steps in Cost Estimation
1. Identify Resources (inputs or consequences) Relevant to
Study Perspective and Boundaries
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4. 4
Study Boundaries/Scope
 This is about making the study do-able
 Boundaries or limits specified for:
• Time horizon
• Groups of affected persons to be considered, e.g.,
patients + family
• Types of health and nonhealth outcomes to be included
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5. Types of costs
Direct costs Indirect costs
Time costs:
absenteeism,
reduced
productivity
Medical:
Hospital, physician,
lab, drugs, etc
Non-medical:
Travel costs for
appointments,
tutoring child, etc
Out of pocket
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6. Perspective
• Society
• Health system
• Insurer
• Individual
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7. Costs ...which costs to consider?
• Variable depending on
– viewpoint of the analysis (societal, health system, patient)
– The importance of cost component on decision making
– Whether the same costs incur in all compared treatments
• Total costs:
– Resource consumption
– Unit cost per resource (price)
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8. Cost-of-illness studies
• Total versus incremental/net/attributable costs
• Know which one you’re looking at
Patients with a Patients without
condition a condition
Cost
Incremental cost
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9. • Know which one you’re looking at
Prevalence Incidence
Time Time
Measurement Measurement
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t1 t1 t2
t2
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Resource Measurement: Justifiable Omissions
• Common costs – costs common to all alternatives,
• e.g. 1 physician visit to prescribe the drugs being compared So
long as they occur at the same rate in both groups
• Protocol-driven costs – not “real world”
• e.g. weekly blood tests in a clinical trial
• Trivial costs
• e.g. patient cost to purchase OTC products – but be careful
about whether this really IS trivial
All must be justified by the analyst
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2. Measure Resource Consumption
1. Determine Appropriate Level ofAccuracy
• Micro-Costing - detailed inventory, measurement, and
valuation of resources consumed (inputs) in the
production of a serviceor product, e.g., dispensing
– Human resource – technician time, pharmacist time
– Supplies – container + label, drug info printouts
– Equipment – computer + software, tablet counting
machine
– Overhead – shared costs
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2. Measure Resource Consumption…
• Gross-Costing - count the number of units of service
consumed (outputs) and apply a gross estimate of
the service cost, often what is typically charged,
e.g., - # Rx dispensed x dispensing fee
– MD visits x visitfee
Choice of approach depends on the alternatives being
studied
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Collect Resource Utilization Data
• Direct measurement, e.g., trial data collectors
• Archival data – health record, claims data
• Self-report – diary (prospective); survey or interview
(retrospective)
• Expert estimate of services/treatments/tests provided to the
average patient
• Unit costs
– Reference/list prices
– Market prices
• Ideally unit prices should reflect the true (opportunity cost)
of the service ….but market price will often do
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Methods for Imputing Values for Nonmarket
Resources (usually time)
• Use market wage rate approach, e.g., for volunteer time –
• what it would cost to hire a worker to perform that job
• Use social opportunity cost approach
– e.g., what the volunteer or informal caregiver could have earned
if he/she had chosen to work in their field of training
– If leisure (vs. work) time has been sacrificed, could be valued
at $0 up to “overtime” wage rate (what an employer would pay
a worker for the 6th and 7th days of work per week)
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3. Place a Value on Resources Consumed
1. Select a unit cost for each type of resource consumed
– A market price appropriate to the perspective of
the analysis
– For studies with a time horizon greater than 1 year, use
unit costs from the base year, a concept called constant
dollars (controls for price inflation)
– For nonmarket goods and services (free services,
goods, or space) impute an opportunity cost
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Unit Cost versus Unit Charge
• Because of imperfections in health care markets, charges
for health care services may not reflect their true costs,
• e.g. hospital costs, physician fees, prescription dispensing fees
• For a third-party payer perspective, the charges faced by
the payer are the appropriate unit costs to use
• In a societal or institutional perspective this is not the
case.
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Unit Cost versus Unit Charge…
• Therefore, if the difference between the charge and the cost are
known to be large, it may be appropriate to adjust the charge per
unit of service to a unit cost that better reflects the opportunity
cost,
• e.g., by applying a cost-to-charge ratio to the charge.
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18. Duration of cost follow-up
• The follow-up for cost analysis should match that
of the true effect of an intervention on costs
• Costs immediately after implementation maybe
not a great idea.
– Except if user of analysis wants to understand start-up costs only
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19. Should costs in later life be included?
• Imagine patient reduced risk of stroke due to
antihypertensive
– Longer life = higher risk of cancer=higher costs
• Should that be taken into account?
– Yes and no
• Yes: we don’t distinguish between QALYs
• No: It is unfair towards life prolonging interventions.
• Before you include think:
– Is there life prolonging?
– Is there a true solution with data?
– Is there discounting?
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Special Case of Capital Costs
• Investments at a single point in time to purchase assets
(land, buildings, equipment) which are used over time
• Compare to operating costs, which are recurring costs
• What is important is that buildings and equipment wear
out over time and thus depreciate in value
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Special Case of Capital Costs…
• Use accounting methods to deal with depreciation (lost
value) over the useful life of the equipment or buildings
• Simplest approach is straight line depreciation, i.e., dividing the
total lost value into equal amounts in each year of the useful life.
• Must also account for the opportunity cost of having funds
tied up in these resources
– Approximated by estimating the return on the un-depreciated
balance in each year of the useful life (discount rate used to
estimate this return)
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Special Case of Overhead (shared resources)
• Resources such as utilities (electricity, water, heating),
housecleaning, insurance, equipment, etc.
• shared by different departments or programs or services
• To allocate shared costs to each service must select:
– A unit of output for the program/service onto which the shared
costs will be allocated,
– e.g., patient day in hospital, prescription dispensed by
community pharmacy
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Special Case of Overhead (shared resources)
– A basis for the allocation (e.g., floor space for housekeeping costs)
that determines the proportion of the total resource cost to
allocate to a given program or service
– A method to allocate these shared costs across programs
/services. The more important the cost the more precise the
method that should be used.
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24. How accurate is accurate
• Often not possible to get optimal data.
– Do the best you can and describe the limits of your work
• Quality of resource use dependent on quality of unit
costs (and vice versa)
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Inclusion of Indirect Costs
• Relevant in societal and employer perspectives
• Inclusion is controversial (see section 4.4 textbook) because:
– Human capital approach assumes that, when the patient dies or
becomes unemployed due to illness,
– the job is not filled by a new worker, i.e., productivity is lost
forever
– biased against patients who were never employable, e.g., in
programs for the mentally disabled
• If taking patient perspective then highly relevant
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Recommended Approach for Handling Productivity
Costs
• Include productivity costs but report separately from
direct medical costs
• Report lost days of work or normal activity separately
from costs of those days
• Use sensitivity analysis to explore the uncertainly in
including productivity changes and in valuing them
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Valuing Resources cont’d
1. Calculate the total cost of each resource consumed in a given
year = price per unit in constant dollars x units consumed
• Special case of capital costs – spread over time
2. Calculate total annual costs by summing costs across all
resources consumed
3. Discount costs incurred in each future year to their present
value
4. Sum the stream of discounted costs over the time horizon of
the study
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28. Costs and discounting
A bird in the hand worth two in the bush
• Positive Time Preference: Any cost is preferred later than
earlier
– Human beings prefer to put off payment of costs into the future.
– Reasons are psychological and financial: frees up $$$ for present
consumption or investment
• It exists in theory because :
– Short term view of life
– Uncertainty of the future
– Expectation that the future will be better
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29. Costs and discounting…
• a cost incurred in the future seems/is of less importance
than the same cost incurred in the present
• In order to reflect this lesser value of a deferred or
future cost, we discount the future cost to a “present
value”,
• e.g., $1000 becomes $950 when viewed from the present
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30. Discounting example
Year Cost of A ($s) Present value
1 1000
2 1000
3 1000
25 1000
Crude total costs: 4000
What happens after discounting? (assume annual discount
rate 5%)
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0

31. Discounting example
Year Cost of A ($s) Cost of B ($s)
1 5 15
2 10 10
3 15 4
Crude total costs: A: $30 B:$29
What happens after discounting? (assume annual discount
rate 6%)
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Calculating the Discounted Cost
Assumption Regarding Timing of Costs
• End of year – discount costs in every year
• Beginning of year – do not discount costs in year 1
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Discounting Health Benefits
• Tobe consistent must discount health benefits incurring in
the future as well
• Should be at the same rate as for costs:
– otherwise may become desirable to delay implementation
indefinitely so that more income is earned, which would buy
more lives saved
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34. What is the right discount rate?
• Most common method: Time preference rate
– Society’s willingness to forego consumption today in order to
have greater consumption tomorrow
– Extracted through questionnaires or assumptions on risk less
investments
– Difficulties (individual vs society, form of asking the question)
• In practice use what is in the guidelines. If no guidelines
then sensitivity analysis
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35. Discounting and inflation
• If inflation the same across cost components then:
– Inflate future costs with predicted inflation rate and use larger
discount rate OR
– Do not inflate future costs and use a smaller discount rate
• If inflation varies
– Inflate costs components separately and a larger discount at the
end
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Study Question on Costing
How would you estimate the cost of a medication review
service provided by a community pharmacist using:
a) microcosting?
b) gross costing?
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37. Thank you!
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