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Diagnostic Related Group Inpatient Hospital Reimbursement. Annual Update Process Presented by: APS Healthcare August 1, 2008. Overview. DRG payment per discharge = DRG Weight x Peer Group Base Rate + Outlier Adjustment DRG Weight, Base Rate, and Outlier Adjustment are updated annually.

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Diagnostic Related Group Inpatient Hospital Reimbursement

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Diagnostic Related Group Inpatient Hospital Reimbursement

Annual Update Process

Presented by: APS Healthcare

August 1, 2008


  • DRG payment per discharge =

    DRG Weight x Peer Group Base Rate

    + Outlier Adjustment

  • DRG Weight, Base Rate, and Outlier Adjustment are updated annually.


DRG Classification System

  • DRG Groupers classify hospital discharges based on clinical characteristics and resource consumption

  • DRGs encompass all inpatient stays

  • Information for DRG assignment is available on uniform billing claim forms


DRG Classification System

  • DRGs are assigned hierarchically:

    • High-cost procedures independent of Major Diagnostic Category (MDC) (e.g. transplants)

    • MDC (dependent upon diagnosis code)

      • Procedure within MDC

        • Other patient characteristics

      • Or, if no procedure, principle diagnosis within MDC

        • Other patient characteristics


DRG Grouper Version is Updated Annually

  • CMS Grouper update available in August (Version 25, Aug. 2007)

  • Enhanced for Medicaid to expand neonate DRGs from 7 to 20 DRGs based on birthweight, discharge status, and operating room procedures



Grouper Data Collection

  • Three years of inpatient hospital discharges

    • Most recent 3 SFYs with 9-month claim lag

    • FFS claims and managed-care encounters

  • All acute care hospital inpatient discharges.

  • Excludes Indian Health Service, Children’s Medical Center (Bethany), JD McCarty, George Nigh rehabilitation and psychiatric hospitals. RTCs also excluded.


DRG Payment Formula

The formula for a DRG payment is:



(DRG Relative Weight)


(Hospital Base Rate)


(Outlier Adjustment)


DRG Relative Weight

  • Claim “charges” converted to “cost” using cost-to-charge ratios (computed from CMS cost reports for last 3 years)

  • DRG Relative Weight =

    Average Cost of Discharges per DRG ÷ Average Cost of All Discharges


Hospital Base Rate

  • A different rate is computed for each cost-related peer group

  • Peer groups are chosen to minimize cost variation within groups and maximize variation between groups

  • Peer group classification is updated each year based on current hospital characteristics and average costs


Hospital Classification Data

Obtained from CMS

H ealthcare

C ost

R eport

I nformation

S ystem


Five Classification VariablesObtained from HCRIS

  • Critical Access Hospital/Not C.A.

  • Large/Small Hospital < 300 beds

  • Teaching/Non-teaching Hospital

  • Sole Community Hospital/Not S.C.

  • Urban/Rural Hospital (from HCRIS or PPS Impact File Geographic Reclassification)

    These variables and cost-to-charge ratios are

    updated and verified with letters to

    Administrators in August.


Peer Grouping Procedure

  • The independent contribution to cost is estimated for each of the five variables using multiple regression to analyze average cost (net of DRG-related cost.)

  • 32 different types of hospital are created from all combinations of the five variables.

  • The regression equation is used to compute the predicted average cost for each type of hospital.

  • The cumulative percentage distribution of predicted cost is divided into five quintiles.


32 Hospital Types and 5 Hospital Cost Groups






The 32 types are arranged from lowest to highest average cost, and grouped into five quintiles by cumulative percent of cost.


Peer-Group Base Rate Calculation Procedure

  • Use the observed distribution of discharges across the 32 hospital types to compute the weighted-average predicted cost for each peer group.

  • The relative base rate is the ratio of the peer group average to the over-all average.

  • The absolute base rate is determined by iterative proportional fitting: DRG payments for all discharges are computed and the base rates are incremented proportionally until the sum of DRG payments equals the total approved budget.


Hospital Base-Rate Peer Groups (2008)

Peer RelativeAbsolute

GroupHospitalsBase RateBase Rate

1 1 95.30%$3,957

2107 97.33%$4,042

3138 98.58%$4,094

4 88102.58%$4,260



Outlier Adjustment

  • Hospitals receive an additional payment if cost remaining after DRG payment is greater than $27,000.

  • Payment is equal to 70% of remaining cost after the $27,000 threshold is met

  • Payment is modeled after CMS Medicare adjustment


About APS Health Intelligence

  • DRG Annual Weight Setting

  • Program Evaluation Design and Implementation

  • Performance Measurement and Quality Assurance Services

  • Survey Development and Administration

  • Fraud and Abuse Detection

  • Health Policy Analysis

  • APS Has Been Working with OHCA since 2001


Contact Information

  • APS contacts (608) 258-3350:

    • Spencer Anthony, MA

      • SAnthony@APShealthcare.com

    • Karyn Kriz, MPA

      • KKriz@APShealthcare.com

    • Don Libby, Ph.D.

      • DLibby@APShealthcare.com


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