We analyzed the effect of oral nutritional supplement (ONS) use on 30-day readmission rates, length of stay (LOS), and episode costs in hospitalized Medicare patients (≥65), and subsets of patients diagnosed with acute myocardial infarction (AMI), congestive heart failure (CHF) or pneumonia (PNA). Propensity-score matching and instrumental variables were used to analyze ONS and non-ONS episodes from the Premier Research Database (2000–2010). ONS use was associated with reductions in probability of 30-day readmission by 12.0% in AMI and 10.1% in CHF. LOS decreases of 10.9% in AMI, 14.2% in CHF, and 8.5% in PNA were associated with ONS, as were decreases in episode costs in AMI, CHF and PNA of 5.1%, 7.8% and 10.6%, respectively. The effect on LOS and episode cost was greatest for the Any Diagnosis population, with decreases of 16.0% and 15.8%, respectively. ONS use in hospitalized Medicare patients ≥65 is associated with improved outcomes and decreased healthcare costs, and is therefore relevant to providers seeking an inexpensive, evidence-based approach for meeting Affordable Care Act quality targets.