Building your practice takes more than increasing patient volume and practice revenues. You need to make a financial plan and strategic investments.
You own your own practice, and business is thriving. Revenues have steadily increased, and your patient load continues to grow. You enjoy your success, and want to build on it. Are there effective wealth-building strategies you might employ to maximize your profits? The answer is almost always “yes,” provided you know how to get started.
The practice you strive for should allow you to make more money and work less while it continues to increase in value. Realizing this vision requires planning and strategic investments within the context of an overall financial plan. Here are six essential strategies to get you on your way.
Practice operating efficiency can be defined as the amount of net cash flow that can be obtained from each dollar of collected revenue. Net cash flow is critical because it pays for debt service (if any) and the practice owner’s salary. Many ODs feel the only way to increase practice net cash flow is to increase revenue. Increasing revenue is about marketing, translating it into more net cash flow requires good management. Let’s examine two practices, each with $1 million in revenue. Practice one nets 40 percent representing $400,000 in net cash flow. Practice two nets 20 percent or $200,000. Practice two is working as hard at seeing patients, but is only making half as much. This can be due to material costs, staffing or occupancy expenses, etc. Practice two needs to review its expenses to see where it is inefficient compared to industry metrics.
The average practice has a 27 percent net cash flow to collected revenue (“net-to-gross ratio”). At my company, Vision One Credit Union, we see practices with 40 percent net-to-gross ratios. We also see practices at 20 percent or less, needing help. A reputable practice consultant can help you improve your operational efficiency and cash flow. Work smarter, not harder!
Expand, Remodel or Relocate Your Practice
- Add a lane or two
- Expand the dispensary
- Add a pre-test area
- Establish a lab
Many doctors need help assessing the impact of practice investments. Be aware of how much an investment actually costs and how the cash flow will be generated to pay for it. A basic calculation should be made to determine the economic impact of the investment on both practice cash flow and value. For instance, a $125,000 expansion (add a lane, equipment, refresh the dispensary) will cost about $28,000 per year in debt service, if fully financed (e.g. 5.6%, 5 years). However, there are more expenses. Say you plan to add an associate and related support staff two days per week. Additional employee expense could run $60,000 or more. So the total annual cost is $88,000 in this example ($28,000 debt service + $60,000 employee expense). Each dollar of collected revenue contributes to the coverage of overhead after deducting cost of goods sold. Expressed as a percentage, it is called a “contribution margin.”
Therefore, if the contribution margin is 68 percent (100 percent practice revenue less cost of goods sold as a percentage of collected revenue, 32 percent for this example), then it takes about $135,000 in additional collected revenue to pay for $88,000 in increased annual expenditures ($88,000 / 68 percent). The addition of two OD days to the practice should increase collected revenue $300,000 (one OD day for one year usually averages about $150,000 in collected revenue). Therefore, this investment should improve practice cash flow by roughly $116,000 ($300,000 x 68 percent less $88,000). Since value is created by increased practice net cash flow (pre-debt service), this investment also increases practice value.
Purchase New Equipment
Instrumentation such as OCT and digital retinal imaging often are profitable long-term investments. At Vision One, our ophthalmic equipment lending division has observed imaging systems have become the top sellers in the market. The economic analysis described in the Practice Expansion section of this article can be used to determine whether this investment may work for you. The calculation should be adjusted to use a 100 percent contribution margin based on expected incremental collected revenue. Since this is medical revenue, there are no costs for materials. For example, if an additional $25,000 per year in collected revenue is expected and debt service is $13.6k ($60,000, 5 years, 5.15 percent), then net cash flow is benefited by $11.4k per year which increases practice value.
Purchase an Additional Practice
Be aware that many second practice purchases where the second locations are maintained can result in break-even or even negative cash flow. Our experience at Vision One, financing additional practice purchases, indicates this occurs when the practice is fully financed (100 percent of the purchase price plus working capital) and an associate is employed for all additional OD days. Cash flow may be enhanced by increasing revenues, reducing expenses (consolidating certain jobs), vendor discounts or paying off debt. If you are currently working in your primary practice less than five days per week, then the economics are better because you can also work in the second practice without additional associate expense. Each transaction should be analyzed for short and long term economic benefit and the ability of the primary practice to carry a portion of the investment. Remember, you don’t get paid anything extra for a long commute! Instead, this would be an excellent opportunity to place an associate OD in this new practice.
A lucrative alternative is to purchase an “in-market” competitor and consolidate into one location (known as a “roll-up strategy”). Not only does this enhance cash flow but it also eliminates competition. Roll-ups are management intensive, but if done properly, combining locations can drastically reduce overhead costs, thereby increasing net cash flow. Greater vendor volume discounts may also be available. In many instances, the seller continues to work in the consolidated practice as a minority owner or associate to ensure patients make the transition.
Sell a Part Interest in Your Practice
Multiple OD practice benefits:
- Backup when you want time off (vacation, health, etc.)
- Additional specialties
- Recent graduates are glaucoma-certified
- The ability to grow beyond a five OD per week practice
- Potential in-house buyer when you are ready to sell the practice
Additional benefits when multiple ODs own the practice:
- Dedication to the practice–many associates want to own a practice. What would happen to your patient base if your associate left? What if they opened up down the street?
- Limited patient transition risk when a senior OD retires and sells to a junior partner already in the practice.
- Lower OD turnover.
- The OD seller can raise personal cash from the sale of a partial practice interest. Funds can be used for purposes such as: your retirement fund, medical costs or a college education for the kids, etc.
Partial Ownership Acquisition Loans
Now you can retain your valued associates by making them a partner in your practice and avoid the non-economic situation of carrying the loan yourself. This can be accomplished through a knowledgeable financial institution. For example, Vision One has developed (with the support of VSP and Essilor) a “Partnership Loan” to finance the purchase of a portion of a partnership or corporation. Our partial acquisition loans generally do not require the pledge of practice assets.
Own Your Practice Real Estate
Instead of paying rent to your landlord, you may be able to build equity in your practice real estate through ownership. Real estate investments of this nature should be viewed over a minimum 20 year hold period to help avoid market cycles, increase the probability of long-term appreciation and provide time to pay off mortgage debt. Economic analysis should be performed with a knowledgeable local real estate broker and your accountant. Many acquisitions do not occur due to the impact on net cash flow. Mortgage payments often are much higher than rent, and most ODs don’t have the funds for the additional down payment to reduce payments. Down payments range from 10 percent to 35 percent or more. In certain locations the low price of real estate along with low interest rates makes mortgage payments roughly equivalent to rent.