Do you truly know how your practice is performing? Today Paul Ferraro talks about the Profit and Loss statement and how you can plan to make your practice more profitable. Learn how to do bottom-up forecasting to get the Net Income you want to achieve.
July 13, 2022
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Paul Ferraro
We often hear people aspire to “I want to be a million-dollar practice.” Well, there are ways to get there. But you also want to be a profitable practice. So, do you want to have a 30%, 35%, or 40% net? Or do you want to have a million-dollar practice with a 20% net? And what’s the old adage? “You don’t take percent to the bank, you take money to the bank.”
Dr.Bethany Fishbein
Hey, welcome back! I am Bethany Fishbein the CEO of the Power Practice and host of the Power Hour Optometry podcast. And last week on the podcast, I talked about the Billing Code Report or Procedure Code Report. Different software calls it different things and the value that understanding that data could bring to helping you manage your practice. And today I wanted to talk about another really important document that gives a ton of information about how your practice is doing, and that’s your P & L or your Financial statements. And I invited my reluctant colleague Paul Ferraro. It took some convincing but he agreed to do this with me. Paul works with me at the Power Practice. He wears many, many, many hats. Among his many hats is he is one of our Business Coaches. And it’s really kind of a phenomenal thing to think about Paul’s experience as somebody with 30ish years of experience in the industry. Am I making you too old Paul or?
Paul Ferraro
No, do I dare tell you it’s closer to 40.
Dr.Bethany Fishbein
Alright, 30 plus years in the industry managing national accounts for contact lens companies, managing multimillion-dollar budgets, and having an amazing familiarity with income and spending on that level. That now translates into working with our practices to help them understand their own business. And so, Paul is our Metrics and Financial guy. He gets really excited about this. And so, I invited him to have this conversation. And as I said he, with some bribery, agreed happily. And, Paul, thank you so much for agreeing to do this with me.
Paul Ferraro
Well, thank you, Bethany. It’s a pleasure to join you. Nearly 10 months in the making but here we are.
Dr.Bethany Fishbein
Yes. Thank you finally. So I know you get excited about Financial Statements as do I. And before we even get into analyzing the things that we look at on a financial statement. Let’s just go way back and talk about the need for practices to keep up-to-date financials because I know you see it as I do. When people start to work with us. We start to ask some financial questions. And like it happens that people say, “Oh, I don’t know.” Here we are in July and somebody said to me recently, “Oh, I haven’t gotten my first half books back from the accountant yet.” So talk about what’s ideal as far as having up-to-date financials for the business.
Paul Ferraro
Yeah. I think a good place to start Bethany is just a little before that. Just to talk a little about what we hope to get out of today’s discussion, right? So, it won’t be an end-all conversation but certainly, it’ll be a conversation that includes an overview of the types of financial documents a business owner might become familiar with. And I hope to increase the listeners’ familiarity with each of these documents. You might remember the movie from years ago with Tom Cruise as Jerry Maguire said, “Show Me the Money.” Yeah, well, hopefully in this discussion, we’ll be able to show the money through discussing at least one of the financial documents you mentioned, the P & L or the Profit and Loss statement. But in reality, there are probably three or four other financial documents that at a future conversation we might discuss that are equally important. And that would include a business’s Balance Sheet, a Cash Flow Statement, and certainly the Profit and Loss Statement. We talked about the Accounts Receivable Report. I know you did a whole segment last week on the Billing Report, which is critical. And at the start of each year with a business, you develop a budget and you manage that budget through the year and you have a Budget Report. Now if we were to cover all of those today, we’d be on the line here for nearly two hours.
Dr.Bethany Fishbein
Sounds like you’re setting yourself up to do more of these with me.
Paul Ferraro
Oh, be careful what you ask for, right? Today our focus is going to be the P & L, the Profit and Loss Document. So you ask the question, “What is it?” Right? It’s one of the many financial documents we discussed that provides a summary of the company’s revenues, expenses, and the profits and losses over a specific time period. It could be monthly. It could be quarterly. It could be yearly. And it’ll give you a good idea of how a company generates sales, how they manage those expenses, and simply put, it’s an indicator of a company’s health. That’s pretty much what a Profit and Loss Statement is and does.
Dr.Bethany Fishbein
So I mean, it’s important, right? An indicator of the financial health if you’re running a business. And you know, optometrists are running at minimum $500,000, $600,000, or $700,000 businesses and we know some are running $6 million, $7 million, $8 million, or $10 million businesses. But I see people who don’t use this document except for at the end of the year. Their accountant puts it together and they’ll typically get it in April for the previous year. But that’s not how you recommend we do it.
Paul Ferraro
That’s not good. You know, I mentioned monthly, quarterly, or yearly. As we work with practices, certainly we recommend monthly. Anything beyond that, you’re working with aged data and aged information. And trends, positive or negative, have already been set. So imagine reviewing a P & L at six months. You’ve got six months of history where the trend might be in a negative fashion. It’s too late to act on. But if we are able to pick up the indicators and the trends early on monthly, we’ll be able to do several things to include great hiring decisions. You know, we’re asked all the time,” Can I hire someone?” Perhaps make smart purchasing decisions and better plan the business. So what it does for business owners, is it takes you out of the realm of “I think”, “I feel”, “my gut tells me”, and “the bank says” to a more fact-based decision-making process. As they say, data doesn’t lie. You’re able to make smarter decisions. So it’s been said by many financial people. We hear it all the time in the business that “What gets measured, improves.” So if we think about that adage, and we have good data, and we’re able to see it timely, and the P & L is structured in a way that could tell you from every aspect of the business that we’re in good shape, good health. We could plan a robust future and a robust growth plan for the future.
Dr.Bethany Fishbein
Which is what everybody wants to do. Kind of the alternative is people trying to make decisions by looking at what’s in the bank account, right? And with the way that our expenses work, like payroll is one of the biggest costs in a business and I know we’ll get into what percentage of the cost that should be. But payroll is a big chunk of money that comes out all at once. And contact lens distributors, you pay your contact lens distributor, a bill that’s a big chunk of money that comes out all at once. And so there are days where you can look and you’ve got so much money in the bank. It’s like “Yeah, this is awesome.” And if the next day is payroll and your contact lens bill and your credit card all come out. Poof! And then there’s none. And the feeling like you said it, the gut feel of what you’re willing to buy on those days. You can go from, “Oh, I can get that fancy new instrument I want.” to you know, “I better bring a can of beans for my lunch today because I don’t have it.” So I think the timeliness and the objectivity of it is super important.
Paul Ferraro
Yeah and understanding that as we discuss the elements of a P & L, and we talk as you mentioned, some ranges. We understand that there’s a lot of variabilities that go into one’s P & L and direct comparisons, although important, shouldn’t be the main focus, right? Because certainly, age, and size, and scope of practice have an impact. Size of staff, as a market activity, competition, the economy, all of those have an impact on all of these elements of the P & L. So as we get into what are the categories and what are the ranges for the respective categories, we’ll keep in mind that every practice is different and that there are many variables that go into this. But what is really important is to be able to measure and compare your P & L against your P & L. Time period comparisons, that’s what’s most important. So I think this might be a good leaping off to talk about what’s in a P & L, right? What’s in it? We could and I know, you manage P & L, and you’re probably using the majority of those financial reports we talked about at the beginning. But if you’re just getting involved in a P & L, we can simplify a P & L by saying there’s three main aspects of a P & L: its revenue, its operating expenses, and its Net Income. And under those three, there’s a number of subcategories that are critically important to each of the major categories. So when we look at a P & L at the Power Practice, and we’re working with our clients, we break those P & L’s down into about seven measurable categories. And we look at Top Line revenue, income, and collected revenue. We start there. The second thing we look at is the Cost of Goods. And specifically, we do try to break the Cost of Goods out into the measurables: contact lenses, frames, lab expense, perhaps royalties, and miscellaneous to identify the category of Cost of Goods. We move on to some of the operating expenses, which includes advertising and promotion, General Overhead, occupancy costs, salary, and wages where we spend so much time today. Talking about labor and the impact labor has on our our businesses. And then finally, Net Income. And when we do that, we want to make sure a P & L is balanced, and that each of those seven categories fall in a desired range based on what we see in the nation and what we see with other practices of comparable size. So we’ll get into those ranges in a moment.
Dr.Bethany Fishbein
Yep. Cool. So that’s perfect. Let’s break it down a little bit. So the thing that starts it all off is Top Line Revenue. Right? You hear Top Line, Gross Income, but there’s even sometimes confusion about that. So the Top Line income should be the money that is collected by the practice from patients, from insurance companies, and if there’s anything from vendors, like rebate checks and stuff like that, right? The actual money flowing into the practice.
Paul Ferraro
That’s correct.
Dr.Bethany Fishbein
Okay. Because one thing I’ve seen is that people sometimes will get that confused with charges, which they also call total revenue. But the amount you charged out in practice these days and the amount you collect in most practices, because of insurance and other things are actually quite different.
Paul Ferraro
In some cases significantly different.
Dr.Bethany Fishbein
Yeah. So Top Line is like actual cash, checks, credit cards coming in minus like patient refunds. Little money going out.
Paul Ferraro
Little money. Yes, correct.
Dr. Bethany Fishbein
For most people, that’s insignificant. Okay.
Paul Ferraro
Yes.
Dr. Bethany Fishbein
So that’s the number at the top.
Paul Ferraro
That’s the number at the top.
Dr. Bethany Fishbein
So the thing that most people will subtract first, the category we look at first and you said at first is the Cost of Goods. So define that a little bit more and talk about the divisions and what those numbers should look like.
Paul Ferraro
So the product that’s sold to drive revenue on the Top Line. Cost of goods is the cost of that product that we bring in for resale. And from a measurable, there’s an industry standard of about 30%. It is usually allocated to Cost of Goods. And when I say 30%, what does that mean? As a percent spent against Top Line collected. Do the math. That will determine the range of Cost of Goods at 30%. But more importantly, is to understand the subcategories. And we look at each line item that makes up Cost of Goods. And for some practices, it could be just three sub-lines. It could be contacts, frames, and lab expenses. And if you want to include a fourth of other expenses, under Cost of Goods, it would be in there. So as we look at P & L’s and Cost of Goods at the Power Practice, we have arranged more that’s in line with 26% to 29%. Because depending on where you choose to buy your products and procure your goods, you can impact your Cost of Goods by shopping smart. Maybe consolidating with vendors, developing some leverage, so that you can get an enhanced cost structure to lower your Cost of Goods from 30% down to 29%, 28%, or 27%. It might not sound a lot but think in terms of a million dollar practice and what a 1% saving on Cost of Goods would mean. One percent, what is the math on that, $10,000? Right to the bottom line. That is profit. So we look at these subcategories and we say okay, typically speaking, if you have an average makeup of frame selection with some of the major brands in our business. You know you’re looking at a range of 8% to 10% Top Line on frames. Now if you are more boutiquey and you have some unique and unusual frames and things that may cost a little bit more premium in nature, it wouldn’t be uncommon to see you eclipse 10%, 11%, or 12%. From a contact lens perspective, if you are geared more towards dailies, that line as we’ve seen over the last three years has grown significantly. Just a few years ago that contribution line was about 13% or 14%. But today, it’s not uncommon to see 17%,18%, or 19% contribution coming out of contact lenses. If you are a proactive contact lens fitter specifically a dailies dispenser, a practitioner who recommends dailies. And then to round off the eyewear piece are your lab costs. And again, this is a large variable. If you’re not edging in-house, you are probably looking at a range between 7% and 9%. And once again, if you are using product premium progressives that might be a little bit higher, but certainly 6%,7%, 8%, or 9% would be something we would typically see. And all up and in, the category should be no greater than 30%. And if it’s eclipsing 30, it’s most likely coming out of the contact lens piece because as I said that’s the piece that’s growing. That’s how we would look at a P & L specifically as we measure Top Line.
Dr.Bethany Fishbein
One thing that you’re saying though when you’re talking about it, it makes me think that you were talking about the difference like in the frame line if you’re doing a lower-end frame versus a higher-end boutiquey. So it’s a situation where percentage-wise isn’t necessarily better, right? The goal isn’t always to go super low. Because you can’t have a frame that you sell for $100 that costs you $15, right? Then, you know there’s no sort of super cheap frames out there. But you can have a much higher quality frame that percentage-wise, you’re paying a much higher percentage of the costs. But you’re earning more dollars and having a higher-end product and a higher-end office. So
Paul Ferraro
You hit it right on the head. Right. So what’s the practice’s goal? We often hear people aspire to “I want to be a million-dollar practice.” Well, there are ways to get there. But you also want to be a profitable practice. So, do you want to have a 30%, 35%, or 40% net? Or do you want to have a million-dollar practice with a 20% net? And what’s the old adage? “You don’t take percent to the bank, you take money to the bank.” So I’m in direct alignment. What’s the practice’s goal and objective and you can align your expenditures accordingly to achieve either the top or the bottom line objectives set at the beginning of the year.
Dr.Bethany Fishbein
Right. It’s interesting. If we said if we put out a poll somewhere and said, “Is lower Cost of Goods always better?” And 95% of people are gonna be like, “Yeah. Yeah, lower is better but not necessarily.” So, it’s got to be looked at and I said it when I talked about the Billing Code report in last week’s podcast. It’s opening conversation. I think the other thing that this one thing that we see that also really impacts that Cost of Goods is the frame buying. Those offices that have way too many frames or you know are buying a ton of inventory. When somebody is really trying to improve their P & L and can stop or slow down their purchasing for a little while. Sell what they have and then replenish to a much more reasonable number. Sometimes that leads to significant at least initial one shot of good cost to good savings for quite a few months.
Paul Ferraro
Yeah and that approach is another subject for another day, which is Frame Board Management, right? What is the appropriate size and mix of the frames that you have in-house? Because all too often while we are out on consulting visits, we see massive displays and frame units on the board, and in reality, they may be skewed 500 to 1000 frames higher. Think of frozen cash, assets, or money on the board that’s frozen, that could go towards the purchase of that camera, or the hire of another employee, or maybe it’s a vacation. It’s a personal decision. But you’re spot on there. And you know when we come back and have a Frame Board Management discussion of the day, we’ll talk about how to unfreeze that valuable asset cash on the board.
Dr.Bethany Fishbein
So we’re watching Cost of Goods.
Paul Ferraro
Yes.
Dr. Bethany Fishbein
Can I say one other thing about it though? It’s so important before we leave it because Cost of Goods is one of the areas where staff tends to have the biggest impact, right? Things like occupancy, we’ll talk about but typically those are owner decisions like sure the staff can be like, “Oh, we’re so cold.” and turn it up to 76 degrees and the utilities go up a little bit. But in most offices, the buying decisions, particularly on eyewear, are made by staff. So if the Practice Owner is not looking at it, you have absolutely no idea if those numbers are fully out of control. So looking at it, not only well, it tells you the health of the whole business, but it also gives you a line of sight into what’s going on with the Inventory Management in the Optical.
Paul Ferraro
Yeah. You know, you and I had this conversation about two weeks ago, and we think about this subject that you’re on right now. That is, “Who’s doing the buying in Optical?” And this is a philosophical position. And people vary and differ on this point. But if you’ve got someone in charge of Optical, it’s very important to share information and data and give your team a budget. Can you imagine not having a checkbook and a budget, and just willy-nilly going and buying, and putting things on credit? Essentially, that’s what’s happening when owners don’t sit with their Optical Team Leads and let them know, “Here’s our goal for the department. We want to reach x dollars in sales. And this is what we want to net in the department. And this is the range in which we want to keep Cost of Goods.” But without knowing what that is and I’m really good at, you know, spending other people’s money. Well, I’ll come in, and I’ll put all kinds of frames on that board. But at the end of the day, who’s going to suffer? And the response is, “I didn’t know. I didn’t know what my budget was.” So as much as owners are reluctant to share and you don’t have to share every line item on a P & L, but certainly in this area of Cost of Goods particularly in Optical, I feel very strongly that Team Leaders in the Optical Department should know the impact of their actions. You mentioned actions. I can influence the P & L either positively or negatively based on my actions as the Optical Manager and I should know what I’m working with in order to manage that department.
Dr.Bethany Fishbein
I agree. Alright. So once Cost of Goods comes out.
Paul Ferraro
Yep.
Dr. Bethany Fishbein
Let’s look at the next biggest and probably most talked about category which is labor, staff salaries, and benefits. What else goes in there?
Paul Ferraro
Training, uniforms, and perhaps meals for the staff meetings. So the category is discussed a lot right now. And certainly, it has changed in the last 15 to 18 months. Perhaps nearly 20 months ago, we were talking about salary and wage labor costs between 16% and 23% depending on region of the country and cost of labor and your community, rates of employment and unemployment, the rate and range in which titles and positions in a practice have established. Since then, we know what the nation struggled through with labor. And those same costs are more like 23% to 28%. And it wouldn’t be uncommon, depending on where you’re at in the country and the size of your practice to see a salary wage line as a percent greater than 30%. Well, one of the things that we speak to is the impact of not paying our people appropriately and what the cost might be. If a valued employee should leave the organization and then we’re in a position to hurry up and scramble to fill that position. I’m going to pay that person at a higher rate over the cost of recruiting, the cost of hiring and training and certainly we hope we have a significant level of retention. By looking at your P & L and understanding the impact that salary and wage has on the bottom line, you ask yourself the question, “Would it not be wiser just to maybe rate all of our employees? And the ones that we cannot risk losing, to provide a higher level of income that’s commensurate to the goal that you’re trying to achieve with your profit?” And take a simple example, if I were to pay someone, two extra dollars an hour and I’m working 35 hours a week, that’s $70 a week times 50 weeks, that’s $3,500. You’re not going to see much of a blip on your P & L. You won’t see anything at all. But if you lost that person and perhaps you tried to replace them, the cost to replace that person is going to be far greater than $3,500. So wouldn’t it be wiser to look at the P & L? Look at all the categories, the measurables and figure out, “How much more would I have to do on the Top Line in order to do X within the categories of the P & L?” Like we said, it’s not a, “I think. I feel.” but it’s data and it’s mathematical.
Dr. Bethany Fishbein
That’s a huge difference.
Paul Ferraro
It might be as simple as one incremental patient a week to afford some of the things you want to do. Can you imagine two incremental patients a week? What it would do to the P & L? Oh my gosh!
Dr.Bethany Fishbein
We see a lot of people wanting to make emotional decisions, right? When they don’t have the financial sheet to back them up. And so it’s something like, “This person asked for a raise. I’m afraid they’re gonna leave. I don’t want them to. Should I give it?” Right? Or “I feel like they maybe deserve more.” stuff like that. We’re knowing the impact of that and knowing what room you have. Sometimes people will ask that question and they’re way low in the range. And it’s like, yes, somehow you’ve magically ended up with four people doing the work of six. It’s working. So let’s pay them extraordinarily well. So that it keeps working for a long time. And other practices have the opposite, where they’ve got 12 people doing the work of six, and they see that in their Financial Statementss,
Paul Ferraro
Or you look at your financial documents and statement. And you look for other areas that you could enhance, and reduce costs in order to afford something else in the practice. It’s a trade-off, right? So we just got off the topic of Cost of Goods. Well, if I saved 1%, I can fund perhaps raises for five or six people in my practice. My General Overhead is generally inflated in that category, our office supplies. If we shop smarter, “Do we need a $30 Stapler? Can’t we get a $15 Stapler?” If we use better discretion in managing the multitude of line items under General Overhead, we can find some dollars to free up for that piece of equipment or that extra person on staff. So this all goes back to the importance of understanding the dynamics of your P & L and how to go about managing it in a way to accomplish your goals.
Dr.Bethany Fishbein
Alright, so you mentioned General Overhead, but you also mentioned one or two incremental patients a week. So I want to hit both of those categories. Let’s talk about Marketing Spend. This is, you know, “Okay, we can do more things if we add one or two incremental patients a week.” For some practices, they’ve got room to have 5 or 10 or 20. Marketing is interesting because it’s the area that I feel most often we’re encouraging people to increase. Do you find that as well?
Paul Ferraro
Again, I’m gonna sound like I’m skirting the question and I’m not. It really starts at the beginning of the year with what the practice’s goals and objectives are. And you’ve often heard the term bottom-up forecasting. Well, it’s the same thing, developing your plan or your budget from the bottom up. So if we are looking to drive new patients, you know, we take a look at what is the balance between new and existing patients and we want to go on a new patient drive. Well we have to increase is awareness in the community. So my spend for this year might be a little heavier. But so often in Budget Development, we’re not allocating X dollars or funds to make that happen. So if I’m a brand new practice, my spend level for marketing, promotion, and advertising is gonna be a little bit heavier, more than 4% or 5% of your collected revenues. That would be a recommended budget for newer practice. I’m an existing practice that’s been practicing seven or eight years, my budget might look more like 1.5% to 2% spend I’ve collected. It’s not so much the budget, it’s more, “What is it spent on?” and “Do we have a form of measurement?” Because, quite frankly, of all the line items, well, maybe not all but one of the major line items on a P & L, I look at advertising and promotion as an investment. Similar to the stock market, right? When you invest money in the stock market, you’re expecting a return on that investment, and you measure that return. Same thing with advertising. If I’m going to put money into something, I’m going to measure that return and I’m not going to measure it on the specific activity but I’m going to measure it on the life expectancy of that patient. So in the case of setting my budget, I want to be able to invest into things that I have a pretty good understanding and handle of what the return is. So as we approach the New Year, I’m not spending good money against bad. I will have a proven vehicle that has worked for the practice and I might even up my budget if it performed as well as we would like it to perform. So that’s one of those categories that really get started with, “What are the goals and objectives of the practice?”, “How are we going to get there?”, and “How will a budget for marketing and advertising impact our ability to get to our goal?” I hope that didn’t skirt too much.
Dr.Bethany Fishbein
No, I mean, it’s the right answer. Because, like all of this, what’s right, for one practice is not necessarily the same as what’s right for another. And that’s the thing I think that gets missed in so many conversations about metrics is, “You should have a lower Cost of Goods. Oh! Okay, I’m going to stop selling high-end. I’m going to only sell low-cost high markup.” Whatever. And sure, that’s the right answer for some. It is not the right answer for many practices and you should spend whatever on marketing. If you’re booked up for six weeks out with the exact patients that you want to be seeing, you shouldn’t spend anything on marketing. You’re okay. You just need a little bit of maintenance. Where a practice that just took a growth step, just hired an associate, moved into a new area, or is getting passive patients through like insurance plans that are the wrong patients, needs to have a higher spend. So as we talk about numbers, I say it all the time. It’s not right and wrong. It’s not black and white for everyone. There may be a practice where 30% is an absolute right number for salary. And one where at 25%, we’re saying that’s more than you need because of the type of care and the type of practice that we’re dealing with.
Paul Ferraro
Absolutely. So like all the other line items on your P & L. This is a plan for a line item. It starts at the beginning of the year. And it starts with understanding what is the goal and objective for the new calendar year and go forward accordingly at that point.
Dr.Bethany Fishbein
So let’s talk about the stapler. The $30 Stapler. So General Overhead because of things like office supplies, is also an area that staff very often has a hand in doing some of the spending. I mean, there’s some stuff in there that is fixed and beyond your control, like your insurance is in there, licensing, the professional fees, the money you pay your accountant, your lawyer, and your consultant. That stuff all counts but what are the things that you or the staff can really impact in that General Expenses line.
Paul Ferraro
I think we’ve touched on a few of them. But some of the other things have to do with the meetings we’re going to go to this year, all fall under educational events, all fall under General Overhead. Travel and entertainment certainly falls under General Overhead. So I think when you look at all of the line items under General Overhead, we’re talking things like professional fees, which includes your accountants, your lawyers, and your consultants. We’re talking about Professional Development, continuing education, license fees, and dues. So I think when you take an approach where we have identified the percentage. And we haven’t even talked percent, by the way. If you’re looking for that range, right? General Overhead we’re generally in that 8%, 9%, 10%, or 11% range. Newer practices might be higher, right? Because their Top Line is so much lower. But those line items that makeup General Overhead are the ones that you could impact the most are the ones that we’ve just identified.
Dr.Bethany Fishbein
One other point that that brings up for me, is that there’s a little bit of variance variability in how different practices are categorizing also. So you mentioned continuing education, and professional conferences, which a lot of people do put in that General Overhead. Sometimes we’ll see those in staff expenses and it’s really, it’s not right or wrong, either way. It’s just where they put them. And so a practice can lower their staff expenses by taking out their billing company, and taking out their virtual assistants, taking out education, taking out meals and uniforms. But they’re not generating more money by doing that. They’re getting to say, “Oh, I have a lower Staff Expense line.” And then you’re gonna see General Overhead just being higher by exactly that same amount. So you guys have heard on the podcast Adam Chmejla who has been a guest a couple of times. He talks about Plinko. The money comes in at the top and then it kind of hits all the expense lines on the way down and what’s left at the bottom that filters out is the net. And so how you’re categorizing isn’t quite as important as just doing that budgeting and being careful about it to make sure that enough drops out at the bottom to be what you want. So the last bit and that should be fairly quick because it’s not totally controllable but it’s not uncontrollable either, is that of Occupancy. This is the money that you spend to have an office. So if you own the property, usually you’re going to own your property with a different LLC and your business is going to pay rent to your property company. What else goes in there?
Paul Ferraro
We typically see Utilities. We typically see things like Security and Alarms. We see Repairs and Maintenance. We see Rents. There could be one or two other line items, maybe Landscaping or Snow Removal. All of those things that keep the roof over our heads going go into Occupancy costs. And you’re right, you started off by saying probably not a lot of leeway in there. But the leeway that you have in there is if you’re leasing, to carefully monitor your lease when it is up for renewal and start early. And when I say early, maybe as much as 12 months early, to maybe renegotiate the terms of your lease to enhance what has been spent under this category. And if you’re not good there, there are people in our business who are really good at that, commercial realtors. And as everyone knows, a commercial realtor doesn’t really cost you anything, right? They make their money from the actions and activities they perform and reimburse through the landlord. So if you’re not good at negotiating Real Estate leases, I would speak to a commercial realtor to help you when it’s getting near lease renewal so that you have the best opportunity and be able to keep that category in a percent area. And it’s such a wide range, of every item on the P & L, every line item we’ve talked about, this one has the widest range from 5% to 15%. Because of what you said, I might own and I might lease. And depending on where you’re in the country, it can go higher than that. Hello California! Extremely high. But those are some of the things that you can do to try your best to try to manage that category.
Dr.Bethany Fishbein
And that’s another category where those couple of percentage points, either create more profit or free up money that you can use somewhere else to generate the profit that you want.
Paul Ferraro
Yeah, and I might get off topic a little bit here, but I think it’s worth the conversation. It’s more critically important for people who are just starting their careers, right? Because you have an opportunity right now to negotiate your first lease. And it’s quite often, particularly when we are working with cold start practices to fall in love with a property. And we work so diligently to manage your Monthly Lease expenses as a new practice because you’re starting with patient one and Top Line Revenue is slowly coming in and to think about a $6,000 and a $7,000 a month lease compared to someone who’s been practicing 10 to 15 years and they’re doing 2 million. It’s totally different. So it starts early on to be able to manage that because depending on the term you sign for: five years, seven years, ten years, there’s escalation clauses in your leases as well. And this again is a whole another topic best saved for another day when we can bring a commercial realtor on with us to talk about this. But that’s a way to really pay attention to the costs associated with this category.
Dr.Bethany Fishbein
When you subtract out all of these categories, all these expenses now you take your million dollars and collections and you spent $280,000 on Cost of Goods, you spent $100,000 on General, you spent $300,000 I guess 30% on Staff Salaries. So what’s the significance of what’s left?
Paul Ferraro
The significance is what you bring home, if you’re not on salary yourself, right? It’s the Net Income of the business. And certainly, the more robust that percentage is, the more you bring home. And so as we work with practices, is there an ideal range for Net? Yeah. I mean, we’d like to see at least a minimum of 25% Net. At least a minimum but 30% is better and 35% is even better than that. And for those practices who are enjoying a 40% Net, God bless you. You have very good control of the categories that we’ve discussed in your P & L. You’ve got an extremely healthy Top Line and you’ve been able to manage your line items appropriately in order to drive the Net to the degree you did.
Dr.Bethany Fishbein
In addition to how much you’re taking home, the topic everybody’s talking about now is the Sale Value of the practice. You hear people talking about EBITA, multiples, and stuff like that. And that’s something that’s changed in our vocabulary, right? In the last five years, you used to really only hear people defining their practices by the Top Line, right? It was a million dollar practice, a $2 million practice or a $3 million, and honestly I started off the call with it. But we were talking about Top Line Income when I said it, so that’s okay. But now you start to hear people talking more in terms of the Sale Walue of the practice. What it would sell for talking about their EBITA and their multiples. So in addition to how much profit there is for you, the higher that number, the more valuable your business is to someone else, whether that’s an individual company or whatever.
Paul Ferraro
I agree. There is much more awareness to the relationship between Net and resale of a business. So through the years, you know, we’ve heard a variety of ways to value a practice from a percent of the Top Line down to taking a look at what the EBITA of the practice is and applying a multiplier. And the multiplier, certainly as we know varies, whether it’s a Private Practice sale or a PE sale. But it is critically important that trends begin and we have multiple-year trends that show growth not only on Top Line. Yay! I finally reached a million dollars! But more importantly, that Net is climbing respectively. Yay, I’ve reached 30%! Whoa, I’ve reached 35%! You become very attractive to people in the marketplace who are looking to acquire a business. And so excellent observation.
Dr.Bethany Fishbein
So just to wrap it all together and as interesting as we’re having this conversation, I’m thinking about some of the previous podcast episodes and things that we’ve talked about saving on your Occupancy costs by making some sustainability changes in the practice and we talked to real estate brokers about how to save their. You know it’s interesting that it all kind of comes together. But you mentioned bottom-up forecasting. And so just to wrap everything together, let’s say we’re going into the end of the year, how do you do it? How do you do a bottom-up forecast to get what you want out of the following year?
Paul Ferraro
Yeah. So we take a look at the seven categories and we put a budget together that says, “Here’s how much we’re going to spend in each of these categories to run this business.” From that, we determine how much profit we want to make against these expenses. And we mathematically back into, “It’s going to take this much on the Top Line collected in order to manage the business according to the line items to achieve this Net Income which is part of the goal.” And so in December, we set first week of January, we review the year that just closed rather than sitting and saying, “Okay, so what are we planning for a new year? Well, you know, we grew 8% this year and I think 10% is realistic.” Here we go again. We take the think out. We do it with data. And we can do a fact-based budget that says, “Here’s our goals. Here’s what it’s going to take to get there and it’s based on these series of facts.” And we would start every year with a business with a budget and through P & L review monthly we could determine, “Are we on plan? Or are we off plan?” And what are the adjustments we have to make if we’re off plan to get back on plan.
Dr.Bethany Fishbein
That’s what it’s all about. Right? That’s it.
Paul Ferraro
It’s not simple but yes, that’s it.
Dr.Bethany Fishbein
We want that bottom line number. We want to take home this amount and to do that we’ve got to collect this amount and spend this amount in all the categories. And the people who are spending know what they’re allowed to spend in their categories. And the things you’re spending yourself, you know what you’re allowed to spend on categories. If you keep up with the collections and the spend, you will collect what you want to collect. And as long as you’re keeping up with the numbers monthly, you can see right away if you’re not and be in a position to make that correction to get back on track to hit your numbers to ensure that you’re going to end the year where you want to. Rather than collecting as much as you can and spending whatever you think you feel you need and waiting until April of the following year for your accountant to get back to you and tell you how you did. It sounds so simple, but people don’t do it.
Paul Ferraro
So you often hear, “And I hope it all comes together. And what do we know? Hope is not a strategy. I’ll end on that note.
Dr.Bethany Fishbein
Yeah. Paul thank you so much. I think that this is valuable information for any practice owner or really any business owner. For somebody who’s interested in a deeper look at this with an expert set of eyes on it. We have a Practice Profitability tune-up at Power Practice where we will take a look at this report goes through it with you. Look at this. Look at the Billing Code report. Let you know where the areas of opportunity are, where you’re doing well, and where you do need to course correct to get to your goals. If that’s something that you’re interested in, please reach out to us info@powerpractice.com. You can reach me and Paul through our website www.powerpractice.com. And thank you everyone for listening. Hope this was great information for you. And I’m looking forward to seeing who you talk to next. Thank you.
Read the Transcription
Paul Ferraro
We often hear people aspire to “I want to be a million-dollar practice.” Well, there are ways to get there. But you also want to be a profitable practice. So, do you want to have a 30%, 35%, or 40% net? Or do you want to have a million-dollar practice with a 20% net? And what’s the old adage? “You don’t take percent to the bank, you take money to the bank.”
Dr.Bethany Fishbein
Hey, welcome back! I am Bethany Fishbein the CEO of the Power Practice and host of the Power Hour Optometry podcast. And last week on the podcast, I talked about the Billing Code Report or Procedure Code Report. Different software calls it different things and the value that understanding that data could bring to helping you manage your practice. And today I wanted to talk about another really important document that gives a ton of information about how your practice is doing, and that’s your P & L or your Financial statements. And I invited my reluctant colleague Paul Ferraro. It took some convincing but he agreed to do this with me. Paul works with me at the Power Practice. He wears many, many, many hats. Among his many hats is he is one of our Business Coaches. And it’s really kind of a phenomenal thing to think about Paul’s experience as somebody with 30ish years of experience in the industry. Am I making you too old Paul or?
Paul Ferraro
No, do I dare tell you it’s closer to 40.
Dr.Bethany Fishbein
Alright, 30 plus years in the industry managing national accounts for contact lens companies, managing multimillion-dollar budgets, and having an amazing familiarity with income and spending on that level. That now translates into working with our practices to help them understand their own business. And so, Paul is our Metrics and Financial guy. He gets really excited about this. And so, I invited him to have this conversation. And as I said he, with some bribery, agreed happily. And, Paul, thank you so much for agreeing to do this with me.
Paul Ferraro
Well, thank you, Bethany. It’s a pleasure to join you. Nearly 10 months in the making but here we are.
Dr.Bethany Fishbein
Yes. Thank you finally. So I know you get excited about Financial Statements as do I. And before we even get into analyzing the things that we look at on a financial statement. Let’s just go way back and talk about the need for practices to keep up-to-date financials because I know you see it as I do. When people start to work with us. We start to ask some financial questions. And like it happens that people say, “Oh, I don’t know.” Here we are in July and somebody said to me recently, “Oh, I haven’t gotten my first half books back from the accountant yet.” So talk about what’s ideal as far as having up-to-date financials for the business.
Paul Ferraro
Yeah. I think a good place to start Bethany is just a little before that. Just to talk a little about what we hope to get out of today’s discussion, right? So, it won’t be an end-all conversation but certainly, it’ll be a conversation that includes an overview of the types of financial documents a business owner might become familiar with. And I hope to increase the listeners’ familiarity with each of these documents. You might remember the movie from years ago with Tom Cruise as Jerry Maguire said, “Show Me the Money.” Yeah, well, hopefully in this discussion, we’ll be able to show the money through discussing at least one of the financial documents you mentioned, the P & L or the Profit and Loss statement. But in reality, there are probably three or four other financial documents that at a future conversation we might discuss that are equally important. And that would include a business’s Balance Sheet, a Cash Flow Statement, and certainly the Profit and Loss Statement. We talked about the Accounts Receivable Report. I know you did a whole segment last week on the Billing Report, which is critical. And at the start of each year with a business, you develop a budget and you manage that budget through the year and you have a Budget Report. Now if we were to cover all of those today, we’d be on the line here for nearly two hours.
Dr.Bethany Fishbein
Sounds like you’re setting yourself up to do more of these with me.
Paul Ferraro
Oh, be careful what you ask for, right? Today our focus is going to be the P & L, the Profit and Loss Document. So you ask the question, “What is it?” Right? It’s one of the many financial documents we discussed that provides a summary of the company’s revenues, expenses, and the profits and losses over a specific time period. It could be monthly. It could be quarterly. It could be yearly. And it’ll give you a good idea of how a company generates sales, how they manage those expenses, and simply put, it’s an indicator of a company’s health. That’s pretty much what a Profit and Loss Statement is and does.
Dr.Bethany Fishbein
So I mean, it’s important, right? An indicator of the financial health if you’re running a business. And you know, optometrists are running at minimum $500,000, $600,000, or $700,000 businesses and we know some are running $6 million, $7 million, $8 million, or $10 million businesses. But I see people who don’t use this document except for at the end of the year. Their accountant puts it together and they’ll typically get it in April for the previous year. But that’s not how you recommend we do it.
Paul Ferraro
That’s not good. You know, I mentioned monthly, quarterly, or yearly. As we work with practices, certainly we recommend monthly. Anything beyond that, you’re working with aged data and aged information. And trends, positive or negative, have already been set. So imagine reviewing a P & L at six months. You’ve got six months of history where the trend might be in a negative fashion. It’s too late to act on. But if we are able to pick up the indicators and the trends early on monthly, we’ll be able to do several things to include great hiring decisions. You know, we’re asked all the time,” Can I hire someone?” Perhaps make smart purchasing decisions and better plan the business. So what it does for business owners, is it takes you out of the realm of “I think”, “I feel”, “my gut tells me”, and “the bank says” to a more fact-based decision-making process. As they say, data doesn’t lie. You’re able to make smarter decisions. So it’s been said by many financial people. We hear it all the time in the business that “What gets measured, improves.” So if we think about that adage, and we have good data, and we’re able to see it timely, and the P & L is structured in a way that could tell you from every aspect of the business that we’re in good shape, good health. We could plan a robust future and a robust growth plan for the future.
Dr.Bethany Fishbein
Which is what everybody wants to do. Kind of the alternative is people trying to make decisions by looking at what’s in the bank account, right? And with the way that our expenses work, like payroll is one of the biggest costs in a business and I know we’ll get into what percentage of the cost that should be. But payroll is a big chunk of money that comes out all at once. And contact lens distributors, you pay your contact lens distributor, a bill that’s a big chunk of money that comes out all at once. And so there are days where you can look and you’ve got so much money in the bank. It’s like “Yeah, this is awesome.” And if the next day is payroll and your contact lens bill and your credit card all come out. Poof! And then there’s none. And the feeling like you said it, the gut feel of what you’re willing to buy on those days. You can go from, “Oh, I can get that fancy new instrument I want.” to you know, “I better bring a can of beans for my lunch today because I don’t have it.” So I think the timeliness and the objectivity of it is super important.
Paul Ferraro
Yeah and understanding that as we discuss the elements of a P & L, and we talk as you mentioned, some ranges. We understand that there’s a lot of variabilities that go into one’s P & L and direct comparisons, although important, shouldn’t be the main focus, right? Because certainly, age, and size, and scope of practice have an impact. Size of staff, as a market activity, competition, the economy, all of those have an impact on all of these elements of the P & L. So as we get into what are the categories and what are the ranges for the respective categories, we’ll keep in mind that every practice is different and that there are many variables that go into this. But what is really important is to be able to measure and compare your P & L against your P & L. Time period comparisons, that’s what’s most important. So I think this might be a good leaping off to talk about what’s in a P & L, right? What’s in it? We could and I know, you manage P & L, and you’re probably using the majority of those financial reports we talked about at the beginning. But if you’re just getting involved in a P & L, we can simplify a P & L by saying there’s three main aspects of a P & L: its revenue, its operating expenses, and its Net Income. And under those three, there’s a number of subcategories that are critically important to each of the major categories. So when we look at a P & L at the Power Practice, and we’re working with our clients, we break those P & L’s down into about seven measurable categories. And we look at Top Line revenue, income, and collected revenue. We start there. The second thing we look at is the Cost of Goods. And specifically, we do try to break the Cost of Goods out into the measurables: contact lenses, frames, lab expense, perhaps royalties, and miscellaneous to identify the category of Cost of Goods. We move on to some of the operating expenses, which includes advertising and promotion, General Overhead, occupancy costs, salary, and wages where we spend so much time today. Talking about labor and the impact labor has on our our businesses. And then finally, Net Income. And when we do that, we want to make sure a P & L is balanced, and that each of those seven categories fall in a desired range based on what we see in the nation and what we see with other practices of comparable size. So we’ll get into those ranges in a moment.
Dr.Bethany Fishbein
Yep. Cool. So that’s perfect. Let’s break it down a little bit. So the thing that starts it all off is Top Line Revenue. Right? You hear Top Line, Gross Income, but there’s even sometimes confusion about that. So the Top Line income should be the money that is collected by the practice from patients, from insurance companies, and if there’s anything from vendors, like rebate checks and stuff like that, right? The actual money flowing into the practice.
Paul Ferraro
That’s correct.
Dr.Bethany Fishbein
Okay. Because one thing I’ve seen is that people sometimes will get that confused with charges, which they also call total revenue. But the amount you charged out in practice these days and the amount you collect in most practices, because of insurance and other things are actually quite different.
Paul Ferraro
In some cases significantly different.
Dr.Bethany Fishbein
Yeah. So Top Line is like actual cash, checks, credit cards coming in minus like patient refunds. Little money going out.
Paul Ferraro
Little money. Yes, correct.
Dr. Bethany Fishbein
For most people, that’s insignificant. Okay.
Paul Ferraro
Yes.
Dr. Bethany Fishbein
So that’s the number at the top.
Paul Ferraro
That’s the number at the top.
Dr. Bethany Fishbein
So the thing that most people will subtract first, the category we look at first and you said at first is the Cost of Goods. So define that a little bit more and talk about the divisions and what those numbers should look like.
Paul Ferraro
So the product that’s sold to drive revenue on the Top Line. Cost of goods is the cost of that product that we bring in for resale. And from a measurable, there’s an industry standard of about 30%. It is usually allocated to Cost of Goods. And when I say 30%, what does that mean? As a percent spent against Top Line collected. Do the math. That will determine the range of Cost of Goods at 30%. But more importantly, is to understand the subcategories. And we look at each line item that makes up Cost of Goods. And for some practices, it could be just three sub-lines. It could be contacts, frames, and lab expenses. And if you want to include a fourth of other expenses, under Cost of Goods, it would be in there. So as we look at P & L’s and Cost of Goods at the Power Practice, we have arranged more that’s in line with 26% to 29%. Because depending on where you choose to buy your products and procure your goods, you can impact your Cost of Goods by shopping smart. Maybe consolidating with vendors, developing some leverage, so that you can get an enhanced cost structure to lower your Cost of Goods from 30% down to 29%, 28%, or 27%. It might not sound a lot but think in terms of a million dollar practice and what a 1% saving on Cost of Goods would mean. One percent, what is the math on that, $10,000? Right to the bottom line. That is profit. So we look at these subcategories and we say okay, typically speaking, if you have an average makeup of frame selection with some of the major brands in our business. You know you’re looking at a range of 8% to 10% Top Line on frames. Now if you are more boutiquey and you have some unique and unusual frames and things that may cost a little bit more premium in nature, it wouldn’t be uncommon to see you eclipse 10%, 11%, or 12%. From a contact lens perspective, if you are geared more towards dailies, that line as we’ve seen over the last three years has grown significantly. Just a few years ago that contribution line was about 13% or 14%. But today, it’s not uncommon to see 17%,18%, or 19% contribution coming out of contact lenses. If you are a proactive contact lens fitter specifically a dailies dispenser, a practitioner who recommends dailies. And then to round off the eyewear piece are your lab costs. And again, this is a large variable. If you’re not edging in-house, you are probably looking at a range between 7% and 9%. And once again, if you are using product premium progressives that might be a little bit higher, but certainly 6%,7%, 8%, or 9% would be something we would typically see. And all up and in, the category should be no greater than 30%. And if it’s eclipsing 30, it’s most likely coming out of the contact lens piece because as I said that’s the piece that’s growing. That’s how we would look at a P & L specifically as we measure Top Line.
Dr.Bethany Fishbein
One thing that you’re saying though when you’re talking about it, it makes me think that you were talking about the difference like in the frame line if you’re doing a lower-end frame versus a higher-end boutiquey. So it’s a situation where percentage-wise isn’t necessarily better, right? The goal isn’t always to go super low. Because you can’t have a frame that you sell for $100 that costs you $15, right? Then, you know there’s no sort of super cheap frames out there. But you can have a much higher quality frame that percentage-wise, you’re paying a much higher percentage of the costs. But you’re earning more dollars and having a higher-end product and a higher-end office. So
Paul Ferraro
You hit it right on the head. Right. So what’s the practice’s goal? We often hear people aspire to “I want to be a million-dollar practice.” Well, there are ways to get there. But you also want to be a profitable practice. So, do you want to have a 30%, 35%, or 40% net? Or do you want to have a million-dollar practice with a 20% net? And what’s the old adage? “You don’t take percent to the bank, you take money to the bank.” So I’m in direct alignment. What’s the practice’s goal and objective and you can align your expenditures accordingly to achieve either the top or the bottom line objectives set at the beginning of the year.
Dr.Bethany Fishbein
Right. It’s interesting. If we said if we put out a poll somewhere and said, “Is lower Cost of Goods always better?” And 95% of people are gonna be like, “Yeah. Yeah, lower is better but not necessarily.” So, it’s got to be looked at and I said it when I talked about the Billing Code report in last week’s podcast. It’s opening conversation. I think the other thing that this one thing that we see that also really impacts that Cost of Goods is the frame buying. Those offices that have way too many frames or you know are buying a ton of inventory. When somebody is really trying to improve their P & L and can stop or slow down their purchasing for a little while. Sell what they have and then replenish to a much more reasonable number. Sometimes that leads to significant at least initial one shot of good cost to good savings for quite a few months.
Paul Ferraro
Yeah and that approach is another subject for another day, which is Frame Board Management, right? What is the appropriate size and mix of the frames that you have in-house? Because all too often while we are out on consulting visits, we see massive displays and frame units on the board, and in reality, they may be skewed 500 to 1000 frames higher. Think of frozen cash, assets, or money on the board that’s frozen, that could go towards the purchase of that camera, or the hire of another employee, or maybe it’s a vacation. It’s a personal decision. But you’re spot on there. And you know when we come back and have a Frame Board Management discussion of the day, we’ll talk about how to unfreeze that valuable asset cash on the board.
Dr.Bethany Fishbein
So we’re watching Cost of Goods.
Paul Ferraro
Yes.
Dr. Bethany Fishbein
Can I say one other thing about it though? It’s so important before we leave it because Cost of Goods is one of the areas where staff tends to have the biggest impact, right? Things like occupancy, we’ll talk about but typically those are owner decisions like sure the staff can be like, “Oh, we’re so cold.” and turn it up to 76 degrees and the utilities go up a little bit. But in most offices, the buying decisions, particularly on eyewear, are made by staff. So if the Practice Owner is not looking at it, you have absolutely no idea if those numbers are fully out of control. So looking at it, not only well, it tells you the health of the whole business, but it also gives you a line of sight into what’s going on with the Inventory Management in the Optical.
Paul Ferraro
Yeah. You know, you and I had this conversation about two weeks ago, and we think about this subject that you’re on right now. That is, “Who’s doing the buying in Optical?” And this is a philosophical position. And people vary and differ on this point. But if you’ve got someone in charge of Optical, it’s very important to share information and data and give your team a budget. Can you imagine not having a checkbook and a budget, and just willy-nilly going and buying, and putting things on credit? Essentially, that’s what’s happening when owners don’t sit with their Optical Team Leads and let them know, “Here’s our goal for the department. We want to reach x dollars in sales. And this is what we want to net in the department. And this is the range in which we want to keep Cost of Goods.” But without knowing what that is and I’m really good at, you know, spending other people’s money. Well, I’ll come in, and I’ll put all kinds of frames on that board. But at the end of the day, who’s going to suffer? And the response is, “I didn’t know. I didn’t know what my budget was.” So as much as owners are reluctant to share and you don’t have to share every line item on a P & L, but certainly in this area of Cost of Goods particularly in Optical, I feel very strongly that Team Leaders in the Optical Department should know the impact of their actions. You mentioned actions. I can influence the P & L either positively or negatively based on my actions as the Optical Manager and I should know what I’m working with in order to manage that department.
Dr.Bethany Fishbein
I agree. Alright. So once Cost of Goods comes out.
Paul Ferraro
Yep.
Dr. Bethany Fishbein
Let’s look at the next biggest and probably most talked about category which is labor, staff salaries, and benefits. What else goes in there?
Paul Ferraro
Training, uniforms, and perhaps meals for the staff meetings. So the category is discussed a lot right now. And certainly, it has changed in the last 15 to 18 months. Perhaps nearly 20 months ago, we were talking about salary and wage labor costs between 16% and 23% depending on region of the country and cost of labor and your community, rates of employment and unemployment, the rate and range in which titles and positions in a practice have established. Since then, we know what the nation struggled through with labor. And those same costs are more like 23% to 28%. And it wouldn’t be uncommon, depending on where you’re at in the country and the size of your practice to see a salary wage line as a percent greater than 30%. Well, one of the things that we speak to is the impact of not paying our people appropriately and what the cost might be. If a valued employee should leave the organization and then we’re in a position to hurry up and scramble to fill that position. I’m going to pay that person at a higher rate over the cost of recruiting, the cost of hiring and training and certainly we hope we have a significant level of retention. By looking at your P & L and understanding the impact that salary and wage has on the bottom line, you ask yourself the question, “Would it not be wiser just to maybe rate all of our employees? And the ones that we cannot risk losing, to provide a higher level of income that’s commensurate to the goal that you’re trying to achieve with your profit?” And take a simple example, if I were to pay someone, two extra dollars an hour and I’m working 35 hours a week, that’s $70 a week times 50 weeks, that’s $3,500. You’re not going to see much of a blip on your P & L. You won’t see anything at all. But if you lost that person and perhaps you tried to replace them, the cost to replace that person is going to be far greater than $3,500. So wouldn’t it be wiser to look at the P & L? Look at all the categories, the measurables and figure out, “How much more would I have to do on the Top Line in order to do X within the categories of the P & L?” Like we said, it’s not a, “I think. I feel.” but it’s data and it’s mathematical.
Dr. Bethany Fishbein
That’s a huge difference.
Paul Ferraro
It might be as simple as one incremental patient a week to afford some of the things you want to do. Can you imagine two incremental patients a week? What it would do to the P & L? Oh my gosh!
Dr.Bethany Fishbein
We see a lot of people wanting to make emotional decisions, right? When they don’t have the financial sheet to back them up. And so it’s something like, “This person asked for a raise. I’m afraid they’re gonna leave. I don’t want them to. Should I give it?” Right? Or “I feel like they maybe deserve more.” stuff like that. We’re knowing the impact of that and knowing what room you have. Sometimes people will ask that question and they’re way low in the range. And it’s like, yes, somehow you’ve magically ended up with four people doing the work of six. It’s working. So let’s pay them extraordinarily well. So that it keeps working for a long time. And other practices have the opposite, where they’ve got 12 people doing the work of six, and they see that in their Financial Statementss,
Paul Ferraro
Or you look at your financial documents and statement. And you look for other areas that you could enhance, and reduce costs in order to afford something else in the practice. It’s a trade-off, right? So we just got off the topic of Cost of Goods. Well, if I saved 1%, I can fund perhaps raises for five or six people in my practice. My General Overhead is generally inflated in that category, our office supplies. If we shop smarter, “Do we need a $30 Stapler? Can’t we get a $15 Stapler?” If we use better discretion in managing the multitude of line items under General Overhead, we can find some dollars to free up for that piece of equipment or that extra person on staff. So this all goes back to the importance of understanding the dynamics of your P & L and how to go about managing it in a way to accomplish your goals.
Dr.Bethany Fishbein
Alright, so you mentioned General Overhead, but you also mentioned one or two incremental patients a week. So I want to hit both of those categories. Let’s talk about Marketing Spend. This is, you know, “Okay, we can do more things if we add one or two incremental patients a week.” For some practices, they’ve got room to have 5 or 10 or 20. Marketing is interesting because it’s the area that I feel most often we’re encouraging people to increase. Do you find that as well?
Paul Ferraro
Again, I’m gonna sound like I’m skirting the question and I’m not. It really starts at the beginning of the year with what the practice’s goals and objectives are. And you’ve often heard the term bottom-up forecasting. Well, it’s the same thing, developing your plan or your budget from the bottom up. So if we are looking to drive new patients, you know, we take a look at what is the balance between new and existing patients and we want to go on a new patient drive. Well we have to increase is awareness in the community. So my spend for this year might be a little heavier. But so often in Budget Development, we’re not allocating X dollars or funds to make that happen. So if I’m a brand new practice, my spend level for marketing, promotion, and advertising is gonna be a little bit heavier, more than 4% or 5% of your collected revenues. That would be a recommended budget for newer practice. I’m an existing practice that’s been practicing seven or eight years, my budget might look more like 1.5% to 2% spend I’ve collected. It’s not so much the budget, it’s more, “What is it spent on?” and “Do we have a form of measurement?” Because, quite frankly, of all the line items, well, maybe not all but one of the major line items on a P & L, I look at advertising and promotion as an investment. Similar to the stock market, right? When you invest money in the stock market, you’re expecting a return on that investment, and you measure that return. Same thing with advertising. If I’m going to put money into something, I’m going to measure that return and I’m not going to measure it on the specific activity but I’m going to measure it on the life expectancy of that patient. So in the case of setting my budget, I want to be able to invest into things that I have a pretty good understanding and handle of what the return is. So as we approach the New Year, I’m not spending good money against bad. I will have a proven vehicle that has worked for the practice and I might even up my budget if it performed as well as we would like it to perform. So that’s one of those categories that really get started with, “What are the goals and objectives of the practice?”, “How are we going to get there?”, and “How will a budget for marketing and advertising impact our ability to get to our goal?” I hope that didn’t skirt too much.
Dr.Bethany Fishbein
No, I mean, it’s the right answer. Because, like all of this, what’s right, for one practice is not necessarily the same as what’s right for another. And that’s the thing I think that gets missed in so many conversations about metrics is, “You should have a lower Cost of Goods. Oh! Okay, I’m going to stop selling high-end. I’m going to only sell low-cost high markup.” Whatever. And sure, that’s the right answer for some. It is not the right answer for many practices and you should spend whatever on marketing. If you’re booked up for six weeks out with the exact patients that you want to be seeing, you shouldn’t spend anything on marketing. You’re okay. You just need a little bit of maintenance. Where a practice that just took a growth step, just hired an associate, moved into a new area, or is getting passive patients through like insurance plans that are the wrong patients, needs to have a higher spend. So as we talk about numbers, I say it all the time. It’s not right and wrong. It’s not black and white for everyone. There may be a practice where 30% is an absolute right number for salary. And one where at 25%, we’re saying that’s more than you need because of the type of care and the type of practice that we’re dealing with.
Paul Ferraro
Absolutely. So like all the other line items on your P & L. This is a plan for a line item. It starts at the beginning of the year. And it starts with understanding what is the goal and objective for the new calendar year and go forward accordingly at that point.
Dr.Bethany Fishbein
So let’s talk about the stapler. The $30 Stapler. So General Overhead because of things like office supplies, is also an area that staff very often has a hand in doing some of the spending. I mean, there’s some stuff in there that is fixed and beyond your control, like your insurance is in there, licensing, the professional fees, the money you pay your accountant, your lawyer, and your consultant. That stuff all counts but what are the things that you or the staff can really impact in that General Expenses line.
Paul Ferraro
I think we’ve touched on a few of them. But some of the other things have to do with the meetings we’re going to go to this year, all fall under educational events, all fall under General Overhead. Travel and entertainment certainly falls under General Overhead. So I think when you look at all of the line items under General Overhead, we’re talking things like professional fees, which includes your accountants, your lawyers, and your consultants. We’re talking about Professional Development, continuing education, license fees, and dues. So I think when you take an approach where we have identified the percentage. And we haven’t even talked percent, by the way. If you’re looking for that range, right? General Overhead we’re generally in that 8%, 9%, 10%, or 11% range. Newer practices might be higher, right? Because their Top Line is so much lower. But those line items that makeup General Overhead are the ones that you could impact the most are the ones that we’ve just identified.
Dr.Bethany Fishbein
One other point that that brings up for me, is that there’s a little bit of variance variability in how different practices are categorizing also. So you mentioned continuing education, and professional conferences, which a lot of people do put in that General Overhead. Sometimes we’ll see those in staff expenses and it’s really, it’s not right or wrong, either way. It’s just where they put them. And so a practice can lower their staff expenses by taking out their billing company, and taking out their virtual assistants, taking out education, taking out meals and uniforms. But they’re not generating more money by doing that. They’re getting to say, “Oh, I have a lower Staff Expense line.” And then you’re gonna see General Overhead just being higher by exactly that same amount. So you guys have heard on the podcast Adam Chmejla who has been a guest a couple of times. He talks about Plinko. The money comes in at the top and then it kind of hits all the expense lines on the way down and what’s left at the bottom that filters out is the net. And so how you’re categorizing isn’t quite as important as just doing that budgeting and being careful about it to make sure that enough drops out at the bottom to be what you want. So the last bit and that should be fairly quick because it’s not totally controllable but it’s not uncontrollable either, is that of Occupancy. This is the money that you spend to have an office. So if you own the property, usually you’re going to own your property with a different LLC and your business is going to pay rent to your property company. What else goes in there?
Paul Ferraro
We typically see Utilities. We typically see things like Security and Alarms. We see Repairs and Maintenance. We see Rents. There could be one or two other line items, maybe Landscaping or Snow Removal. All of those things that keep the roof over our heads going go into Occupancy costs. And you’re right, you started off by saying probably not a lot of leeway in there. But the leeway that you have in there is if you’re leasing, to carefully monitor your lease when it is up for renewal and start early. And when I say early, maybe as much as 12 months early, to maybe renegotiate the terms of your lease to enhance what has been spent under this category. And if you’re not good there, there are people in our business who are really good at that, commercial realtors. And as everyone knows, a commercial realtor doesn’t really cost you anything, right? They make their money from the actions and activities they perform and reimburse through the landlord. So if you’re not good at negotiating Real Estate leases, I would speak to a commercial realtor to help you when it’s getting near lease renewal so that you have the best opportunity and be able to keep that category in a percent area. And it’s such a wide range, of every item on the P & L, every line item we’ve talked about, this one has the widest range from 5% to 15%. Because of what you said, I might own and I might lease. And depending on where you’re in the country, it can go higher than that. Hello California! Extremely high. But those are some of the things that you can do to try your best to try to manage that category.
Dr.Bethany Fishbein
And that’s another category where those couple of percentage points, either create more profit or free up money that you can use somewhere else to generate the profit that you want.
Paul Ferraro
Yeah, and I might get off topic a little bit here, but I think it’s worth the conversation. It’s more critically important for people who are just starting their careers, right? Because you have an opportunity right now to negotiate your first lease. And it’s quite often, particularly when we are working with cold start practices to fall in love with a property. And we work so diligently to manage your Monthly Lease expenses as a new practice because you’re starting with patient one and Top Line Revenue is slowly coming in and to think about a $6,000 and a $7,000 a month lease compared to someone who’s been practicing 10 to 15 years and they’re doing 2 million. It’s totally different. So it starts early on to be able to manage that because depending on the term you sign for: five years, seven years, ten years, there’s escalation clauses in your leases as well. And this again is a whole another topic best saved for another day when we can bring a commercial realtor on with us to talk about this. But that’s a way to really pay attention to the costs associated with this category.
Dr.Bethany Fishbein
When you subtract out all of these categories, all these expenses now you take your million dollars and collections and you spent $280,000 on Cost of Goods, you spent $100,000 on General, you spent $300,000 I guess 30% on Staff Salaries. So what’s the significance of what’s left?
Paul Ferraro
The significance is what you bring home, if you’re not on salary yourself, right? It’s the Net Income of the business. And certainly, the more robust that percentage is, the more you bring home. And so as we work with practices, is there an ideal range for Net? Yeah. I mean, we’d like to see at least a minimum of 25% Net. At least a minimum but 30% is better and 35% is even better than that. And for those practices who are enjoying a 40% Net, God bless you. You have very good control of the categories that we’ve discussed in your P & L. You’ve got an extremely healthy Top Line and you’ve been able to manage your line items appropriately in order to drive the Net to the degree you did.
Dr.Bethany Fishbein
In addition to how much you’re taking home, the topic everybody’s talking about now is the Sale Value of the practice. You hear people talking about EBITA, multiples, and stuff like that. And that’s something that’s changed in our vocabulary, right? In the last five years, you used to really only hear people defining their practices by the Top Line, right? It was a million dollar practice, a $2 million practice or a $3 million, and honestly I started off the call with it. But we were talking about Top Line Income when I said it, so that’s okay. But now you start to hear people talking more in terms of the Sale Walue of the practice. What it would sell for talking about their EBITA and their multiples. So in addition to how much profit there is for you, the higher that number, the more valuable your business is to someone else, whether that’s an individual company or whatever.
Paul Ferraro
I agree. There is much more awareness to the relationship between Net and resale of a business. So through the years, you know, we’ve heard a variety of ways to value a practice from a percent of the Top Line down to taking a look at what the EBITA of the practice is and applying a multiplier. And the multiplier, certainly as we know varies, whether it’s a Private Practice sale or a PE sale. But it is critically important that trends begin and we have multiple-year trends that show growth not only on Top Line. Yay! I finally reached a million dollars! But more importantly, that Net is climbing respectively. Yay, I’ve reached 30%! Whoa, I’ve reached 35%! You become very attractive to people in the marketplace who are looking to acquire a business. And so excellent observation.
Dr.Bethany Fishbein
So just to wrap it all together and as interesting as we’re having this conversation, I’m thinking about some of the previous podcast episodes and things that we’ve talked about saving on your Occupancy costs by making some sustainability changes in the practice and we talked to real estate brokers about how to save their. You know it’s interesting that it all kind of comes together. But you mentioned bottom-up forecasting. And so just to wrap everything together, let’s say we’re going into the end of the year, how do you do it? How do you do a bottom-up forecast to get what you want out of the following year?
Paul Ferraro
Yeah. So we take a look at the seven categories and we put a budget together that says, “Here’s how much we’re going to spend in each of these categories to run this business.” From that, we determine how much profit we want to make against these expenses. And we mathematically back into, “It’s going to take this much on the Top Line collected in order to manage the business according to the line items to achieve this Net Income which is part of the goal.” And so in December, we set first week of January, we review the year that just closed rather than sitting and saying, “Okay, so what are we planning for a new year? Well, you know, we grew 8% this year and I think 10% is realistic.” Here we go again. We take the think out. We do it with data. And we can do a fact-based budget that says, “Here’s our goals. Here’s what it’s going to take to get there and it’s based on these series of facts.” And we would start every year with a business with a budget and through P & L review monthly we could determine, “Are we on plan? Or are we off plan?” And what are the adjustments we have to make if we’re off plan to get back on plan.
Dr.Bethany Fishbein
That’s what it’s all about. Right? That’s it.
Paul Ferraro
It’s not simple but yes, that’s it.
Dr.Bethany Fishbein
We want that bottom line number. We want to take home this amount and to do that we’ve got to collect this amount and spend this amount in all the categories. And the people who are spending know what they’re allowed to spend in their categories. And the things you’re spending yourself, you know what you’re allowed to spend on categories. If you keep up with the collections and the spend, you will collect what you want to collect. And as long as you’re keeping up with the numbers monthly, you can see right away if you’re not and be in a position to make that correction to get back on track to hit your numbers to ensure that you’re going to end the year where you want to. Rather than collecting as much as you can and spending whatever you think you feel you need and waiting until April of the following year for your accountant to get back to you and tell you how you did. It sounds so simple, but people don’t do it.
Paul Ferraro
So you often hear, “And I hope it all comes together. And what do we know? Hope is not a strategy. I’ll end on that note.
Dr.Bethany Fishbein
Yeah. Paul thank you so much. I think that this is valuable information for any practice owner or really any business owner. For somebody who’s interested in a deeper look at this with an expert set of eyes on it. We have a Practice Profitability tune-up at Power Practice where we will take a look at this report goes through it with you. Look at this. Look at the Billing Code report. Let you know where the areas of opportunity are, where you’re doing well, and where you do need to course correct to get to your goals. If that’s something that you’re interested in, please reach out to us info@powerpractice.com. You can reach me and Paul through our website www.powerpractice.com. And thank you everyone for listening. Hope this was great information for you. And I’m looking forward to seeing who you talk to next. Thank you.