Optometric Management Tip # 322 - Wednesday, April 02, 2008
When is it smart to accept vision plans?
I often hear from doctors who are unhappy about the deep discounts required by vision plans, but I never hear anyone talk about why these plans can be good for a practice. Without getting into a philosophical discussion about whether vision plans are good or bad, let's just agree that they are a major presence in the current economics of eye care in the United States. They are large companies and they are here to stay. Is it ever a good idea to accept discounted vision plans? Under what conditions is it a smart business move to accept a vision plan? Let's examine the decision.
The problem with chair cost
The standard advice about whether to accept a vision plan is to calculate the chair cost for the practice and if the plan pays less than that, reject it. The old joke is that if you are losing money on each patient, you can't make it up on volume! While the joke is true, the premise about chair cost is flawed.
Chair cost is defined as fixed practice expenses divided by the number of patients examined (or the number of patient care hours). This will give you a dollar figure that represents what it costs to run your practice per patient (or per hour). Let's say we have an optometric practice with fixed expenses (everything except cost of goods) for one month of $35,000 and it performed 170 comprehensive exams. This converts to a chair cost of $205 per patient. The implication is that this practice needs a gross profit of $205 per patient just to break even. Since those expenses included the overhead of optical dispensing (but not the lab bills), we should look at the average profit from the hypothetical vision plan patient, some of whom are exam only, some obtain eyewear and some are fitted with contact lenses. Admittedly, it would be impossible to know that average figure without joining the plan and looking at the actual data, but even if you could project the average profit, you would be missing out if you only considered chair cost.
The reason chair cost is not adequate is due to another type of cost that is used in accounting and business, called marginal cost.
Marginal costs are the additional costs incurred by a business when something new is added. In this case, it refers to the additional costs incurred by accepting a vision plan. The analysis would ask the question: if I'm already in practice, what additional costs would I incur if accept XYZ vision plan? The answer depends heavily on how full the appointment schedule is. If there are openings in the patient schedule or if the schedule is set up for a slower pace because there is less than maximum patient demand, then there may be no increase in fixed costs by adding a vision plan.
We know the rent is already paid, the phone is turned on, we have electricity, equipment is in place, and we have a staff of employees. One could make the argument that more staff would be needed to handle an increase in patient volume and I would agree at some point, but let's assume for now that the added business from the vision plan is only enough to fill vacant appointment slots.
In this scenario, the marginal cost for XYZ vision plan is zero. Since there is no increase in fixed costs by accepting the plan, there is no marginal chair cost. This was an empty chair during these time slots and any profit is better than no profit.
The only cost incurred with these patients would be variable costs or the cost of goods sold. But any business is happy to have those costs because it means goods were sold and a profit was made. All we have to look at is the gross profit on an average case after deducting the cost of goods. But remember that some vision plans pay a portion of the lab bill directly and invisibly to the practice.
It's more complex
One could make the argument that it's unfair to not charge the vision plan patients with any costs. After all, there is some cost to seeing each patient and why should any group not be assessed a prorated share? Analyzing the applicable cost is fairly complex. If we make an assumption that only empty slots will be filled with vision plan patients, then the marginal cost concept would apply. If we take the other extreme and assume that vision plans eventually dominate the practice, then the traditional chair cost concept applies because all fixed costs go into the service provided to vision plan patients.
Those extreme examples are simpler to look at, but neither one is often reality. The fair cost assessment is somewhere in between. Which leads us to taking a hybrid approach to the cost aspect of accepting vision plans; there is some increased cost in seeing these patients, but if the appointment schedule is not full, we need not assign the full cost of seeing a patient. For many practices, the answer may be to accept some of the better paying vision plans and to try not to let them dominate the practice.
The appointment schedule is a key factor in the decision to accept vision plans. A good analogy is in the commercial airline business. If an airplane is going to take off with empty seats, would the airline do well to sell a last minute ticket at a discount? Yes. Is there any cost to the airline to allow a standby passenger to take a seat that would have been empty? No (except for a bag or pretzels).
There are more factors to consider in analyzing vision plans and I'll cover those next week.
Best wishes for continued success,
Neil B. Gailmard, OD, MBA, FAAO
Chief Optometric Editor, Optometric Management