Article Date: 6/1/2005

Breaking Through "Average"

"I didn't go to optometry school to settle for being average." This sentence was the first of many that quickly let us know that Dr. Natasha Davern wanted more than "okay."

Taking pre-emptive action

Dr. Davern had been out of school for eight years, worked four days a week and had a net of 19%, or \$109,250, in 2002. According to the American Optometric Association annual report, Caring for the Eyes of America, 2004, the mean net income of an optometrist with less than 10 years experience was \$117,857 in 2002. An employed O.D. working for an optometric practice earned \$90,438 (mean net income).

Consequently, Dr. Davern was earning less than other O.D.s with her same experience and only slightly more than an O.D. employed by another O.D. Given her low net income, she wondered if it was really worth it to be in private practice. She also said that her biggest fear was that she'd wake up one day and realize that she was 50 and was still doing things the same way she'd done them five years out of school.

Looking back to go forward

A historic look at her financial growth showed a practice that had stalled. Let's look at Dr. Davern's revenue growth rates:

When she opened her practice, she had signed up for a lot of managed care plans. She said that she'd done this because she wanted to fill the books and thought it would be better to be busy than limp along with three or four patients a day.

While it was true that she was now booked two weeks in advance, she was afraid that her average patient mix was pulling her into a cycle of mediocre net. Her Profit and Loss Statement for 2002 is shown above.

Calculating costs

Could Dr. Davern be more profitable if she changed her mix

of managed care plans? The solution lies in the answer to the question, "How much do you have to charge to stay in business?" A quick financial evaluation to determine if a plan is profitable is to calculate chair costs — as in, "What is the cost incurred each time a patient sits in the exam chair?" You can calculate chair cost per patient or per hour.

Dr. Davern was considering eliminating one of her poorest paying plans. To maintain anonymity, let's call the plan the ABC plan. Because Dr. Davern was considering eliminating 25% of her patients or 718 patients, we calculated chair cost per hour and per patient.

• Chair Cost per Patient = Fixed Cost ÷ # of Complete Exams
• Chair Cost per Patient = \$258,750 ÷ 2,875 = \$90
• Chair Cost per Hour = Fixed Cost ÷ # of Hours
• Chair Cost per Hour = \$258,750 ÷ 1,176 = \$220

To determine chair costs per patient, we divided her fixed costs (all expenses except Cost of Goods Sold) by the number of comprehensive examinations she saw in 2002. Chair cost per patient was \$90.

We also calculated chair cost per hour by dividing total fixed costs by the number of hours she was available to see patients during 2002. Dr. Davern's office was open from 9 to 5, she took one hour for lunch and spent one hour per day on management. In addition, she took three weeks of vacation per year, which meant that she was actually available to see patients 1,176 hours in 2002. Chair cost per hour was \$220.

According to the sampling we did of ABC plan patients, the total average fee collected was \$152. Her average cost of goods (COG) on ABC patients was higher than her overall practice average of 36% — this patient group had a COG of 47%. Therefore, her gross profit (revenue minus cost of goods sold) was only \$81. Dr. Davern's gross profit on ABC plan patients was not high enough to offset the chair cost per patient of \$90. Quite obviously, she was losing money on her ABC patients.

Don't forget compensation

Remember, the formula for calculating chair costs is the same as the formula for calculating the break-even point. This means that the doctor's compensation is not included in chair cost. If you want to calculate chair cost per patient including reasonable compensation for yourself, you would add reasonable O.D. compensation to fixed costs before dividing by the number of complete exams.

Create the right image

There are ways to attract and keep patients that aren't price driven. Consumer research confirms that offering the lowest prices in town and trying to be all things to all people creates a patient base that may think you're okay, but won't be willing to spend money with you on premium products or non-covered testing. In essence, trying to be all things to all people confuses your patient base.

To survive and thrive, it's essential that today's eyecare practitioner achieve what marketers refer to as top-of-mind awareness.

Before Dr. Davern agreed to a radical image makeover that included shedding a managed care plan that was weighing her down, she wanted to know how switching from a managed care practice to private pay would impact her bottom line.

During the prior 12 months (2002), the practice saw a total of 718 ABC plan patients, which totaled \$109,136 in revenue. With an average cost of goods sold of 47%, or \$51,294, her gross profit was \$57,842 (\$109,136 x 53%). Without the ABC plan, total revenue would have been \$465,864 (\$575,000 total 2002 revenue minus \$109,136 ABC plan revenue) and total cost of goods would have been \$155,706 (\$207,000 total cost of goods in 2002 minus \$51,294 ABC plan cost of goods) or 33%. That's a three-point drop in cost of goods.

The potential "side-effects" of this makeover were that if she didn't make any other changes to her overhead structure, her net would decrease from \$109,250 to \$51,408 or 11% (\$465,864 revenue without ABC plan patients minus \$155,706 cost of goods minus \$258,750 fixed costs).

We repeatedly emphasized to Dr. Davern that if she eliminated 25% of her patient base without proper strategic planning and implementation, her net would plummet.

Watch out for COG

Our analysis of the practice's participation in such a low reimbursing managed care plan was that her average revenue for this patient type of \$152 was low compared with her practice revenue per patient of \$216 (\$575,000 total 2002 revenue minus \$109,136 ABC plan revenue divided by 2,157 non-ABC plan patients) without the ABC plan.

Typically, when a practice is doing too much managed care, it has high Cost of Goods. Cost of Goods Sold of 36% was significantly higher than the recommended range of 27% to 33%. And, her Cost of Goods Sold for ABC plan patients of 47% was extremely high. This is because fee changes don't impact patients with plans who have set reimbursements.

Is it worth the risk?

Was the risk of extreme change worth the possible benefits?

Because raising fees does not impact higher cost of goods associated with managed care plans, we suggested she drop the ABC plan. We estimated that if she did this without implementing our other management suggestions, her net would decrease from \$109,250 or 19% to \$51,408 or 11%. Simply put, this business decision had to be supported by re-evaluating other business expenses, including staffing levels.

To improve her net while possibly decreasing her gross, her radical makeover involved implementing the following, with careful consideration of the implications:

• Maintain staff salaries and benefits at 21% of collections
• Maintain general office overhead at 9% of collections
• Selectively raise fees by 15% overall
• Drop the ABC insurance plan
• Implement internal marketing tactics
• Execute staff training that focused on professionalism and VIP service.
 Pro Forma Profit and Loss New Revenue New Cost of Goods Sold New Staff Salaries & Benefits Occupancy Costs Patient Care Costs Marketing and Promotion General Office Overhead Practice Net

What if it works?

What would happen if the makeover was successful, if Dr. Davern dropped the plan and followed our overhead control plan at the same time? If she implemented the items above, we estimated that her Profit and Loss Statement would improve significantly. Her revenue per patient prior to dropping the ABC plan was \$200 (\$575,000 divided by 2,875 complete exams).

By implementing our recommendations, we projected that her revenue per patient would increase from \$200 to \$248 and her cost of goods sold would decrease from 36% to 29%. The following Pro Forma Profit and Loss shows our projections for Dr. Davern's 2002 Profit and Loss Statement if she didn't have the ABC plan. Her fees were 15% higher, her staff costs were 21% of revenue and her general office overhead was 9%.

By making these changes we projected that her net would increase from \$109,250, or 19%, to \$133,065, or 25% — that's an increase of \$23,815 by dropping a managed care plan that accounted for 25% of her patients in 2002.

Although Dr. Davern's occupancy costs as a percentage of collections increased, we knew that as her revenue grew, it would decrease. In addition, the cost of Dr. Davern's patient care and equipment were expected to go down over the next couple of years as she paid off equipment purchases. We also encouraged Dr. Davern and her staff to find ways to reduce expenses included in the general office overhead category.

 Before After Staff in Scrubs Staff in Business Attire Visual Problems Not Discussed Lifestyle Questions Routinely Asked Laser Vision Correction Never Mentioned Instrumentation Upgraded and Staff Educated About Optometry's Role in Primary Care Patients Wearing Contacts Asked for Contacts Patients Routinely Dilated Frame Selection That Met Managed Care Plan Guidelines Patients Educated as to the Full Spectrum of Vision Correction Options Optician Daily Repairing/Tightening Screws On Plan Eyewear 15% of Frames Fashion-Forward and 100% With Written Quality Warranty Only Diabetic and Glaucoma Suspects Dilated Weekly office meeting & a formal staff training program No formal staff training program All staff regularly attend professional meetings and everyone has passed the AOA's CPO test Optician ABO certified with all other staff members "trained in-office" Technician is NCLE as well as CPOT

Don't forget this part

We stressed that this was a radical makeover because it was important to note that she must implement all of the recommendations simultaneously, including a reduction in staff hours, or her net would not be as high as estimated. In fact, she could experience a reduction in net.

Happily ever after?

Dr. Davern aggressively implemented our plan. We carefully monitored her vitals (monthly financials) to make sure she was making progress.

Dr. Davern naturally assumed that she would lose patients. However, to our delight, her community responded positively to her image change. Not only did she not lose patients, her and her assistants' use of customer service techniques lead to an increase in patient referrals. The greatest key to grow her patient base was effective patient communications. As of the end of 2004, Dr. Davern's revenues had increased to approximately \$600,000 — not bad after dropping 25% of the patients she saw in 2002!

Like it or not, optometry is a business. And when you're in business, you make decisions based on a financial budget and invest in staff training and systems that support a customer-first mentality.

 Ms. Blackwell, president, Blackwell Consulting, (800) 588-9636 Ms. Suter, president, Suter Consulting Group, (423) 236-5465, team up to offer financial guidance and on-site consulting services designed to increase your gross revenue and improve your net income percentage.

Optometric Management, Issue: June 2005