– that is, the cost structure supporting the generation of revenue within your practice. Once you know your overhead, you can consider options for managing both costs and revenue during this critical period and beyond.
Based on the flood of questions I’ve received, it appears that many private practitioners do not know how to do those things. Those who do are prone to comparing their overhead figures with those of other offices or with some arbitrary national average. For example, an internist who has calculated his or her practice’s overhead at 65% is dismayed when a surgical colleague reports an overhead of only 35%. Or perhaps the internist reads that the “average” overhead for a practice of that size should never be more than, say, 50%.
First, it is essential to compare apples to apples. Medical practices have entirely different cost structures than do surgical practices. Within those categories, overheads can still vary widely. For example, a neurologist who spends most of the day doing consults in inpatient settings will have substantially different costs than does a dermatologist whose practice is almost entirely office based. Even within similar practices, what one office incorporates in its cost structure may be quite different than another. One may include performance bonuses, while another may factor in automobile allowances – or not. It is important to understand what you are comparing.
Once you have a firm understanding of your overhead, you must decide how to measure it. Typically, that is done as either a percentage (expenses divided by revenue) or as a straight dollar figure.
While everyone’s situation will be different, most accountants and practice consultants recommend looking at percentages. As I have written many times in the past, lower overhead cost, in dollars, doesn’t necessarily mean lower expenses. If your practice can generate more revenue by increasing your expenses, the higher revenue per dollar will result in a lower percentage.
For example, hypothetical Practice A generates $1,000,000 per year on costs of $500,000; Practice B generates $3,000,000 on costs of $1,000,000. Practice B has double the overhead costs of A; yet it brings in triple the revenue, generating more revenue per dollar spent, and making its overhead percentage lower (33% vs. 50%).
Of course, to manage your overhead percentage, you must look at both costs and revenue. Once again, everyone’s situation is different; but here are some general tips for managing costs:
- If you don’t have a budget, create one now, and measure your actual costs against it. Many private practices still operate without budgets, but you can’t manage what you don’t measure.
- Understand your costs. What drives them? What causes them to increase? Which ones are fixed, and which are variable?
- Get competitive bids on a regular basis for supplies, equipment, and outsourced services. Review your invoices monthly to ensure there is no “cost creep” – extra charges, or continued charges for discontinued items. One practice I worked with discovered that it was still making monthly lease payments on equipment that it had disposed of years before!