business advisor

Dealing With The Recession

What happens to your practice profits when gross income declines?

JERRY HAYES, O.D.

Have you thought about what would happen to the profitability of your practice and your lifestyle if your annual revenues fell by 5% from 2008 to 2009? What about 10%?

Revenue for O.D.s seem to be holding up well, and I don't think that will happen. But, I want you to be prepared if it does.

Understanding overhead

Dispensing practices have two types of expenses: fixed and variable.

• Variable expenses. O.D.s only have one meaningful variable expense: cost of goods (COG). That's because your frame and lab bills fluctuate in direct proportion to patient volume.

• Fixed expenses. This is what you pay for rent, salaries, equipment, etc. You can choose to turn down the heat or lay off an employee, but these expenses remain relatively constant, even if patient volume goes up or down.

Three revenue scenarios

To get an idea of what happens when practice revenues decline, let's look at the overhead structure of an O.D.—"Dr. Seewell"—who has a typical dispensing practice grossing $500,000 and netting 30% or $150,000.

We'll assume the COG for Dr. Seewell's practice is 30% of collected gross revenue. Therefore, simple math tells us her fixed overhead is the remaining 40%.

Dr. Seewell's overhead and profit picture:

► Gross income = $500,000

► Fixed expenses (40%) = $200,000

► COG (30%) = $150,000

► Pre-tax net income (30%) = $150,000

What if her revenues decline? For the sake of this example, let's assume Dr. Seewell's patient load declines by 5% in 2009. The remaining 95% of her patients spend at the same rate. And, her fixed overhead stays the same.

Dr. Seewell's overhead and profits would now look like this:

► Gross income = $475,000 (down 5%)

► Fixed expenses = $200,000 (no change)

► COG = $142,500 (down 5%)

► Pre-tax net income = $132,500 (down 11.7%).

Unfortunately, the ratios are even worse when revenues decline by 10%. Lets assume Dr. Seewell's patient load declines by 10% in 2009. The remaining 90% of her patients spend at the same rate. And, her fixed overhead stays the same.

Dr. Seewell's overhead and profits would now look like this:

► Gross income = $450,000 (down 10%)

► Fixed expenses = $200,000 (no change)

► COG = $135,000 (down 10%)

► Pre-tax net income = $115,000 (down 23.3%).

Hope for the best, plan for the worst

Just so you know, I'm not into doom and gloom. But, I don't think it's smart to ignore the reality of the current U.S. economy. My advice:

A) Project your gross and net income for 2009, and then meet with your staff to discuss ways to cut costs and increase revenue.

B) Be cautious about adding new fixed overhead in office space, equipment and staff.

C) Carefully match your personal spending to your after-tax practice income. This isn't a good year to spend more than you make.

I hope that 2009 turns out to be a good (great is too much to hope for) year for you. But if business is off, I want you to have a plan. OM