Liquidity is vital to practice

As ophthalmology profits soften, it is essential to have practice operating reserves and contingency plans in place.

Issue: March 1, 2002

ByJohn B. Pinto

Novelist W. Somerset Maugham once wrote, “Money is like a sixth sense, without which you cannot make a complete use of the other five.” Most ophthalmologists are reminded of this in the first few months of every year. The first-quarter profits in most practices tumble with a slew of seasonal adversities:

With the onset of winter and the departure of snowbirds from northern latitudes, about half of the country’s eye surgeons have a drop in elderly patient volume. (Of course, this is offset in southern practices, where the snowbirds roost.)
Snow days can slaughter an entire week of patients in the toughest climates.
Physician vacation time is often at a peak in the winter, not only for legal holidays, but for vacations south (for some) and to the ski slopes (for the rest).
Practice costs tick up a notch with year-end lease escalations, cost-of-living staff raises, increased utility costs and vendor price hikes.
A physician may draw from the practice increase to catch up with underfunded tax deposits and holiday vacation spending.
Medicare payments slow down as patients try to delay as long as possible the cost of the new year’s deductible.
Optical sales are sluggish, as the buying public shakes off their holiday spending hangovers.

None of these individual hits are all that traumatic, but taken together they can shove weak practices over the cliff and nudge even the strongest practices into a short-term deficit. In the last decade, these oscillations into first-quarter deficits have been getting just a little worse each year. And this normal first-quarter tumble has been exaggerated this year, particularly in refractive surgery practices, which are weathering a continued recession in most parts of the country (and slowly coming back elsewhere).

It’s now a perfect time to discuss how you can get off this unpleasant roller coaster, or at least smooth out your ride by the time winter of 2002/2003 arrives. And while we’re at it, let’s discuss the other common cash-shortfall situations. Here are four simple lessons.

The practice treasury

Most countries have a treasury department, and keep significant reserves — real treasure, as in gold bars — to back their currency and as a store of national wealth. Most corporations of any stature also follow a strict treasury protocol, keeping a portion of their capital locked up as a reserve against future calamity and future opportunity. In a roundabout fashion, mature eye surgery practices have a kind of “treasury”; it’s not gold bars kept in a vault, but the personal wealth of the constituent surgeons. If the practice hits a lull, the doctors can simply forego their salaries for a few months. If the lull is prolonged, the owners can make a loan to the practice.

Younger doctors and surgeons who are less careful with their personal wealth often don’t have this cushion. They can’t forego a salary, and they can’t make a loan to their practices. I’ve been consulting with several such surgeons recently, surgeons hit with the quintuple whammy of a recession, Sept. 11, a portfolio of depressed tech stocks, an excessive focus on LASIK surgery, all on top of the usual first-quarter blahs. Many of these doctors now face corporate or personal bankruptcy because they didn’t have sufficient reserves on hand.

How much in reserves is enough? This is a complex question, with several interconnecting parts:

How fast is the practice growing and what are your profit margins? If profit margins are low, you have less cushion for error or a general economic slide than if your margins are high.

How old are you? If you are 40, and have 25 years to recover from a business miscalculation, you don’t need the reserves of a 60-year-old.

How vulnerable is your retirement portfolio? If you’re nearing retirement age and are financially secure, there’s nothing wrong with taking one last, dicey business fling. The converse is also obviously true.

How vulnerable is your payer mix? If you have a typical geriatric practice, the majority of your payments are as secure as the U.S. government. If you have an elective LASIK practice in a company town vulnerable to massive layoffs or depend on a single, large, year-to-year capitated contract, your cash flow is far less secure.

As a general guideline, I like to see clients have at least 3 to 6 months of overhead expenses readily accessible. For example, if it costs $45,000 per month to run your practice — pay staff, rent, utilities, etc., but not your salary — you should have at least $135,000 to $270,000 in reserve. Depending on the tax ramifications of your particular legal form of business, it may be necessary to keep these as personal, not corporate or partner, reserves available to infuse your practice with cash.

For many readers, it may not be practical to commit reserves of this magnitude immediately. But you can establish a formal reserve account and a schedule for building this to the specified level over several years. If you own a large practice building, it’s reasonable to have a separate reserve account for this property. There are property management consultants who can tell you what your reserve account should be, based on the age and condition of your facility.

Capital loans and credit lines

Some practices are more cyclical than others. This is largely related to practice location and the “snowbird effect.” If you don’t have a reserve account, a “treasury,” built up yet to buffer the highs and lows of the practice, you critically need to arrange credit facilities. Lines of credit are important to negotiate and have in place, even if you are not expanding and already have reserves on hand. Again, it’s reasonable to have 3 to 6 months of practice overhead at your ready disposal.

Disability and life insurance

An entire article and more could be devoted to discussing the appropriate disability and life insurance coverage for surgeons in various circumstances. For the sake of brevity, simply understand that the chief difficulty of planning for personal disaster is imagining that disaster can happen in the first place. Seek out one or more competent local advisors (your accountant, fee-only planner or insurance broker) and take their advice on the proper level of coverage to meet your circumstances.

Annual budgets

Underlying this article’s discussion is the concept that you need to be able to forecast various contingent scenarios, and then play though all the “what-ifs?” The ideal starting point is to have an annual budget for your practice. If you can lay out the month-by-month expected revenue and expenses, it’s much easier to do contingency planning. With Excel or any similar spreadsheet program, you can quickly assess the impact of losing a doctor from a practice, closing down a satellite office or dropping out of a managed care plan.

Economic risk management and contingency planning is not yet a common management skill in ophthalmic circles. It’s fascinating to note that one of the truly excellent texts of practice financial management, “Financial Management for Medical Groups,” by Earnest Pavlock (published by the Medical Group Management Association) still has no index citations for liquidity, reserves or practice treasury.

This would be unheard of in a general business finance and accounting text. But I guess that’s not entirely surprising, since the typical medical practice runs double-digit profit margins, while the typical “real” “business more often runs single-digit profits, or at best profits in the low teens. As the operating margins of ophthalmology and ambulatory care realistically come to ever more resemble the margins in general business, we’ll all have to master the language, the habits and the caution of our colleagues in these more commercial environments.