In today’s ever changing marketplace, creating a meaningful practice budget is a necessity. Reimbursement challenges, health care reform and economic uncertainty are just a few of the reasons why practices should have a firm handle on their finances.
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An accurate, useful budget can be a valuable decision-making tool to analyze potential business threats and opportunities and help physician owners and practice administration make sound strategic and disciplined choices. However, too few practices actually take the time to create a budget, instead seeing the endeavor as a complex, time-consuming process that likely will not be used. This article introduces a simple approach to creating an effective practice budget.
A budget is a financial plan that incorporates a practice’s overall strategic goals and objectives. It should be used as a management tool to establish clear financial expectations that allow the practice to compare actual performance to budget. Creation of a working budget requires buy-in and accountability from owners, employed physicians, practice administration, and other key stakeholders.
The budget process can be broken down into four main areas:
- Review of historical financial statements and productivity reports.
- Assessment of changes likely to impact the practice in the future. This includes changes in professional fee reimbursement, changes in providers, anticipated capital purchases, new service lines, etc.
- Forecast of future productivity levels and operating expenses.
- Incorporation of the budget with monthly practice management reports.
Components of Creating a Meaningful Practice Budget
Creating a simple, but effective budget for a practice involves relatively few steps, but does require focus and attention. It is recommended that a practice look at each component individually before putting together the final budget. The steps below are intended to serve as a guide that will allow practices to strategically weave their way through the budgeting process and build a financially sound organization that is well-equipped for the future.
Getting started. The formal budgeting process should start two to three months before the beginning of the next fiscal year. This allows a practice time to assess at least nine months of productivity and financial reports to plan and forecast results for the upcoming fiscal year.
Involve key stakeholders. Creating a meaningful budget requires buy-in during all stages of the process from various members of the practice, including physician owners and practice management. Obtaining high-level involvement helps in the alignment of goals and in keeping all members of the team accountable for the financial success of the organization.
Assess historical data. A critical early step in the budgeting process is gathering and reviewing specific historical data to establish baselines to predict future performance. This review should include scrutiny of financial statements, physician productivity reports, employee payroll reports, building lease agreements, and the practice marketing plan.
Forecast provider productivity. Forecasting each physician’s productivity level is calculated using prior year net revenue and patient encounters; both can be found in the provider productivity report. To arrive at the total number of patient encounters, use of the following CPT codes is recommended:
- New Patients: 92002, 92004, 99201, 99202, 99203, 99204, and 99205
- Established Patients: 92012, 92014, 99211, 99212, 99213, 99214, and 99215
- No Charge: 99024 or the designation/coding used in the practice management software system
Another data point needed to forecast physician productivity is the number of clinic sessions for the prior time period. For the budgeting exercise, a clinic session is defined as a four-hour session where the doctor sees patients in the clinic. Once the data is gathered, the first step is to calculate the revenue rate per patient encounter based on the prior 12 months of data.
- Revenue Rate per Patient Encounter = Total Professional Fee Revenue divided by Total Patient Encounters
The second step is to calculate the average number of patient encounters per clinic session for the same time period.
- Patient Encounters per Clinic Session = Total Patient Encounters divided by Total Clinic Sessions
Table 1 illustrates how to use these data points to calculate a budgeted revenue amount for each provider based on his/her estimated number of clinic sessions for the coming year. While using this method is a good way to estimate provider revenue, in some circumstances it might be necessary to make adjustments to some of the revenue and patient encounter ratios. For example, if a newer physician is expected to see additional patients, it might be necessary to increase his/her estimated number of patient encounters per clinic session; likewise, if an older physician is taking more time off, there may need to be an adjustment to the number of clinic sessions projected for that doctor.
Review staffing levels. Accurately forecasting all staff-related costs is necessary because employee wages and benefits are normally the biggest expenditure a practice incurs. It is recommended practices scrutinize each employee individually and anticipate any changes in salary or benefits. This is also an appropriate time to anticipate potential new hires during the next year and include in the budget all related salary, payroll taxes, and benefits (See Table 2).
Review occupancy costs. After payroll, occupancy-related expenses (i.e., rent, building repairs and maintenance, utilities) are typically the next largest expense for a practice. It is necessary to review building lease agreements to forecast any changes for the coming year, since most leases now include automatic rent escalator clauses.
Forecast variable expenses. Variable costs are unique because they increase or decrease in direct relation to volume or level of service activity. Examples include optical frames and lenses or surgical supplies. In most cases, estimating these expenses can be done on a cost-per-unit basis if tracked to the specific product or procedure.
Prepare for capital purchases. When preparing a budget, it is important to include anticipated capital purchases such as new equipment or facility improvements. To create a capital budget, identify the anticipated purchases, estimated costs, and timing of the acquisitions. Depending on the purchase method, the practice will likely incur interest and depreciation expenses, both of which should be included in the budget.
Identify other expenses. Estimating other expenses involves a thorough review of each category to identify potential changes from historical levels. Pay special attention to major categories not mentioned above such as marketing and health insurance. A simple method for forecasting other expenses is to determine the monthly average from the prior year and multiply by 12 months. Applying a percentage cost increase (such as 3%) to factor in for price increases is recommended. See Table 3 for an example of forecasting these other expense categories.
Incorporate other profit centers. Practices can budget ancillary services such as an optical shop or ASC in a similar way to the clinic. Predicting revenue can be tied to historical performance as well as to any anticipated changes such as a new provider or location. Variable expenses such as frames, lenses, or surgical supplies can be estimated on a per-use basis; the amount will increase or decrease based on the production level. It is important to include any direct fixed expenses when budgeting a profit center, including staff, occupancy costs, and other office expenses that can be directly tied to the service line.
Be conservative (but accurate). As a general rule of thumb, it is best to be conservative when forecasting revenue and expenses. It is almost always best to aim low on revenue and high on expenses to create wiggle room. On the other hand, it is important to remember that a budget is an important planning tool and cannot be used for that purpose if it does not accurately reflect the current performance and future expectations of the practice.
Integrate the budget. Once the revenue and expense projections are complete, the budget should be compiled similar to a profit and loss statement (See Table 4).It should be integrated into monthly reports that compare actual results to the prior year and budget. These reports will help monitor results and identify variances that management can use to create corrective action plans if necessary. It is important to review and track all results and reports regularly.
A Sense of Control
When properly executed, a practice budget will quickly become one of the most valuable resources in a practice’s decision-making toolbox. A proactive, comprehensive budget gives a practice the ability to properly track results, identify areas of concern, and quickly intervene when issues arise. As mentioned throughout this article, it is essential that key stakeholders are involved throughout the process and are held accountable for meeting (and beating) the organizational goals established from the budget. The tips presented in this guide are designed to give physician owners and administrators an increased sense of control over the long-term financial success of the practice.
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About the author: Andrew Maller, MBA, is an associate consultant at BSM Consulting, where he helps develop practice management tools and resources and assists with financial benchmarking programs for BSM clients. He also assists BSM senior consultants with client projects across BSM’s areas of health specialties: eye care, bariatric services and medical aesthetics.