The new economic reality

Heads have been spinning for months over news of layoffs, restructuring, bailouts, bank failures, TARP funds, Keynesian economics, Reagan-omics, Obamanomics, GDP, Socialism, Capitalism, nationalized health care, nationalized private businesses, wealth redistribution and higher taxes.

Expect the panic to end by July 4 — barring further political surprises.

Meanwhile, what are we to do?

Simple answer: Get our houses in order, which means getting a grip on practice cash flow.

Veterinarians have not received economic training except those of us who have an outside interest in the soft science of business.

But those in position to make decisions for our practices can develop a business plan that meets today's challenges and realities.

Answers to these current economic questions will have a bearing on our practices:

• Will the stock market ever get back to 14,000? (It will be a long time.)

• Will housing prices ever rebound to 2007 levels? (It will be a long time.)

• Will consumers ever rebound to the "free spending" ways of recent decades? (Unlikely.)

• What are the stimulus packages doing for us in the short and long term? (Look at California.)

• Will the current and new entitlement affect us five or 10 years down the road? (Yes.)

It all comes down to four issues: housing, the tax wedge, the long-term consequences of the downturn cycle and the unintended consequences of intended political decisions.

These are the core issues that affect our small businesses and future.

The housing boom drove the economy for the last decade (more or less) as people pulled equity out of their homes for cars, home improvements and a dialed-up lifestyle including veterinary services.

This type of financing is dead, so earned income will pay for future veterinary services.

The tax wedge

The tax wedge is what we really need to watch because it specifically affects disposable income.

What is the tax wedge?

It is the percent of earned income that goes to the government before workers get paid. A bigger wedge means more of the paycheck goes directly to the government. The smaller the tax wedge, the greater the take-home pay. The more take-home pay, the more there will be for discretionary spending, including that for veterinary services.

The tax wedge is expected to start going up in the next two years and likely will keep rising over the next decade.

The current tax wedge is about 30 percent. It likely will exceed 40 percent and might even hit levels seen in Europe, about 46 percent.

It took gasoline prices of over $4 a gallon to change American driving habits. Similarly, when the tax wedge exceeds 40 percent there will be a disincentive to work, cutting discretionary dollars still more.

Each state and community will have differing tax wedges that we all need to consider for our specific practice locations.

Then, considering our niche and business plan, we can adjust to ensure we are positioned to be next to the "new railroad tracks" coming to our town.

Many of us don't want to understand the importance of numbers. The veterinarian's mantra has been: "I went into medicine because I did not want to go into business."

It's time to change that.

In the business arena, we'll soon be in trouble if we worry only about clients' take-home pay.

The Dale Carnegie sell-sell-sell mentality is foreign to many veterinarians and rightly so. That was aimed largely at selling products and services that consumers may not really need or want.

A considered "triumph" of that marketing technique was when many cars got more oil changes and premium gas than the manufacturers recommend.

Imagine selling excessive, unwarranted medical procedures to unassuming human consumers.

It is happening, but it is not good medicine. Instead it erodes confidence in the profession.

Steps to improving profit

In our practices it is essential to be careful with incentives.

In this economy, selling clients anything that is not indicated will lead to a backlash.

Ethical selling is based on the triad of risk, benefit and cost. It instills consumer confidence, which is essential for a thriving practice.

How to apply this triad?

STEP 1: Scratch from memory most financial data prior to 12/31/07 and start anew. Yes, make 2008 your new starting point, your new baseline.

Practices with little or no profit, also known as "no-lo" practices, face the biggest challenge. But, like a small boat, they can be turned around more quickly than larger "oil tankers."

STEP 2: Revisit expense-groups analysis. Your expense-number trends tell a story. Expense analysis needs to be a routine mental exercise that we perform monthly, semiannually and annually, making adjustments at each interval.

The biggest obstacle is the murky understanding of profit-and-loss statements. A sound understanding of expenses is a starting place. Uniformity and consistency are key.

When we look at all the "benchmarks" for our review, they come down to the median and mean numbers from more than 20 practice niches.

But throw in banker business proformas and expense analysis gets muddled.

A glaring example of the muddle is that in at least one bookkeeping system all taxes are placed in one grouping under "other general expenses," a fixed-expense group.

In that example program, employee veterinarians and support staff are in the same group. (It drives me crazy.) Veterinarian salaries and all their expenses, benefits, taxes and such are separate from "fixed and variable" expenses.

STEP 3: Consider the three sets of books all businesses need: IRS forms, accountant's books and the cash-flow book. Cash-flow books are best in the accrual format, but usually are considered monthly and annually based on actual cash flow.

(The accrual cash-flow assessment allocates all bills related to a given month to that month even if it is paid during another month.)

Other mind tricks take place in the accounting world. It sounds weird, but take depreciation and interest expenses. The IRS considers these deductible expenses, but really they are "profit" numbers — what is left after fixed and variable expenses and veterinary salaries are paid.

Consider the accountant books. Generally accountants use the terms "gross and net profit" with only drugs and supplies being subtracted from gross revenues (variable expenses).

In reality it is the variables (drugs and supplies and support staff labor) that are taken together in determining gross profit.

Cash-flow analysis businesses use the "variable expense" listing to set fees (prices), bid jobs and project the cash needed to flow during the year.

Let us define the terms for cash-flow analysis, as this is to be the homework for the month.

Fixed expenses

Fixed expenses are those that occur weekly, monthly and annually and are not linear with regard to income. The two fixed-expense groups are rent (the facility) and other general expenses.

RENT: Amount paid for the space only; it does not include utilities, maintenance or insurance. It is also the mortgage payment.

OTHER GENERAL: Those expenses associated with the hospital operation. Reaffirming the point — these expense are not linear with income. In this group are utilities, computer expense, office supplies, printing, maintenance, repairs, advertising if less than 3 percent, business insurance (but not insurances associated with employees), accounting, legal expenses.

Specifically excluded are interest, equipment rental, employee expenses, advertising over 3 percent and education expenses.

Variable expenses

The two groups of expenses associated with these are "drugs and supplies" and "support staff labor."

DRUGS AND SUPPLIES: These include items specifically used for animal care: bandages, needles, dispensed medications, administered medications, catheters, fluids, anesthesia agents.

SUPPORT STAFF LABOR: This includes everything associated with support staff, including gross payroll number, employer share of Social Security, all insurances and benefits, including discount clinical services and goods. Specifically included here are "management costs."

VETERINARIAN SALARIES: Practice costs associated with all clinician animal-care duties. Included in this group are all taxes, benefits and Social Security shares.

One source of confusion is the "owner" salary. The owner's clinical floor duties are allocated and paid just like all the veterinarians on staff.

PROFIT: "Net profit" is all else that has not been accounted for previously. The academic basis for this revolves on the premise that "a health business should be able to purchase itself."

This means in short that it is net profit that retires short-and long-term debt, funds new services and equipment and education and pushes the practice into new areas.

Profit is what is needed to return to the investors, be it solo proprietorship or corporation, funds that justify the investment, also known as "capitalization."

And with some controversy it is offered that advertising and promotion over 3 percent is charged to the profit group as well.

Interest, depreciation and the down-paying of long-term debt are specifically included in this profit grouping.

Various corporations tend to address these profit issues in differing ways, but the recommendation from here is to get all data on a simple table for side-by-side, month-to-month and year-to-year comparisons.

Note in Table 1 that all "expense groups," including profit, add up to 100 percent.

So, the homework this month is to get your numbers into the following chart and then in the next article we will discuss what to do with this data.

Dr. Riegger, dipl. ABVP, is the chief medical officer at Northwest Animal Clinic Hospital and Specialty Practice. Contact him by telephone or fax (505) 898-0407, Riegger@aol.com, or www.northwestanimalclinic.com. Find him on AVMA's NOAH as the practice management moderator. Order his books "Management for Results" and "More Management for Results" by calling (505) 898-1491.