Is Chair Cost Relevant In An Era Of Managed Care?
I still get the occasional email from an OD asking me how to calculate so called ‘chair costs’. You know, that pesky dollar figure an optometrist must produce on a per-hour or per-patient basis to support his or her practice overhead.
The usual rationale for calculating chair costs is to make sure you don’t price your services below what it actually costs you to provide them.
However, I have always questioned whether this is a good way to measure the expense side of your practice.
To illustrate why, let’s take a simple example of a doctor who is grossing $400,000 and netting 30%, or $120,000.
Assuming his Cost Of Goods Sold (COGS) was 31%, the Fixed Overhead for his practice would be 100% - 30% (net) - 31 % (COGS) = 39% of his collected gross revenues.
That means he is spending 39 % x $400,000 = $156,000 for his rent, staff salaries, marketing, equipment, supplies and general office overhead.
If this doctor sees patients 30 hours per week, 46 weeks out of the year, his 'chair time' is 30 hours x 46 weeks = 1,380 hours per year.
To calculate his chair costs, we divide his Fixed Overhead by the number of hours he sees patients. In this case, $156,000/1,380 hours = $113 per hour. That is how I would calculate chair costs.
What that tells me, in theory at least, is that this doctor must generate at least $113 per hour in gross margins (that is what he collects over and above his Cost Of Goods) to pay his Fixed Overhead. Only then does he start making money for himself.
The Trouble With Chair Costs As A Management Tool
Yes, I understand the math. But I personally don't like Chair Costs as a management tool for these three reasons:
1. The concept of chair cost implies that if there is a problem, it lies with the fees charged, not the way a doctor is managing his overhead.
However, I have consulted with many low-net (29% or below) optometrists, who had adequate gross revenue, but didn't do a good job of managing their expenses. Overstaffing, for example is sometimes a problem. When that occurs, you inflate the chair cost figure.
2. Chair cost is a difficult management tool to use because optometrists don’t produce income in fixed units of time the way taxi drivers or lawyers do.
In the real world, some no-charge follow‑up visits take longer than a complete exam for which you receive a fee. That’s just the way it works when you charge by the procedure instead of by the hour.
3. Finally, if the chair cost number is too high, it doesn’t tell you what to do about it. In the past, our hypothetical doctor was simply advised to raise his fees to private pay patients to match his cost of doing business.
Now doctors often find themselves in a situation where they can’t pass on increased operating costs in the form of higher prices to the managed care portion of their patients.
It’s The Net That Counts
It’s been my experience that many optometric practices have room to reduce their overhead and still provide the same high level of care.
So, if you’re not in a position to increase your fees, I recommend focusing some of your management energy on controlling the expense side of your practice.
In my opinion, the most practical way to do that is to assign an annual budget number to each of your key expense areas. For example, if your gross income is $400,000, you might create a budget like the following:
Desired Net Income $120,000 30%
Cost Of Goods $124,000 31%
Staff Salaries And Benefits $72,000 18%
Occupancy Costs $32,000 8%
Examination Equipment $12,000 3%
Marketing $8,000 2%
General Office Overhead $32,000 8%
Total Gross Income $400,000 100%
Unlike calculating chair costs, creating a budget like the one above helps you locate specific problem areas and address them directly. If you do that, you’ll find your expenses going down and your net income going up.
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Disclaimer: The information and opinions contained on this site are for discussion purposes only and are NOT intended to serve as legal, accounting or investment advice. ©2009 Jerry Hayes, OD. Not to be reproduced without written permission of the author.
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Effective budgeting is vital.
Effective budgeting is vital. However, chair cost is a real number.
I think every OD must have a good idea what their true chair cost is to facilitate evaluation of third party plans. Participating in vision plans that fail to meet basic chair costs is a more common cause of low net and professional frustration than poor budgeting.
I rarely see a private OD with chair cost under $150/hour. That makes $50-$60 vision plan reimbursement unprofitable unless one can see 3-4 exams per hour.