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AAOS Now

Published 9/1/2015
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Thomas J. Grogan, MD; Michael McCaslin, CPA

Calculating Overhead: What It Really Costs to See a Patient

The conventional definition of overhead is simply the cost of doing business. In an orthopaedic practice, overhead is the money spent to provide goods and services to patients. Managing overhead is a challenge for any orthopaedic practice, but being able to accurately calculate and control overhead is critical for orthopaedic surgeons to control their practice finances.

The first key to controlling overhead is being able to measure it. Typically, an orthopaedic practice has two types of overhead—fixed and variable. Fixed overhead consists of those recurring expenses that generally do not change, such as rent and/or mortgage payments, equipment lease or rental fees, phone charges, property taxes, business insurance premiums, full-time personnel costs, and office cleaning costs.

Variable expenses—the second type of overhead—are those costs that change from month to month, depending on the type of patients seen and the services required to care for those patients. Examples of variable expenses include radiographic imaging consumables, office maintenance, imaging costs, bracing and casting supplies, injectable medications and supplies, and variable personnel costs, such as hourly wages for therapists.

Often, overhead is considered “bad,” and a primary goal of many businesses is to lower overhead. This would seem to make sense, considering that gross revenue minus overhead equals income. Thus, decreasing overhead should lead to increased income. However, based on data from a survey of orthopaedic practices across the country, lower overhead does not typically result in higher income.

In larger practices (especially those with more than 10 orthopaedic surgeons), adding advanced imaging capabilities, a surgery center, physician extenders, and physical therapy enhances the practice’s ability to perform more revenue-producing tasks. Although these services may add more marginal overhead to the practice, they can also increase revenues proportionately, thus increasing physician income.

Smaller and solo practices will benefit from a more disciplined approach to overhead management. Smaller practices may not have the volume necessary to offset the costs of acquiring and developing new revenue sources.

Technology and overhead
One of the interesting evolutions in orthopaedic practices over the past 5 years has been the impact of technology. Practices that have become more technology-driven have been able to reduce or completely eliminate medical records and dictation staff and departments. This, however, has not lead to a net reduction in staff or space utilized, because these “overhead” expenses (staff and space) have been replaced with revenue-generating staff and activities (physician extenders, physical therapy).

One of the best ways to start evaluating the impact of current overhead on a practice is to measure it. Table 1 lists current overhead examples that can be measured in a practice. Using the concept of wRVUs (work relative value units) can be very helpful in understanding the impact of overhead.

The CODE-X program, available through the AAOS, enables any practice to convert the orthopaedic work performed into wRVUs. The number of wRVUs performed can be compared on a day-to-day, month-to-month, or year-to-year basis, and varies by orthopaedic specialty. In pediatric foot and ankle practices, for example, between 7,000 and 8,000 wRVUs are typically performed each year. A spine practice, however, can generate up to 13,000 wRVUs annually.

Both the year-to-year change in wRVUs, as well as the revenue and overhead costs per wRVU, can be measured and are useful in predicting the impact of overhead changes to the practice. For example, the total overhead for a solo practice that performs 8,000 wRVUs per year is approximately $25,000 per month. The actual overhead cost per wRVU is $37.50 ([$25,000 × 12] ÷ 8,000).

Similarly, the practice can determine its revenue per wRVU by dividing the total revenue by the number of wRVUs performed. In this example, if the total practice revenue is $800,000, the revenue per wRVU is $100 ($800,000 ÷ 8,000). Therefore, the net revenue to the practice per wRVU is $62.50 ($100 – $37.50). This would generate a take-home income of $500,000 per year for the orthopaedic surgeon.

This information is critical to know when assessing the impact of a new insurer contract. Remember, in most practices, the amount of work performed by an individual physician is typically fixed. Most orthopaedic surgeons work at close to 100 percent of capacity. If the practice accepts a new contract, overhead will essentially remain the same. But the contract terms may decrease the revenue per wRVU by 15 percent or more (Fig. 1). Simple math shows that dropping the revenue per wRVU while maintaining current overhead per wRVU means less income to the surgeon. If the surgeon is not operating at capacity, different metrics would be applied in considering the contract.

Similarly, if the lower revenue contract rate can be coupled to an increased patient flow through ancillary revenue streams or managed by practice extenders, the individual surgeon’s take-home income may actually increase.

The business of orthopaedic surgery is complex and changing, but one of the most important things we as orthopaedic surgeon can do to control our practices is to understand the impact of revenue and its offsets. That simple business equation can be the key to understanding variations in compensation for orthopaedic surgeons.

Thomas J. Grogan, MD, is an orthopaedic surgeon in private practice in Los Angeles. Michael McCaslin, CPA, is a principal partner at Somerset CPAs, Indianapolis.