The two biggest opportunities to improve profitability in most practices are to reduce labor and inventory costs. Labor costs typically account for 30% to 50% of revenue in most practices, depending on the structure of the practice. Inventory and related services such as radiology and laboratory costs account for 15% to 35% of revenue in most practices, depending on the structure and type of practice.
For every $1 million in revenue, every reduction of labor and inventory as a percent of revenue, increases profitability, assuming that savings isn’t lost or invested somewhere else. Every 1% reduction in costs and complementary increase in profitability equates to $10,000 in added profits. A 5% reduction in costs would yield $50,000 of added profit for every $1 million in revenue. For a $5 million per year practice, this would equate to $250,000 of added profit.
Since practices are valued based largely upon a multiple of earnings or profit, reducing labor and inventory costs can dramatically increase the value of the practice as well. If the practice is valued at 6 or 7 times earnings, that $250,000 in added earnings could add as much as $1.5 million to $1.75 million in practice value.
Manage your labor and inventory costs closely. Improve your profitability. Grow the value of your practice!
