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Mind the Gap

Mind the Gap

By Michael Stier

Many business owners wonder how much their business is worth and how they stack up against their competitors. Take the traditional “country club valuation,” for instance: A group of four business owners goes out on a Sunday to play a round of golf. One owner has just closed a deal and sold their manufacturing company for millions of dollars. A fellow golfer, who owns a business in the same manufacturing space, thinks, “I could probably sell my company for that.” But what should the business owner sell their business for? What are the owner’s personal and financial goals? 
When talking about buying and selling companies, many business owners get caught up in the purchase price, when the real number they should be focused on is net proceeds. The “net proceeds” of the sale refers to the cash the owners get at the close after taking care of all expenses, such as investment banking and transaction fees, accounting and legal fees, debt from the business, holdbacks and earnouts, seller financing and, of course, taxes.

Although the net proceeds number is critical to determine what your business should sell for, it is only part of the equation. Net proceeds help establish the three financial gaps in your life. Those gaps are the solution to deciding what your business must be sold for in order to live a fulfilled life after exit. 

The Three Gaps: Wealth, Profit and Value 

When thinking about selling your business, timing and what it would fetch, ask yourself the following questions: 

• What do I want to do after I sell? And do I have the money to do it? I.e., Wealth Gap 

• What are the best-in-class businesses in my industry earning? How far is my business from that profit margin? I.e., Profit Gap 

• How valuable is my business if I sold today? If I took it to market right now, would it fetch anywhere near what best in class businesses in my industry might? I.e., Value Gap 

Let’s review each of the different gaps in detail. 

Wealth Gap 

Your wealth gap is the difference between your current wealth and the amount you need in order to live the life you want. To understand your wealth gap, you need to investigate your personal goals and ambitions outside of the business. For example, an owner who wants to own a minor league baseball team in the next phase of their life will need more funds than an owner who wants to retire and live quietly on an old farm. 

Your goals, family, extended family and personal ambitions should all be considered. Once identified, you can determine your wealth gap. Your net worth outside of the business plus the value of your company today equals your goal. In other words, if your goal was $10 million and you had $2 million of assets outside of the business, your wealth gap would be $8 million. 

Profit Gap 

Using this example, the next step in the process is understanding if the business today is, in fact, worth $8 million. To get to the root of this, you can start by calculating your company’s profit gap. At a very high level, a profit gap is calculated by understanding the best-in-class earnings before interest, taxes, depreciation and amortization (known as EBITDA) of businesses in the same industry. Next, assess your current EBITDA performance. 

The profit gap then is calculated by understanding how you can drive toward best-in-class performance by subtracting your company’s current EBITDA performance from the best-in-class EBITDA performance. For example, if your company is currently earning $1 million in EBITDA while the best-in-class companies are generating $3 million in EBITDA, your business currently has a $2 million profit gap. 

Value Gap 

This EBITDA number is then applied to the sale price of the company. Small and lower middle-market companies sell in a range of industry multiples dictated by the private capital market. For example, upon research, a plastic manufacturing company could be selling in a range of multiples from one times the EBITDA to six times the EBITDA, with the best-in-class companies selling at the higher range. 

Given the same industry research, you will be able to identify your company’s value gap. The value gap takes into consideration the best-in-class performance and applies it to your company in its current state. For example, if best-in-class companies are performing at 15% EBITDA to revenue and the current business owner’s company is performing at 10% EBITDA to revenue, the company could improve performance, even at the same level of revenue, and generate another 5% in EBITDA. 

To illustrate this further, imagine a company currently generates $20 million in annual revenue. At 15% EBITDA, this company would generate $3 million in EBITDA, whereas at 10% EBITDA, the company would generate $2 million in EBITDA. Given 15% EBITDA is best-in-class performance, these companies would sell at the best multiples. In this example, if best-in-class companies are selling at six times the EBITDA, that would be an $18 million sale price. An “average” company performing at 10% EBITDA, on the other hand, would likely sell for an average multiple. Let’s assume that multiple is 3.5 times the EBITDA, which would equate to a $7 million sale price. This represents a Value Gap of $11 million between two companies with the same revenue! 

Key Takeaway:

Selling your business involves a lot of strategy, advisors and planning. But without considering your personal goals as well as business value, you will have a hard time determining if you and your business are ready and what your ideal sale price may be. 

Michael Stier is an Area President for FocusCFO based in Charlotte, NC. 

Founded in 2001, FocusCFO is the leading onsite fractional CFO services provider in the Midwest and Southeast. FocusCFO works closely with small to medium sized businesses helping business owners gain control over three key financial and operational areas: increasing cash flow, reducing business risk, and creating a platform for scalable growth. This allows business owners to then realize full financial control and increased value in their businesses. For more information, follow us on LinkedIn.

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KPIs to Drive Increased Volume and Profitability

KPIs to Drive Increased Volume and Profitability

By Brian Ford
Steps to Take Now Heading Into 2022 (Article 3 of 4)
Continuing our series for healthcare services companies, we look at the importance of having Key Performance Indicators (KPIs) for operators. In our first article, I highlighted Eight Considerations for Improving Cash Flow for Healthcare Services, followed by the importance of Understanding Multi-location Profitability. This article highlights specific KPIs to benchmark performance across the organization, from which the team can drive increased volume and profitability. Here are some commonly used KPIs that can be tailored for most healthcare services entities:

Leading KPIs

1. Total referrals
2. Total new patient appointments

Tracking referrals is often the first step in projecting future revenue, and it’s even more important to combine that data with new patient appointments. Too often, management teams do not realize how many referrals are lost because they are not properly tracked. Continuing with our examples, the management team quickly realized that most referrals were not converted to patient appointments. Further analysis helped the team identify capacity constraints, where certain providers were in a given location only a few days per month. As a result, new patients could not get scheduled in less than 30 days. After realizing the trends, the management team shifted the clinic and provider schedule, resulting in a higher conversion rate, better relationships with referring providers and most importantly, a better patient experience. 

Lagging KPIs

It’s important to present lagging KPIs consistently on a Date of Service (DoS) basis. Too often, teams look at information not perfectly correlated, by comparing date of receipt cash collections or cash paid for wages, to date of service patient encounters. Due to timing of reimbursement or shifts in the payroll calendar (e.g. 3 pay month), the KPIs can be skewed and not presented consistently over time. Below are three KPIs critical to tracking revenue and profitability: 

3. Net Revenue per Encounter – Calculated as [Collections, net of refunds and recoupments / Unique Patient Encounters]. Some companies might like to take this a step further, and look at Net Revenue / Encounter and Net Revenue / Billable Encounter. Looking at these KPIs on a DoS basis, the management team can measure what they actually earned, when the service was performed. 

4. Total Procedures per Encounter Calculated as [Total procedures performed (e.g. CPT codes charged) / unique patient encounters]. As management teams seek to understand changes in Net Revenue per Encounter, identifying shifts in the procedure mix can help. By way of example, the Net Revenue per Encounter was down meaningfully year over year. However, the management team noted no significant changes in contracted rates. Using this KPI, the team realized the case mix changed and the average Procedures per Encounter decreased from 2.1 to 1.7 due to a provider out on medical leave. As a result, the operations team again shifted the clinic schedule to restore a consistent volume mix at the clinic. 

5. Direct wages per encounter – Calculated as [Wages + taxes for clinic staff (e.g. nurses, techs, scribes, etc.) / Unique patient encounters]. This KPI can be one of the most critical in influencing gross profit for many operators. Going back to our article, Understanding Multi-Location Profitability, the management team deployed clinic staff more efficiently using this KPI. At one under-performing clinic, the team realized staffing costs per encounter were 30% higher than other clinics in the same area. Staff with excess capacity were re-deployed to nearby locations to reduce overtime, resulting in margin improvement at multiple locations. 

These are just a few examples of how our team works with healthcare service companies to (i) understand the historical performance, (ii) develop the right, applicable KPI from which the team can manage, and (iii) collaborate across the organization to help drive growth. 

We conclude our series next time highlighting Operational and Compliance Considerations and touch on some key topics for working remotely. 

Brian Ford is a FocusCFO Area President based in Nashville, TN.

 

Founded in 2001, FocusCFO is the leading onsite fractional CFO services provider in the Midwest and Southeast. FocusCFO works closely with small to medium sized businesses helping business owners gain control over three key financial and operational areas: increasing cash flow, reducing business risk, and creating a platform for scalable growth. This allows business owners to then realize full financial control and increased value in their businesses. For more information, follow us on LinkedIn.

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Understanding Multi-Location Profitability

Understanding Multi-Location Profitability

By Brian Ford

 

Steps to Take Now Heading Into 2022 (Article 2 of 4)

Continuing our series for healthcare services companies, we look at the importance of clear reporting around multi-location operations. Too often, companies do not have the infrastructure to understand profitability by location, but rather look at financial results in total. Overtime, this can lead to underperforming clinics or service offerings, resulting in a drag on overall profitability. 

By having the right resources in place, some benefits your business may realize include: 

1. Visibility into the direct gross profit of the location and/or service line.

2. Appropriately capturing the costs of administrative staff, allowing management to see the true overhead burden. Too often, we see such costs reported where the employee physically works rather than assigned to their respective department.

3. Understanding the fixed costs of each location, allowing management to enter into more efficient office leases.

4. Analyzing whether clinics are truly underperforming, or does it lead to higher acuity visits at another location. It’s important to see how each location and/or service may be inter-dependent.

5. Aligning compensation agreements with the overall volume and efficiency of the operations.

In a short example, we look at a practice that started with one clinic location, and after several years of organic growth, had four locations in the same geographic market. The Owner did a great job launching new providers into the market, and expanding to different sub-markets within the larger metro area.

However, much of the overhead and administrative functions remained in the original location. The management team attempted to allocate overhead, but it largely distorted the true burden for each clinic, thereby understating the stand-alone contribution margin for each location. With improved visibility into clinic operations and integrated financial reporting, the Owner made some great operational changes that improved profitability. Just to highlight some of the Owner’s accomplishment’s: (i) transitioned administrative employees (such as HR and payroll) out of expensive medical office space into an administrative office, while amending the medical office lease for much less square footage and (ii) created efficiencies in staffing by deploying underutilized staff to needs at other clinics.

Good strategic decisions often require the right financial reporting. If you know of a healthcare services company that could benefit from improved visibility into operations, please reach out.

Next up, we’ll continue the series where I’ll highlight Key Metrics to Drive Increased Volume and Profitability. Whether it’s a single location or multi-clinic operations, having a set of consistent, key metrics provides clear data from which the team can manage.

Brian Ford is a FocusCFO Area President based in Nashville, TN.

Founded in 2001, FocusCFO is the leading onsite fractional CFO services provider in the Midwest and Southeast. FocusCFO works closely with small to medium sized businesses helping business owners gain control over three key financial and operational areas: increasing cash flow, reducing business risk, and creating a platform for scalable growth. This allows business owners to then realize full financial control and increased value in their businesses. For more information, follow us on LinkedIn.

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Eight Considerations for Improving Cash Flow for Healthcare Services

Eight Considerations for Improving Cash Flow for Healthcare Services

By Brian Ford
Steps to Take Now Heading Into 2022 (Article 1 of 4)

This series is targeted to privately-held healthcare services companies, that we often find have limited resources to compete with larger scale healthcare organizations. In our first article, we highlight eight questions that, when answered and addressed quickly, can improve cash flow. The past 18 months of uncertainty has highlighted the importance for cash flow to deliver quality patient care. Whether it’s staffing shortages driving higher labor costs, increased supply costs, reimbursement delays from insurance, or applying for forgiveness on governmental funds – practices need better information. 

Here are some areas to consider:

1. How can your team improve patient responsibility collections?

2. Are you monitoring how proposed reimbursement guidelines could impact your staffing?

3. Do you have visibility into reimbursement by encounter?

4. Are you actively monitoring trends in reimbursement by insurance payor?

5. How do you track and mitigate payor denials and recoupments?

6. How can you improve the collection speed of Accounts Receivable?

7. What are the costs and time associated with launching a new provider?

8. How do you reduce inefficiencies caused from employee turnover?

This list is just a sample of ways our team guides healthcare services companies to better cash flow. While many of these issues are intuitive to healthcare operators, implementing strategies around these issues can be difficult. In a short example, we look at how, once equipped with the right information, an Owner guided the management team to make some operational changes. Although volume and total cash receipts were up year-over-year, costs increased as well. After studying reimbursement trends, the management team realized the practice had declining collections and increasing labor burden per encounter. The team focused on improving the patient experience, and as a result, operational changes resulted in increased profitability. By being more proactive with the pre-arrival and check-in activities, the practice experienced: (i) improved patient collections, (ii) less denials, (iii) increased total collections per encounter, (iv) decreased time to collect Accounts Receivable, and (v) consistent processes at the front desk resulting in less turnover.

If any of these items sound like opportunities for your company to improve, and you want to learn more, please reach out to us.

Coming up next in our series is Understanding Multi-Location Profitability. We’ll illustrate the importance of looking at profitability by location and/or service line, and the operational efficiencies gained when armed with the right information.

Brian Ford is a FocusCFO Area President based in Nashville, TN.

Founded in 2001, FocusCFO is the leading onsite fractional CFO services provider in the Midwest and Southeast. FocusCFO works closely with small to medium sized businesses helping business owners gain control over three key financial and operational areas: increasing cash flow, reducing business risk, and creating a platform for scalable growth. This allows business owners to then realize full financial control and increased value in their businesses. For more information, follow us on LinkedIn.

FocusCFO Logo 2021

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Consumer’s Bank Testimonial

Consumer’s Bank Testimonial

“FocusCFO helped guide one of my lending clients during a time of significant decline in their business due to unforeseen drop in the demand of the industry they operate in. The FocusCFO team of Jim Rowlands and Jeff Semple provided financial guidance and professional management to this company with their hands-on approach, helping improve internal processes and cost management, resulting in improved financial and operating results that ultimately helped retire debt quicker. FocusCFO also helped improve communication and improved the client’s relationship with the Bank. I would highly recommend the FocusCFO team of experienced professionals to any business looking to maximize efficiency and profitability, and increase transferable value.”

Scott Lawrence, Vice President, Consumers National Bank, East Canton, OH

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