Is Your Overhead Too Low?

I get a lot of questions and complaints from physicians about overhead. How should I define it? How do I calculate it? And, of course, how do I lower it?

Many physicians are surprised when I tell them that lowering their overhead isn't necessarily a good thing. In fact, it may be too low already.

Numerous studies have shown that practices with higher overhead generally produce higher net incomes for their physicians. The money has to be judiciously spent, of course, but keeping overhead costs too low can be counterproductive.

Too much cutting of operating expenses may be costing you revenue. Insufficient office space or too few staff may be crimping the office's efficiency and reducing the number of patients that can be seen.

Overhead is generally defined as the expense of maintaining your practice, not including depreciation, and is usually calculated first as an absolute number, then as total expenses as a percentage of total gross income. The percentage figure can be misleading, however.

If you're trying to decide whether your overhead is too high or too low, you'll need an itemized breakdown. That will require some “billable hours” from your accountant, but those hours will pay for themselves many times over because the itemization will allow you to see where you could be spending less and where you could be spending more.

It's important to understand that overhead is not always the enemy. It is an easy target because everyone can focus on it—and look for ways to decrease it. Compulsive attention to it, however, is often a sign that more important aspects of the practice are being neglected.

Consider revenue, for example. More often than not, it is better to increase gross receipts than to decrease overhead. As a famous businessman once told me, “Your ability to cut costs is limited, but your ability to increase revenue is unlimited.”

Negotiate better contracts with third-party payers. Improve collections, possibly with the credit card system I've discussed in several recent columns. Learn to code better and train your staff to do so as well. Use your time more efficiently. Don't worry so much about overhead. Would you rather keep 60% of $800,000 or 40% of $2 million?

I recently spoke with a prominent cosmetic dermatologist in New York City whose spa was bringing in a steady $1 million per year in revenue, but with 80% overhead. He was talking about closing it down because the overhead was too high! He didn't understand that his spa was making him money, regardless of the overhead percentage. By closing the spa, he would have traded a tidy profit of 20 cents on the dollar for zero cents on the dollar.

That's why you have to be careful when using percentage as a yardstick of your overhead. Overhead percentage doesn't reflect overhead; it reflects the ratio of overhead to revenue. Without looking at the numbers themselves, both revenue and overhead, you can get a distorted view.

Let's compare two hypothetical dermatology practices: One is primarily medical and the other is surgical. The medical practice has an overhead percentage of 60% and the surgical practice 40%, but in real dollars, their overheads are exactly the same. How can that be? Is one more efficient than the other? No, the difference is in total revenue; the surgical practice generates substantially higher gross receipts than does the medical practice. When the revenue goes up, the overhead percentage drops, even though the overhead in real dollars is the same. Once again, would you rather keep 60% of $800,000 or 40% of $2 million?

Don't get me wrong. Overhead is not something you should ignore, but neither should you obsess over it on a regular basis. You would be far better off seeing patients with that time. The incremental cost of seeing an additional patient is almost zero, and the revenue is almost pure profit, since you've already paid your overhead.

Concentrate on finding new ways to increase revenue or expand your practice, and your overhead will take care of itself.

I get a lot of questions and complaints from physicians about overhead. How should I define it? How do I calculate it? And, of course, how do I lower it?

Many physicians are surprised when I tell them that lowering their overhead isn't necessarily a good thing. In fact, it may be too low already.

Numerous studies have shown that practices with higher overhead generally produce higher net incomes for their physicians. The money has to be judiciously spent, of course, but keeping overhead costs too low can be counterproductive.

Too much cutting of operating expenses may be costing you revenue. Insufficient office space or too few staff may be crimping the office's efficiency and reducing the number of patients that can be seen.

Overhead is generally defined as the expense of maintaining your practice, not including depreciation, and is usually calculated first as an absolute number, then as total expenses as a percentage of total gross income. The percentage figure can be misleading, however.

If you're trying to decide whether your overhead is too high or too low, you'll need an itemized breakdown. That will require some “billable hours” from your accountant, but those hours will pay for themselves many times over because the itemization will allow you to see where you could be spending less and where you could be spending more.

It's important to understand that overhead is not always the enemy. It is an easy target because everyone can focus on it—and look for ways to decrease it. Compulsive attention to it, however, is often a sign that more important aspects of the practice are being neglected.

Consider revenue, for example. More often than not, it is better to increase gross receipts than to decrease overhead. As a famous businessman once told me, “Your ability to cut costs is limited, but your ability to increase revenue is unlimited.”

Negotiate better contracts with third-party payers. Improve collections, possibly with the credit card system I've discussed in several recent columns. Learn to code better and train your staff to do so as well. Use your time more efficiently. Don't worry so much about overhead. Would you rather keep 60% of $800,000 or 40% of $2 million?

I recently spoke with a prominent cosmetic dermatologist in New York City whose spa was bringing in a steady $1 million per year in revenue, but with 80% overhead. He was talking about closing it down because the overhead was too high! He didn't understand that his spa was making him money, regardless of the overhead percentage. By closing the spa, he would have traded a tidy profit of 20 cents on the dollar for zero cents on the dollar.

That's why you have to be careful when using percentage as a yardstick of your overhead. Overhead percentage doesn't reflect overhead; it reflects the ratio of overhead to revenue. Without looking at the numbers themselves, both revenue and overhead, you can get a distorted view.

Let's compare two hypothetical dermatology practices: One is primarily medical and the other is surgical. The medical practice has an overhead percentage of 60% and the surgical practice 40%, but in real dollars, their overheads are exactly the same. How can that be? Is one more efficient than the other? No, the difference is in total revenue; the surgical practice generates substantially higher gross receipts than does the medical practice. When the revenue goes up, the overhead percentage drops, even though the overhead in real dollars is the same. Once again, would you rather keep 60% of $800,000 or 40% of $2 million?

Don't get me wrong. Overhead is not something you should ignore, but neither should you obsess over it on a regular basis. You would be far better off seeing patients with that time. The incremental cost of seeing an additional patient is almost zero, and the revenue is almost pure profit, since you've already paid your overhead.

Concentrate on finding new ways to increase revenue or expand your practice, and your overhead will take care of itself.

I get a lot of questions and complaints from physicians about overhead. How should I define it? How do I calculate it? And, of course, how do I lower it?

Many physicians are surprised when I tell them that lowering their overhead isn't necessarily a good thing. In fact, it may be too low already.

Numerous studies have shown that practices with higher overhead generally produce higher net incomes for their physicians. The money has to be judiciously spent, of course, but keeping overhead costs too low can be counterproductive.

Too much cutting of operating expenses may be costing you revenue. Insufficient office space or too few staff may be crimping the office's efficiency and reducing the number of patients that can be seen.

Overhead is generally defined as the expense of maintaining your practice, not including depreciation, and is usually calculated first as an absolute number, then as total expenses as a percentage of total gross income. The percentage figure can be misleading, however.

If you're trying to decide whether your overhead is too high or too low, you'll need an itemized breakdown. That will require some “billable hours” from your accountant, but those hours will pay for themselves many times over because the itemization will allow you to see where you could be spending less and where you could be spending more.

It's important to understand that overhead is not always the enemy. It is an easy target because everyone can focus on it—and look for ways to decrease it. Compulsive attention to it, however, is often a sign that more important aspects of the practice are being neglected.

Consider revenue, for example. More often than not, it is better to increase gross receipts than to decrease overhead. As a famous businessman once told me, “Your ability to cut costs is limited, but your ability to increase revenue is unlimited.”

Negotiate better contracts with third-party payers. Improve collections, possibly with the credit card system I've discussed in several recent columns. Learn to code better and train your staff to do so as well. Use your time more efficiently. Don't worry so much about overhead. Would you rather keep 60% of $800,000 or 40% of $2 million?

I recently spoke with a prominent cosmetic dermatologist in New York City whose spa was bringing in a steady $1 million per year in revenue, but with 80% overhead. He was talking about closing it down because the overhead was too high! He didn't understand that his spa was making him money, regardless of the overhead percentage. By closing the spa, he would have traded a tidy profit of 20 cents on the dollar for zero cents on the dollar.

That's why you have to be careful when using percentage as a yardstick of your overhead. Overhead percentage doesn't reflect overhead; it reflects the ratio of overhead to revenue. Without looking at the numbers themselves, both revenue and overhead, you can get a distorted view.

Let's compare two hypothetical dermatology practices: One is primarily medical and the other is surgical. The medical practice has an overhead percentage of 60% and the surgical practice 40%, but in real dollars, their overheads are exactly the same. How can that be? Is one more efficient than the other? No, the difference is in total revenue; the surgical practice generates substantially higher gross receipts than does the medical practice. When the revenue goes up, the overhead percentage drops, even though the overhead in real dollars is the same. Once again, would you rather keep 60% of $800,000 or 40% of $2 million?

Don't get me wrong. Overhead is not something you should ignore, but neither should you obsess over it on a regular basis. You would be far better off seeing patients with that time. The incremental cost of seeing an additional patient is almost zero, and the revenue is almost pure profit, since you've already paid your overhead.

Concentrate on finding new ways to increase revenue or expand your practice, and your overhead will take care of itself.