Profit Analysis

Hey everyone, and thanks for listening.

I wanted to put together a quick little presentation here about Profitability, some of the things that I've thought about quite a bit over the last couple of years, and why I personally view Cost Savings as such an important thing that we all need to be doing in terms of healthcare and reducing costs.

Before I was in health care, I spent about 8 years in the grocery retail industry, and there I learned that the grocery industry has roughly a 2% profit margin. Now we're going to talk a little bit about profit margin and why that's important, but they used to tell us we use Sharpies all the time. We use them to write on, you know, different things and so on and so forth, but they were very adamant. And if you think it's hard to get supplies in healthcare, I can tell you it's a lot harder in Other places. For instance, we used to have to lock up our ballpoint pens, our Sharpies, our boxes.

Knives, our tape, all of that stuff for employees. Sounds crazy, but I'm telling you that's how they used to do it. So if we needed a new ballpoint pin, we'd have to go up to the manager. They'd unlock it. They'd write it out for us, so on and so forth. Again, that's because they were operating on such a small profit margin, which we'll talk about. So they used to tell us if you take that $1 Sharpie and you take it and you don't let us know, that's what's known as shrink, and it's going to take an additional $50 in revenue to make up that $1 in lost cost.

I remember thinking, what, why would it take $50 of revenue to make up that $1? So we'll talk about that here in a little bit. So they continuously told us we need to stop that shrink. We need to stop shrink. What is shrink? Shrink in the grocery industry is any product that's been stolen, it's been damaged. We let it outdate any inventory that we had slated for customer facing sales, and it's no longer viable. So again, shrink was bad.

So let's look at a couple of things here. I want to put together kind of a quick demonstration of why Cost Savings are important and how that factors into the overall Operations of the Business. The numbers that we're going to use again, I don't want it to be construed as something that's, this is exactly how it works. Business is complex. There's a lot more into it, but I want to kind of put together this, this discussion that we can talk about how we can reduce costs and why that's really important.

So what's revenue? Well, revenue is the total amount of income that's generated through Operations. So we have a Business. All of the money that we that's coming in through the doors through our sales, that's our revenue. What we're really going to be focused on is the profit, and that's the amount of the income that remains from our revenues after we've accounted for all of our expenses. Now it doesn't matter what type of Business you're in, profit is necessary. You have to have profit, otherwise you won't be able to keep the lights on. You won't be able to continue operating.

So our profit is affected by costs, and in these upcoming little demonstrations here we're going to talk about two different types of costs. We're going to talk about fixed costs and we're going to talk about variable costs. Now fixed costs are those that don't vary with output. A lot of times we consider these overhead. These are things that no matter how busy we are or how slow we are, we still have to pay these. Think about rent, utilities, taxes. These are things that are fixed that we have to pay for on a monthly, weekly, annual basis, however it might be.

Now the Other type of costs are the variable costs. These are the costs that fluctuate as the level of production output changes. So think about supplies and think about labor again. Let's go and say we're a hospital. If we're busier, we're obviously going to use more supplies. We're going to use more labor. If we're slower, well, we're not going to use as many supplies if we're not going to use as much labor. So again, profit is affected by costs. We need profit to operate and again we're going to start looking at a couple of demonstrations here.

Profit margin. This is an important calculation because what this tells us is how many cents of profit we get to keep per dollar of revenue. So again, when you think about the grocery industry, where I was talking about the $1 Sharpie, for every $1 that came in, the grocery industry gets to keep 2 cents. Again, very small profit margin.

So the net profit margin is your revenue minus your costs divided by your revenue. Again, this is very important because it tells you how many cents of profit you get to keep per dollar of revenue.

So let's say we want to increase profit. What can we do? What are some different things? Well, obviously we can increase our revenue. We can increase our production. We can become busier for a hospital. We can see more patients. We can open more Business lines. We can try to increase our output. The Other thing that we can also do is we can increase our prices. In certain industries this is easier to do. In Other industries it's harder to do.

Then on the flip side of that, another way that we can increase our profit is by decreasing our costs, and that's what I really want to focus in on this conversation. We're going to do a little scenario here, and again I'm going to pull a couple different numbers that come out, and again this is just for illustration again the Business world is much more complex, we all know this, but I want this just to kind of illustrate some points.

I also want to say that Cost Savings will never be better than revenues. You have to have revenues to stay viable. If you don't, again, you're not going to have the profit that you need. So again, Cost Savings is important, but it's never going to be better than revenues. You need to have that revenue coming in.

So let's look at a couple of things here. The true cost of Healthcare.com. When I did a quick Google search, it showed me that the average profit margin of a US hospital is 8%. So again, when we think about that, that means for every $1 of revenue coming in, the hospital gets to keep 8 cents. That's the average profit margin. We're going to use that moving forward.

Medicare.gov has the, again we're going to use this for illustration purposes only, but an arthroplasty of a Knee code 27447, and we're going to use this as our revenue, our total cost of $13,313. Again, let's assume that we're a hospital and all we do are knees, and again, all we're getting paid here is this Medicare cost of the $13,313.

ModernHealthcare.com, another quick Google search here, showed me that the average cost of a Primary Knee implant is $4,464. So again, costs can go up, costs can go down, but again, for illustrative purposes in this little scenario, we're going to use $4,464 and assume that that's our negotiated rate for what we pay our vendor for those Knee implants on a case by case basis.

So let's look at this. So again, based on the Medicare.gov rate for every case that we do, we're going to get revenue of $13,313. We're going to have our implant cost of $4,464. We're going to take out our Other costs, which we can consider fixed of $7,784 leaving us a profit margin of 8%, netting us a profit of $1,065 again.

Let's multiply that out and look at 100 cases. Let's say that we do 100 cases a year again we only do knees. So we're in the course of an annual period of one year, we're going to do $1.3 million in revenue. Our implant cost is $446,000. We've got our Other costs of $778,000. Again, our profit margin of 8%, which means that we get to keep 8 cents out of every dollar of revenue that comes in, which is going to leave us an annual profit of $106,500.

So let's say, you know, we get together and we start thinking, you know what, we want to be more profitable. Let's, let's collaborate. Let's, let's talk to the surgeons and see what we can do. Let's negotiate with our vendors. Maybe we can standardize, and we've got 5 different Knee implants that we want to use, and we're going to, we're going to consolidate that down to 2. As a result of this collaboration and negotiation and standardization, we're able to reduce that implant cost by 10%. So let's see what this does in the calculation.

So again, we're doing a 10% reduction in our implant expense only. So again for one case we still get that same revenue. Remember that's all that we're getting paid is the $13,313 but now our implant cost has dropped to $4,017.60. That's a 10% off of what that $446 was.

So again, our Other costs remain stagnant, the 7,784, but this increases our profit margin to 11.35%. So now instead of having an 8% profit margin, we're able to now keep $11.35 out of every dollar of revenue that came back in.

Again, that's a pretty significant thing here because again that profit margin is looking at an additional what would that be 3.35% or $3.35 out of every dollar of revenue, so that's going to net us a profit on one case now of $1,511.40.

Let's multiply that out again. Let's say annually we're doing 100 cases. Again. Our revenue is staying at $1.3 million. Our implant costs have a reduction in 10%, which leaves us just over $400,000. Our Other costs remain the same at $778,000. Our profit margin is now 11.35%, and a profit annually of $151,000. That's quite a big increase.

So that 10% reduction in implant expense has given us an additional $44,640 in additional profit. This is really important because again, if you look on the left hand side here with no reduction in implant costs, our total profit was $106,000.

By going back to the table, by negotiating, by getting that 10% reduction in implant costs, our profit has increased, I'm sorry, $44,000 and now we get $151,000 per 100 cases. That's a pretty big increase in profit.

So let's, let's start thinking about this and say, you know what, we want that same profit, but we don't want to standardize, we don't want to negotiate, we just want to do whatever we can to get that profit. So let's, let's do what we said in that previous slide and let's just be busier. Well, how many additional cases would it take to make that same profit without negotiating those Cost Savings?

So on the left we've got that 151,000 that we would have made if we had the 10% reduction in implant costs. Now let's kind of figure this out and work backwards. As you can see on the right hand side, if we don't have that 10% reduction in implant costs, we would have to do 142 cases. That's a 142, 142% increase in our Productivity, or an additional 42 cases to make that same profit of 151,000.

That's a lot of extra work that again is required to get that same profit as the 10% reduction in implant costs. Again, I just want this to be illustrated as the importance of implant costs. This is not necessarily realistic in real life, but I just want it to show the value of why Cost reduction is important when you're looking at Profitability.

So I've had some interesting conversations over the course of my career. I just had a really interesting conversation with an orthopedic surgeon. We were talking about this exact same thing. We're using quite a few different vendors looking at standardization, and the surgeon said, Well, what's in it for me? And I, and I think that's a very valid question. I think this is the perfect opportunity to start asking that again. If the surgeon's paid on a per case basis, maybe there's not that, you know, kind of drive for them to do that.

The surgeon that I was speaking to said, you know what, I'm familiar with this product and this is what I'm comfortable with. And he said, you know, I, what if we came in here and we told you, oh, you're going to have to switch from Windows, you're going to have to use Linux. I thought, well, that's, that's fair. I also started thinking, I was like, well, you know what, for those of you that haven't seen the materials management information systems that I've been able to use in the past.

Uh, they're, they're definitely not the best. I've used some that are better than others. Um, but again, when you come into a, a Business, you use what's there. There's a lot of standardization. Again, should that be correlated to implants? I don't know. I think it really, you know, warrants a discussion. Some IDNs are, are very strict. They have very strict guidelines of what you can and can't use. Other ones are not. Um, Again, what's the benefit to patients? I've been a patient.

I have a tibial implant. I don't know, you know, how that particular implant was chosen, but I, I know that the surgeon was a fantastic one that, that helped me out with that. Um, but again, if they had, uh, you know, a fantastic collaboration with Supply chain and finance and their vendors and

And that Cost Savings, I don't know what that Cost Savings was, and ironically that Cost Savings probably wasn't passed along to me. It was probably just kept, you know, at the hospital level. So again, we've got these two different things. What's the benefit for the surgeons, you know, if it's going to make it harder for them if they have to learn new techniques, new products, and there's nothing really coming in on the back end, you know, what is the benefit? Same thing to the patients. If we're negotiating rebates, if we're doing all of these things, it's important.

Um, I can tell you that this year it's been extremely difficult due to COVID. Modern Healthcare came out with something, or maybe it was Becker's Healthcareline that was talking about 36, I believe, over 3 dozen hospitals nationwide have closed their doors because they weren't able to make enough profit. So it's important, reducing the cost of healthcare is definitely important. But again, how can we work together and again, how can we improve this model? I don't have the answers.

Um, but again, I think it's important to start having these conversations about kind of looking at this model that we have in place. Again, I hope that this is helpful. It's just kind of a quick, quick demonstration of how my mind works on why I view cost reductions as an important strategy.

And again, I look forward to the conversations. I hope that there's, there's good conversations that come out of this, at least it kind of starts that conversation. And again, I appreciate your time and look forward to hearing from you all.