Of the business world’s two most common financial statements, the balance sheet lurks in the shadow of its more popular sibling, the profit and loss statement. Everyone clamors about revenue, cost of goods sold and labor costs in a P&L report but barely glances at the poor old balance sheet. This overlooked document isn’t as dynamic, and during some months, nothing appears to have changed on it. While the balance sheet is far from glamorous, it’s incredibly important. In short, it shows what a veterinary practice owns (assets) and what the practice owes (liabilities) as of a given date. Focusing on those sections reveals financial benefits hiding in plain sight.
Cash Is King
Chances are, if you don’t have enough cash, you look for it all the time. But what if more cash than you need to operate your practice is sitting in a checking account, doing nothing for you? Set a goal of having one month of expenses in cash. The amount might drop below that level on payroll day, but that’s OK. If running lean makes you uncomfortable, keep another half month’s expenses in a high-yield business savings account. For instance, moving $300,000 from a non-interest-bearing checking account to a high-yield business savings account that pays 3.4% will generate over $10,000 in interest income annually.
You don’t need cash above a one-month threshold to operate your practice. Instead, use the excess money more productively, possibly by buying medical equipment, saving for a down payment on a new building, paying down debt or moving some into a high-yield savings account. Or perhaps it’s time for the practice owner to take a distribution, pay down personal debt or invest the money.
The main takeaway is you want your cash to work for you.
Money In
Are accounts receivable on your balance sheet? It should be at most veterinary practices. Tracking your accounts receivable at least quarterly is critical to ensure creditors pay you for your services. A small animal practice’s accounts receivable balance should be no higher than 1% of annual revenue. If it is, identify areas where you can tighten payment policies. If an expensive surgery is billed instead of paid upon a patient’s discharge, consider increasing the required deposit. If new clients comprise a large portion of receivables, consider no longer extending them credit.
Loose credit policies result in significant time spent sending statements and chasing down outstanding payments. Hiring a collection agency to collect unpaid fees from clients is rarely successful and can be expensive. Focus on implementing solid credit policies on the front end to prevent accounts receivable from becoming a problem.
What’s in Stock?
Is inventory on your balance sheet? Is it adjusted monthly or quarterly to match your practice management software report? Similar to accounts receivable, inventory is best managed when measured regularly. Inventory is directly related to COGS, one of the biggest cost components in a veterinary practice. How you manage inventory has a tremendous impact on profitability.
A reasonable goal is to have 45 days of inventory on hand. To calculate it correctly, follow this calculation:
- Start with your cost of goods sold for the prior 12 months.
- Subtract COGS amounts for an internet pharmacy, reference lab
and cremations. - The difference is the amount of inventory related to the cost of goods sold.
- Divide the difference by 12 months and multiply by 1½ months (45 days).
- The result is your inventory goal.
Here’s an example:
- Your cost of goods sold is $420,000 (before $60,000 in reference lab and cremation costs).
- The $360,000 difference is divided by 12 months, equaling $30,000 in inventory-related COGS per month.
- Your 45-day inventory goal is $45,000.
Most practices struggling with a high cost of goods sold do not manage their inventory well. Carrying more than 60 days of products on the shelf is too much. Too much inventory becomes susceptible to shrinkage, spoilage and theft — all part of poor inventory management. Well-managed practices operate with 30 days of inventory on hand.
Money Out
Accounts payable is what you owe vendors. The total amount should be equal to or less than the value of the inventory on your shelves. If your accounts payable exceeds that level, investigate the cause. Are you behind in paying vendors? Is cash in short supply, leaving you unable to pay invoices on time?
Many practices use a credit card to pay vendor bills, sometimes to generate cash back or another reward, which isn’t a bad thing. But just like you should be careful with your personal spending and credit card use, business credit cards require caution. For instance, if a veterinary practice doesn’t pay its credit card balance in full every month, the finance charges are likely much higher than the cash-back reward.
Many vendors impose a fee if you pay a balance with a credit card. Be sure to weigh the cost to determine whether using a credit card is the best option.
Long-Term Debt
Balance sheets will also show bank loans for the purchase of equipment, a practice or clinic real estate, for example. Loans are opportunities to save money, perhaps by refinancing a variable-rate loan to get a lower fixed rate. The savings can amount to tens of thousands of dollars.
For instance, if the balance on your practice acquisition loan is $1 million and the interest rate is variable and currently at 9.5%, refinancing the debt at a 5.5% fixed rate would save you $40,000 in the first year, and the savings would be much more in the long run. Be sure to check on any prepayment penalties before you refinance.
If you have excess cash sitting idle in a checking account or even a savings account, consider putting it to use by paying down the debt and saving on interest payments.
QUOTABLE
Billionaire investor Warren Buffett once said, “We will reject interesting opportunities rather than overleverage our balance sheet.”