Ages ago, during my corporate director days, I got put on the proverbial map by taking a sinking ship and making it the most profitable business unit in the area — despite having the highest operating costs in the region. Suffice to say, word got around and I got head hunted a lot after that.
Lots of upper management folks would be asking me: “How did you do it?” “Which reports did you run?” “Did you notice something on your dashboard?” “WHAT WAS IT?!”
The answer was, I ran my own analysis: The Profit Pool Analysis.
Now, before we go much further, in case you missed the earlier posts in the Summer Business Blog Series, you can find them here:
5 Essentials of Email Marketing
4 Marketing Metrics You NEED To Measure
3 Key Patient Facing Website Attributes
2 Critical Financial Gauges For Better Revenue
This ONE Analysis Leads To Better Profits
The Profit Pool Analysis organizes a company’s or business unit’s revenue activities by operational expenses, creating line by line operational margins which comprise a profit pool. If one was to imagine a body of water, segmented by space to represent how much each section of water is adding to the business, this is essentially a profit pool.
As useful and powerful as this analysis is, barely ANY companies of any sizes, other than those who have in house financial analysts, ever bother to run it regularly. It’s laborious. It’s time consuming. The “HOW” is truly an art as much as it is a science, with end results requiring several layers of sanity checks to ensure that radical conclusions are real; AND, that the expected conclusions aren’t radical in hiding.
“What” to do is truly simple. All you need to do is follow these steps:
- Organize your revenue streams.
Be sure to sort every revenue activity; for those in outpatient PT clinics, this means by service line and by billing type and/or code. For those with Prospective Payer System type structures, you can go by population type, use of resources, and/or region. And, for nearly all business types, you can categorize by diagnosis groups.
- Pair your revenue streams with the associated operational costs.
Perhaps the most tedious portion of this analysis is gathering all the direct and associated costs while attributing indirect costs as a percentage towards each revenue activity. Nevertheless, it is here where the entirety of the analysis will or won’t make sense during your “sanity check.”
- Calculate the operational margin for each stream of the profit pool.
Operational Margin = [Operating Revenue – Operating Expense] per activity. This formula is pretty simple. And, as mentioned as one of the Two Key Financial Gauges For More Revenue, this is the spark which gives life to the significance of the Profit Pool Analysis. As you probably already appreciated, it’s apparent here, why the associated operational costs must be carefully attended to.
- Sort the calculations, ordered by the share of your profit pool.
The final step is summing the Operational Margins as a whole and attributing a percentage as a share of the profit pool per revenue activity. What this in does is it creates a visual in appreciating the significance of how much or how little a revenue activity actually contributes to the operational margins — and, therefore, your profits. THEN, run a sanity check to make sure that, logically & reasonably, your most profitable activity doesn’t appear to be losing money and visa versa. The thing is, it may actually be the case that this is true; this is where the “HOW” becomes so important.
Check Out The Example Below!
Below is an old analysis, while published in 2015 was actually conducted in 2014 for a consulting client, with permissions to share this general chart.
For most minds, it should be striking that Therapeutic Exercise represents such a large share of the Outpatient Physical Therapy Profit Pool. It should also be just as interesting to find that Neuromuscular Re-education represents so little, when so many payers have this listed as their highest bill rate.
So, why is all this, then the observed situation? It has to do with the Collections Ratio mentioned in the previous blog post, 2 Financial Gauges for More Revenue. It also has to do with the illusion that a higher price per unit yields better profits. Many times, higher revenue per unit is coupled with higher costs of production per unit, leading to the potential of diminishing returns.
Now, this is just one impression of the limitless insights a Profit Pool Analysis can bring. I’d highly encourage anyone in a management, accounting, or ownership position to try and build one out, if anything, as an exercise to see what illuminations can be revealed. Let me also stress that properly doing one isn’t easy; in fact, this single analysis was one of the prime focal points in a singular Business Strategy course during my MBA days.
Suffice to say: even by sorting your operations by revenue activity and creating segments of operational margins will do wonders for your business. If anything, it’d reveal which service/product lines are truly shiny and which ones may actually be fool’s gold.
If running a full fledged Profit Pool Analysis is interesting to you…
We are pleased to make the re-launch of our in-person consulting intensive where not only is the Profit Pool Analysis part of the package, we also cover growth strategies, give you key business metrics, establish a talent acquisition strategy, and cover everything from front-to-back in a way that future proofs your business model. Check It Out!
ONE LAST THING!
FINALLY, we’re building an industry analysis report which will include a similar, yet expanded strategic overview to the our profession. Be sure to join the UpDoc Media UpDate newsletter to be the first in line for our white paper!