THE BUSINESS OF PRACTICE:
TRANSITIONS FOR PRACTICE GROWTH
Break-Even Analysis: When to Add New
Equipment and Services
Mary Beth Whitcomb, DVM, MBA, ECVDI (LA-Associate)*; and
Andrew R. Clark, DVM, MBA*
Authors’ addresses: University of California–Davis, VMTH–Large Animal Ultrasound, Davis, CA
95616; e-mail: [email protected] (Whitcomb); 3176 Newtown Pike, Georgetown, KY 40324;
e-mail: [email protected]. *Corresponding and presenting authors. © 2016 AAEP.
1.
Introduction
Veterinarians can be quick to purchase the latest
equipment without considering important business
aspects of such purchases. Equipment purchases
can be emotionally driven or driven by a real or
perceived need to keep up with competitors. Endof-the-tax-year specials at trade shows can also contribute to emotional decision making. Poorly
thought out purchase decisions can lead to underutilization and inadequate cost capture of new
equipment or development of new services.
This lecture will cover important aspects of decision making when considering adding new
equipment or services. Regardless of the type of
service or equipment being added, the decisionmaking process is similar. One must consider
pricing, opportunity cost, and training among
other factors when deciding whether to purchase
new or replacement equipment. Important concepts of capacity, white space, branding, and
break-even analysis will be presented as they relate to such decisions. Attendees should gain a
better appreciation of the decision-making process
when faced with decisions to add or replace equipment or services.
2.
Should I Add New Equipment/Service?
The concept of opportunity cost is one of the first
concepts taught in business schools. Opportunity
cost considers what you could be doing (earning) if
you were doing something else with your time or
money. Although it may sound straightforward,
opportunity cost is often overlooked. For example,
you are considering the purchase of a new ultrasound machine. You own an old portable unit
that is acceptable for reproductive use, but little
else. You plan to keep that machine for reproduction and purchase a new machine for musculoskeletal (MSK) exams. Multiple opportunity costs
must be considered:
Opportunity Cost of Your Time
What could you do if you were not performing an
MSK ultrasound exam? Do you have time to add
MSK ultrasound exams into your work day? Or
will adding this service affect your ability to do
something else from a time standpoint? This relates to capacity in your practice. If the answer is
yes to the latter, then you will have to give something up during your practice day to perform that
ultrasound exam. Perhaps this means one less
NOTES
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lameness exam, one less dental, three less radiographic studies, seeing the next scheduled patient
on time, etc. The next step is to consider what you
would charge for performing those alternative tasks
that you would be giving up. If you can earn more
performing those tasks, and there is more demand
for these tasks than MSK ultrasound, then perhaps
purchasing a new ultrasound machine is not the
best choice from a profitability standpoint.
Opportunity costs also relate to pricing of the ultrasound exam. Let’s say, for example, in order to
spend an hour from start to finish to perform a MSK
ultrasound exam (time to set up, scan, communicate
findings to clients, cleanup), you would have to give
up an hour doing three radiographic studies where
you could gross $450 (assumption⫽$150/study).
From a business standpoint, this is the price you
should charge for your ultrasound exam. However,
this price would probably be beyond most clients’
willingness to pay for an ultrasound exam, at least
in most areas of the country. Admittedly, this is a
fairly simplistic approach and you should consider
your hourly gross in this thought process as well.
Given that ultrasound exams tend to take longer
than other types of exams, it is likely that your
hourly gross could decline if you add MSK ultrasound to your practice. It is however also recognized that your clients may expect that your practice
can perform such exams, especially if your practice
demographic has changed from a rural to suburban
practice. In such cases, the decision becomes somewhat more complex, even if adding MSK ultrasound
means less time to perform other quicker, more lucrative, veterinary services.
Opportunity Cost of Capital
Opportunity cost of capital relates to what could be
purchased with that same capital. In other words,
would you have a higher return on investment if you
spent that money on something else? This is a
tougher question to answer, but it is one that should
at least be considered. Cost of training (technician and
DVM) and ongoing continuing education should
also be considered in the opportunity cost of capital.
All are capital investments.
Continuing education and training is expensive,
and there should be a return on your investment.
Will you need a new transducer for new regions?
Do you have clients requesting those exams? Could
your skills be better developed in other areas of your
practice? Ultrasound is highly operator dependent
and consumes considerable time to become competent. Clients may expect you to image any MSK
region, and ultrasound is much more operator dependent than radiography. To enhance your return on investment, continuing education (CE)
courses should be sought out to improve skill levels
in areas of greatest capacity. Even more important
to your return on investment is to ensure opportunities to practice once you return from the CE
course.
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Other factors to consider relate to demand and
ability/proficiency. This is the time to be honest
with yourself when considering how many times a
week, month, or year do you recommend an ultrasound exam of a particular region and how often
does a client seem amenable and willing to pay for it.
Veterinarians sometimes want to add ultrasound
into a practice that cannot support the service.
It is therefore important to consider these aspects of
your target market.
Let’s assume that you have clients who desire,
value, and are willing to pay for such a service.
You should also consider who should be performing
ultrasound exams within your practice or in your
practice area. Do you have the time, energy, interest, and talent to develop competence? Should it be
you that ventures into ultrasound or should everyone in your practice attempt to become competent?
Who has the most potential and interest level?
Perhaps there is one individual in the area that only
performs ultrasound. In such cases, it might be
more efficient and more profitable to refer to that
individual. Does everyone in your practice area already perform their own ultrasound exams? And
do your clients seek them out because you have not
offered this service before? These questions relate
to branding and the concept of white space.
3.
Break-Even Analysis—Basic Version
Break-even analysis is commonly performed in
other industries when making purchase decisions.
There are many types of break-even analysis; some
complex and some much more basic. All involve
assumptions. Although there is no one right way to
perform break-even analysis, some attempt should
be made when considering an equipment purchase,
either as a replacement or when adding a new service. We will present a basic and advanced version.
The basic version involves only a few assumptions: the price of service you will be offering and
the variable costs associated with performing one
service (exam). Variable costs include those costs
that would only be incurred because you are performing one more exam. For example, if you perform one MSK ultrasound exam, the variable costs
would include gel or alcohol used on that horse for
that exam, prep material, thermal paper if you print
images, per patient cost for cloud storage and the
hourly rate of a technician. The veterinarian’s salary would not be considered given that this is a fixed
cost (assuming they are paid full salary). From
these numbers, the contribution margin can be calculated (price less variable costs). Contribution
margin is essentially the amount of total revenue
that can be applied toward a practice’s fixed costs.
The purchase price of equipment is then divided by
the contribution margin to determine the number of
exams necessary before breaking even on the purchase (Fig. 1). Given the purchase price and variable cost assumptions shown in Fig. 1, break-even
on the purchase of a new transducer ($7500) would
THE BUSINESS OF PRACTICE:
Fig. 1. Basic break-even analysis: The purchase price of an
ultrasound transducer to perform abdominal ultrasound is
$7500. We assume a price of $100 per examination, and $40
variable costs to perform one examination. Contribution margin ⫽ $60 (amount of sales that will contribute to fixed costs). To
determine the break-even point in units (scans), the purchase
price ($7500) is divided by the contribution margin ($60). Given
these assumptions, it would take 125 abdominal ultrasound exams to break even.
be 125 exams at a price of $100 per exam. At this
point, it is important to consider demand, ability,
and willingness to pay from current and prospective
clients in the practice area.
Lack of consideration of variable costs is a common mistake when determining a break-even point.
Fig. 2 shows the same calculation as Fig. 1, but
assumes no variable costs are incurred while performing the ultrasound exam. In this case, one
would errantly assume that it would only require 75
exams to break even on the purchase of the transducer. Although variable costs can be challenging
to calculate, they are an important consideration.
A rough estimate is better than none at all.
Let’s assume that after seeing the break-even
points for the scenarios in Figs. 1 and 2, the practice
decides that your clients’ willingness to pay for an
abdominal ultrasound exam is underestimated.
We now assume that $200 per exam is a reasonable
price. We will also consider the same amount as
Fig. 1 for variable costs ($40). In this scenario, 47
Fig. 2. Basic break-even analysis showing the effects of omitting variable costs using the same scenario as Fig. 1 (purchase
price ⫽ $7500; client price of a single examination ⫽ $100). In
this scenario, the same calculation shows that only 75 exams
would be required to break even. Although this is still a substantial number of exams, it does not account for the variable
costs involved, thereby underestimating the number of exams to
break even on this purchase.
TRANSITIONS FOR PRACTICE GROWTH
Fig. 3. Basic break-even analysis showing the effects of increasing client price from $100 to $200 using the same purchase price
($7500) and variable costs ($40/examination) as in Fig. 1. In this
scenario, only 47 exams are necessary to break even on this
purchase. Although this makes the purchase seem attractive,
clients’ willingness to pay must be considered before assuming
that this scenario will hold true within a practice.
exams are necessary to break even on the purchase
of this additional transducer (Fig. 3). Although this
seems enticing, it is important to consider the likelihood that clients will pay $200 for a service not
previously offered and realistically how many times
per week, month, or year you would have performed
this service if you had owned the transducer.
Similar analysis can be used when considering
adding extra transducers when purchasing a new
ultrasound machine. Usually, the cost of the transducer is somewhat less when purchased as a package deal, and it can therefore be tempting to
Fig. 4. Training costs associated with providing a new service
(MSK ultrasound): Two CE courses are assumed necessary to
acquire basic level of competence during year 1. Assumptions
are highlighted, including annual gross production, annual vacation days, days on call, and costs associated with ultrasound CE
courses. This information will be used to perform the breakeven analysis shown in Fig. 5.
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THE BUSINESS OF PRACTICE:
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Fig. 5. Advanced break-even analysis considers technician and veterinarian salary, payroll taxes, time to perform one examination,
fixed costs, including machine and service contract costs, desired return on investment and CE/training costs (see Fig. 4), and desired
profit margin. This scenario also assumes a 5-year equipment life and evaluates how many exams per year will be necessary to
break-even over the equipment’s life; 201 annual exams are required to break even without considering profit margin and 252 annual
exams are required when desired profit margin is considered.
purchase “add-on” probes even when there is not
currently a need for that transducer.
4.
Break-Even Analysis—Advanced Concepts
For those prepared for more advanced break-even
analysis, additional factors should be considered.
For this portion of the presentation, we will consider
the purchase of an ultrasound machine and assume
that the practice/veterinarian desires to expand
from primarily reproductive ultrasound to include
MSK ultrasound. Because the practice area is
changing from primarily reproduction to sport horse
practice, they believe demand will change to support
this type of service. The practice foresees gradual
expansion into advanced MSK ultrasound over the
next few years. This is supported by frequent requests of existing and new clients to perform such
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procedures. They are therefore evaluating the purchase of a high-end portable ultrasound machine
that includes three transducers for basic and advanced MSK ultrasound and some abdominal exams
for colic referrals. Based on their experience, at
least two ultrasound CE courses are felt necessary
to develop a basic level of competence in the first
year. Although we are using ultrasound as an example, this analysis can apply to any type of new
service.
The first consideration is the cost of training in the
first year (Fig. 4). This includes not only the direct
costs associated with CE courses, but also the opportunity costs associated with attending these CE
courses (i.e., revenue you would have earned had
you not attended the course). The opportunity cost
in this example is 10 days of daily production, as-
THE BUSINESS OF PRACTICE:
suming all days away are work days. Given these
assumptions (highlighted in yellow in Fig. 4), the
total cost of attending two CE course is $21,651.
This number might seem high, but keep in mind
that it includes $14,545 of lost revenue while away
from the practice. This is the opportunity cost of
leaving the practice to obtain training and should be
considered in break-even analysis.
Fig. 5 shows advanced break-even analysis for the
purchase of the ultrasound system (essentially the
addition of new ultrasound services). Costs considered in this analysis include veterinarian and
technician salary, payroll taxes, time to perform
an exam, fixed costs (machine and service contract
costs amortized over 5 years), desired return on
investment (machine and CE/training costs [see
Fig. 4]) and desired profit margin. This scenario
also assumes a 5-year equipment life. The output shows the number of annual exams necessary
to break even over the equipment’s life (5 years)
with and without consideration of desired profit
margin (252 annual exams and 201 annual exams,
respectively).
5. Equivalent Annual Costs—Comparison of Two
Possible Purchases
Equivalent annual costs is a financial exercise to
compare annual costs of two different units when
purchase price and recurring costs differ. It is also
helpful when the machines have different useful
lives. Let’s say you have narrowed your search to
two different units. Machine A is less expensive
but unlikely to last as long (3 years vs 5 years) as
Machine B. Machine A has a purchase price of
TRANSITIONS FOR PRACTICE GROWTH
$20,000 and Machine B costs $35,000 dollars. Both
offer a 1-year warranty with service contracts available for purchase after year 1. Machine A’s service
contract is $3000 per year but is only available for 2
years, effectively giving this machine a 3-year life.
Machine B’s service contract is $3500 per year and is
available for 4 years (effectively a 5-year life). We
will present analysis (using present value and the
annuity formula) to help decide which to purchase.
This information is also useful in lease vs purchase
decision.
6.
Summary
It is hoped that this presentation will allow practitioners to add a new tool(s) to their toolbox when
considering a new or replacement purchase or when
considering the addition of new services to a practice. The basic version is a good place to start for
those new to business concepts; while the more advanced version may be more attractive to those experienced with such concepts. The use of breakeven analysis in any form is an important
consideration when making such important practice
decisions.
Acknowledgments
Declaration of Ethics
The Authors have adhered to the Principles of the
Veterinary Medical Ethics of the AVMA.
Conflict of Interest
The Authors declare no conflicts of interest.
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