Opening a practice is a challenging undertaking. Whether you start a clinic from scratch, acquire an existing clinic or buy a franchise license, one of the most effective ways to avoid feeling overwhelmed is to develop a thorough understanding of the financial side of practice ownership.
Specifically, if you understand the financial statements used by your practice, such as balance sheets, profit and loss statements and personal financial statements, you will be able to create effective business plans, strategize for growth and forecast future financial trends in your practice.
While financial statements are not the most exciting aspect of business ownership, it is crucial to understand these documents because managing your business finances is key to your success as a practice owner. It is too easy to make business decisions based on feeling; however, you will need facts. This article explains the key concepts to understanding your financial statements and highlights how they can be used to overcome the common pitfalls of practice ownership.
Avoiding cash flow pitfalls
While profit is one of the most common ways to measure a business’s success, businesses are cyclical, so the revenue (and some expenses) can come in waves. Optimizing your practice for regular and consistent cash flow and building strong cash reserves is the key to a long-lasting, healthy and enjoyable business. But proper cash flow management won’t just fall into place; 82% of small businesses (Forbes, 2020) struggle with managing their cash flow, and 29% even end up running out of cash and operating on credit.
Cash flow struggles can happen at any phase of a business’s life cycle. For example, some doctors may not have enough cash reserves to keep their practice afloat through the lean start-up years, when costs can climb due to growth or unexpected expenses. Other doctors may kick off their new practice with strong initial growth, only to hit a roadblock when growing expenses start outweighing revenue. In addition, even doctors with well-established practices can encounter painful cash flow problems if there is a stronger-than-expected downturn in business, a significant unplanned expense, or an unexpected health, family or staff challenge.
Inadequate cash reserves stifle growth, cause cash flow problems, hamper the ability to scale operations and distract DCs from staying focused on patient care, resulting in significant stress for the business owner. Ultimately, 38% of small businesses fail because they either run out of cash or are unable to drum up financial support (CB Insights, 2021).
Proper cash flow management means strategizing to secure adequate start-up funding, making sure you have strong cash reserves and ensuring the business generates enough reliable revenue each month to more than cover all expenses (both planned and unplanned).
To meet these goals, it is essential to accurately estimate startup costs and project ongoing revenue and expenses. This planning will optimize your ability to manage your practice’s cash flow. Carefully prepared financial statements will help you determine the financial requirements for the practice, taking into account the costs associated with your chosen location and your anticipated growth. A CPA or consultant familiar with chiropractic practice operations will be key to helping you determine realistic numbers.
The financial statements will also help you prepare for the first few years of practice ownership. Instant profit from opening a practice should not be considered the norm. Most start-up businesses will not generate a consistent profit until the third year of operations (Small Business Chron, 2019). So, unless your model for starting a practice is based on buying an existing and profitable practice, you need to prepare for opening a practice by amassing an ample savings account, obtaining a business loan that provides working capital to cover ongoing business expenses and tightening your personal expenses. The financial statements will be key to getting these plans right so you can sustain your practice until it becomes profitable.
Financial statements 101
So, what financial statements will help you avoid these problems and plan for success? For the purposes of this article, I will focus on profit and loss statements, balance sheets and personal financial statements. Understanding these financial statements will allow you to forecast future profitability and know both your strong and weak points.
A profit and loss statement (P&L) summarizes a practice’s collections, expenses and profits over a specific period, offering a snapshot of its profitability. The P&L is a key management tool to understand what money is coming in, where it is being spent and the profit you have left over afterward.
Beyond offering a static financial snapshot, the P&L should be used to make informed projections. These projections are crucial for anticipating future expenses and setting sales targets to ensure adequate cash reserves. If you’re purchasing an existing practice, having historical P&Ls at your disposal allows for more accurate projections, while starting from scratch often involves more guessing in the initial stages.
Balance sheets differ from P&Ls in that they show how much money the business has, what it owes and its net worth at a particular point in time. In the balance sheet, your financial data is summarized in three categories:
- Assets are typically the practice’s equipment, furniture, accounts receivable and the money in the practice’s bank account.
- Liabilities are the current balances of the practice’s debt, like loans and outstanding bills.
- Equity is the value left when you subtract the total liabilities from the total assets. While this is not an accurate value of the practice, it is an easy-to-track concept for watching your practice value grow.
Last, the personal financial statement (PFS) is a snapshot of your personal financial position at a specific point in time that lists your personal assets and liabilities to determine your current net worth. Assets include all cash, stocks and bonds, real estate, retirement accounts and personal property that you own; liabilities will include any outstanding loans, mortgages, credit card debt and student loans you may have.
Your creditworthiness is directly tied to your PFS, so whether you want to purchase an existing practice, buy a franchise or obtain a start-up loan, the PFS will be carefully reviewed to determine your ability to obtain a loan. Lenders also use the PFS to evaluate how well you manage your finances.
Gaining insights from financial statements
Examining your financial statements can help answer important questions. This analysis also allows you to gauge your financial runway, ensuring you have the necessary resources to keep your business running smoothly. These trends can then be used to make adjustments to business operations before a crisis occurs.
Balance sheets play a crucial role in securing start–up funding by enabling lenders and investors to evaluate the safety of their investment. The balance sheet also provides insight into how cash flows through your clinic by showing your bank account and credit card balances each month. This is useful for creating budgets and developing financial management strategies. An important part of assessing cash flow is carefully tracking your debt. Knowing how much you owe will help you identify the risks of accruing more debt and identify areas where debt reduction is necessary or when extra income is needed for repayment.
The P&L is also a key tool for tracking your cash flow and projecting how it will change over time based on changes to operations and future sale trends (derived from past data and industry research). For the early phases of a start-up practice, you should project high start-up expenses and low initial revenue, and take a conservative approach by underestimating your sales growth and overestimating growth in expenses. This helps generate a cautious estimate of how much cash is needed. This will support the business owner in financial forecasting, operational management and resource allocation as the business evolves.
Forecasting can also provide valuable insight for comparing different options for starting a practice. For example, you’ll be able to compare the costs of buying an existing practice versus the losses you’ll incur in starting a practice from scratch, and determine which option will work best. When running this analysis, make sure to think of the big picture. For example, don’t forget to account for the amortization of your student loans. The average DC begins their career with $250,000 in student loan debt, and this amount will greatly increase if the loan payments are deferred during low-income start-up years. Calculate how much student loan interest you will accrue during the first one to three years of practice ownership while you are operating at a loss, and consider it an unofficial business expense.
Seek help
To make your forecasting more reliable and reinforce your understanding of the financial side of running a practice, you should build a team of trusted and experienced mentors to serve as sounding boards and to help you make informed decisions. CPAs and consultants can help you make accurate financial projections – but make sure you use a chiropractic expert so your plans are realistic for this industry. Practice brokers are also valuable resources who can assist you in finding the ideal practice, providing a shortcut to success and stability. Moreover, they can connect you with lenders, banks and financing options.
While mentors can come from industries other than chiropractic, it’s important to make sure you are also well-connected to successful doctors of chiropractic. Look for these mentors in consulting groups, networking opportunities and former colleagues. If you acquire an existing practice, the prior owner can serve as an invaluable mentor due to their in-depth knowledge and experience in managing that particular practice. Their insights and historical perspective can be a rich foundation for your growth and success.
Conclusion
Knowing why small businesses fail, studying your financial statements, properly managing your cash flow and seeking guidance from experienced mentors are surefire ways to help you plan strategies to avoid and overcome many common and avoidable risks of running a practice. While you can never eliminate all the potential risks of running a practice, you can be prepared for them.
Furthermore, owning a practice can minimize other risks such as job loss and your taxable burden. I hope the information and resources provided in this article will help you move forward in your practice ownership journey with confidence!
CRYSTAL MISENHEIMER, leading expert in chiropractic practice sales, is the first and only chiropractic broker to earn the coveted Certified Business Intermediary (CBI) designation from the International Business Brokers Association (IBBA) and sets the gold standard in expertise, quality and service. A former clinic owner herself, she is uniquely qualified to provide comprehensive support on the many complexities of clinic valuations and practice sales. You can contact Misenheimer and her team at 888-508-9197, marketplace@progressivepracticesales.com or online at progressivepracticesales.com.