The new normal in a medical group is transition – adding a doctor, losing a doctor, opening an office, dropping a payer contract. The new normal raises havoc with normal cash flow, underscoring the need to have a Cash on Hand policy. It is easy for advisers to recommend 90 days of operating expenses, which even in a small group can mean reserves approaching a million dollars. Let’s explore this closer.
How much is enough Cash on Hand for a private practice? Academically speaking, you want enough cash and cash equivalents (assets that can be liquidated within 90 days), to cover at a minimum, your debt service and ideally all of your general operating expenses for a reasonable period of time to weather a financial storm. Here are some things to consider:
If the financial statements include depreciation expense, make that adjustment to expense.
Are employed physicians and other advanced practice professionals included in general operating expense, and if not, does that expense need to be covered?
Does the physician compensation model pay out every available dollar, and how equipped are the physician owners to take short term pay reductions should that be necessary?
What is the expectation for covering cash shortages with a Line of Credit? Combining Cash on Hand with the Line of Credit, how long can you weather a storm?
One MedMan client looks at it this way –determine the amount of cash that could be held up if the largest payer did not pay for 90 days and translate that into the impact on the ability to cover operating expense.
Another vexing question is how to handle the tax consequences of carrying cash reserves from one year to the next? Generally, there are ways to reduce reserves at the end of the year. The more central question is when to take the tax hit and retain earnings (cash). Sound advice would be to pick a 2-3 year period when you anticipate a reasonable low tax burden and phase the plan in over time.
Ask yourself how much stress is created by reserves that are inadequate? If conversations about dipping into the Line of Credit are a regular occurrence, think of how much stress relief can be enjoyed if reserves were more generous.
There is simply more work associated with managing tight cash positions – projections, conversations, and planning all consume valuable time from expensive people. Create some comfort with a policy where everyone understands what will and will not be covered in a crisis.