Executive bonuses health care takes care its own

Why put impediments in the way of a physician you’re offering to take into the practice? The productivity bonus can work against you both.

It’s Time To End The Productivity Bonus!

In some locations it’s becoming difficult to attract people to practices that wish to replace physicians or to grow. Maybe these practices should make the packages they’re offering more competitive.

In primary care, the problem is well known: board-certified family physicians and general internists have been hard to recruit for years. They are in short supply and there are offers all over America promising the market rate, good benefits, and a fair amount of security, if not an ownership stake.

And even though most specialties are in oversupply, just try getting a qualified candidate to buy into a practice in a rural area. Even in attractive but saturated metropolitan centers, where practice opportunities should be most valuable, it’s very difficult to get someone to join without guaranteeing a salary and subsidizing the start-up.

It makes no sense, but try convincing a youngster of that. They get advice from upperclassmen who tell them it’s insane to invest in your own business these days. Why, with health care reform coming and declining reimbursement, the smartest course is to take a salaried job and wait in the short run as things shake out. At least, so goes the logic.

Mostly, they’re wrong. But they want to be shrewd and they usually regard offers involving partnership with a skepticism bordering on paranoia. They’ve heard the horror stories about ugly manipulation of unsuspecting junior associates by greedy senior physicians. The stories usually involve a young doctor working for two, three, or more years on the promise that “We’ll work out something fair when the time comes.” He earns for the practice far more than his compensation, only to find out that the offer, when or if it comes, involves paying for income he’s produced and goodwill he feels he’s already earned.

End the double dip

It’s this notion — that earning lots for the employer and then being asked to pay for the practice is unfair — that contains the seed of the compromise. We recommend that the practice credits the new doctor with his or her earnings above compensation during the first year or two, to be applied to the calculated price of buying in.

For example, if a doctor is paid $170,000 in salary and benefits during the first two years, but earns $200,000 (when computed the same way as the other owners), the difference — $30,000 — is credited against her buy-in if partnership is offered.

So, the employment offer will usually contain a base salary and benefit package with the hope of ownership (buy-in or earn-in) in the near future. If the pay is fair and the excess earnings are credited to the buy-in price, there is little reason to pay a productivity bonus to the physician during the “employee” period. In fact, paying a bonus makes it that much harder for the new doctor to pay for his interest when it is offered.

While there are arguments on both sides, we think that this approach could work in difficult recruitment situations. It candidly acknowledges all the issues up front. “We’re going to pay you less than you earn. If you quit while you’re an employee, we’ll keep that difference. But if you are offered partnership and you accept it, we will apply that difference to the fair value of an equal share in the practice. After you buy in, you’ll be paid the same way all the owners are.” What could be more fair than that?

We recommend that the offer contain a rough outline of the entire deal, even though there can be no promise that the new doctor will become a partner or shareholder. The value of any practice opportunity will have several components. It’s useful to list them separately, because they may not all be part of the final contract. They usually include furniture and equipment; leasehold improvements; supplies and instruments; accounts receivable; cash and other incidental assets; liabilities, such as loans and accounts payable; and, finally, goodwill.

Most of these items are simple to value. Goodwill and accounts receivable are the big ones and, often, the deal breakers. Accounts receivable are often regarded by the new doctor as “his” by virtue of his having done the work. Of course, the collection of these receivables will be banked into the employer’s account if the employee should resign before buying in. Were he an equal owner of the practice, they would logically go to him if he resigned.

What does the new doctor do to gain access to this asset? He buys it. But since that imposes a cash flow and tax burden, he is usually allowed to “earn his way in” by taking reduced pay for a time. That doesn’t mean the practice is off the hook valuing the receivables, though. If it isn’t done, neither party knows if the correct “earn-in” price has been paid. And you can be sure that at least one party will feel victimized.

The other asset of controversy is goodwill. It is the amount that an agreeable buyer, competent and in possession of the facts, pays a willing seller above the values of all of the other assets discussed above. Passions run hot on this issue, so a case for the existence of goodwill will have to be made.

The best evidence for goodwill: Someone actually paid it recently. If Dr. Five agreed to pay (by salary reduction, lump sum, or other mechanism) $50,000 to join the group three years ago, Doctor Six can expect to do likewise unless things have changed markedly. We recommend pegging the number at a percentage of one year’s collections (common industry practice) and allowing the employee to pass if he thinks the price is too high.

He could continue to work for salary and benefits, but that would be well below the earnings he would be paid as a partner. (You don’t get General Motors dividends if you don’t buy the stock.) It’s even reasonable to hold the offer open, as an option, indefinitely for the employee to exercise when he or she is comfortable with the price — or never. There’s no requirement that all physicians need to own their practices.

Make it or buy it?

This approach reduces the decision to what is called in manufacturing a make-or-buy proposition. If it’s cheaper for Boeing to buy 747 toilet seats from Taiwan than to set up its own injection molding operation, it contracts out the work. GM makes its own steering wheels, but BMW buys them.

Our junior physician is evaluating the offer to buy in by comparing it to other opportunities and the cost of “making” his own practice from scratch. This latter option is becoming increasingly unattractive, though, which should argue for higher goodwill values. As practice gets tougher, the value of joining the exclusive club of self-employed physicians, with its attendant perquisites, should be going up.

Some businesses have better-than-average potential. We recently worked with a cardiology practice that was negotiating the entrance price of the second physician, in a competitive area of Southern California. The junior will pay close to half a million dollars to join. Most of his contemporaries will wonder how dumb a guy could be to agree to that price for a half-interest in a practice in the toughest market in America. But we know from experience, and a good understanding of the individuals, that the deal is a good one for both sides.

The author and his partner, Judy Bee, operate the Practice Performance Group in Long Beach, Calif. They publish Uncommon Sense, a monthly newsletter for physicians.