Financial

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Tuesday, November 30, 2004

Take a bite out of profits
with Bruce Burns

Q. With FEHPB cuts scheduled for Jan. 1, how can I calculate the impact it’ll have on my earnings?

A. Next month, CMS plans to make a slew of cuts to various DMEPOS items, including an 11% reduction to oxygen. Many providers erroneously believe earnings will be reduced by the same percentages, and that they can increase revenue and decrease expenses to make up for the reductions, but the impact of the cuts is much more dramatic than it may appear.

To calculate the 2005 reductions, begin by quantifying the annual revenue for each category impacted. Multiplying the annualized revenues for each category with the reduction percentage will yield the total annual reduction in revenue. You then deduct the total revenue reductions from your annualized projected earnings to determine the adjusted 2005 pre tax earnings. The revenue reductions incrementally impact the pre tax profit of the business. Any new expense reductions initiated will obviously incrementally offset the cuts.

For a business with annual oxygen revenues of $1 million and a pre-tax profit of $350,000, the estimated cut yields a decrease in revenues of $110,000 and a new pre tax profit of $240,000, a 31% reduction in pre tax profits. If you were selling a business and receiving a multiple of four times earnings, the anticipated sales price reduction would be reduced from $1.4 million to $960,000 or a reduction of $440,000.

Bruce Burns is president of Affinity Ventures. He can be reached at bburns@affinityventures.com.

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