Practice Buyouts: What Should a Departing Physician Really Receive?

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The largest asset of a radiology practice is the cash value of its accounts receivable, and that valuation is prominent in the deferred-compensation package for a retiring member. The language in that section of the employment agreement generally stipulates a formula that is based on historic collection ratios taken from the practice’s receivables system in periods just before the separation date of the physician. Often, these formulae were developed many years ago and can become inaccurate as the reimbursement climate changes. There are many cases where conflicts occur over the valuation method because the departing member considers the result suspect. It is no longer necessary to estimate the cash value of accounts receivable. The data points that today’s receivables systems can produce enable a practice to pay out the exact contractual cash value over the months following separation. The models portrayed in this article are actual figures from a standard management report that the client receives every month, drawing from information produced by the billing vendor, Affiliated Professional Services, Inc, Wareham, Mass. Table 1 shows a pattern of charges far enough in the past to help illustrate the concept of liquidation tracking. The lines represent data for a month of service (MOS). The columns portray the month of posting (MOP). For example, the charges attributed to July 2005 dates of service total $735,746, posted over the 12 months ending in June 2006. The charges billed in June 2006, regardless of MOS, totaled $1,066,087. The timetable required to post a month’s transactions is relevant to the valuation of receivables. Table 2 has an identical format and data flow, depicting the cash receipts attributed to each MOS and when they are physically collected. The cash in each line is directly linked to the charges in Table 1. The largest percentage of cash is collected in the month immediately following the MOS. It takes more than 2 years to liquidate the charges fully for any given month. Table 4 will show the continued collections of cash for each MOS through the September 2007 billing cycle, but first, we need to illustrate some other benefits of receivables-system databases. There are three other data sets attributed to the receivables system; the models will not be illustrated for noncash credits other than bad debt, bad-debt credits, and refunds. They flow exactly the same way. Knowing that it is possible to isolate all receivables transactions attributed to MOS according to subsequent posting cycles permits the tracking of changes in accounts receivable by MOS. Table 3 illustrates this. Each line is its own universe, in which the cash and noncash credits are directly attributed to the charges generated by cases performed in the designated month. This simplified model is shown as if a practice had opened for business on July 1, 2005. By the end of June 30, 2006, the gross receivables balance had grown to $1,650,162. Let us assume that a member of the practice leaves the group as of June 30, 2006, and is entitled to a proportionate interest in the cash value of the receivables. The remaining models will illustrate how to track the liquidation of the balance. Table 4 shows the flow of cash attributed to each MOS from July 2006 to September 2007. Receipts continue for every MOS, although the trickle is quite small for the oldest cycles. The bottom of the model shows both the totals collected in each billing cycle and the cumulative cash. The ratios are not entirely accurate because there will still be monies collected beyond September 2007, but they will be insignificant. The last line is a suggested computation for those practices that prefer to settle with a former member quickly. The 6-month actual cash is multiplied by a factor intended to simulate the total cash ultimately collected. Universally, practices collect over 90% of receivable cash value in the first 6 months. In this instance the 6-month cash is 93.74% of all cash collected through September 2007; the factor is 1/0.9374=1.0668. The factor would be derived from back testing the patterns of earlier cash flows because the receivables system enables a practice to examine receivables liquidations over any range of time. By agreement of the practice and departing member, the total cash value of the receivables is capped at 100+% of the actual 6-month collections and this figure is used to settle up the remainder of the deferred compensation. There is no longer a need to track the cash, except to make certain that the 6-month factor remains a good approximation. Tables 1 to 4 provide big-picture information to put tracking of receivables liquidation in perspective. Table 5 consolidates the information. The column-A charges differ from Table 1 to the extent of captured transactions after June 2006. Column B corresponds to Table 2; column C, to Table 4. Column D is the total cash receipts attributed to that month of service, collected through the end of the September 2007 billing cycle. This enables us to compute a gross ratio (column E=column D/column A), and it also illustrate another advantage of MOS tracking. This practice put in a rather large fee change in December 2005. Most payors ignore these changes, thus the decline in gross ratio. The anomaly of the September 2005 ratio will be touched on later. We are also able to compute the average cash per day (column F=column D/number of days per month). The running average is relevant in illustrating the true days on books (a universal benchmark in the receivables-processing business). Note how little effect the December 2005 fee increase had on daily income. The final model concludes the step-down process by illustrating the relationship between the actual cash attributed to the receivables and gross balances by MOS. Column B represents the billed receivables balances for each of the 12 MOS, corresponding to the information in Table 3. Column C reflects the charges, and possible charge reversals, attributed to MOS, through the date when a member leaves, that were not billed through that date. Column E corresponds to Table 4, all cash collected from July 2006 to September 2007. Column F illustrates why it is dangerous to use historic collection performance as a measure of the cash value of gross receivables (Table 5: column E, December 2005 to June 2006). If a practice had used the gross collection ratio expressed in column E of Table 5, it would result in a valuation greatly exceeding the net cash in Table 6. Many employment-agreement formulae would require application of the most recent gross collection ratios to the gross receivables. The average gross ratio from MOS December 2005 to June 2006 is 35.8%. If this was applied to the gross receivables, it would result in overvaluation of $107,000. There is a high degree of bad-debt risk associated with balances over 90 days old. Many receivables systems also are populated with old Medicaid accounts that are virtually worthless, but have not been written off, thus inflating the receivables balance. Ironically, the higher gross ratios attributed to the oldest cycles are probably litigation cases that take months, or even years, to settle. The bottom of column E concludes the benchmarking by expressing the cash collections in relation to the historic cash per day. It reveals that the true days-on-book figure for this practice is 593,360/11,991=49. Cautionary Points Refer to Table 5, and specifically to the September 2005 line. Both the dollar amount and gross ratio are higher than peer months in this 12-month sample. This specific practice deals with a major payor that uses a risk-withholding technique. The payor issues a large check in August or September of each year after auditing claims for the prior calendar period. It provides no patient identities with the check. Therefore, the billing vendor sees no reason to keep the risk-withhold balance on the system, writing it off at the time of first payment. This creates a problem when the check arrives because there are no accounts with balances. The standard industry technique is to book the payment and a balancing debit to something called a control account that provides a record of the transaction. Unfortunately, this account is assigned a date of service in the month of payment. The database report artificially places the payment in this MOS, inflating the cash attributed to that MOS. This same issue applies to collection-agency accounts for which payments are mailed to the billing vendor’s address or to the practice’s lockbox. There are more appropriate ways for the billing vendor to deal with these accounts, but that is not the subject of this article. The recognition of these types of payments, if the practice has a significant payor who uses this technique, is critical to the accuracy of this type of tracking. Conclusions The models portrayed in this article may not be commonplace as automatic reports by either internal systems or vendors. It is possible to set up automatic tracking of the liquidation of receivables as of each MOS to establish patterns that support the deferred-compensation agreements driven by receivables valuation. The powerful database features of today’s systems can support the significant compilation requirements needed to duplicate the modeling shown here.