When a methodology works for everyone, it gets its own name. Take Pearson’s Law, for example, which has helped everyone from basketball coaches to restaurateurs see better results. The rule says that “everything measured improves; everything measured and reported improves exponentially.”
In short: looking at your data leads to smarter choices. This is certainly true for pharmacy owners, who can find some of their most useful data in just three routine financial statements and gain the clarity and confidence to move their pharmacy forward.
Pharmacy Finances: If It’s Not Broke, Why Fix It?
Pharmacy owners don’t think about diving into their finances because that’s not what they studied to do (outside of a one-semester business class, maybe). Pharmacists are in the business of helping people, not balancing books – which is why they tend to be content as long as they’re in the black.
But the pharmacy world is fluid and increasingly suffocating, and without strategic financial planning, big moves (like opening a second location or taking on an esteemed hire) may not be feasible. Not being savvy with the financial basics and being unaware of the ins-and-outs of pharmacy performance data to make smart decisions — can cost your pharmacy businesses plenty.
In this blog, we’ll take a look at three financial statements, how to decode them, and what information you can get to develop the future of your pharmacy.
Get Your Footing with a Balance Sheet
Your Balance Sheet is a simplified overview of your current financial situation. It should be used to make budgetary decisions – similar to how you check your bank account balance before saying “yes” to that new car purchase.
The balance sheet lists everything in your pharmacy as either an asset or a liability for providing a comprehensive financial snapshot. Here are some quick tips for getting more out of your Balance Sheet:
- Determine your accounting method. Ask your accountant whether he or she uses the Cash Method (working with money already in the bank or register) or the Accrual Method (popular with most pharmacies, it works with all money, including revenue still pending from insurance companies). As tax laws change, have discussions with your accountant about which method is best for your business.
- Diagnose your pharmacy’s health. One of the most important figures here is the Retained Earnings, which is the go-to gauge for the health of your business. To find it, take your assets and liabilities (see the totals on the left- and right-hand side in the above example?) and add invested capital. The larger the difference, the healthier your pharmacy is.
- Distinguish what you can (and would) invest. Know what you have in the bank to reinvest (e.g., “Current Assets”), and what is untouchable (e.g., “Payroll Account”). Determine what you feel comfortable with moving when considering what to spend. For example, what can you liquify from your Fixed Assets, like office equipment? To find out what you really have to work with, subtract the depreciation figure from your total fixed assets.
- Work the ratio. The golden ratio for pharmacy owners is a different figure from that of Ancient Greece: for a healthy and robust pharmacy that is seeing positive growth, you want to have a 2:1 assets-to-liabilities ratio. This ratio is known as the quick ratio and can be an early indicator of financial trouble.
Income Statement = Outgoing Investments
An Income Statement is a two-page document that goes into further detail than the Balance Sheet. It will provide more insight around trends in your spending (where is the money pit?) and the performance of different revenue sources (like prescriptions vs. over-the-counter items). It’s also an excellent resource for comparing how your business has fared month-over-month or year-over-year.
It shows financial data current to the month, and data from the same time the year prior. Your revenue (income) should exceed costs (your spending). You’ll want to figure out the following using your Income Statement:
- Find your hotspots. Even if your profits are stable, the sources may not be uniform; a few items could have wide profit margins while others really don’t, and this is certainly something to consider when deciding how to grow your business. The key lies in percentages. To find your gross margin, divide the gross profit by total revenues. To see your profit margins, divide net profit by total revenue.
- Understand the outliers. Numbers don’t lie, but they don’t always tell the whole story. There are unlisted factors that pharmacy owners should consider when examining their Income Statement, such as depreciation. Using a car analogy, your new car lost some value as soon as you drove it off the lot — the same can apply to office equipment but it doesn’t affect cash. A good accountant will advise a pharmacy owner on how to work these factors into the equation.
For more information on this, read about additional influences you should consider when planning your pharmacy’s long-term success.
Go With The Cash Flow
A partner of the Income Statement is the Cash Flow Statement and is a bit of a fortune-teller. Instead of the retrospective that an Income Statement provides, the Cash Flow Statement gives pharmacy owners an idea of what to expect next.
The more pharmacy owners understand how to read this document; the more accurate their assessments will become over time. Here’s where to find some clues hidden in your Cash Flow Statement:
- Ask for the time. While every business has a Cash Flow Statement, this document is especially valuable to pharmacists whose revenue is tied up with third-party payers. It’s difficult to accurately project future cash flow if you’re unsure of reimbursement time frames. To determine the gap, look at the difference in monthly revenue vs. cash sales (copays, OTC goods, etc.). Then add up the percentage of cash in Accounts Receivable that came from prior months’ sales. This will give you an idea of how much of your monthly cash flow relies on earlier transactions and how much available equity you shouldn’t expect to receive from your sales from month-to-month.
- Play it safe. Always err on the side of underestimating the cash you expect to come in, and overestimate the cash you plan to spend, whether it’s due to surprise DIR fees or flood damage. Plus, ending up with more than you planned for is always a great way to operate!
Working With Your Accountant
Financial statements are interdependent, and you need both the parts and the whole to understand how you’re doing. Now that you’ve got the basics down for a better understanding of how your pharmacy is performing, it’s time to make informed, strategic decisions. This is a little harder to come by. And admittedly, even with a better understanding of these three financial statements, pharmacy owners have too much on their plate to stay on top of intelligent accounting choices. That’s why it’s crucial for pharmacy owners to partner with accountants who deeply understand the industry. Anyone can produce a Balance Sheet, but unless those numbers are examined in the context of the pharmacy industry, it’s easy for even the best accountant to miss key data (for example, taking DIR fees, 340b contracts and clawbacks into consideration). For a checklist of questions to ask your accountant in addition to tips for accounting software users, download our eBook. Are you interested in working with us to make more of your pharmacy? Good, because so are we! Schedule a short call with our accounting team.
For PDS members, log into PDSadvantage to find the applicable pharmacy team resources in the Knowledge Library that can help you start making your finances work for you such as the Finances Peer Group, Budgeting Worksheet, Profit vs. Cash Flow, and many more.