# The 10% solution to lab profitability.

The 10% solution to lab profitability

Translating the lab's financial intricacies into a series of simple equations gives managers a blueprint for achieving a healthy bottom line.

Not long ago, a complicated and important computer in our laboratory mysteriously stopped working. The technologists and biomedical engineers strived valiantly to pinpoint the problem, but failed. Testing had to be suspended while the staff called in an expert. In due course he arrived, tinkered with the machine, and tapped here and there with a hammer. In a few minutes the computer started up again.

When a bill for \$1,000 arrived, I was aghast. I called the expert, reminded him that all he had done was tap here and there with a hammer for a few minutes, and asked him to itemize the bill. He resubmitted the same invoice with the following notation:

Tapping with hammer ...... \$ 1.00

Knowing where to tap ...... 999.00

That's the point of this article: learning where to tap for information on how to manage a laboratory profitably. I call this Managing by Standards, or the 10 Per Cent Solution.

Although I developed the model for an independent laboratory, it can easily be adapted to the needs of hospital labs, as I will discuss shortly. First I'll explain how the system works. * Pruning to the core. Virtually every organization produces a flow of reports, analyses, and financial statements that never seems to end. The overwhelming amount of information generated makes it difficult to draw any conclusions about a laboratory's financial position and operational condition.

The 10 per cent solution alleviates this problem by relying on 10 indicators and standards that speak volumes about an organization's productivity and what must be done to increase profits and efficiency. The strategy is simple: If you meet the standards of the 10 indicators, you can expect a 10 per cent profit. (Note: The system is not a budget for controlling expenses.) A couple of years ago, the 10 per cent system enabled me to convert the color of the ledger ink from a disturbing deep red to a nice, healthy black.

In this system, a standard is a benchmark of desired performance. If the goal for the profit margin is 10 per cent, for example, then 10 per cent becomes the standard for profitability. If the desired CAP workload recording unit (WLU) efficiency for paid hours is 80 per cent, the standard for CAP WLU efficiency becomes 80 per cent.

The relationship of the standards used within an institution is what makes them work. Many labs, for example, use CAP WLU as the performance standard for productivity. They measure how efficiently the lab produces all tests, including unbilled ones. The key to increasing profitability is to enhance the efficiency of processing billable tests, since only these produce revenue. * How it began. My first assignment as the new CEO of a clinical laboratory several years ago was to increase the margin of profitability. With no prior experience in this area, I made a few phone calls to colleagues at labs I considered successful. As each contact gave me valuable pointers, I began to wonder what I might learn if I surveyed other labs and profiled all the data. To find out, I performed a survey of laboratories that were similar to my own.

I mailed questionnaires to approximately 100 laboratories that I felt mirrored my lab in size and operation. About 30 colleagues responded. Twenty of the labs fit the criteria I needed for comparison with my own lab: First, they were profitable; second, they were either independent or located in hospitals that had extensive outreach activities.

When I had completed my study, I derived a 10 per cent profit model from the results. Once my lab actually met the standards of this model--this took almost a year--it, too, netted 10 per cent. Simple! * What the standards reveal. Individually, the standards provide target goals. When used together, the standards help the laboratory manager determine whether to raise prices, adjust staffing, cut down on production, or negotiate toward paying less for supplies.

Using this system to analyze laboratory operations is far easier than poring over financial statements and budgets. In fact, if the lab expands beyond your expectations, it can easily outgrow a budget based on fixed costs. A standards management system, on the other hand, introduces the necessary flexibility. Although the ratios (or percentages) don't change, the bottom-line amounts grow (or shrink) along with the laboratory. * How to adapt. As you examine the 10 standards for measuring performance presented here, you may think of others that are more appropriate to your operations. A look in any advanced accounting textbook will provide additional ratios for you to consider using. Whichever standards you choose to focus on, compare actual and ideal figures for each standard or ratio. Then take the necessary steps to improve any ratios that fall below standard. A more perfect bottom line should inevitably fall into place.

If your laboratory is hospital based, you can use these standards even though they were assimilated from data obtained mostly from independent labs. Simply gather the appropriate financial and operational data from laboratories comparable to your own. Be sure to pick those that are both solvent and efficient. Then construct your own ratios and standards. With some fine-tuning, you'll have a valuable management aid.

Figure I displays and explains the 10 benchmark standards I use. Specific examples follow in the form of several case studies (Figure II), starting with the situation I first plugged into the system.

All is laid out in these 10 equations. Take a look and see whether the system might be useful in your lab, too. [Figure 1 and 2 Omitted]