Give Your Pharmacy a Financial Checkup
Monitor key financial figures to make your pharmacy more profitable
The typical pharmacy school curriculum is packed with learning clinical information, which leaves little or no room for training about the business side of running a pharmacy. It’s a problem that Richard Jackson, professor emeritus and former dean of Mercer University’s Center for Community Pharmacy Practice and Research in Atlanta, Georgia, knows well.
Without adequate business know-how, pharmacy owners tend not to pay enough attention to important financial data that could reveal problems or opportunities. Jackson compares the situation to a driver who doesn’t pay attention to the vehicle’s maintenance needs until the check-engine indicator lights up.
A best practice: At least once a year pharmacy owners should complete a full financial checkup, and each month should check key figures on their income statement and balance sheet for early warning signs, advises Jackson, a frequent presenter and writer on community pharmacy operations and management.
Don’t Settle for Average Performance
The NCPA Digest, available to members of the National Community Pharmacists Association, offers a wealth of financial and operational information for comparing your pharmacy to others, Jackson said. In addition to overall averages, it also shows community pharmacy financials broken down by four categories of sales volume, five geographic regions, and three categories of rural vs. metro regions. However, it’s important to look beyond the “average” figures to the data for the top 25% of pharmacies. “You should always aim for being the best and not settle for average,” Jackson advised, noting that in pharmacy school “average” means a “C” grade.
5 Important Figures
A full financial analysis, like a full set of lab work from the doctor, may include 20 different ratios to analyze. But just like those lab results, a handful of numbers are more important than the rest. Just looking at five key numbers can give you quick indicators of your pharmacy’s overall financial health and help you know what to dig into.
|Average for All Pharmacies
|Top 25% of Pharmacies
|How to Determine
|Cost of Goods Sold
|Costs ÷ Sales
(Net Operating Income in NCPA Digest)
|(Gross profit – Expenses) ÷
|Payroll Expense as a % of Sales
|Payroll Expenses ÷
|Turnover (Per Year)
|Credit sales ÷
AR Turnover Ratio
|As a Percentage of Total Assets
|Inventory Turnover Ratio
|Cost of Goods Sold ÷
|Figures based on 2013 data for average-size pharmacies in the 2014 NCPA Digest. See the Digest for more specific data.
As a consultant for people buying and selling pharmacies, Jackson evaluates the finances of about 40 pharmacies a year and helps write 5 to 10 business plans. He recommends checking these five areas on your pharmacy’s income statement each month:
- Cost of goods sold (COGS). A high COGS compared to other pharmacies with the same sales volume may indicate several things, Jackson said, such as you’re not marking up prices enough and therefore your cost of goods represents a high portion of your revenues, hurting your profitability. Or, when purchasing products you are not getting a competitive deal from your sources or may not be taking advantage of cash discounts. Perhaps you are plagued by shoplifting. COGS averages about 77% for community pharmacies, though the best performers have COGS of only about 72%.
- Net profit. If your cost of goods is in line with comparable pharmacies but your net profit is lower, take a closer look at your expenses. For community pharmacies net profit averages about 3%, but the top 25% of pharmacies have net profit in excess of 9%.
- Payroll. That is the biggest expense for a pharmacy, and the one for which the owner has the most control, Jackson said. It’s also one area where you may need to do what accountants call “normalizing” the data before you analyze it. For example, consider salaries of family members that may skew your analysis of whether your payroll costs are too high. On average, payroll as a percentage of sales averages 13.4%, but at the top 25% of pharmacies it is 12.9%.
- Accounts receivable. “If it’s too large, it’s soaking up all your cash,” Jackson said. You may need to be more aggressive in pursuing payment on some of your store charge accounts, or some third-party payers may be taking so long to pay you that it’s not worth being in their plan. One measure of receivables is collection days. The average is 15 collection days, but the top 25% of pharmacies collect in 14 days.
- Inventory turnover. The average pharmacy turns over its inventory about 10 times a year, Jackson said, and the top 25% turn over their inventory 11.6 times per year. If your inventory turnover rate is only six times a year, he said, that’s a signal that you have too much money tied up in inventory. You may have $550,000 worth of merchandise on your shelves, when the amount should be only $300,000.
“By regularly checking these ratios, you know if you have any problems and which areas to focus on,” Jackson said.
Jackson is working with Mercer University to offer current and potential pharmacy owners the online course on pharmacy ownership that he teaches to pharmacy students. He also teaches several workshops each year through NCPA. The association’s Effective Pharmacy Management CD, which Jackson edited, explains how to analyze pharmacy finances, as do other books from NCPA.
McKesson’s RxOwnership® program offers similar resources for buying, selling or starting a pharmacy via RxOwnership.com and its eight regional ownership advisors.
What have you discovered by taking a closer look at your pharmacy’s finances? Share your experiences in the Comments section below.