Fixed to variable costs: how PRN employment can benefit an entrepreneur

As current/future healthcare entrepreneurs, you’ll be faced with employees asking to go PRN. PRN is a common employee status in healthcare, and one that can benefit the employER. Let’s see how.

Employees can benefit moving from a full- to PRN status, but they aren’t the only ones that do. Employers can benefit as well, and in some cases, need to exercise financial prudence and accept a PRN request. One reader found such employer:

I’m in discussions to become the PRN Chief Medical Officer for a company. What are your recommendations about a monthly retainer and a daily rate?

If you were the employer, why would you actively search for a PRN physician-executive?

Labor costs are commonly fixed costs

Costs (expenses) can be grouped in a number of ways. A common way is to distinguish between fixed and variable costs. In healthcare, most labor costs are fixed - they do not change based on the demand for services.

For example, consider a healthcare provider who provides an outpatient service 8 hours a day, 5 days a week — you guessed right… I’m not referring to a house officer/trainee 😃. If that provider earns a gross salary of $100K per year, let’s calculate how much the employer must pay him/her on a weekly basis.

Annual salary: $100,000

Weeks worked annually: 52-4 weeks of vacation = 48 weeks

Weekly gross labor cost = $100,000/48 = $2,083 per week

The weekly gross labor cost is a fixed cost - it won’t change whether the provider services any multiple of X patients per week. Naturally, an employer would want to fill that provider’s schedule with the maximum number of patients possible (including overbooking). The employer wants to ensure that the capacity of the provider is optimally used.

Note: I’m not suggesting that the above strategy is correct. Indeed, the more you utilize the maximum capacity of the provider, the worse off your provider, patient-customer, and your business (due to congestion costs). Too bad few healthcare-executives consider/recognize/adjust/monitor these consequences.

Activity-based costing

Our hypothetical healthcare provider has a weekly maximum capacity of patient-customers s/he can serve. Let’s calculate that cost.

• 5 days per week

• 8 hours per day = 480 minutes per day

• 30 minutes per day for lunch

• no breaks for eye rest, wrist/carpal tunnel rest, mental health rest, or….documentation (again, I don’t agree with this philosophy).

• no overbooking (I’m keeping the model simple with this assumption)

With these numbers, the result is (480-30 minutes/d)*5d = 2,250 minutes of service per week. The fixed labor cost for the employer is $2083/2250 minute = $0.93 per service minute (FYI: that’s approximately $55.54 per service hour).

The cost of excess capacity

Having excess capacity would manifest in a number of patients (per week) that, in aggregate, consume less than 2,250 minutes of provider service time. Since labor costs are fixed - that is, the cost of labor does *not* change based on the demand on the provider (number of patients seen in a week) - you (employer) would incur an expense for the unused/excess capacity. Over the course of a week, that cost may be insignificant, but over 48 work weeks and across multiple healthcare providers, excess capacity costs can be consequential to your gross margin (learn about margins by using the content menus above).

Eliminating excess capacity costs

There are three obvious ways to reduce your excess capacity cost:

1. recruit more patient-customers to your venture; in other words, increase demand,

2. eliminate the egregious sources of excess capacity costs; in other words, become lean and reduce/right-size your headcount,

3. convert your fixed labor cost to a variable labor cost

In this exposition, we’re going to consider option #3.

Convert fixed to variable labor cost

A variable labor cost is an expense incurred when your demand calls for additional provider service time. Ventures that schedule patient-customers in advance and have a logistic regression model to predict if a patient will show for an appointment can estimate their staffing needs. Provider-entrepreneurs who have this information can call for more capacity (service providers) when predicted demand calls for it. Labor costs are incurred only when those providers work - in the absence of demand, there are no labor costs for you to incur.

Now, let’s revisit our reader’s question. The last sentence suggests what the employee wants: a fixed salary per week and an additional variable salary based on additional demand requested. From the employer’s (your) perspective, you might be opposed to a combination fixed and variable labor cost. Based on the actual salary and expected work (demand), the hybrid model proposed by our reader may result in a loss of the benefits of having a fixed or variable cost structure.

There you have it. A brief exposition on converting a healthcare employee from a fixed to variable cost. Naturally, having an accurate or precise scheduling prediction model makes it less costly to accept an employee on an as-needed (PRN) basis. Leave a comment or question below to continue this discussion.