Paying equally doesn't always make sense in a partnership, especially when doctors aren't contributing in the same ways. A tiered-compensation system can account for these variances.
Are you in a partnership where all the partners are getting paid the same amount of money and receiving the same benefits? Are all the partners working an equal number of hours or contributing equally to the practice? If not, is it fair for compensation and benefits to be the same? I think not. In fact, this scenario leads to discord in partnerships and in severe cases, partnership breakups.
Fortunately, there's a better way to pay veterinarians in a partnership—a tiered-compensation program. This method makes compensation fair, regardless of whether the partners contribute equally.
With this approach, you consider four issues: production, return on investment, division of net profit, and management. Here's a look at what you'll consider within each tier. (I've summarized the key points of each of the tiers for you in "Figure the Four Tiers".)
Reference: Figure the four tiers
I define production as the fees generated and collected for services and products that you're directly involved in providing. As an example, if you conducted an outpatient office visit, and during that visit you performed a comprehensive wellness exam, vaccination, and heartworm check and sold some flea control or heartworm preventive, you'd get credit for all those products and services because you were involved in their delivery. If the client returned a week later and purchased more flea control over the counter, you wouldn't get credit because you weren't involved in the delivery of that product.
The exceptions to this rule are dentistry, laboratory, and radiology. You may not do the dentistry, laboratory, or radiology procedures, but you'd oversee them and interpret the results, so you'd receive the production credit for these services. In most cases, you'd never receive production credit for food sales, boarding, or grooming unless you provided medical services.
The normal percentage you'd receive in Tier 1 is 18 percent to 23 percent of your production. The exact percentage depends on your other benefits. After adding up all your costs of employment—salary, benefits, matching payroll taxes, retirement plan contributions, and so on—your total cost of employment in Tier 1 shouldn't exceed 25 percent of your production. (To calculate your total cost of employment, visit www.vetecon.com and click on "Forms" to download a total compensation statement.)
The second tier of compensation, return on investment, is based on the value of the corporation's stock. The normal return on investment is 9 percent to 12 percent. So, for example, if the total value of the practice's stock were $1 million, and you owned 10 percent of that stock and received a 10 percent return on investment, you'd get $10,000 each year. In other words, you'd earn 10 percent of the value of the stock you own.
The return on investment you're paid needs to be decided each year and stated in your buy-sell agreement. Customarily, all partners are paid the same percentage return on investment. I recommend that you tap an accountant in the veterinary profession to value the stock annually, so you're using an accurate number.
Generally, partners divide up whatever's left in their corporation's account at year-end after all bills are paid. Partners normally agree on how they'll divide this sum in their buy-sell agreements. The two most common ways: based upon ownership percentage or based on each doctor's percentage of total production.
If you use ownership percentage, the process of dividing up the net profit at year-end is relatively easy. For example, if you owned 60 percent of the stock and you had two other partners that each owned 20 percent, you'd divide the net profit by 60 percent, 20 percent, and 20 percent.
If you split up the net profit based on owner-doctor production, you'd need to first figure the total production of all the owners. Then divide that by each owner's individual production to determine what percentage of the net profit each owner would receive.
Both strategies work and are commonly used. In fact, some practices divide up the net based on ownership for the first five years, to better return equity to the initial owners, and then switch to dividing up the net based on percentage of total production.
Theory into practice: Tiered compensation at a three-partner practice
Accounting for management duties is optional and will depend upon who's handling the management for the practice. However, I recommend that you allocate 3 percent to 4 percent of the practice's total gross revenue for management.
So if your practice is grossing $1.5 million, you can afford to spend $45,000 to $60,000 for management. If you have a practice manager or hospital administrator, you might already be spending this money on that individual. But if any of the owners are spending a portion of their time on practice management, they should be compensated for their time, too.
As an example, consider one of my consulting clients, a practice that has three owners. Two are actively seeing clients, while the third is a managing partner, spending most of his time on management activities. He makes very little income in Tier 1, because he's not rendering many veterinary services. He gets equal compensation in Tier 2 because he's an equal-owning partner. All three receive equal compensation in Tier 3 because net profit is divided based on ownership. He receives 3 percent of gross income in Tier 4 for management.
What's interesting about this practice is that in the end all three partners receive equal compensation. They just receive their pay in different tiers. The managing partner receives most of his income in Tier 4, while the other partners receive more of their income in Tier 1. (See "Tiered Compensation at a Three-Partner Practice" for an example of what this tiered-compensation program looks like when the veterinarians don't have any management responsibilities.)
Clearly, it's not fair to pay all partners equally when all partners aren't producing or contributing equally to the practice. Yet this happens again and again. With this tiered-compensation formula, you can adjust for disparity between partners—with no ill will. One owner can work one or two days a week while another might work full-time; yet each will be paid fairly based on his or her production and ownership interests. Just consider the benefits; doesn't this seem like a fairer way to pay?
The bottom line
Equal pay isn't always fair when partners contribute differently to the practice. And disagreements over compensation structures can be devastating to an otherwise healthy partnership. A tiered structure takes into account differences in contribution by addressing production, return on investment, net profits, and management duties separately.
Veterinary Economics Hospital Management Editor Mark Opperman is a certified veterinary practice manager and owner of VMC Inc., a veterinary practice management consulting firm based in Evergreen, Colo. Please send your comments or questions to: email@example.com