Surgery Center Investments – Podcast #94

Intro: This is the White Coat Investor Podcast where we help those who wear the white coat get a fair shake on Wall Street. We've been helping doctors and other high-income professionals stop doing dumb things with their money since 2011. Here's your host, Dr. Jim Dahle.

WCI: Welcome to White Coat Investor Podcast number 94, Surgery Center Investments. This podcast is sponsored by Alexis Gallati of Gallati Professional Services. Alexis is not your typical tax advisor. With over 15 years of experience, she's been helping physicians all over the country save money on their taxes. As the spouse of a busy physician, she understands the burden of high tax payments physicians incur during their lifetime. Not only will she create a high-level strategic tax plan for you, guaranteeing money in your pocket, but Alexis will proactively work with you throughout the year to maintain your tax plan, prepare your annual tax returns, and represent you in case of an audit. The investment in her tax planning services is a fixed-price agreement, and her tax maintenance packages are a flat monthly fee. If you're tired of complex tax jargon, and giving away most of your paycheck to the IRS, visit Alexis's website at www.gallatitax.com today to schedule your free initial consultation.

WCI: Our quote of the day today comes from J.L. Collins, who said, “Yes, it is possible for every middle-class wage earner to retire a millionaire, though it's never going to happen. And that's not because the numbers don't work.” I like that quote. I think that is entirely possible, if you can get yourself to a middle-class wage to become a millionaire.

WCI: Today we've got a pretty special episode. I've got two docs that are going to remain anonymous, but we're going to talk about outpatient surgical centers as an investment and a place to practice. So let's get into the interviews.

WCI: All right, we have two special guests on the White Coat Investor Podcast today. We have Dr. L. and Dr. D. Obviously, we're trying to preserve a little bit of anonymity on this episode, but the real impetus behind this episode was to try to talk about outpatient surgical centers. This is something I get questions on all the time, and given that I'm not even a surgeon, nor have I been involved in one of these businesses, it's difficult for me to answer those questions, and so I thought I'd at least try to get some people on with some experience to talk about it.

WCI: The truth is, there's very few people who are involved in a lot of these, and it's hard to find an expert on the topic out there that can really give some specific recommendations, so I thought the best we could do was to get two docs on, one of whom is looking at an opportunity to buy into a surgical center, that's Dr. D, and one doc who has fairly extensive experience with owning a surgery center, and that is Dr. L. And so the question that I had, or the offer I had to be a podcast guest, originally came from Dr. D, who said, “I'm three months out of residency with moderate student loans, and I've just been offered a small percentage in my ASC. I'm also planning on making partner in one to two years with around a $300,000 buy-in. I would like to explore ways to prepare for practice and ASC buy-ins, and how that fits in with paying off debt and saving for retirement.”

WCI: Then I put out the question to the e-mail list, you know, 21,000 docs going, “Hey, who's got experience with ASCs and would like to come on the podcast and talk about them?” and Dr. L was gracious enough to agree to come on, and I think will make for a great guest for this episode. So welcome to both of you, Dr. D. and Dr. L.

Dr. L: Thanks, Jim, for having us here.

Dr. D: Yeah, thank you Jim, and thank you, Dr. L.

Dr. L: No problem.

WCI: Okay, so let's get started in this a little bit. Let's start with Dr. D. Can you tell us as much as you can, and I know there's always some details that you'll want to keep private, but as much as you can about not only your financial life where you are right now with it, but also about the details of this opportunity you're having presented to you.

Dr. D: Yeah, no problem. I'm actually very blessed to have a very small amount of student loan. I was prior military before I went to my undergrad, so I was able to use a GI bill during medical school. So after the end of my residency, I had about $90,000 in student loans, and originally me and my wife had planned to aggressively pay that off in one year, and continue that high rate of saving, and save up for my buy-in for my partnership in two years. And at that time it should be a substantial increase in my income, and my plan was just to get a small loan for the rest of the buy-in, and then I would look at any buy-in to the surgery center at that time.

Dr. D: Traditionally you had to be a partner in the practice before you can even buy into the ASC, but I had a very unique opportunity that I wasn't expecting, that just only five months in. Still, with my student loans, I had an opportunity to buy a very, very small percentage. And the reason is that I got way busier than they originally thought I would be here only after five months And I actually operated two community hospitals, so there's a little incentive for them to offer me some buy-in to the practice to direct my patients here when it was in their best interest.

Dr. D: We do have–at this time we have my wife's 401k that we match, that we max out, and I also max out a Roth IRA. That's kind of where we're at financially right now. The opportunity of the ASC is we're a multi specialty center. We're fairly large. We're not the only ASC in town but we're by far the largest one and do the most production and have the highest revenue value.

WCI: And your specialty?

Dr. D: I am an ophthalmologist

WCI: And Dr. L, can you tell us a little bit about your experience as being an OB-GYN and being a part-owner of a surgery center?

Dr. L: Sure. So I started out practice a couple of decades and luckily, and I'm kind of afraid to admit this, but I was able to graduate without any medical school and undergraduate debt. So right off the bat I was a little bit ahead of the curve so to speak. Initially, I actually had zero interest in getting involved in a surgery center. There was one that my practice was affiliated with and it was actually a physician-run surgery center. And my understanding was they were basically writing checks every month to meet the bills and pay off the loan debts. So it had been in existence for a number of years and for whatever reason they just weren't as profitable as they potentially could be.

WCI: So it was cash flow negative. They were feeding the beast.

Dr. L: It was cash flow negative. In fact my partners were encouraging me to utilize the center obviously because it benefited them but from my perspective the surgery center was about 30 minutes further from where I lived and if the hospital was a closer commute, why would I waste my time going out there if it didn't really benefit me in any way. And it wasn't until I started getting busier in my own practice that I started doing multiple cases that I guess I realized some of the inefficiencies that can exist in a hospital type of setting. So if you have a 15, 20 minute case but you're having a 30 to 45 minute turnaround time in between cases eventually it seemed a little bit of inefficient use of time, so to speak.

Dr. L: So luckily at the time I started getting busier there was a management company that became interested in the center that my partners owned. And they said, “Hey, you know what? You guys have a lot of providers affiliated with the center. It looks like you're doing some things but you could be doing a lot of things better. If you let us take the reins, so to speak, we can help get rid of excess baggage and potentially bring in some newer providers who will do different types of cases and, potentially, higher acuity cases. Maybe that could kinda turn things around and hopefully turn out a profit.

Dr. L: And I guess it was by chance that I happened to be getting busier at that time as well as a couple of other providers and we were approached as new talents, so to speak. And they pitched it, in a sense, that hey, we can all become a part of this center, we can work on productivity, we can make it more efficient for everybody, we will get busier and hopefully kinda turn things around.

Dr. L: So initially I was told about a potential buy-in and I actually had no money saved up. I'm not afraid to admit I took about two months off before I started my attending lifestyle and I kinda racked up some credit card debt. And luckily the specifics of the arrangements for the center dragged out long enough where I could save up enough money to buy up my piece of the pie, so to speak. And luckily within that first year, we were receiving checks. We became profitable and things have been heading that way ever since.

WCI: So did the management team buy it from the docs that owned it before or did they just come in, they were hired help, or what was the structure there?

Dr. L: They were a management team and they essentially purchased 30% ownership of the entire center. And the former owners, they were given the option: “Hey–would you like to be part of the new entity? You could get X% for X amount. But if you wanna be released from the current debt, then you can say ‘Bon voyage' and we'll leave it at that.”

Dr. L: So luckily there were a number of people that said, “Hey, you know what? I'm at the tail end of my career, I don't need to be taking any more risks.” And there were some younger docs, involved docs, who said; “Hey, you know what? I think we could do something here. Let's keep going forward.”

WCI: So did those older docs that bailed out end up losing their shirt given that this had been unprofitable for years and years? Or did they make out okay?

Dr. L: They lost a fair amount of money 'cause they were writing checks every month for about four or five years I'd say.

WCI: Just several thousand dollars every month, huh?

Dr. L: Yeah. But there were enough of them where it was kinda spread out and I guess they'd been doing well enough in their main practices that it wasn't too much of a burden, so to speak.

WCI: Yeah, kind of a warning there, is that those things don't always make money though, isn't there?

Dr. L: Definitely. I think a lesson that I learned just looking at things is I think you can get as much out of any business, whether it's surgery center or side business, you'll get as much out of it as you can put in. And if you're managing a center it does take a fair amount of time to kinda do things right, number one.
Dr. L: Number two, there's always a more efficient way to do something.

Dr. L: And then number three, you can have any number of providers affiliated with the center, but if no one's bringing cases there, then that surgery center is basically a really expensive closet for a bunch of expensive equipment.

WCI: You say “do things right.” What do you mean when you say that? Are you talking about ethically which cases get brought and how they get done by who? Or–what do you mean by that?

Dr. L: I think one thing that the group never looked at were things like reimbursement and negotiating contracts with payors. I think that's one thing. There's a more efficient way to do that, number one.

Dr. L: Number two, being willing to bring cases to the center. Just because a case could be done at a hospital because it's more convenient doesn't necessarily mean that it's more beneficial for the center that exists.
Dr. L: So I think, number one, utilizing the center to its fullest ability was something that people had to learn. Realizing that certain types of cases could be done in an outpatient setting is something that took people time to get used to. And once people are able to realize that certain types of surgeries can be done in that type of environment, people start to feel more comfortable with doing those things in that particular setting. And when people are bringing those cases to the center, then the center is being utilized and it becomes more productive.

WCI: Can you talk about there being any pressure or conflicts of interest to maybe bring cases there that are borderline in a gray area? Maybe shouldn't be brought there at all? Maybe they should be done at a hospital?

Dr. L: I think that was one of the things that was initially challenging for some of the partners because the center evolved at a time where things like laparoscopically and minimally invasive surgery were really being developed. So initially, a lot of these cases, things like hysterectomies and myomectomies, were done in an open manner where patients needed to be admitted to the hospital, usually overnight, sometimes two nights. But then with the advent of newer technology and more refined techniques, a lot of these cases were being done essentially at the hospital laparoscopically or in a minimally invasive way, and patients were basically going home from the hospital. So if you have a skilled group of individuals who are able to do these things in a safe manner, it's just a matter of changing the setting there they are actually performed.

Dr. L: So definitely there are probably some cases that can be done at a center that shouldn't be done at a center. But I think when you have a group of talented individuals, not only surgeons but anesthesiologists and an O.R. team, that can do things safely, it's just a matter of trying to change the environment where these things are being done.

WCI: Now is the physician fee portion for the surgery about the same no matter where you do it? Was there any difference there for you or is that portion sixes?
Dr. L: The physician fee doesn't really change whether it's done in a hospital or a surgery center.

WCI: So it's just a matter of collecting the profits on the facility fee for surgery then.

Dr. L: Exactly. Exactly

WCI: And can you talk a little bit, as much specifics as you're willing to get into, about how much it costs you to buy in and what kind of returns you've seen on that money?

Dr. L: So I guess the buy-in is really kinda dependent on what type of center is being run. Our center at the time happened to be a single specialty center. GYN only. And, like I said, at the time everyone is writing checks. So they had kinda bare-bones equipment because the type of procedures being done there weren't necessarily higher acuity cases that are being done now so the equipment was not all that much.

Dr. L: With that said, the area that our center exists, the real estate's little bit on the higher end of the spectrum, I'd say. Our surgery center I think at the time was about 5,000 square feet and the average square footage was $35 a square foot. So just for the facility itself, you're talking about up to $200,000 a year just for the rental space.

Dr. L: In terms of equipment, so of those things are kinda pricey. Believe it or not, an O.R. table that's pretty decent can be anywhere upwards of $25,000 to $30,000. You have to have anesthesia equipment for general anesthetic. That could be anywhere from 40 to 50K. If you're gonna do laparoscopy or hysteroscopy, video towers could be another 40, 50,000. And then you have to worry about things like sterilizers, autoclaves, PACU. Those little stretchers that people use, they're actually kinda pricey. They could be anywhere from $2,000 to $3,000 each. And if you have a four-bed PACU and a four-bed recovery, that kinda adds up.

WCI: Yeah, I know the gurneys in our E.R. cost about six grand so that equipment can sometimes be ridiculously expensive.

WCI: So how much value is there in that equipment? I mean, if you turned around and you needed to sell it if you're closing the place down, do you get pennies on the dollar? Or what do you get for it?

Dr. L: I think just like a car, once you drive it off the lot it does depreciate significantly. I wouldn't say pennies on the dollar. Maybe nickles or quarters off the dollar.

WCI: (laughs)

Dr. L: We recently underwent a renovation of our center and it went under a complete facelift. We expanded the O.R.s. And that by itself was about $2,000,000 for the physical structure. You combine that with the equipment putting everything together it could up to $2.5 million if we were to start everything anew.

Dr. L: And that's just the start-up cost. It doesn't include staffing, daily operating costs, front house, O.R. techs, management.

WCI: Yeah, there's a lot of capital there, for sure. And it sounds like, at least in this case, the real estate and the business are all blended in together, correct?
Dr. L: Yes.

WCI: And do you have any idea what kind of returns you've seen on that? Has it been in the 20% range? Or better? Worse? What do you think it's been over the years?

Dr. L: Well from when I got in the valuation of the company was significantly less but within that first year based on my buy-in, I got about a 200% return on my investment. And then for the subsequent eight years, as we became a little bit larger, a little bit busier, and people actually felt comfortable bringing cases to the center, we were seeing upwards of anywhere from a 400 to 500% return on the investment over that time.

WCI: On your initial investment or over the previous year's value?

Dr. L: On my initial investment.

WCI: Okay. Very nice. So it's been very very good for your finances to be a part of this surgery center then, it sounds like.

Dr. L: It's been good, it's been good.

WCI: So Dr. D, do you have any idea, have they given you any information on how the business is done in the past and what you can kind of expect going forward on this?

Dr. D: Yes, sir. Now I will say mine is quite a bit different than Dr. L's. The surgery center is attached to my main building. So it's literally 15 steps from my clinic lines to the surgery. So I can operate, come back and see a patient, and then go back and do another case if I need to. It's all in the same building, but the buy-in to the practice does not count the real estate. That's a totally different LLC. And the same for my practice, so the founding partners own the real estate and then of course we pay rent to both of them. So then the buy-in does not include the actual physical building.

Dr. D: And in ophthalmology, almost all surgeries are done in outpatient centers. There are very few done in a hospital. Now the only reason I operate in a hospital is clearly due to convenience to my patients because my satellite clinics are about an hour and a half away and it's just a long drive to bring them all the way back to our main clinic. And like Dr. L said, one of the biggest advantages is just efficiency. I literally operate in one room, go to the next room, operate, come back out, scrub, operate again, where in the hospital there's a 20, 30 minute turnaround time. And we have much more stronger negotiating power with the equipment, like the intraocular lenses. We get them for a much cheaper price because we do such a high volume here compared to the surgery center.

Dr. D: But that one percent share in the current surgery center I'm in is about $240,000. I've been offered only a fifth of that share, so I'm not even offered a full share. Which is good because there's no way I could afford $240,000, one percent buy-in at this point right now.

Dr. D: And that's really why I was taken back being offered it this soon and didn't really know what to do with this situation. I think in the ophthalmology side most surgery centers are pretty profitable just because we do such a high volume of surgery and it's been a long track record of having outpatient centers. And this particular center has been here for close to 20 years. I wanna say the profits per year is just a little under eight figures, so it's been a profitable center.
Dr. D: The ideal is that your original investment will be paid back in 4 and a quarter years. That's the ideal. So a $240,000 should be paid back in 4 and a quarter years and after that anything you make should be just profit on the original investment.

WCI: Yeah, I mean at those sorts of returns it makes sense to borrow money for your share. As much as they're willing to sell you, you wanna buy, just because the returns are spectacular at that sort of rates.

Dr. D: And that's how I felt, Jim. I felt like I really did not want to get more in debt with my student loans. But I felt like it were too good an opportunity. And if I just got my foot in the door, there'd be more opportunity to buy more later on down the road. Because partners are required to sell out once they hit a certain age limit. And in the next five years, two partners will be hitting that age and there'll be about 10% of the company will be up for sale. So I just wanna get my foot in the door so I can have that opportunity in the future to buy into some more.

Dr. L: That's interesting that you actually mention that the partners are required to sell out after a certain age point.

Dr. D: What's been your experience for that, Dr. L?

Dr. L: That's actually a work in progress.

Dr. D: (laughs)

Dr. L: I haven't had any partners that have officially retired as of yet. There are people that are considering it. Probably some partners we'd like them to consider sooner rather than later.

Dr. D: (laughs)

Dr. D: At age 65, you got to start selling 20% every year. So by age 70, you're completely sold out

Dr. L: Wow.

WCI: And what was the reasoning behind doing that? Just because you wanted people who were actually practicing and bringing cases to be the owners? Was that the idea behind it?

Dr. D: Absolutely. Most surgeons would slow down and you didn't want people who were not operating getting the largest amount of the profits.

Dr. L: That's some pretty forward thinking, actually, because it actually also avoids some of the, I guess, the ethical and law issues that could come up from people who aren't being productive. It kinda forces them to kinda scale down, so to speak. So that was very forward thinking of those partners.

WCI: Now it doesn't sound like your buy-in is gonna be a huge chunk of money, but tell us a little bit about what you thought about and your mindset. You know, you're just out of residency, don't have much in debt in your case. Lots of surgeons in your situation might owe $300,000 or $400,000 in student loans. What was your thought process in deciding when to pay off student loans, when to put it into retirement accounts, when to save it up for practice buy-ins and ASC buy-ins, etc?

Dr. D: That's funny you said that, Jim. I do have very little student debt. When I met my wife, her mouth pretty much hit the floor, her jaw did, when I told her how much debt I have. So it's still a lot of debt but for the medical world it is a very small amount. And since I sent you that email, I'm actually a partner now. I did go ahead and buy into the practice.

Dr. L: Congratulations.

Dr. D: Thank you.

Dr. D: I just saw too good an opportunity to miss out. And how I did that was we wanted to pay off our loans aggressively as soon as we could. That's always been our plan when we came together. I ended up having to get a small business loan with a local bank here that had worked for the surgery center for years and had financed many of the partners in the past. So I had no difficulty on that end, they were pretty willing to give me the loan. And what we had done, we had turned our attention to just paying off that loan as quickly as possible. I'm just paying the minimum on my student loans now and I'm paying 50% of my base salary goes towards paying off debt and any bonus I get, 75% of that goes towards paying off the extra loans. So I plan on being–this particular loan should be paid off by June, and that point I'll redirect all my finances back into paying off my student loans.

Dr. D: The big issue coming up to me again is I won't have anything set up for the partnership when that time comes in another year, so I'll have to look at financing probably that $300,000 for the buy-in for that. Which I was hoping to have a good chunk of that saved, and I won't have that now that I bought into the surgery center.

WCI: Still, when 50%-plus of your income is going toward retiring debt, I mean you're on the fast-track to wealth there. The debts'll go away very quickly at that rate, and if you keep saving like that and putting it toward investments, you'll be financially independent very very quickly.
WCI: So congratulations on being that disciplined. I think most docs are not.

Dr. D: And I will say I look at the surgery center as an investment. That's how I approached this. I may not put into the 401k, but I feel that buying into it is the same. Got real good returns on that. And it's buying stock in the company is what I'm doing. So that's how I looked at it as far as the investment and paying off debt section.

WCI: Yeah, it's obviously not particularly diversified…

Dr. D: No.

WCI: But you know, there's kinda two schools of thought when it comes to investing. The first is diversify broadly to protect yourself from what you don't know. You know, don't put all your eggs in one basket. The second one is put all your eggs in one basket and watch it very very closely.

WCI: And I think a surgery center or a free-standing E.R. or these sorts of imaging centers that radiologists might buy or dialysis centers for nephrologists are kind of in that second category. It's a business that you buy into that you expect better returns than you're gonna get outta stocks or real estate because there's more risk there. But it's also your day-to-day life and something you're keeping very close tabs on and so I think it's nice to have a mix in that respect of those two investing philosophies.

Dr. D: I will say one thing. Dr. L, maybe you could comment on this. There's a lot of non-partners who operate here and my concern was we're gonna be leaving in the next couple of years and there was at least one high-volume surgeon who will be leaving. And there's no way I could predict how that is gonna affect the future returns. I did talk to the surgery center essentially about that and the plans we have to actually expand and try to bring in new procedures. I think this year you can start doing diagnostic caths in ASCs and that's something we're trying to bring in to maybe make up from that revenue loss we're gonna lose from the high-volume surgeons who're moving to a different town.

Dr. L: In terms of answering the question. I think that's another thing that was kind of alluding to when I said–referring to doing things right. I think part of a surgery center to be–continue to be productive is to look for continued growth and to potentially look for individuals who, at a certain time, might decide to wind down, so to speak. A surgery center's success in productivity could easily hinge on one or even two different surgeons who are really high-producers. And if for some reason they retire, they leave, or god forbid, something happens, then that could definitely have an impact on the overall success of the facility.

WCI: So what advice would each of you have for somebody that's been presented this opportunity. I mean, what should they do to decide whether this is worthwhile? What kind of vetting should take place? What should their due diligence involve? Let's start with you, Dr. D, and then Dr. L.

Dr. D: One thing I did not do that I probably should do is hire a health care lawyer to look at the contract and review everything. I did not do that. I reviewed everything myself. I had a lot of trust in the partnership. I talked to previous people who've been offered partner who recently bought in, got their take on field stuff so I felt comfortable going in doing that without having a contract lawyer. But I would recommend most people probably would need to get a contract lawyer to look at the buy-in and to the ASC. There is actually a company out there who's willing to evaluate the company for you, to look at the numbers for you and give you feedback on that. I did not feel like I needed it in this particular case. In ophthalmology, ASCs are pretty much a part of a private practice and you don't really get taught this in residency but I think that's something you should be planning from Day One. And our specialty is being a part of an ASC and planning your finances ahead of how you wanna approach that when that time comes.

WCI: All right. Dr. L?

Dr. L: I think anyone that's looking at investing in an existing center, I think their concerns might be different than someone who's potentially building one up for the first time.

WCI: Mm-hmm (affirmative)

Dr. L: So if you're looking at a center that's already been in existence for X number of years, I think definitely questions you might wanna ask if they don't present it in their original pitch is, things like complication rates–do they seem like they're above national averages or within acceptable ranges? Do they have access to their transfer rates, for example–if there's a complication, how many patients are transferred to a hospital from that surgery center? And also, do they look at things like patient satisfaction scores and even provider satisfaction scores–how often do they address those things and how do they collect that information. Efficiency perspective, and I don't know if everyone keeps this information but I think it would be good to have. The percentage of on-time starts I think is important. The average turnover in between cases. How long the O.R. staff has been there and what is their experience with the type of cases being done.

Dr. L: And I think another thing that's pretty important is who provides anesthesia. Are the anesthesiologists there locum tenens and potentially you have a different provider there every week? Is it a set number of anesthesiologists that rotate in and out on a daily basis? How long have these providers been practicing in surgery center settings? Because I'd say the level of anesthesia and the type of anesthesia is sometimes different when you're in a hospital and you know you have the backup ancillary services readily available than when you're practicing in a surgery center.

Dr. L: Our anesthesiologists actually have a lot of say in terms of what types of cases we're allowed to bring to the center. And if they feel, for whatever reason, a particular patient or a particular case isn't appropriate, we value their opinion. We're not here to put anyone in a position they don't feel comfortable with. And vice versa. Because in the end, we all gotta try to do what's best for the patient.

WCI: So do you have a lot of–do you find there's a lot of conflict there? That the anesthesiologists are saying “no way” and does that change if they're also owners of the surgical center?

Dr. L: We all have the patient's best interests in mind. We've come up with protocols that we all feel comfortable with, at least initially. For example, we have a top BMI that we're willing to even consider bringing into the surgery center and if it's somewhat borderline we have patients literally meet with the anesthesiologist. And a BMI is just one factor. Part of it depends on whether that body mass is focused. If it happens to be all in the neck, then that's an anesthetic risk. And medical comorbidities, level of hemoglobin and hematocrit. As much as we wanna try to do as much as possible at the center, we wanna do what's safest for the patients. So we have sets of checks and balances.

Dr. L: And I think also having a medical executive committee that does random case reviews, I think that's important because sometimes people will try to push the envelope as to what type of case would be appropriate for that type of setting. And if you have individuals who are essentially policing that, it kinda help prevent issues that could come about that could lead to poor patient outcomes.

WCI: Now in both of your cases, are your anesthesiologists or CRNAs owners of the center or are they employed staff?

Dr. D: They are only employees at our ASC. We have one full-time anesthesiologist and four or five full-time CRNAs and two locums who come in on a regular basis that fill in any gaps. And I will say for ophthalmology, 95% of what we do is elective so anytime an anesthesiologist has any question or any concern about something we usually just cancel the case. But we do a lot of local or topical anesthesia for our cases so a little bit different environment than we have at our surgery center.

Dr. D: Of course we do GI and urology. But I'd say pretty much, for the most part, we listen to the anesthesiologist and any concerns they have when they voice them.

WCI: Same question to you, Dr. L. Your anesthesiologists?

Dr. L: The anesthesiologists we have at our center are contracted anesthesiologists. Our situation is unique in that they also are the same anesthesiologists that work at our hospital. So we've already kind of established a level of trust, I'll say, and mutual respect. If they have any questions about things that we're thinking about, they will freely voice their opinions. And whenever there's a question it's easier to say “Hey, you know what–let's just do this one at the hospital” and no one's gonna say no.

Dr. L: So I think there's a benefit in having anesthesiologists that aren't vested in the center because I think when there's a little bit too much of that sometimes it could lead to riskier situations.

WCI: All right, let's get into some of these questions I picked up from the White Coat Investor Facebook group. They've got lots of questions for you guys for this podcast.

WCI: Let's start with the beginning, of someone coming in and buying in. Would you recommend using a consulting firm? And I think maybe they're even talking about starting one on their own rather just buying into an existing one. Would you use a consulting firm to help navigate through the regulations?

Dr. L: I think if it was a surgery center that was being built up from the ground up for the first time, I think definitely having some guidance would be beneficial. Because a lot of the times people's eyes are bigger than they should be and there's actually a lot involved, a lot of things that you might want to consider or that you don't always consider initially. And there's different factors that you gotta kinda take into account that you might not realize. I think one thing that's important is sometimes the most important thing to know is what you don't know.

WCI: Hmm. Right.

Dr. L: And sometimes you need someone to tell you that.

WCI: Yeah, that's a good point.

WCI: Another question was: What is their why? Why did you want to get involved in an outpatient surgical center? You wanna start Dr. D, and then Dr. L on that one.

Dr. D: So like I said, all ophthalmologists operate in an outpatient surgery center. The why is just the financial benefit at being a part of it. And also having a say in the type of equipment that you buy and the type of lens that you use. So you're already gonna operate there, you're making somebody else some money, why not make it for yourself and then having a say in what's going on in the surgery center that you gonna be operating in.

WCI: Dr. L?

Dr. L: I think for me the why was more initially had to do with the productivity and the better use of my time. Initially, I was an employed provider and if I'm spending two, three, four hours in the hospital waiting to do two small cases, then that's time I'm not in the office seeing patients. So rather than being an asset to the group, someone who's being productive, I'm more of a liability. So as I became busier as a surgeon and I started getting referrals, I had to have a place where I could do things efficiently, where I could do a high number of cases, and I could prove myself as an asset to the group I was a part of. And if I can benefit from that financially, that was icing on the cake, so to speak.

Dr. L: And I think being involved in the leadership of the center, I didn't realize how much I would, number one, enjoy that, but then, number two, I didn't realize how much of a better impact I can have on my patient outcomes. I'm really looking at things from both sides of the spectrum, so to speak.

WCI: Yeah, I think that's one reason why a lot of emergency docs get involved in these outpatient emergency departments, basically, these free-standing E.R.s., is because then the employees, the staff, the nurses, the x-ray techs, etc. become their employees rather than the hospital employees. So they decide how much they get paid, they decide what their benefits packages are, they decide which ones stay and go. And as a result, the employees are much more responsive to them. And so they just enjoy having a lot more control over their practice and how their patients are treated that they just can't get at the hospital emergency department. Have either of you experienced that and enjoyed that aspect of it.

Dr. L: I think that's a really dramatic and very profound comment. I've had patients that have had procedures done at the hospital and I've had patients that have had procedures done at the surgery center. And when the patients can tell the difference in the staff because of their disposition and their outlook on things. I think that speaks volumes.

Dr. L: At our surgery center, for example, everyone from the check-in to the post-op nurses, they tend to have this sunny disposition, I'll say. Part of it is because patient satisfaction score is very important to us. And I think another aspect of it is, at the surgery center at least, the last employee leaves when the last patient walks out the door. People aren't staring at the clock, waiting for the change of shift, they're not looking at the lunch waiting for lunch so that someone can come in and relieve them. Everyone's there, everyone works together. It's a small center so everyone is essentially forced to work efficiently and work together and I think creates a more positive environment and safer experience for the patients.

Dr. D: Definitely a better experience for the patient. Just the time from the door that they enter to the exit, it's probably half in the outpatient center compared to the hospital. And like the whole experience form the time they're there, we try to make an environment that's comfortable for them. They don't feel like they're waiting in a hospital. The waiting room feels like they're more in like they're in a luxury spa. So we just try to make the whole environment for them just a better experience overall. And the door that they enter and they exit is probably the biggest thing that is better for the patient. The time they're waiting and stuff.

WCI: I have a couple of questions related to capital. For example, Alex asked us on the Facebook group asks: “How much capital is generally necessary to get involved in such an investment?” And Mark Singer asks how to secure funding for such endeavors and ballpark costs setting it up and running it. Can you give us some idea if you're gonna build and buy this thing and start at the ground up and build an outpatient surgical center, how much money are we talking about and where does that money come from?

Dr. L: I'm aware of some individuals in the are that have tried to set up their smaller surgery centers as well and I think one variable that's regional is the real estate. I think the more fixed costs are the equipment 'cause those are more national types of costs. And depending on the specialty of the center that also impacts the type of equipment you're gonna use. I think if you have a lot of orthopedists and neurosurgeons, I know a lot of their equipment and hardware is a little bit pricier than suction D&C set of instruments that the GYNs are gonna use.

Dr. L: We initially were a single specialty GYN and our start-up costs just for the equipment upwards of $200,00 to $300,000. Our real estate, the physical shell, upwards of $200,000. And depending on how much you want to make your surgery center look as much like a spa, the facelift costs could be significant.

Dr. L: For ours, it was approximately a $2,000,000 renovation. So adding that all together, that's two and a half, $2.6 million for a single specialty.

Dr. L: Since we've been in practice, we've introduced other specialties, general surgery and Uro-GYN and urology. And luckily a lot of instruments that they use are similar to what we already had so it was a little bit of an easier integration. But I think as other specialties are introduced and their equipment needs change, then costs are generally gonna go up.

WCI: And that money is just usually borrowed for the most part? Or contributed by partners, part of it and borrowed from a small business loan from a bank? Or where's the capital typically come from?

Dr. L: We did have a small business loan that we applied for and the rates might be different than what they were ten years ago. I believe at the time when we first did the original renovation I believe our rate anywhere from 5 to 6%. But it was a variable rate so that did change with time.

WCI: And did all the partners have to sign for the loan personally?

Dr. L: All of the partners individually had to sign for the loan to guarantee it, yes, that's correct.

WCI: Yeah, I bet that felt like a big step doing that.

Dr. L: My heart rate went up a little bit when I signed that note.

WCI: Yeah, I bet.

WCI: Question from Olofunsho Adamolokun, I hope I pronounced that right. He's asking are you going in-network with insurance companies, staying out-of-network, or a mixture of both?

Dr. L: Dr. D, you got some insight in that?

Dr. D: I'll be honest, I'm pretty ignorant over it. We set up pretty much every insurance around here. But I'm really ignorant on the details of what we do actually.

Dr. L: So initially when our surgery center was re-established, I'll say back ten years ago, the management company that took over things, so to speak, their model was to stay out-of-network as long as possible. The reimbursements tended to be significantly higher. The challenge was although the facility was technically out-of-network, many of the providers were in-network. So at some point, insurance companies, they don't like that, so to speak.
WCI: Now their patients definitely don't like it.

Dr. L: Yeah, patients out of pocket costs were significant and if you have an out-of-network facility with an in-network provider, eventually the insurance company's gonna recoup that money some way, form, or another. So at some point, there's a law of diminishing returns where if you lose enough of those small cases because those patients are now going to in-network providers and facilities, then the gain of doing the higher acuity cases that are out-of-network don't really make up for things. So staying out-of-network to a point where it makes sense but then eventually going in-network is kind of a necessity for most facilities and practices but it does give you a bit of leverage in terms of re-negotiating whatever in-network rates you agree upon.
WCI: Hmm.

WCI: Let's switch to another question. Three good questions, actually, from Vencata Boravula from the Facebook group, who asks “How do you calculate the buy-in for younger physicians and is there room to negotiate.”

Dr. D: I'll say from my experience, there was no room to negotiate. It's a set formula they have used for all the partners since it's been open. And it's basically they take up what the profit would be after all your debt, after all your depreciation, and it's 4.2 times 5 that amount. So like I said the ideal of my original investment should pay for itself in 4.25 years. But there was no negotiation of that. That's something's been done for every partner since they came in and it was set in stone.

WCI: And how do you negotiate that, Dr. L? Or how do you calculate the buy-in?

Dr. L: I'd have to agree with the same thing. It's kinda straightforward. The profitability of the center is the profitability of the center. It's just a matter of what the administration felt would be a fair buy-in wanted to come in and ours happens to be about a two and a half multiple.

WCI: So he also asks; “What happens if you don't meet the one-third law?” I don't know what the one-third law is. Do either of you know what the one-third law is?

Dr. D: Yeah, at least one-third of your cases has to be done at that center–

WCI: Okay.

Dr. D: –which is not an issue for me, 'cause I do probably 80% of my cases there.

Dr. L: I think although that law exists, I think it's not easily enforceable, so to speak. For example, if I do 10 cases, for example, in a week, if I don't feel comfortable bringing a particular patient to the center, then you can't force an individual to do something they don't feel comfortable doing. Even if the administration feel it could be done. It's written down. I think something like that exists for us. I believe our numbers are it's expected that 80% of your eligible cases should be done at the center but it's not something that' enforceable, so to speak.

WCI: I see.

Dr. D: I think that's part of the Stark Law, I believe and it's to protect you from your investment that somebody won't buy in but not do any surgery, not contribute to the surgery center. I believe that's the reason behind that law.

WCI: What will be the process for getting rid of non-performing partners?

Dr. L: That's another slippery slope as well. Like Dr. D was mentioning that kinda relates to the Stark Law as well. So for those not familiar, the Stark Law is basically a healthcare fraud and abuse law that prohibits providers from referring patients for certain designated health services to an entity in which they have a financial relationship. So on the one side, as a producer, I can't and I shouldn't be paid more for bringing more cases compared to an equal share partner who isn't bringing as many cases. On the opposite side of the spectrum, we can't necessarily dismiss a provider who isn't as productive as some of their peers, so to speak. So it's a little bit of a slippery slope. Unfortunately, non-producers, they're there and unless they want to leave under good terms you can't really do much to get them out.

WCI: So another question from Dusty Schuett in the Facebook group: “What are the legal ramifications of operating at a surgery center you own and what disclosures are required to patients and maybe more importantly, how do you bring up that you own the place where you will be operating on them, to patients?” Is that tricky conversation or is that just kind of an expected thing? Or have you run into any issues with that?

Dr. L: Again, that kinda has to deal with the Stark Laws as well. At our center, for example, we actually have a list of all the physician owners. It's essentially a billboard as they're signing in. And when patients are doing their pre-registration paperwork, again there's a form that they sign that that's being acknowledged.

Dr. L: Initially when I first started going to the center, I would tell patients hey I love going to this place. Things run efficiently. We have a dedicated O.R. team. All they do is GYN. They're not doing a knee case in one room and then two hours later doing a craniotomy in another room. So that provided them with a level of comfort I would say. But definitely, it does need to be disclosed. Again, that's part of the Stark Law as well.

Dr. D: Yeah, we too. We have a list of all the partners' names when they first came in. But in ophthalmology, like I said, we don't do much operating in the hospital so it's not an issue. And since our surgery center is connected to our building, most people just assume that we're the owners also. So it's never really been an issue for us.

WCI: Question from Nittan Sastree who asks: “Any experience with turning an office space surgery suite into a one-bed Medicare-credentialed ASC?” Sounds like kind of a play to try to get more money for doing a procedure in an ASC rather than the office. You have any insight into that?

Dr. D: Negative. I know there's a movement to do office-based cataract surgery but I think it's died down in the last couple of years.

WCI: Is that just because you can't get paid the same for doing it there? Is that the issue?

Dr. D: I honestly don't. I'm ignorant on that.

Dr. L: Yeah, I don't have any experience converting an in-office suite to a Medicaid-suite per se. Or one that provides that type of service. But there are many GYNs that do have in-office suites but they're not necessarily designed as an ASC so, as such, they can perform the procedures there but can't necessarily collect the facility fee.

WCI: Here's a question from Mark: “What do they do with their complications? Are they required to have admitting privileges to an inpatient facility?”
Dr. L: So I'm not sure with ophthalmologists how many emergent cases need to be transferred but definitely with GYN that can happen. That can be an issue. So all of our providers that provide surgical services at our center need to have admitting privileges at one of the hospitals that's within a 20 to 30 minute radius of the center. There has been occasions where patients had needed to be transferred for observation, fluid management issues, even issues with blood loss. So luckily it's rare but I'm gonna say it doesn't happen.

WCI: How about this question from Daniel Faruzia who asked about certificates of need. Are you in states where a certificate of need is required to open an outpatient surgical center? Is that an issue? Or not really?

Dr. L: So in Maryland it is one of those states that does require a certificate of need, particularly if you're gonna open up a two O.R. suite. I believe if it's one main O.R. then a certificate of need is not required. But if you were to open up a double O.R., so to speak, then a certificate of need is needed.

WCI: And Dr. D?

Dr. D: We are a C.O.N. but I really don't know how that plays into the logistics or administration of it.WCI: Yeah, I don't know either nor do I know whether an outpatient surgical center is more profitable when there are certificate of need state versus other states. Good question. None of us know the answer, doesn't sound like.

Dr. D: (laughs)

Dr. L: (laughs)

WCI: Here's another one, from Kapil Saigal: “Are there non-compete terms and duration and is there relative likelihood there will be a capital call for the partners if the center loses surgeons or money?”

Dr. D: That's a good question. That's one of the fears I have 'cause I've only been here five months and a good number of physicians don't stay in their original location so my original thought I'd be here two years I'd know for sure if I'd wanted to stay here in this area. So but for me, if I decide to leave on good terms, the practice will buy back my initial investment at the same multiplier as when I bought in.

Dr. L: I think part of that fear is if you have a group of individuals at a particular center that happen to be the producers of that center is to protect the main entity from having those individuals leave and set up another center across the street. Our center in particular does have both a non-compete, it's two years and 25 miles. That's what we kinda put into place at our particular facility. And in regards to the second part of that question, yes capital calls can happen and unfortunately, the history of the center that I'm with it sounded like it happened on a regular basis.

WCI: Yeah, sounds like it happened every month at that center.

WCI: Okay, let's go over the last question here, we're starting to run out of time. But this question is interesting: “What are your thoughts on forming the surgery center as a non-profit” asks Andrew Takamori from the Facebook group, with the idea being the owners still get high salaries rather than ownership distributions, profit distributions. Have you heard of any centers that do that and is that a reasonable option or not really?

Dr. L: I think if I brought that up to some of my partners or our legal counsel I think that might suggest that that proposal might not pass Maryland's sniff test.
WCI: (laughs)

Dr. L: That's just my opinion.

Dr. D: I don't know what the financial advantage to doing it would be anyway.

WCI: I think the idea here and I have no idea if this is possible or not. I think the idea is to get better tax situation for the business and yet pay a whole bunch out in salaries and so the doctor owner still makes a lot and also enjoys the benefit of being a non-profit. I think that's where they're going with it. Again I have no idea if anybody's doing that or how that works…

Dr. L: I think the challenge might be also if you're gonna provide a salary it's gotta be market rate. So if you're simply an owner, you have to have a role or a title and there's a way to figure out the market rate for that. If you're just an owner and you're giving yourself a salary of a quarter million dollars for no particular reason, then that's an arbitrary number then. Again that might be a little bit of a challenge, and a stretch.

WCI: Yeah, I think you're probably right.

WCI: All right, let's just do one last question and give it to both of you in turn. We'll start with Dr. D. “What else would you want people to know before they got involved in an outpatient surgical center that we haven't yet covered?”

Dr. D: I think the most important thing would be, and we kinda covered it. If somebody's not open with you, to looking at the books and being very upfront with you, then that would be a very big red flag to me. They should be willing to open up all the books, give you all the numbers, the past history, the profits, their expenses. And if they won't do that I think that would be a huge red flag and I'd be very wary of buying into a practice like that.

Dr. L: I definitely agree with that. And I think another thing to definitely ask and know about is how many partners are there and what percentage of cases are being done by what percentage of providers. And I guess how close to retirement are some of those higher producers, because that will have an impact on the numbers that you're looking at in front of you but more importantly it's gonna impact the number that you're gonna be dealing with one, two, three, four, five years down the line. ‘Cause like I said earlier, it's very easily that one or two providers can bring a great majority of a center's productivity.

WCI: Dr. D and Dr. L, thank you so much for coming onto the White Coat Investor podcast today. I think this will be really helpful for people who listen to it. It's not a subject I've ever covered on the blog in eight years and so I think this is gonna be a great resource for them. And thank you very much for volunteering your expertise and your time and your experiences.

Dr. L: Jim, Dr. D., it was an awesome experience. Thanks for having me here. I appreciate it.

Dr. D: Yeah, thank you, gentlemen.

WCI: That was great. I really those docs coming on. That is a topic I've wanted to hit on blog or the podcast for a long, long time. And I'm constantly asked about it and just don't seem to have the expertise personally to talk about it, so it was great to get some personal experiences.

WCI: This episode was sponsored by Alexis Gallati of Gallati Professional Services. Alexis is not your typical tax advisor. With over 15 years of experience, she's been helping physicians all over the country save money on their taxes. As the spouse of a busy physician, she understands the burden of high tax payments physicians incur during their lifetime. Not only will she create a high-level strategic tax plan for you, guaranteeing money in your pocket, but Alexis will proactively work with you throughout the year to maintain your tax plan, prepare your annual tax returns, and represent you in case of an audit. The investment in her tax planning services is a fixed-price agreement, and her tax maintenance packages are a flat monthly fee. If you're tired of complex tax jargon, and giving away most of your paycheck to the IRS, visit Alexis's website at www.gallatitax.com–that's G-A-L-L-A-T-I–today to schedule your free initial consultation.

WCI: You guys ask me about this all the time in emails. You want someone to help you with your tax strategizing, your tax preparation? I finally got an awesome person to refer to you. I think I've only got two or three or maybe four of these folks so far in years of looking for great tax people that know the physician situations in and out. Here's one of them. Give her a call. gallatitax.com and get that free initial consultation.

WCI: Be sure to check out what we've got over at the website. If you haven't signed up for the newsletter, make sure you've done that. That gets you the Financial Bootcamp emails. And in fact, in just another week or two, we're gonna have the White Coat Investors Financial Bootcamp book out so watch for that and should be able to pick it up at a reasonable price and enjoy that and get your finances in line.

WCI: Head up, shoulders back, you've got this. The entire White Coat Investor community is behind you, and we'll see you next time on the White Coat Investor podcast

Disclaimer: My dad, your host, Dr. Dahle, is a practicing emergency physician, blogger, author, and podcaster. He's not a licensed accountant, attorney, or financial advisor, so this podcast is for you own entertainment and information only and should not be considered official personalized financial advice.