Laboratory Management: Financial Management

• Laboratory Management Lesson 5 focuses on Financial Management
• This covers budgeting
• Laboratory test pricing

Learning Objectives

• Define financial management and laboratory budget.
• Describe the laboratory budget process.
• Describe the laboratory budgeting methods.
• Differentiate between direct and indirect costs.
• Understand the different types of budget.
• Learn how to prepare and justify a budget for a hospital or clinical laboratory.

Financial Management

• Defined as managing finances to achieve financial objectives within an organization
• Key objectives are business wealth generation
• Provide a return of investment

Three elements of financial management

• Financial Plan
• Financial control
• Financial decision-making

Element 1: Financial Planning

• Process of taking a comprehensive look at your financial situation and building a specific financial plan to reach your goals
• Financial plan is a document detailing an organization's financial circumstances
• It details monetary goals and strategies to achieve them

Element 2: Financial Control

• A system of policies and procedures that help organizations manage their money
• Enforces accurate and efficient conduction of financial activities
• Conducted in line with the organization's goals

Element 3: Financial Decision-Making

• Encompasses evaluating options
• Making choices
• Taking actions related to financial matters
• Involves assessing risks
• Considers available resources
• Aligning decisions with long-term objectives

Fund vs Budget

• Fund: a sum of money (or its equivalent) that is accumulated or reserved for a specific purpose
• Budget: expresses planned revenues and expenses
• Expresses volumes of services and amounts of resources required to realize them

Budgeting

• Budgeting is the process of planning, forecasting, controlling, and monitoring the financial resources of an organization.
• Through budgeting, an organization can establish priorities for its plans
• Budgeting allocates its resources and controls its costs.

Types of Budgets

• Operating Budget
• Capital Budget
• Cash Budget

Type 1: Operating Budget

• Deals with the process of planning for the laboratory as an ongoing business
• Accounts for everyday needs and expenditures
• Includes statistical (or volume) budget: Forecasts activity for the unit
• Revenue budget: Determines the gross charges generated by predicted volume.
• Expense budget: Projects the amounts or resources required to produce the forecasted volumes

Type 2: Capital Budget

• Outlines long-term investments of a company or organization
• Examples include the following:
• New or replacement properties (Lot, Building, Upgrade of existing facilities etc.)
• Equipment (Analyzers, Microscopes, X-ray machines)
• Technology (LIS, Billing software)
• Vehicles (ambulances, mobile testing units)

Type 3: Cash Budget

• Prepared by the organization's finance department
• Predicts the cash flows in and out of the organization and the resultant cash availability
• Income: Consumption opportunity gained within a specified time frame, expressed in monetary terms.
• Expense: An outflow of money to pay for an item or service, or for a category of costs

Budget Planning Strategies

• Pro-forma budgeting
• Zero-based budgeting
• Priority-based budgeting
• Activity-based budgeting
• Flexible budgeting

Strategy 1: Pro-forma Budgeting

• Calculates financial results using projections or presumptions
• Builds a new budget based on previous or historical data
• It is commonly used, but does not encourage cost effectiveness

Strategy 2: Zero-Based Budgeting

• Starts from scratch and justifies every expense for a new period
• Tool that can help businesses identify unnecessary costs
• Used to improve cost control and focus on high-profit initiatives
• It is complex to prepare, used typically to propose a new service, laboratory section or test
• Zero-Based Budgeting encourages cost effectiveness

Strategy 3: Priority Based Budgeting

• Allocates financial resources based on priority programs, services, and projects
• Deviates away from using historical spending patterns
• Helps healthcare organizations ensure funds are directed towards the most critical and impactful areas.

Strategy 4: Activity Based Budgeting

• Strategy used to allocate resources based on the cost of activities required to produce goods and services
• Focuses on understanding and budgeting for the underlying activity that drives the cost
• It does not rely on historical expenditure

Strategy 5: Flexible Budgeting

• Dynamic budgeting approach that adjusts cost and revenue projections based on actual activity level or volumes achieved during a period

Cost accounting

• Records, analyzes, and reports all cost incurred in the production or services delivery process
• Purpose is for:
• Profitability analysis
• Cost control
• Planning
• Decision making

Classification of Cost

• Direct costs
• Indirect costs
• Overhead Cost

Cost Type 1: Direct costs

• Costs clearly associated with the item being costed
• Include testing supplies and reagents, instrument depreciation, maintenance and repairs, and the labor involved in performing testing

Cost Type 2: Indirect costs

• Costs that are not directly associated with the item being costed
• Common types include general laboratory supplies, and labor costs associated with supervision, administration, and training

Cost Type 3: Overhead cost

• An ongoing business activity that cannot be directly attributed with the item being costed
• Examples: Advertisements, insurance, utilities, rent, taxes, office supplies etc

Behavior of Cost includes:

• Fixed cost
• Variable cost
• Semi-variable cost
• Step-fixed cost

Cost Behavior 1: Fixed Cost

• Costs that are constant regardless of changes in levels of activity
• Expenses that do not fluctuate when the volume of work changes on a daily basis
• Laboratory administration, instrument leases, maintenance contracts, computer services, equipment costs, and facilities upkeep are examples

Cost Behavior 2: Variable Cost

• Vary in direct proportion to the volume or level of activity, such as reagent cost.
• Variable costs are constant per unit of service (UOS).
• Variable costs respond directly to changes in workload: if the volume of work increases, expenses rise in a direct and linear relationship.
• Reagents, PPEs and laboratory supplies are examples

Cost Behavior 3: Semi-Variable Cost

• Has a fixed and a variable cost component
• A portion of the cost remains constant regardless of activity level
• Another portion fluctuates with changes in volume
• "Marginal costs": spending is based on the marginal additional benefit the laboratory expects to receive from money spent
• Examples include personnel overtime pay, machine maintenance, and Utilities (telephone, electricity).

Cost Behavior 4: Step-Fixed Cost

• Fixed over a small range of activity
• Changes to a new fixed level over another small range of activity
• Labor costs exhibit step-fixed behavior
• Certain staffing level supports a range of activity, after this level additional Staffing must be added

Importance of Costing

• Helps to assign a price to a test
• Factors in any increase in input cost in future
• Determines the calculation of potential profit
• Decides discounted package pricing to know how much discount can be given without loss

Human Resource/ Personnel Cost

• Accounts for significant portion of the laboratory expenditure

Manageable Cost Components

• Number of employees
• Skill mix of employees
• Scheduling and cross-training of employees
• Competitive bidding and selection of cost-effective materials
• Direct costs of operation

Unmanageable Cost Components

• Employee fringe benefits
• Legal or institutional limitations on permitted duties of employees
• Injury, illness, pregnancy, and military duty
• Volume requirements for materials
• Indirect costs assessed by institutional management

LABORATORY BUDGET

• The Plan-Do-Check-Act (PDCA) Cycle: Four-step problem-solving iterative technique used to improve business processes
• Phase I: Development of Goals
• Phase II: Budget Assumptions/ Create Budget
• Phase III: Analyze Variances
• Phase IV: Adjust the Budget

Small Lab Example

• Small lab example of costs, with a workload of 50 patients
• Rent: 50000 per month @ 250 per sq ft
• Property tax: 1000 per month
• Fixed cost 100 per patient per day

Medium Lab Example

• Medium lab example of costs, with a workload of 100 patients
• Rent 70000 per month @ 400 per sq ft
• Property tax 2000 per month
• Fixed cost 120 per patient per day

Small vs Medium Labs

• Smaller lab fixed costs will be less

Cost per test

• Variable costs depend on testing volume, but fixed costs are set

Reagents

• Prices are given for reagents pack size (ml) prices

Direct Reagent Costs (CBC) involve

• Cost per Cycle
• Start up Cost
• Shut Down Costs

Cost per patient

• Fixed cost is 100 Rs
• Indirect costs are 45

Final Complete Blood Count Price Additional cost to laboratory test price examples include • Cost of discount for PWD and SC 20% of the original cost • Wastage and Repeat: 15% of the original cost to produce • Desired ROI or Marked up percentage 100% of original cost

Laboratory Management Lesson 5, focuses on financial management. Key objectives are business wealth generation, provide a return of investment. Elements include financial planning, financial control and financial decision-making.