There are three generally recognized approaches to compensation valuation, which can be applied to any asset or service. These approaches include:
- Income Approach – A general way of determining a value indication using one or more methods that convert anticipated future economic benefits into a single present amount.
- Market Approach – A general way of determining a value indication using one or more methods that compare the subject arrangement to similar arrangements (for which the specific services and compensation amounts have been disclosed)
- Cost Approach – A general way of determining a value indication based on the principle of substitution, that is, the cost it would take to replace the service with a suitable alternative of equal utility.
As applied in the determination of FMV compensation, we generally observe the following:
Income Approach
This is not typically used for valuing physician compensation as consideration of the income generated by the services could violate the regulatory prohibition of consideration of the volume and/or value of referrals.
Market Approach
This is a commonly used method for compensation that uses the benchmark survey data for comparable arrangements. For example:
- Clinical Compensation – Often utilizes multiple reported survey metrics such as Total Cash Compensation, wRVUs, professional collections, compensation per wRVU, etc. to estimate the compensation paid based on a similar provider, in a similar market, providing similar services.
- On-Call Compensation – Often utilizes reported hourly or shift-based call coverage rates based on specialty, type of coverage (i.e. restricted, unrestricted, beeper only, acuity, etc.), collections/revenue from other sources (i.e. collections for services rendered while on call)
- Medical Director – Often utilizes reported hourly call coverage rates based on specialty.
It should be noted that while benchmark survey data is useful for valuation, the reported data has limitations and is prone to misuse. Moreover, it is almost impossible to determine a direct comparison between the reported (aggregated) data and a subject arrangement, and there are numerous variables that could impact the applicability of survey data such as, sample size, standard deviation, correlation of production to compensation, comparability of duties, burden, etc.
Cost Approach
This method is commonly used in compensation analysis, particularly for Professional Services Arrangements (“PSA”), Medical Directorship, Call Coverage, etc.
For example:
- PSA – Often considers the actual cost for alternatives such as recruiting and hiring physicians to provide the service, or obtaining locums, etc.
- Medical Directorships – Often utilizes annual compensation rates to derive hourly rates based on the hours actually worked (i.e. a full time employee is generally considered to be 2,080 hours, but that often includes PTO hours, so the true hourly rate for hours worked is actually higher).
- Call Coverage – Also often utilizes actual hourly cost but is then adjusted to reflect the actual burden of the call coverage and any other sources of compensation. For example, you wouldn’t pay a physician the same rate to just answer a beeper as you would a physician that has to present multiple times per shift. Typically, the burden factor adjustment for unrestricted call coverage ranges from 5% to 30%.
The Cost Approach is generally utilized and considered in conjunction with the Market Approach and often serves as an upper limit for compensation.
Each of these approaches contain numerous variations, that tailor the approach to the specific nuances of the valuation assignment. No one valuation approach is appropriate in all circumstances and appraisers will typically rely on multiple valuation methodologies in arriving at their conclusion of value.
At Root Partners, we help physician leaders successfully navigate business and employment transactions to that their value is fully realized. Have a question about physician compensation, contact us at info@rootvaluation.com.