Pricing for profit - are you Apple or Wal-Mart?

I read SHN's article about pricing strategy over the weekend. In three businesses now, I've spent a good deal of time studying pricing of different services and, with all due respect to Dana Wollschlager, the thesis of the article is all wrong.

Actually, the thesis is wrong if what you want to do is maximize profit. It's spot on if you want to be the low-cost, value option in your markets. The point Dana makes (or rather made at a speaking gig last week) is that you need to know your costs before you can set your prices. This is a rational and common pricing strategy: tabulate your costs and then add your desired profit margin to arrive at the price you quote to the market. At this point, the teaching goes, you can work to lower your costs or adjust your margins to offer more competitive pricing.

The problem is that when your focus is all on cost-plus-margin, you tend to view that margin or the underlying cost (in the case of senior housing, the staff and services you provide) as "levers" you can pull to control pricing. This is exactly how Wal-Mart competes: they aggregate buying power and compensate employees in such a way as to deliver their goods at the lowest price to customers. Amazon wrings costs out of their business in the distribution and logistics of their business. But if you shop at Wal-Mart or use Amazon, you can feel that the experience is entirely unlike that of Whole Foods or Apple. 

Apple does not price their iPhone or Macbook as a multiple of the cost of the device. Rather, they convey to customers an experience or a lifestyle that conveys to you when you buy and use their products. No one "shops around" for a smartphone, looking for the best price. You are either interested in the features and social cache of an iPhone or you're not. Everyone knows, however, that if you want the lowest price on Tide detergent or paper towels, Wal-Mart is a good place to check. Apple's operating most recently reported operating margin: 28%. Wal-Mart's: 5%. Which would you prefer?

Here's an analogy about pricing I like: if I stopped by a local florist and bought a bouquet of flowers for my wife, I would pay an amount most likely set precisely as Dana outlines: the wholesale cost plus an allowance for overhead and profit. But when my wife was planning our wedding, we almost certainly paid significantly more for the exact same variety of flowers that she carried as a processional bouquet. Why? It's because in the emotional context of a wedding, my wife wasn't shopping for the cheapest flowers. She was shopping for the flowers that fit the message and image she wanted for a once-in-a-lifetime event. It's the context of the purchase, not the cost of the florist's business that set our pricing mentality.

My point is that the cost-plus strategy is likely a race to the bottom, competing on the thinnest margin you can to win the marginal resident over a few dollars a month in rent. If you offer the market something other than low rent, maybe something aspirational or hard to price (lifelong learning, social purpose, meaningful friendships, better educated staff, a concierge service, customized care modeling....) you can sell something other than price. And probably charge a lot more for the same product.

Now affordability of senior care is a looming crisis that we have to deal with as an industry. Good work is being done but we aren't close to having that solved. There is absolutely a place for value-based, low-price senior housing. A huge place actually.

But the article is written broadly, presumably to promote the sponsor's software, and implies it is the best way to price your offering. It is one way, but a way that likely leads to be the cheapest option, but not the most profitable.

Hurricanes on the brain

For obvious, if self-centered, reasons, I have hurricanes on my mind. I just left Palm Beach County for Naples to avoid Hurricane Matthew. Now that my family and I are safe, I can think about the dozens of senior living communities left in the path of the storm.

The human side of those communities give me great courage because I know they want to keep everyone safe and will move residents if they feel it's best. For those then end up "hunkering down" they have written procedures, run drills, scheduled staff ad nauseum so I don't even worry that much about the chaos. In many ways, they are more prepared than typical single-family residents. Generators will start and run, windows will stay secure, structures will stand.

What I'm thinking most about is the locked-down, non-optional, entirely indoor life these people will lead for the next couple days. Both residents and staff will be confined until they aren't. Active, healthy adults take the freedom to simply leave wherever they are for granted until times like this. But we have much to entertain and engage us on our lock-down.

What have we done to keep an 88 year-old woman engaged for two days straight? How about a 23 year-old CNA? Are these days even any different than a regular Friday? Should they be? 

Doing more with more

I've been spending some late nights the last few days working on a financial model for an unusually large project in South Florida. At this very early stage almost nothing is known for certain, least of all the construction costs which amount to 60-70% of the overall costs. 

The way I begin to clarify this significant gray area is to build a program (basically a list of all the spaces in a building and their associated areas). On the scale of this particular project, there is room for a lot of amenity spaces. It's great fun to think about what interesting or fun spaces to put in a new community.

With all that space I could address dining options, physical fitness, art studios, education, quiet meditation, spiritual spaces, medical care, banking, a business center... all things that empirically enhance seniors's lives. But that all felt very routine. Not special.

What I want to do with 'more' is something that ensures these seniors will actually BE better, not just feel better. So this particular project is going to shift slightly to focus on one thing that even scientific journals say that the aging population lacks. This is going to be a community that focuses on putting social interactions - deliberate or casual - at the forefront of its model. We are going to make this project supportive of  health in all dimensions. I admit that until recently I had no idea of a) the prevalence of depression among otherwise healthy seniors and b) the gigantic impact social encounters have on that depression.

This big building could very easily become a cavern where seniors become reclusive and anonymous. But I want to see it - even at scale - become a place where senior, perhaps even seniors that don't live there can engage with one another. That's doing more with more.

When good incentives go bad

Last week saw one of America's premiere financial institutions get hit with a fine related to their sales practices. Wells Fargo was fined $184MM (a paltry sum compared to their $23B in profits) for allowing employees to open and fund accounts in their customers' names without the customers' knowledge.

In the senior living world that's pretty tough to correlate but it begs the question: do your sales practices encourage good numbers or do they encourage alignment with your customer? More than 5,300 employees were fired in the Wells event but it went on a long time and he CEO may lose his job.  

I happen to bank with Wells and it hurts knowing they may have had my money above my relationship.  Presumably the fine and the impact of the practices are proportional. So was it work $184MM (in the context of $23B) to jeopardize a relationship? Of course not. Ironically, Warren Buffet is a huge shareholder of Wells and famously says it can take 20 years to make a reputation and 5 minutes to lose it.

As developers, when we model fill-up and sales velocity we have conversations about incentives, rent rebates, commissions, etc. I'm not sure we've paid enough attention to the precise alignment of that with the ultimate resident. Maybe that's hard. But it's not as hard a rebuilding a ruined image.

Finally! The Life Safety Code and CMS

It only took fours years. CMS announced this month that they have fully adopted the 2012 version NFPA 101. This version opens the door to more home-like environments along with some other changes.

We published an article on McKnights.com before the formal announcement that summarized the opportunities and challenges for senior living providers as it relates to the code.

 

We recently passed the two-year anniversary of the Centers for Medicare & Medicaid Services announcing that they would be adopting the 2012 Life Safety Code. Although they still have not done so, word is that the official adoption rule passed a major regulatory hurdle last week and it is likely to be reality soon. Assuming it was not modified in its review, it would be good to dust off the differences between the 2000 version and 2012.

In this summary I will simplify the impact of each item by noting whether I consider it to be more (M) or less (L) restrictive than the 2000 version. Any Life Safety issue should be evaluated with an architect and/or Life Safety specialist and reviewed in light of your residents and building(s). My shorthand is only an opinion.

onestarchart600x275_977695_977702.jpg

CMS has allowed for selectively using parts of the 2012 code by a waiver process. In some ways this makes the formal adoption less significant. But the bigger picture is that the 2012 LSC moves in favor of household, small-house type designs. It's not a great leap to assume that state licensing and regulatory bodies will follow promptly. To the extent that the industry is looking to make skilled nursing and assisted living ever more residential in feel, CMS will be less of a barrier.

Projects in planning that will be permitting and licensed in the second half of this year can likely assume that the 2012 LSC will be the governing code per CMS. Your design and construction team can help investigate whether local bodies are already on 2012 (a 2015 version has been released and CMS skipped the 2009 version). Using the list above in the context of your project will help you understand, if you have a choice which to follow, whether 2012 will be advantageous to you or not.

Help me choose: Structural Systems in Skilled Nursing

This article was originally posted at McKnights.com as part of their Experts blog round-up.

 

For a few months I have been working on a CCRC project that involves, among other things, replacing a skilled nursing wing with a state-of-the-art health center. The client, who successfully operates several private-pay communities around the country, has a strong development department, has hired a highly respected national architect, and purposefully advances this project with some very clear goals and objectives. But we recently had a conversation that seemed both simple and late given the state of the project. The broader team engaged had some fundamentally different views of how to build the core structure of the building.

By the time a project is nearing the permit and groundbreaking as this one is, typical conversations are about budget tweaks, selecting finish materials, picking out FF&E, finalizing a construction and move-in schedule, and closing on financing. To have a debate about something as basic as the structure (usually one of the first major decisions) made me think this basic, core design choice might not be as easy as I think. All sides had great points that led to entirely different conclusions, and each conclusion had major ramifications on the design, construction, and operations of the building. Here are some guidelines we use to help make the decision.

Building codes

Almost universally, skilled nursing carries an Occupancy Classification of I-2 (Institutional grade 2). This class of buildings applies to any building of more than five residents which need help responding to an emergency, and, therefore, have some level of care 24 hours a day. The I-2 designation carries many implications but for structural design, the primary one is that the elements of the building that bear the load (hold it up in the air) must be “noncombustible." That is to say that they would withstand a fire. Exceptions exist in some states for single-story I-2 less than 9,500 square feet, but generally speaking you cannot build skilled nursing out of wood, nor from unprotected steel. This leaves viable options as protected steel, masonry, concrete, and load-bearing steel-stud.

Cost

Certainly the economics of a project are significant. As much as people, none more than I, like to focus on resident comfort, staff efficiency, and marketability, we have to deal with the reality of budgets. Speaking broadly, costs of structural systems are, in increasing order: wood, steel stud, masonry, steel, and concrete. Regional practices, discussed later, can move choices around by a slot, but this order holds true most often. Each particular system has ramifications on the cost of associated systems (for example, a steel structure will require a ceiling to be installed below it but a concrete frame could theoretically be textured and painted on the underside of the structure itself) so working through the other cost ramifications are important.

Future flexibility

I find many owners of skilled nursing communities have a hard time grappling with this topic. Skilled nursing is so purpose-built that thinking abstractly about future changes to the building seems unnecessary. But at the increasing pace of change, we advise our clients to think about how a SN space might be repurposed. The farther afield from skilled nursing they see the options, the more weight I put on flexibility of the structure. Some structural systems are essentially impossible to move or reconfigure whereas others are relatively easy. Steed stud and masonry walls usually support the floor(s) above at specifically locating bearing conditions that run the length of those walls. This means those walls are very difficult to move if a space needs to be opened up. By comparison, concrete and structural steel use point-loaded columns that, while not easy to move, are perhaps 24-inches square and have no affect on the walls that surround them.

Open space

Given a preference, having some larger, more generous open spaces would be desirable in almost any type of building, skilled nursing included. A dining room or activity room with a little “elbow room” is a clear positive. But the skilled population probably appreciates that openness less than other senior populations. Anecdotally, we've seen heavy dementia populations generally prefer to gather in more intimate rooms actually. But if you have needs that call for open rooms of 30' or more, structural steel or concrete are better choices than masonry or steel studs.

Schedule

Planning the myriad tasks associated with a healthcare project is complicated and varies widely by the specifics of a given building. But there are general concepts that hold true. One of those concepts is that the critical path (the linked activities that determine the overall duration) always runs through the structure. This means that every day you can take out of the structure schedule is a day off the overall project. The intricacies of each system are too long to explain here but know that wood, steel stud, and concrete will usually take longer (in a skilled nursing building) than masonry or steel. And field-erected masonry walls with an off-site precast concrete floor assembly will usually be the quickest way to get a structure in the air.

Regional practice

The more development teams work together and the more those teams move around the country or a region, the more the team should spend time considering what the subcontractor market in the project location does most commonly. Even if the team identifies, for example, steel studs as the best choice, if there are only one or two firms in the market that do that type of work then the project runs the risk of low manpower or higher cost.

Other implications like how to support the HVAC distribution, LEED, sound transmission, building height restrictions, energy codes, and commodity prices should be considered as well. Admittedly this is complicated. But a good design team with input from the construction market can work through these variables.