What is Your Practice Really Worth?
Are You Getting the Right Advice?
Most dentists rely on advice from their accountants and financial advisors when it comes to speculating the value of their practices. Under most circumstances this would seem reasonable, however, sometimes this blind faith can lead to disastrous results. Let me outline two such scenarios that we have had to deal with in the last 12 months.
Scenario #1 – The Problem with Over Generalizations
We recently had a specialist who was grossing about $1.1M and was told repeatedly by his accountant that his practice should sell for about $1.5M. This would have been about 136% of gross, and for a general practice would certainly have been within a normal range. The problem however, was that this dentist was not a general dentist, and his Profit and Loss statement looked something like the following:
Gross Fees $ 1,105,000
Less Lab 245,500
Less Expenses 465,500
Less Professional Compensation @ 50% 326,000
Net Profit $ 68,000
Specialty practices sell for a lower multiple of Net Profit than do general practices, and for this example I have assumed that multiple to be 3.75. This means that the suggested value would be 3.75 times the Net Profit, or about $250,000 which is a long way from $1.5M.
The challenge here is that this accountant did not know enough about the operations of a dental office to understand the difference between a general practice and a specialist practice. He admitted that he had a couple of clients who sold their practices at 150% of gross, but that was the extent of his practice transition experience. He over generalized. The very real problem this created for our client was that he was counting on being able to retire in the very near future with $1.5M. He was totally unprepared for the possibility that his practice would only be worth $250,000. He was also not in a position where a long-term recovery strategy was something he could entertain. In short, he was devastated.
Scenario #2 – Long Term Associates
The second scenario relates to an accountant who deals primarily with health professionals and one of his clients who suffered, not so much because of bad information but rather, because of a deficiency of very basic information. A little background: The practice had about 2,000 active patients who are seen near evenly by both the owner and his long-time associate. The practice has one part-time hygienist with the doctors doing most of the hygiene themselves. The gross production was about $900,000 with the suggestion from the accountant that the practice was worth about $1.5.
To start with, any scenario where dentists are doing the majority of the hygiene and getting paid as associates, is going to be relatively unprofitable. In this case the associate was getting paid 50% of his production after lab, so any profit from hygiene was significantly compromised. The Net Profit in most practices, after paying the associates and/or owners as associates, ranges from 25% to 30% of gross. The Net Profit of this practice was about 18% which reflected the fact that most of the hygiene was being done by the dentists and that the associate was getting paid 50% of his after lab production.
Taking all of this into consideration, the practice appeared to be worth somewhere between $850,000 and $900,000 except for one major oversight. The associate, who had been there for more than ten years, had no associate agreement. To make matters worse, the patients for whom the associate was the dentist of record were referred to and recognized by the staff, the associate and the patients as the “associate’s patients.” The fact that the associate could walk down the street and take his patients will have the effect of reducing the value of the practice by way more than 50%. Removing approximately 50% of the gross revenue, the overhead went from 41% to 65% and the practice value dropped to just below $300,000.
The point of these two examples is that in each case the dentist was getting advice from a professional who they assumed was giving them expert advice that they could, and did, rely on. In both cases the results of those assumptions was devastating to the dentists. If both of these dentists had started working with a qualified broker to plan their transition at least two or three years in advance, there would have been some time to correct each of their situations. The cost of an appraisal is greatly immaterial compared to the loss of which they are now facing in the market.
It’s never too early to start planning, so start planning now.