In my last column, we discussed the concepts of price and value. We learned that price is the consideration (cash, note, barter, etc.) paid to acquire an asset. Value is the benefit received by the buyer from the use of the asset. We learned that value is the more important factor to a buyer, since it is the actual income the buyer will have to live on.
Now, our objective is to learn how to recognize and measure value in dental practices. This is best accomplished by examining two actual practices.
Practice A has gross collections of $654,652. The practice price is $425,000. The buyer’s net income after all expenses and debt service will be $120,369. His/her net income as a percentage of gross collections will be 18 percent.
Practice B has gross collections of $472,802. The practice price is $289,000. After all expenses and debt service, the buyer’s net income will be $127,240. His/her net income as a percentage of gross collections will be 27 percent.
Most buyers would agree that Practice B is more desirable than Practice A since the price is lower, the net income is higher, and the percentage net is 50 percent higher. Before deciding, though, let’s look closer at these two practices.
Hygiene collection for Practice A is $170,879. Seller-produced collections run $363,327, while buyer-produced collections total $120,437. Buyer net income after all expenses and debt service is $120,369. Buyer net as a percentage of personal production is 100 percent.
Practice B has hygiene collections totaling $66,980. Seller-produced collections are zero while buyer-produced collections run $303,458. Buyer net income after all expenses and debt service is $127,240, and buyer net as a percentage of personal production is 31 percent.
We have just introduced a critical new statistic — buyer net as a percentage of personal production. This percentage, along with the net-income dollar amount, is the most important measure of practice value. This invariably overlooked statistic also can predict stress and burnout potential, since it relates income to effort expended.
Buyers and advisers who overlook this statistic might choose Practice B, even though Practice A provides a buyer a 100 percent net as a percentage of personal production compared to only 31 percent for Practice B. Additionally, consider the $73,952 equity accrued by the buyer of Practice A in the first year and we find the buyer’s benefit to be $194,321 or 161 percent of personal production. Compare this to Practice B’s buyer benefit of $189,824 or 44 percent of personal production.
The differences are explained by two factors — the efficiency of a practice, and the amount of income generated by hygienists, the seller, and any associate.
Examining practice efficiency for Practice A gives us an adjusted overhead of 44 percent. The adjusted overhead for Practice B is 51 percent. The 7 percent overhead savings of Practice A results in an additional $44,000 net income for its owner compared to an equal amount of work in Practice B.
We discover the hygienist and seller collections in Practice A to be $534,000, compared to only $67,000 for Practice B. After paying the hygienist and seller for their production in Practice A, we have $336,000 left over. This can be applied to pay all of the annual debt service of $118,000 and still leave $218,000 to apply to overhead expenses. Practice B, where hygiene collections are $67,000, has an excess of only $23,000 to apply to the debt service of $81,400.
Understanding the paramount concepts of price and value — and knowing how to accurately measure value — is essential for buyers who want to make the best-informed decisions possible when considering practice-purchase opportunities.
Earl M. Douglas, DDS, MBA, is the founding president of American Dental Sales. He is president of Professional Practice Consultants, Ltd., and personally serves the Southeast and has affiliates nationwide. He can be reached at (770) 664-1982 or you can write to him at 11285 Elkins Road, F-4, Roswell, Ga. 30076.