We were thrilled to accept the AOA’s invitation to provide the keynote lecture at the first ever AOA Center for Independent Practice Symposium at Optometry’s Meeting in D.C. this past June. The venue seemed a fantastic opportunity to help re-establish the private practice narrative, which has disturbingly trended in some circles of late as not the thing to do.
Our opinion on that narrative? MALARKY!! And I’m pleased to say we not only made that opinion clear, but young colleagues were genuinely excited to hear it!
We all of course understand the times in which we live bring their share of challenges in both health care and bricks-and-mortar small business. So we have a bit of a double whammy there in private optometric practice. That being said, never have we here at THRIVE seen private practices more patronized, more productive and more profitable (our Key P’s!) than we’ve seen these same challenging years, and we felt it time that version of the narrative be shared loudly and clearly. So we told it, and believe me when I tell you the young colleagues in the room were listening. In fact, for most of the message, some attending eyes were wide open and you could have heard a pin drop. I’m pleased to say the re-established narrative is continuing even now these months later, and gathering steam where steam is needed – among future practice owners/buyers who are likely important to your succession strategy if you’re reading this.
We divided the lecture message into 3 parts – The State of Independent Practice (which we really drove home as did some friends in the room), Keys to Success in Private Practice, and Keys to Private Practice Transition (including understanding practice value). We’ve had some good dialogue of late on the state of private practice, and of course we talk every month in the blog posts and podlectures about keys to success in private practice. So let’s focus here on that third one, and specifically, on practice valuation.
You might imagine this is a popular subject with practice owners these days. With the oncoming and hard push of consolidation groups gobbling up practices like the Pac-Man (or at least they were doing so pre-Covid and its corresponding labor shortage), combined with some surprisingly organized influences on the private practice narrative by some other-than-private-practice influencers, there is understandably some confusion among us on the age-old important question, what’s my practice worth?
In short, it’s worth a lot! So let’s get our heads wrapped around answers to four questions we hear a lot from colleagues these days concerning value of their practices.
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Question #1: What’s the “Going Rate” for Selling a Practice These Days?
In short, it depends on the buyer.
Back in the day, a practice owner might expect to get a full year’s collected gross revenue (i.e. receipts) selling a practice to a peer taking it from here. For the past several decades, that number has been and continues to be more like 50 – 70 percent of collected gross revenue, with the majority of practices the last decade selling in peer-to-peer transitions for somewhere in the 55% – 65% range (which we see favorably influenced a bit by higher demand resulting from new forms of buyers). In fact, many colleagues with shared ownership agreements will designate a percentage of collected revenue within that latter range as the value of the practice for purposes of buy-out partners.
That said, actual practice value for purposes of a transaction is typically higher when selling the practice to a consolidator group (although any difference in value can often be made up with some creativity in terms and payout). In these transactions, practice value is determined using a multiple of EBITDA – Earnings Before Interest, Taxes, Depreciation and Amortization – with each buyer group having its particular method of figuring and adjusting EBITDA. So for these acquisitions, an EBITDA number is derived by figuring a practice’s All-In Net Income, then adding back deductions taken against net income for interest, taxes, depreciation and/or amortization. Once that EBITDA figure is derived for a practice, the purchasing group then adjusts this figure with certain expenses they will not experience going forward after purchase “added back” to the figure; and certain income they will not receive going forward after purchase (prison contract, government subsidy payments, etc.) “taken back” to derive their net figure. They then multiply that Adjusted EBITDA by a certain multiple, these days typically ranging from five-to-eight times (down a bit from multiples these groups might have paid a few years ago, and a good number of these buyers have limited or even frozen practice acquisitions the past year or two due to conditions of and uncertainties in the economy).
It's important to note these “going rates” are not necessarily considered “methods” for appraising businesses. We look at them as more of an acid test when sellers and buyers are contemplating value of a practice to provide a good idea of what they can expect to get or to pay in selling or buying a practice. These understandings of “going rate” are useful as we keep in mind banks typically won’t finance a practice purchase in which assumed value exceeds 70 - 75 percent of the practice’s collected revenue.
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Question #2: What are the Main Valuation Methods Used for Valuing Optometric Practices?
It’s always interesting to see the different methods of business valuation used by different so-called “business valuation experts.” This is why it’s so important both buyer and seller have an understanding of the “going rate” as just discussed.
That said, we’re seeing three methods of practice valuation used most commonly these days:
• Value of Assets + Goodwill – In this method, a value of all the practice’s Tangible Assets (less any debt on those assets being transferred to the new owner) is derived, including inventory, to which a figure is added for Goodwill. Goodwill can be thought of as the reasonable expectation of continued earnings based on the business’s reputation, acquired customer (patient) base and continued operational practices and is typically transferred to the new owner as an Intangible Asset.
• Capitalization of Earnings – In this method, a True Net Income of the business is determined, and a rate return on investment, or Cap Rate, is assumed. To derive a value from this method, the business’s True Net Income is divided by that assumed Cap Rate. So rather than valuing the business by its asset values, value is determined by the ability of those assets (tangible and intangible) to produce return on investment made in purchasing the business.
• Multiple of Adjusted EBITDA – Described above
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Question #3: Do I Need to Have My Practice Appraised?
For purposes of a professional opinion on the value of your practice in managing and planning your financial affairs, it’s a fine idea to have the practice appraised now and then, particularly in shared ownership situations. An appraisal can also be helpful as part of the practice transition process and in a practice buyer making the case for bank financing of the acquisition.
That said, it is often not mandatory that the practice be formally appraised in order to conduct the practice transition and/or secure financing. Working with many clients on practice transition over the years, I’ve learned the most important number is not the appraiser’s number, but the number the buyer and seller agree is fair from both perspectives. This is often not the number produced by the appraiser, but is always the number that gets us to yes. And when buyer and seller agree a number is fair, we find that number is typically financeable.
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Question #4: Will I Get My Practice’s Value When it’s Time to Sell?
It’s a lot like houses. Two houses go on the market the same day valued on tax bases or appraised value at similar amounts. One sells day one on the market, the other is still on the market months or a year or more later? Why is that?
The answer here is simple – Sellability! Values aside, the quickly selling house simply has more appeal than the other. It could be the neighborhood. Or the curb appeal. Recent updating that’s been done. Lighting. Colors. Smart features. Closet space. Appliances. Size of the deck or even the direction it faces. Lawn and landscaping. Neighboring structures. It could be seller terms and/or a couple dozen other things that don’t distinguish appraised value but make all the difference in desirability and therefore sellability. One’s just more exciting… more sellable… than the other. It’s amazing the difference sellability makes in the seller’s ability to get what the house is worth (or more).
And of course there’s the practice version of these things, right? The EHR system. The frame boards. Lighting. Inventory. Floor design. Exterior look. Signage. Parking. Type and age of equipment. Profitability. Staff and staff plans to stay or go (increasingly major factor). These and many other considerations significantly impact how much a perspective buyer wants this practice among other similarly valued practices and how aggressively she/he will go after it. I had this conversation with one of our colleagues this very morning, as he weights pros and cons of changing software BEFORE he puts the practice on the market vs leaving that to the new owner.
So, Partners, these are a few questions we hear often these days from colleagues, and a few thoughts accordingly on practice value. While your chips are on the table, and when you’re ready to take them off, it’s good to have an understanding of the value of your practice. My hope is our conversation here has helped put a dent in the question!
Like all THRIVE content, the purpose of BOWEN’S BLOG and SUMMIT TALK Podlecture conversations is to keep us driving together toward IMPACT. If something here has struck a chord, shoot us an email or give us a call and let’s talk it out! Tbowen@mythrivecoaches.com or 402-794-4064.