Can the buyer afford your practice?

April 1, 2004
Conventional wisdom dictates that a successful practice transition includes a well-constructed plan that recognizes and acknowledges what you are actually selling.

John M. Cahill

Conventional wisdom dictates that a successful practice transition includes a well-constructed plan that recognizes and acknowledges what you are actually selling.

Some 75 to 80 percent of transitions still follow the traditional model. The buyer purchases 100 percent of the practice, and the selling dentist remains onboard for a short period of time, usually one to two months. Why is this the case?

Many dental practices do not have the level of revenue and/or the physical facilities required for a two-person practice. Consider the following:

The selling dentist generates $750,000 of revenue per year, which, on the surface, appears to be enough to support a two-doctor practice arrangement. However, if 25 percent of the $750,000 ($187,000) is generated from hygiene services, what remains is $562,000 of operative dentistry. If the seller works 11 months out of the year, that translates into $50,000 per month or $3,100 to $3,200 per day if the dentist works an average of 16 days per month. Divide this amount into thirds, with the buyer producing two-thirds or $375,000. With an average discretionary income of 35 percent, the buyer would have approximately $197,000 ($375,000 + $187,000 @ 35 percent) with the seller remaining in the practice.

From the $197,000 of the discretionary income, the buyer must pay debt service. Debt service for a $600,000 loan (purchase price plus working capital) over seven years with a 7.5 percent interest rate would total $110,346 annually. This would leave the buyer with $97,000 after debt service, but before taxes.

Keep in mind that these are generalizations. However, in the above scenario, a buyer would in all likelihood not complete the purchase. The reason is the dentist could work for another dentist, producing $375,000 annually, with his or her compensation factored at 30 percent or $112,500. This would allow this same dentist to generate more income without assuming the $600,000 liability.

Nevertheless, if the seller did not remain in the practice, the buyer could generate after-debt-service, discretionary income of $152,154 before taxes.

With the caveat that the numbers could change with different assumptions, a practice would need to generate more than $750,000 in gross revenue to warrant a seller remaining in a practice providing "wet finger" dentistry. If your practice is generating sufficient revenue to allow you to remain in the practice for a period of time following a sale, then several additional factors must be considered:

1) Be large enough to accommodate two practitioners and a hygiene chair. Many older practices do not have the space to do this.

2) Have effective management systems in place to assure that your practice is operating efficiently. This includes having excellent employees who are knowledgeable and who work well together as a team.

3) Have up-to-date-technology in the practice's dental equipment and management-information systems.

A practice may have the requisite revenue and physical facilities, but its systems may not be conducive for a two-provider office. This would make for a difficult, stressful, and challenging transition.

A dentist planning for his or her transition must take a step back and critically review the practice to develop a transition strategy that will be successful. The key step in this process is early planning. You should begin the planning process three-to-five years prior to the anticipated exit date, especially if your exit strategy includes your desire to remain in the practice for several years.

If you properly plan your exit strategy, you will have the time to bring your practice into line with modern technology, increase your revenue, and put into place effective systems which will not only increase your net revenue, but increase the overall value of your practice.

Enlist the assistance of a knowledgeable and experienced professional in the transition process. There are many competent, knowledgeable, and experienced consultants and practice-transition specialists who focus on working with practitioners to facilitate a successful transition. Drawing upon the experience and expertise of these professionals will contribute to what should be a smooth, stressless, and successful process.

John M. Cahill, MBA, of John M. Cahill Associates, has more than 30 years of experience in the dental industry, including all aspects of appraisal, sales, purchases, and buy-ins in connection with dental transitions. Cahill is a member of American Dental Sales, Inc., and can be reached at (510) 844-0330 or by email at [email protected]. See the classified ads for names and addresses of ADS members in your area.

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