Staying compatible after the deal

Nov. 1, 1997
When a dental practice has been purchased, differences in opinion begin to emerge, unless you come to an understanding about the other person`s `style` before the sale.

When a dental practice has been purchased, differences in opinion begin to emerge, unless you come to an understanding about the other person`s `style` before the sale.

H.M. (Hy) Smith and

Tom Smeed

Much has been written about the different options in buying or selling a dental practice. Most of the options probably have worked in specific situations, circumstances or demographic locations. This article is not meant to criticize the proponents of particular transition processes. The intent is to outline the basic realities inherent in most practice transition situations.

Here are the major factors to consider for a successful practice transition:

- Financial - The seller should get a fair price for the practice. The purchaser must be able to pay the overhead of the practice and the debt service incurred in the purchase of the practice. The purchaser should make a reasonable living from the purchased practice.

- Professional Compatibility - The buyer and the seller can accept each other`s work. The buyer and seller have similar practice philosophies.

- Control - There is agreement with regard to how decisions are going to be made and how management responsibilities will be shared.

Financial considerations

To understand the financial implications of various transition processes, the parties must have a solid understanding of the practice workings. They must have knowledge of the gross income of the practice, the sources of that income, the actual (required) office operating overhead, the number of new patients seen per month, the terms of any financing required (either institutional and/or seller), the financial needs or expectations of the seller/buyer, and the tax consequences of the sale to the buyer/seller.

To illustrate this, let us examine the three scenarios in the related article.

The second and third scenarios show that, unless the buyer and seller can find a way to increase gross revenues, the buyer and seller may not realize the personal income they want. If the seller were to fund his retirement, he would have been better off staying a solo practitioner and find ways to increase his profitability by reducing his expenses or increasing the gross revenues of the practice. The buyer would be better off financially had he purchased the practice outright from the seller as seen in the first scenario.

These steps are necessary to assure the greatest degree of financial success to the transition:

- Step 1 - Each doctor determines honestly what he needs financially from the practice.

- Step 2 - Using past expense and production numbers from the practice, as well as industry averages, determine what level of gross revenues need to be generated to provide the personal income determined in the first scenario.

- Step 3 - Determine if the level of revenues needed is an obtainable number. It cannot be arbitrarily assumed that the practice will generate more income because there are now two dentists in the office rather than just one. The buyer and seller cannot make that assumption unless there is evidence to support it.

Some authors have suggested that a dentist can sell his practice or a portion of the practice, continue to work in the practice and make the same amount of money as before. Other authors have suggested that, in the case where a portion of the practice is sold, the selling dentist can continue to make the same amount of money as before, build his portion of the practice and then sell another portion at a future date to another party, maximizing the sale price of the practice.

This concept is interesting and, in some cases, has been successful. However, the underlying requirement is that the practice will grow rapidly enough to support the buyer and seller immediately. Most practices grow slowly and do not have an instant influx of patients. This concept really assumes that there is another practice or the potential of another practice immediately available for the second or subsequent purchaser to step into. If this can be shown to be the case, the concept can work.

However, in most parts of the country, dentists are seeking ways to increase their market share. If the practice can grow at a normal (for the area) rate and the selling dentist is willing to share in his gross revenue with the buyer until the buyer has developed a market share, then this option may be possible.

Let`s assume the average active patient in the seller`s present practice is generating $250 per year. You have three ways to increase the gross revenues of the practice:

- Increase the number of active patients. Example: If you can increase the number of active patients by 100 by reactivating past patients and generating new patients, you can bring into the practice an additional $25,000 of gross revenues per year. For each 100 additional active patients you can bring into the practice you can increase the practice yearly revenues by $25,000.

- Increase the yearly production per active patient. Example: If you can increase the yearly revenue generated from each active patient by $25 you can increase your gross production by 10 percent per year.

- Increase fees. Without a well-defined plan as to how buyer and seller will reach their financial goals, there is a higher risk of major relationship problems during the transition. You need the help of an accountant, practice broker and consultant or all three to help you with the development of the necessary proforma and game plan.

Professional compatibility

The buyer and seller must be able to accept the quality of each other`s work. If the buyer or seller doesn`t feel comfortable having his patients of record be seen by the other doctor, major problems in the relationship are bound to develop. Can you imagine what would happen if one of the doctors went on vacation and referred his emergency patients to a doctor outside the practice. The message is clear - "I don`t think you do good dentistry."

If both doctors have different philosophies on dentistry and how dentistry should be practiced relationship problems also will develop. This can happen when the selling doctor is conservative in his approach to dentistry and the buying doctor is aggressive. For example, a patient that is told by the buying doctor that crowns are needed now may wonder why when the selling doctor had suggested another form of treatment.

This consideration often is overlooked, but can be a major problem if not resolved. The selling doctor is no longer in control after he sells the practice. He is an employee. When decisions are made, the buying doctor will have the last word and will get his way.

If the selling doctor wants to work more hours than originally agreed upon, the buying doctor, if his schedule is not full, may say no. If the selling doctor wants to see certain patients but the buying doctor wants to see them, the buying doctor will see them. They are now his patients since he now owns the practice. If the buying doctor wants to see all the new patients, he can do it even at the expense of the selling doctor`s busyness.

In a partnership arrangement where each party owns half the practice, the selling doctor must learn to share and realize that major decisions with regard to how the practice is run are now shared decisions. This is not easy for some doctors to deal with. For the selling doctor in particular ... this is the practice that he built.

The authors want to point out that in their many years of practice-management and brokerage experience, they have seen very few partnerships, associateships or solo group practices survive long-term if the above considerations were not addressed initially and the parties came to terms with them. Personality differences, clinical, practice or personal philosophical changes or different goals and objectives - even in family associateships - usually create discord at some point.

If the transition period is relatively short, six months to two years, the chances of success are much greater. But once the time period is extended, the chance of major conflict can increase. It is important to remember that an associateship or partnership that may appear promising in the beginning will undergo changes that may not benefit all parties.

To analyze and understand all of the elements, nuances and technical aspects of a transition, it is heartily recommended that a qualified, ethical consultant, broker or other qualified individual be retained to assist in advising and consulting from the preliminary stages of the transaction. Attorneys are absolutely necessary in a transaction, as are accountants. A person experienced in dental transitions can work with an attorney and accountant to assist them in protecting your interests.

It must be pointed out that any practice that has managed care must be viewed with the managed care in mind. There may be an adequate number of patients, but they may not generate the dollars necessary to support additional providers. (One situation often seen is a practice that has a great deal of managed-care hygiene that generates very low, if any, income for the practice, but has high hygiene expenses for the practice.)

In summary, it is the experience and opinion of the authors that seller and buyer can best be served if they deal with these three major concerns. This will help them determine if they are best served by an outright sale of the practice, where the seller leaves the office, or whether they would be better served in having a practice transition. Obviously, anything can work in the right circumstances, but will it work for you? Only with careful analysis and qualified assistance can you make the best decision.

Scenario 1 - Practice with a gross income of $300,000 per year with a 60 percent operating overhead. Selling doctor wants to retire completely. Asking price of the practice is $180,000. Selling doctor does not want to carry the paper. Buying doctor agrees to pay $180,000, and finances the whole amount with a lending institution. Assume that during the buying doctor`s first year, he matches the gross income of the selling doctor.

Gross income $300,000

Overhead $180,000

Practice net $120,000

Debt service @ 11% for 5 years $ 46,964 per year

Pre-tax take home for buyer $73,036 per year

Scenario 2 - Practice with a gross income of $300,000 per year with a 60 percent operating overhead. Selling doctor wants to sell the practice and work two days per week (which is one-half the time he worked when he owned the practice.) at 30 percent of his monthly collections and from his 30 percent he will pay one half his laboratory costs. Buyer agrees to the above terms. Buyer and seller feel that the practice should at least be able to produce a gross income of $300,000 and that each will generate one-half of the gross income of the practice.

Gross income $300,000

Overhead $180,000

Practice net $120,000

Selling doctor income (30% of $150,000) $ 45,000

Buying doctor income $ 75,000

Debt service @ 11% for 5 years $ 46,964 per year

Pre-tax take home for buyer $ 28,036

Scenario 3 - Practice with a gross income of $300,000 per year with a 60 percent operating overhead. Selling doctor wants to sell one-half of the practice. The practice has a value of $180,000. Buyer agrees to the above terms and buys one-half of the practice for $90,000. Buyer and seller feel that the practice should at least be able to produce a gross income of $300,000 and that each will generate one-half of the gross revenues of the practice.

Gross income $300,000

Overhead $180,000

Practice net $120,000

Selling doctor income $ 60,000

Buying doctor income $ 60,000

Debt service @ 11% for 5 years $ 23,482 per year

Pre-tax take home for buyer $ 36,518

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