We ask two experts the same question on a complex issue.
How should orthodontists calculate the value of their practices?
Tom Snyder, DMD, MBA
An orthodontic practice valuation should be prepared in the same manner as other dental practice valuations. The major things that make orthodontic valuations unique are contract balances. Although the value of contract balances is not incorporated in the calculations of value, it can have an impact on the market value of your practice.
For example, if there is a high ratio of accelerated payments, the contract balances total will be decreased, which can lead to an inflated practice value. The reason for concern is that income from the accelerated payment has to be recorded as income, so it is included on the practice's tax return. This results in an overstatement of the net profit. Therefore, the valuator must understand the normal ratio that exists between the amount of contract balances and the market value of the practice.
Values of orthodontic practices vary quite a bit around the country, ranging anywhere from a low of 50% to a high of 90% of last year's gross receipts. Practice location plays a major role in determining value in an orthodontic practice. It is all about supply and demand, as markets having an overabundance of orthodontic purchasers in relation to orthodontic practices for sale tend to have higher sale prices than those markets where there are few candidates to purchase an orthodontic practice. Other factors that have a positive or negative impact on an orthodontic valuation are practice profitability, patients in observation/recall, number of Phase I patients, number of full-case starts per year, fee schedule, referral base, age of equipment, and technology.
Many qualified appraisers follow the guidelines that have been established by the National Association of Certified Valuation Analysts. Typically, these valuations will include three approaches: the market approach, the income approach, and the asset approach. Each approach uses various valuation methods (formulas) that consider comparable sales, the doctor's discretionary earnings, and the market value of tangible and intangible assets. So, getting a qualified professional to value your orthodontic practice is a prudent financial investment.
Timothy G. Giroux, DDS
Orthodontic practice transitions are probably the most successful transitions in dentistry. The reason is that contracts receivable are included as part of the practice price, whereas accounts receivable (AR) are normally not included in any other practice transition. ARs are also normally included in orthodontic practice sales, as true orthodontic ARs refer only to totally completed cases, and these amounts should be minimal.
The usual metric I see in orthodontic evaluations is that the purchase price is approximately 75% of the gross receipts. Normally we see orthodontic practices with approximately 50% profit, or EBITDA, (earnings before interest, taxes, depreciation, and amortization). If that is the case, we also usually see the contracts receivable to be approximately 40% to 50% of the gross receipts. This is the key metric! The contracts receivable represent the future income that will come into the practice for the buyer to complete the existing cases. It is revenue that is already agreed upon by contracts with the patients! This is why orthodontic practice transitions are so successful.
If contracts receivable are less than 40% of the collections, a purchase price reduction usually needs to be made. This indicates the seller is precollecting full payment on cases he or she is starting. This would commit a buyer to finish cases without any corresponding revenue. However, a contracts receivable number above 50% does not necessarily warrant a higher purchase price. Many times this signals an office policy that does not collect well for services or starts cases at a loss due to the upfront costs to band a new case. The EBITDA number would also need to be scrutinized in these cases to come to a reasonable value.
As always, general guidelines for values in dental practices are varied due to location and other variables such as modern technology.
Tom Snyder, DMD, MBA, is the director of transition services for Henry Schein Professional Practice Transitions. He can be reached at (800) 988-5674 or [email protected].
Timothy G. Giroux, DDS, graduated from Creighton University in 1983. He established a very successful dental practice in Scottsdale, Arizona, where he and his wife, Mona Chang, DDS, practiced. Dr. Giroux, a member of ADS, is now the owner/broker of Western Practice Sales, a dental practice brokerage firm in the Western US. Contact Dr. Giroux at (800) 641-4179, (888) 419-5590, ext. 530, or [email protected].