SHOULD I BUY THIS PRACTICE? – PART 3
Welcome back. Make sure you have read and are familiar with the first two parts of Should I Buy This Practice? Let’s talk about contracts and allocation of the purchase price. Most brokers are going to want to have you post a contingency fee to continue the process. This is usually thousands of dollars and can be non-refundable if you back out. I would try to lower the amount and not post it unless you have all of the information listed in the first two parts and you are finding that everything looks pretty good. Also, be sure to make it contingent on a successful negotiation with the landlord.
In an asset sale of an existing practice, there will be an allocation for the entire sales price. In other words, the categories of Non-Compete, Good Will, Supplies and Equipment, and Accounts Receivable receive a dollar amount allocation. Each of these categories have a different tax consequence to the buyer or seller. The seller will want a majority of the price to be in Good Will because it is treated as Capital Gains or a 20% tax as of this date. It is not unusual for the seller to want about 80% in Good Will. All the other items are taxed at ordinary income rates. Now step back and look at the process. We spend a lot of time negotiating the purchase price but the allocation is an entirely different negotiation that is equally important. From the buyer’s perspective, they will want as much as possible in Supplies and Equipment so they can depreciate off the investment over the average life of the asset or take advantage of Section 179 of the IRS code and accelerate that depreciation. If you take any example and change the allocation you will quickly find that the buyer will net less with an unfavorable allocation and a buyer will effectively pay more if the allocation works against them. It needs to be a win-win contract with give and take from both parties.
Win-win negotiations are sometimes thwarted when a broker is involved. In most instances the broker will insist that the seller not speak with you directly and that you, the buyer, must only consult or speak with them. When I look at practices, this is not going to happen. I find the seller is often times more reasonable than a third party who makes an exorbitant commission for doing nothing.
Let’s assume we have gotten this far, have a price and allocation determined, and you have checked out all the things we listed in Part 2. You are ready to close. Here is a smattering of things that should give you pause.
• Practice management software is not transferrable. Yep, you have to re-buy or lease the software. Count on $5,000-$12,000 to do this.
• Understand what lipstick and makeup you will have to put on the office to make it appealing to a new patient. Carpet, paint, updating equipment, counter tops, etc.
• Signage will need to be changed or replaced. Count on $4,000-$20,000+ if it must be replaced. Far less if we just update it.
• Make sure you have use of the selling Doctor’s name and image for 12 months after the closing. You want to take advantage of that time to reactivate patients and keep a lot of what attracted the existing patients to stay.
• Deal with salaries in order to keep key personnel. This can be more difficult than you think. Most employees understand that if they want a job their future is with you, but there are always some employment concerns when they begin with a new boss.
• Surprise! I find over 50% of the doctors selling a practice never tell their staff. You just show up and they leave. That’s a recipe for disaster.
• Accounts Receivable. Most of the time it is not included with the purchase/sales price. My concern if I don’t buy the accounts receivable at a deep discount is that the seller will go after the accounts with little regard to the reason they did not pay in the first place. Generally, this is chalked up by the patient to you being an asshole while good old Doc Seller was such a nice person.
• We have already said this but keep in mind that the Seller rarely has any debt on the practice so when you look at overhead be sure to add in the new purchase price, equipment, and marketing that you will have to spend your hard-earned cash on.
• Make sure you have identified where the existing patients came from. You want at least 50% coming from internal referrals. This is the best indication that a practice is well managed and that patients like what they have to offer. On the other hand, if you see a practice that has to spend more than 5% of their collections on marketing but get few referrals, you should understand that there are underlying internal problems that the practice is compensating for by looking for an external solution to an internal problem.
• Look at the accounts receivable aging and insurance aging. Over 90 days should be less than 5% and ideally 0. If you see this way off, it is a symptom of poor financial arrangements and/or poor staff follow through. It is surprising, but most employees will feel like what they are currently doing is the right way to do it. Changes are difficult for long established practices and it is far easier to see where these blockages will occur before finalizing your purchase.
• If the negotiation with the landlord was difficult, I would be wary of a long- term relationship.
Bottom line in any purchase is to not fall in love with the deal or location. The numbers should make the decision easy. While nothing is perfect, you ought to be able to check the boxes on most of what we have covered. This is how you Summit.
Michael Abernathy, DDS
PS – If 2018 hasn’t turned quite like you had hoped back in January, let me show what it will take to move up to the next level in 2019. Just click below to download the Practice Growth Analysis spreadsheet. Fill in the blanks on sheets 1 and 2. Everything will auto fill on sheet 3. Return it to me and then we will talk. No cost. No obligation. Consider it my gift to you and your future in Dentistry.
Then simply click at the bottom left of the page to open the Excel spreadsheet. If you have questions or problems, just call Max at 214-762-3117.