You have gotten ready and begun to aim by picking an ideal location. Next, we want to consider buying an existing practice vs a start-up. Certainly, both options are viable but they both have challenges unique to that particular transition. In short hand form we want to look at both of these options.
Option #1 – A Start-up Practice: On paper, this will always look like the best option. In application, it can be the fast track to bankruptcy and mediocrity.
- A start-up allows you to pick the ideal location. But will you decide to start there or will you just assume a start-up in any busy location is ideal? Ideal locations in an urban area guarantee that you will have more competition, and higher costs and risks. Too often, I see doctors with that “shiny object obsession” pick a location that is well above their ability to compete in.
- A start-up allows you to completely assemble a team from scratch. This is where “the ONE mindset” comes into play. You will be the “one” person that can find the perfect assistant, front desk, and hygienist in an area where everyone else has difficulties finding and keeping anyone. The ONE mindset is where you think that you, above all others, will be the ONE to succeed and flourish regardless of the facts. It is as if you are blinded by the possibility of being able to pull all of these variables together and end up with a super bowl winning team. Caution is in order here. Yes, it is possible, but not probable. Know yourself and your expertise.
- You get to have the exact equipment you want, but should you or can you afford it? Ah, stage right; the dental equipment salesperson enters the picture. These people are not your friends. This is a basic business relationship and their job is to sell you stuff and make a commission. Most offices are built on decades old layouts that were obsolete even then. These designs maximize the amount of cabinetry and equipment that you will be convinced you need to buy. Which means more commissions that you get to pay. The new reality and COVID reset demands an office that has no cabinets in the ops, uses only tubs and tray setups, and a complete redesign from traditional offices. Step lightly and research this in depth. This design will affect your productivity, debt service, and profit for decades.
- You get to sit down and create every system, protocol, and management plan that you want. This could be great or a disaster. Ask yourself this: Do you have the experience of a Super General Dental Practice to use as a template for these systems? Are you sure that you have the leadership abilities to train your staff and implement these protocols? This is a huge drain on your time, attention, and energy when you do a start-up practice.
- Time line considerations: Generally, a build out takes about 120 days once the contractor is on the job. Add to that the time to obtain financing, engineering/architectural plans, local jurisdiction permits and approvals, equipment purchase, plumbing and electrical layouts and needs, and you might add another 2-3 months to your calendar. Also consider that opening a practice in August or September could be horrible from a growth perspective while February through May might be great. Add to this the possible need to be in network for various insurance companies that could take about 1-6 months to get enrolled. Also, know your demographics. Don’t forget the design cost of time and money for logos, new software, and marketing proposals and strategies that need to be put in place prior to the actual opening date. I might just add a note about cost overruns caused by changes in the plans, code violations, and unforeseen difficulties due to weather and construction sub-contractors. The list goes on.
- Know yourself. Start-up practices should be profitable within the first 3-6 months if you are at the top of your game. This strategy is a lot of fun for the experienced doctor with a great track record. The other side of the coin can be an over leveraged doctor lost in the complexities of a business they thought they knew. Know yourself and assemble a great team to help you execute a great start-up plan.
Option #2 – Buying an existing practice: Once again, on paper this strategy has many pluses but just behind the curtain there are challenges lurking. There is a timing issue here. COVID will mean that 10%-15% of the offices that existed last year will close or go up for sale. As it was at the end of the Great Recession in 2009, opportunities abound for you to purchase an office in default or a practice where the doctor is calling it quits. In almost 100% of the cases, buying an existing practice will have a quicker profit line than a start-up. At least with an existing practice there are patients and there is an income stream from hygiene that is predictable. It gives you momentum and a head start on profit. On day one, there will be patients, staff and systems. The bad news is that there will be patients, staff, and systems. Buying an existing practice means inheriting the good with the bad. There is always the possibility of poor systems, incompetent staff, non-consumer friendly hours, lack of services offered, reputation of the doctor/office in the community, etc. You get the idea. You are initially trading on the reputation and history of the practice. Regardless of what you see as a down side, please remember that the patients who are coming there do not like change, they are there for what the old doc did well, and if they come consistently, they like the staff. Be patient with how quickly you change things. True, you had no opportunity to decorate the office the way you would in a start-up. The equipment is used and old. There may not be the things that you would have purchased in a start-up, but keep in mind that patients are consumers that liked the office as it was. And if you buy a bunch of new stuff right away AND raise the fees, many patients will likely go somewhere else. Take your time with changes and try to build consensus with the staff on any improvements that you make. I want to knock out a few things to consider in purchasing an existing practice.
- You negotiate the price which will be about 1.5 to 2 times the net take home from the last 12 months or somewhere in the range of 70% to 75% of the last 12 months collections. NOTE: Ideally you would like to find a seller who has not listed the practice with a broker. Brokers usually charge a 10% fee to the seller for their services. Not having that fee for the seller should benefit you, the buyer, in being able to get a better price.
- You will then negotiate the “allocation” of sale. Every penny of what you pay has to be put into one of 4 categories with different tax consequences for the seller and buyer.
- Goodwill: The seller will want as much as possible (80%+-) because it is treated as capital gains and taxed at about 15%-20%. All of the other categories will be ordinary income tax or up to about 37+%. If you are the buyer, try to get this at lower than 80%, especially if it is a managed care practice.
- Non-compete: Treated as ordinary income tax for the seller.
- Supplies and Equipment: This is the category that you, the buyer, wants to be a higher percentage because you will be able to depreciate that amount over the effective life of the equipment, or using section 179 or the IRS code, accelerate the depreciation. Keep in mind that the more you get as a buyer in this category, effectively you will pay less for the practice by getting a tax credit or depreciation.
- Accounts receivable: Once again, this is taxed at ordinary income for the seller. While most buyers do not purchase the adjusted accounts receivable, there is a strong reason to do so. It can be purchased at a discount, it provides money (cash flow) coming in over the next few months to capitalize the venture, and you will not have the seller being aggressive about pursuing the accounts receivable after the sale. If the seller keeps the AR, they don’t care about anything but collecting it and moving to Florida. From the patient’s perspective, they are going to feel that everything was great when the seller was there, but now they have to pay their bills because the buyer is greedy. This tends to start your career with negative “word of mouth advertising” from existing patients. Some would likely even leave the practice.
- Other financial impact items:
- Bank financing: Banks like betting on a sure thing with a track record. If it is a local bank, they will want the loan business and are already familiar with the practice. This could streamline the process and create a welcome relationship with the bank.
- Real estate: Many times, older dentists own their own real estate and are willing to sell it. Banks love to loan on assets that can be repossessed. It can anchor the loan by having tangible value in a default. The neat thing for you is that you can buy it at or below a monthly payment you would have made to a landlord in rent. This is a built in asset with a great tenant (you) that forces you to save money in the form of equity in the building. NOTE: Make sure the building/property allows you the capability to expand as you grow.
- Upgrades, decorations, and equipment: Try to anticipate the costs of updating the facility and equipment. Even consider what instruments, supplies, and equipment you might have to purchase over the next 12 months and figure out how to finance the purchase.
Next week we will wrap up the “ready, aim, fire” of office transitions by discussing what a practice is worth, what makes a purchase have value, and what it takes to be the leader that is successful in a transition. This is how you Summit.
Michael Abernathy, DDS
PS. We are planning an online event for sometime in early January. Watch this space for more details soon. Resolve today to get 2021 off to a positive start by attending.