Your practice may be worth less than you think
Too often practitioners who thought they were on the doorstep of retirement are finding they need to work three to five years longer than they thought—or even more. The problem: When they have the practice valued, they find a gap between the retirement they envision and what they can actually afford.
Valuations at a glance
Practice values today are based on cash-flow profits. The valuator uses this as the basis of a calculation of goodwill, which accounts for about 60 to 80 percent of the total value.A valuator examines your expenses and verifies each one by looking for it in the business tax return. When you omit, discount, or inflate necessary expenses, the valuator must adjust them. So the valuator looks at the bottom line of an adjusted profit and loss statement.
Avoid these pitfalls
Here's a summary of the most common pitfalls practice owners trip on:
• Not claiming everything on taxes. Valuators verify practice revenue and expenses by reviewing the practice and/or the owner's personal tax statement. Dollars that don't hit the tax return are like medical treatments that don't hit the medical record—they never happened.
• Confusing gross revenue and cash-flow profit. Gross revenue by itself isn't an indicator of practice value. You want to determine the actual cash-flow profit of your practice—the amount that's left when you cover all the practice's cash-flow expenses, excluding all loan payments and any equipment lease payments.
• Failing to include owners' compensation as an expense. Too many practice owners don't calculate their fair compensation based on production and management efforts. So they're not including their doctor compensation as an expense on their profit and loss statement. When a valuator adjusts for this on the profit and loss statement, the cash-flow profit decreases—which decreases the goodwill value.
• Not paying rent. Similarly, practice owners commonly see their practice value plummet more than $100,000 when they add fair market rent as an expense. Basically, if you sell the practice, the new owner will be paying rent. And if you aren't charging the practice rent now, you don't see how that expense affects cash flow.
Make the adjustments now
Let's say you missed $50,000 in expenses for the year. (And believe me, that's not so hard to do.) This oversight could mean a drop of $200,000 in your practice's value. Just think, if all these expenses were in the profit and loss statement from the beginning, you could adjust your fees, expand services, or cut expenses to achieve the cash flow that you want.
So charge your practice correctly for rent, management compensation, equipment replacement funds, and any other expenses. And consider hiring a valuator to evaluate your practice before you're thinking of selling. That way, you'll have a more accurate picture of your profits—and you can adjust if you need to—before you're ready to sell.