The magic behind valuing and selling a medical practice – our practical thoughts!

October 2019, David Screaigh and Catherine Jones

We have significantly increased our involvement with the sale of Health and Medical Businesses over the past few years and have carved a niche in this area, having valued and sold Medical Practices, Pharmacy, Optometry and Physiotherapy businesses. Today we share our knowledge of medical practices, which might help doctors decide the future path they wish to travel.

Whether you are a doctor entering the profession, a doctor currently working at a medical practice or a doctor who owns a medical practice (or even a group of medical practices) - how a medical practice is valued for the purposes of a sale is eventually something of significant importance. Eventually one considers the questions of “Do I stay as an employee/contractor?”, “Do I set up a practice?”, “Do I buy an existing practice?”, or for those already owning a practice - “Do I sell my practice and what might it be worth?.” There are different emotional and financial aspects to being a contracting doctor versus owning your own medical practice, and these need to be balanced in conjunction with your own risk profile, desired flexibility, financial capacity, family circumstances and business knowledge. Do you prefer operating an “Income model” or do you wish to operate a “Capital model”. This decision will ultimately be affected by those emotional and financial aspects.

It is often said that no two businesses are the same, and this also applies to medical practices. The size, profitability, capacity (consulting rooms), location and the culture/presentation all come into play when determining the market value of a medical practice. Broadly, market value is set by the market – not the Practice Owner nor the Business Broker nor the Buyer (unless they themselves are creating a new market!). Generally if a medical practice is smaller, has lower profitability, has minimal existing consulting rooms available for growth – then it is going to be worth less than a medical practice which is larger, more profitable, and has existing room for growth via additional consulting rooms.

When talking about the subject of “profit”, what does profit actually mean? Accountants prepare financial statements mostly for taxation purposes, to help manage and minimise your tax. When determining the market value of a medical practice, the accountant prepared financials are an excellent starting point, as they contain the income of the business less the expenses of the business to arrive at a profit on which you pay income tax on. When valuing a medical practice, we make adjustments to these figures to make them comparable to other medical practices, as this is what a potential buyer, their accountant and bank will do when assessing the business for acquisition. This process is broadly the same whether it is a medical practice or any other business type. Generally, abnormal and discretionary expenses are eliminated, together with depreciation and interest costs. Any abnormal income is also eliminated if applicable. Sometimes there are other expenses which need to be included because the business is not paying these for some specific reason. Then an expense allowance is made for each of the Owner Doctors for their billings, at the same rate as for the contracting doctors – normally between 60% and 70% of the income generated. This then provides the “magic number” from which the market value of a medical practice is then mostly determined.

From experience of valuing and selling medical practices and also reviewing the valuations of others, generally smaller practices of say 1, 2 or 3 doctors do not have enough scale to be profitable. This is because there are certain costs a business incurs regardless of the size, and these costs do not go up in proportion to the size of the business. Examples are say, receptionist staff, admin staff and rent - many overheads and costs are relatively fixed whether the practice has 2 doctors or 5 doctors. This can be described as the benefit of being at the right scale. There are “sweet spots” when a medical practice is very profitable – which is the same for any business. In our experience, we have found that +5 full time equivalent doctors is the “magic number” of doctors, as at this level the medical practice normally makes money. Often in smaller medical practices, after an allowance is made for the owner doctor’s commercial remuneration, the profit result is in fact nil and often a loss. Of course this is not actually a loss to those owning doctors, however it is more an opportunity cost in that they could have been working elsewhere and been earning significantly more money without any financial investment or risk – nor the complications of owning and operating a business. This is not to say owning and operating a small medical practice is not a good idea or desirable, because everybody has their own path in life, however what it does mean is that the business is unlikely to have a large capital value at the end of the doctor’s career. This very fact can actually help you decide on certain strategic matters and decisions you make about your medical practice, including the cost of fit out, premises size, marketing, etc.

The third “magic number” relates to the capitalisation multiple used to apply to the adjusted profit described above, to arrive at the market value of the medical practice. Once again the size, profitability, capacity and location all come into play when deciding the capitalisation multiple for a medical practice - so we assess this further when we undertake our assessment of the medical practice. Some corporate groups have been known to offer a higher multiple in certain circumstances, however this cannot normally be compared because there are often heavy restrictions and payment is often made over a period of time depending on the performance of the medical practice, which can defeat the purpose of selling it in the first place! When comparing capitalisation multiples it needs to be “like for like” – the same as for any business. As experienced Health and Medical Business Brokers it is something we are aware of and can explain to our clients when they are making their decisions.

It is common that Buyers will also want to acquire the property as part of the acquisition. This is the easy part, because a property can be readily valued by an experienced independent property valuer to arrive at an accurate market value. If you wish to sell the medical practice, but retain the property then the number of buyers is significantly less and the price obtained for your medical practice could also be less. If you are considering establishing a medical practice, the decision of whether to buy or rent the property is an important one.

An aspect not often discussed, but very important to the selling doctor is the culture of the buyer. The selling doctor has normally built up relationships over many years with his/her contracting doctors, nurses, admin staff, colleagues and patients who value and trust them. They don’t wish to see any of these people negatively affected by the sale and wish for their happy work family to continue into the future. For this very reason, we practice “relationship selling”. Feedback from sellers, buyers and their accountants has been positive in that they appreciate the fresh approach of “relationship selling” rather than “adversarial selling”, together with our high service levels and diversified experience in selling other business types. This results in a better and balanced final outcome financially and emotionally, including maintaining the relationship between the seller and buyer after the sale, which is important when your valued clients and staff need to be handed over – a difficult and emotional task at times.

At Zircom we enjoy working closely with and sharing our experience and knowledge with medical practice/centre owners and their advisors. If you or your client are thinking about selling a medical practice/centre, we would love to have an initial discussion, explain the process and share our thoughts to help in the decision making process.

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