Not All Practice Valuations Are the Same
By Thomas L. Snyder, DMD, MBA, Director Henry Schein Professional Practice Transitions
Most of us understand the necessity of having a practice valuation prepared for financial and transition planning purposes, as well as for a potential practice sale or partnership buy/buy-out. The type of valuation prepared for these scenarios is called a “market value” practice valuation.
To prepare a market value, most valuators use three IRS commonly accepted approaches: Market, Income, and Asset Approach. Each valuator can choose from several valuation methods within each approach category to value a subject practice. In using three approaches, the subject practice is viewed through three different lenses, each requiring the application of various valuation formulae and databases to reach a conclusion of value. An average of the three methods is usually calculated to arrive at a market value.
Ultimately, a potential buyer will use a market value valuation as an aid in determining what a fair offer would be, based on an accurately prepared business valuation. Lenders often require a market value valuation to determine whether the transaction makes sense for their customer, the buyer.
There are, however, several other purposes for preparing a practice valuation that utilizes other valuation approaches and methods. These “special-purpose” valuations are either prepared to minimize the tax implications regarding a practice sale or co-ownership transaction, or for use in various litigation proceedings.
1. C Corporations and Personal Goodwill Valuation
This “special-purpose” valuation is used in conjunction with the sale of a practice having a C Corp business entity. Due to the double taxation nature of a C Corp, most tax advisers will allocate the majority of the valuation’s goodwill to “personal” (the doctor’s) goodwill. Thus “personal” goodwill is only taxed at the capital gains rate, as opposed to being subject to corporate tax first and then being taxed personally as well.
For years, the courts have upheld the personal goodwill allocation of a doctor/owner. Several years ago, however, there was a tax case in California that disallowed the personal goodwill allocation as the selling doctor had a C Corp with an employment agreement with himself as well as a restrictive covenant. Unfortunately, the doctor lost that court case. As a result, many CPAs and tax advisors are now concerned about
the potential audit risk of their clients if a separate “personal” goodwill valuation is not prepared. Even though the doctor may not have an employment agreement with himself and his corporation, many advisers want to reduce any risk of an IRS auditor requesting a copy of a personal goodwill valuation. The purpose of this special valuation is to differentiate between the Doctor’s Personal Goodwill and the Enterprise (Company) Goodwill. As such, unique allocation models and formulae are used to arrive at the differentiation between Personal and Enterprise goodwill.
2. C Corp Conversions to S Corp Status
Many doctors have converted their C Corp to an S Corporation to avoid the double taxation issue. One frequently overlooked aspect of this conversion is the requirement for a “special purpose” valuation to be prepared if the timeframe for conversion at time of sale is less than ten years. The valuation should be prepared at the time of conversion to establish the appropriate tax basis. Failure to have this type of “special purpose” valuation may result in the doctor paying a higher amount of tax when the practice is sold.
3. Estate Sale and Gifting
In cases where a doctor has a relative who will become an owner in the practice, a “special purpose” valuation is required if the goal is to reduce goodwill value on the practice and minimize taxes. If any gifting to a relative is contemplated, this “special purpose” valuation is also required. A standard market value valuation will not be sufficient to support a gifting transaction in front of the IRS. It could be a costly mistake if there is an audit and a special valuation is absent, as additional taxes and penalties may be forthcoming.
4. Divorce and Partnership Dissolution and other Litigation Matters
Another final “special-purpose” valuation not only must follow standard valuation protocols, but these valuations must be prepared in accordance with local state law (which varies considerably from state-to-state). The valuators preparing these documents are also frequently called to justify and defend their valuation, either through deposition or under testimony and/or with personal appearances as a qualified expert witness in any litigation proceedings.
As you can see, there are several variations to the standard “market value” approach which brokers use to value a practice. These “special-purpose” valuations usually command higher fees due to their technical nature as well as the customization required to properly value the business for those “special business” purposes.
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4 Reasons Your Overhead is Skyrocketing (And How to Get It Under Control)
By Sally McKenzie, CEO
It’s painfully clear high overhead costs have become a problem in your practice. Instead of investing in new equipment or updates to the office, you’re constantly worried about how you’re going to pay all your bills each month. To say it’s stressful is an understatement.
Overhead woes plague many dental practices, leaving dentists feeling frustrated and uncertain about the future. There are different reasons your overhead costs may be skyrocketing – you just need to determine the culprit in your practice, then make the necessary changes to take back control.
The thought of that is overwhelming I know, but that’s what I’m here for. I’ve outlined four common reasons practice overhead is holding you back, and the corrections you can make to start moving forward.
1. You’ve hired too many people. If a practice is struggling, chances are certain tasks aren’t getting done each day. When that happens, many dentists (often with encouragement from their team members) decide they need to hire a new employee. They think that once they do, their practice will be more efficient and team members will be happier. Unfortunately, that usually isn’t the case. Dentists end up spending more money than they were before, but practice efficiencies don’t improve.
Before you place that help-wanted ad, take a step back and determine why tasks aren’t getting done. It could be because team members don’t have the training or tools they need to adequately perform their jobs. If that’s the case, it’s time to provide them with the guidance they crave – not add more team members into the mix.
This guidance comes in the form of detailed job descriptions, proper training and continual feedback. Once you make this a priority, you’ll find team members are more efficient and more productive, which will help reduce practice overhead.
2. Team members get raises every year whether they earned them or not. This is a biggie. I’ve worked with countless doctors who give their employees raises every year like clockwork, regardless of how they performed. Dentists want to keep their team members happy and loyal to the practice, and most figure annual bumps in pay represent a great way to do that. The problem is, these raises, even though they might be small, cost you big.
Think about it. If your team members know they’ll get the same raise no matter how bad or good they are at their job, what motivation do they have to improve? Not much. So employees who are underperforming never change their ways—yet they still get more money in their paycheck every year. This sends overhead costs soaring and leaves you struggling to make ends meet.
Your payroll costs should be between 20-22% of your revenue, with an additional 3-5% to cover payroll taxes and benefits. If you’re giving out raises without any increase to your revenues, I can guarantee your payroll costs are well beyond that benchmark.
If you want to take control of practice overhead, I suggest you stop giving out raises just because a year has gone by, or because a loyal employee asked for a bump in pay. Make it clear to employees that all raises have to be earned, and let them know exactly what they need to do to earn them. Team members will be motivated to excel in their roles, and that translates into a more efficient practice and robust bottom line.
3. Recall is nonexistent. Most dentists ignore this system, but the truth is, it represents thousands of dollars in potential revenue for your practice. Investing in recall will help you get more patients in the chair, reducing overhead costs.
How can you revamp recall? I suggest you empower your Patient Coordinator to take over this vital system. Train this person to contact a certain number of overdue patients each day and get those patients back in the chair. This is much more effective than sending generic postcard reminders and will help you put a serious dent in those overwhelming overhead expenses.
4. You haven’t raised your fees in years. I know, I know. You’re afraid raising your fees will cost you patients – but it won’t. Patients expect the price of dentistry to go up from time to time. Raising your fees is one of the fastest ways to grow practice profits and reduce overhead.
How can you make this work for your practice? Establish a fee schedule that’s fair to you and your patients. Do your research, base your fees on solid data, and let patients know about any changes.
Skyrocketing overhead expenses can keep you from reaching your full potential. Follow these tips to take your practice back, and don’t hesitate to contact me if you need more help.
Sally McKenzie is CEO of McKenzie Management, a nationwide dental management, practice development and educational consulting firm providing knowledge, guidance and personalized solutions that have propelled thousands of general and specialty practices to realize their potential.
Interested in speaking to Sally about your practice concerns? Email her at firstname.lastname@example.org or call 1.877.777.6151.
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