You’ve put years of tremendous effort into your dental practice, and now you feel it’s time to hang up your hat. Whether you plan to embark on a new venture or enjoy a relaxing retirement, beginning a new chapter takes some planning– especially when you own a dental business and want to sell.
In this article, we’ll cover everything you need to know about dental practice valuation, so you can find your business’s true worth before you move to sell.
How do you measure worth?
Identifying what something is worth is a complicated task because there are so many ways to define value. Some may calculate the value of their career by how much money they take home every month, while others may measure it by how much work they had to put in to get to where they are now.
Thus, how to value a dental practice typically involves a combination of valuation methods to arrive at an accurate measure of worth. But before we dive into these methods, we need to cover what a practice valuation entails.
What’s dental practice valuation?
A practice valuation refers to the process used to determine the value of a company. The process involves conducting a thorough dentist evaluation by using a variety of valuation methods that measure the business’s worth in different ways. This is how dentists figure out the fair market value of their practice.
A dental practice valuation must be specific
The value of your practice needs to relate to the unique features of your practice. Think about it this way– you wouldn’t determine the value of a bicycle based on how many pedals it has. If you did, all bicycles would be of the same value since they all have two pedals. This means that an Aventon Electric bike would hold the same value as the basic Schwinn Road bike you used to take to school. Try riding both of those up a hill and you’ll quickly realize that they are not the same. Each type of bike needs to be evaluated based on its unique criteria.
Thus, you can’t find the value of your dental practice without addressing the specific attributes your practice has. This is why a pediatric dental practice valuation will be measured differently than an oral surgery practice valuation.
Dental practice valuation methods
So, how to evaluate a dental practice comes down to a combination of methods. Using a variety of methods together boosts your chances of determining a value that’s the truest representation of your practice.
The three most popular methods of valuation are income-based, net-asset-based, and market-based. These are the most widely accepted ways to calculate the value for the majority of dental businesses. And, like we just mentioned, using these in combination and taking the average to arrive at a final value is the best way to ensure your practice’s value paints an accurate picture of your worth.
This methodology is based on the idea that the value of a business revolves around the income or cash flow it generates. Likewise, the value of the business is also indicative of its future worth.
Income is a broad term, so to narrow it down, this method defines it as your dental practice’s EBITDA (Earning Before Interest, Taxes, and Depreciation Amortization). EBITDA is a financial key performance indicator, as it’s used by a majority of businesses to reveal the generated cash flow. In turn, it’s often used to find the value of a business.
There are two different ways to employ this income-based method. One way is to calculate your capitalized earnings and another way is to look at your discounted cash flows. Let’s go over each one.
The capitalized earnings dental practice valuation method considers the value of your anticipated profits by analyzing your current earnings and predicting your future performance. Because this method depends on future earnings, it can be a bit tough to make a prediction. For example, if you’ve only been operating for a couple of years, you might not have enough information available to make an estimated guess on what your long-term earnings will be.
So, to come up with an accurate value for your practice, you must do your due diligence by conducting ample research to figure out your anticipated profits. You can hire a dental CPA who understands how to use a dental practice valuation calculator to help you determine your capitalized earnings.
Discounted cash flow
This method is employed by using your business’s expected future cash flows and then discounting that back to the present value. Discounting your anticipated cash flows is a necessary step, since a true valuation based on cash flow must take the time value of the dollar into account. For example, the two-hundred bucks you invest today will be worth more in one year.
So, how far into the future does this dental practice valuation method look? Most businesses project ten years of their EBITDA income (remember what that is?!). Thus, a benefit of this method is that it may help a buyer determine if the future cash flows justify the purchase price.
After using the income-based method to find your practice’s value, it’s recommended to also check your value by using the net-asset-based method. Totaling your net assets is calculated based on a dental practice appraisal of all your tangible and intangible assets, minus your practice’s liabilities.
Your tangible assets are the physical property and items in your possession. So, these might include your dental and office equipment, such as X-ray machines and computers, and real estate, such as leasehold improvements. It’s helpful to keep a record of your tangible assets on a dental practice valuation worksheet, so no items get missed.
Your intangible assets aren’t physical, yet they still hold value for your dental practice. While it’s challenging to appraise your intangibles, they contribute tremendously to your total business’s value. This is because if you were to sell your business, a buyer would receive and could profit from the intangible assets. Thus, when you begin to question, “how much is my dental practice worth?” the non physical benefits your business offers must be accounted for.
Examples of intangible assets are patient lists, intellectual property, brand recognition, and reputation. All of these non physical assets make up the goodwill of your practice.
Goodwill is tough to measure, but it has a HUGE impact on a business’s worth. Because it encompasses all intangible assets (that have a great influence on future earnings), it’s a value dental practice rule of thumb to make 80% to 85% of your value come from your goodwill.
Now, 80% to 85% seems like an enormous chunk to account for abstract assets. So, why does that much of a dental practice valuation cover goodwill? Well, think about it this way– let’s say there are two dental practices up for sale. We’ll call one of them “Smiles For Days” and the other “Edison’s Dentistry.”
Smiles For Days has a good following on social media and a great reputation. It has an active blog that many of its patients turn to for engaging information. Plus, it sends out fun holiday e-cards to its patients every year. But Smiles For Days is in an old building with chipping paint that doesn’t look too pretty, and it doesn’t have the most modern office equipment.
On the other hand, Edison’s Dentistry has office and dental equipment that’s shiny and new. It’s also located in a gorgeous building with a luxurious waiting area for patients. And you can’t miss its eye-catching curb appeal. But, it’s absent on social media, has some memorable negative reviews, and doesn’t engage with its patients unless they’re sitting in the dental chair. Thus, Edison’s Dentistry has poor brand recognition and a subpar reputation.
Smiles For Days has a great amount of goodwill that could have a massive impact on future earnings if it carries over to the buyer. Likewise, a buyer might not be comfortable buying Edison’s Dentistry since it has poor goodwill, as it takes a lot of work to repair a bad reputation. Thus, it’s no secret that goodwill is the most important intangible asset when calculating your business’s value. So, you must take the time to carefully assess how much goodwill you have during your valuation of a dental practice.
The market-based method looks at the selling price of other similarly situated dental practices. So, you’ll have to research how much dental practices sell for in your area. You’ll also want to look at the tangible and intangible assets of comparable practices, such as dental tools, office equipment, real estate, and goodwill.
Valuing a dental practice is a complex process that needs to be performed carefully. So, don’t be afraid to lean on the help of a professional like a dental CPA. They’ll likely use a combination of the methods discussed above and will ensure your worth is measured based on your business’s unique features.
Most importantly, don’t forget to account for goodwill in your dental practice valuation. The hard work that you’ve put into your practice to build a solid reputation holds more value than you may think.