How Much Should I Pay for a Practice? What is it Worth?
There are many complicated formulas and methods to determine the value of a practice, but in the end it is worth whatever a buyer is willing and can afford to pay. Buyer (market demand) has a significant impact on practice values. Practices in high demand, in strong and growing markets, enjoy higher earning multiples (multiple of their SDC or EBITDA), while practices in weak or shrinking markets may sell at much lower multiples.
Debt Coverage or Capitalization Approach
One way to calculate the value of any practice is based on the SDC, debt coverage, and capitalization rate (interest rate). The debt coverage is simply the percentage of the SDC that you are willing to allocate to pay for the debt of acquiring the practice. For example, a practice with $100,000 of SDC and 25% debt coverage would be allocating $25,000/year to pay for the loan to acquire the practice. The same practice with 33% debt coverage would allocate $33,000/year to pay for the loan, thus allowing a higher loan amount and purchase price, but at the same time, lower net earnings for the new owner.
Cash Flow Approach
A more detailed approach toward calculating the price a buyer would pay, or possibly be willing to pay, for a practice is the cash flow approach. In this approach the buyer calculates the annual cash flow, after debt service, they will realize from a particular practice based on the down payment, note terms and SDC for that practice. This tells the buyer how much they can pay for a practice and still realize the income they desire. Likewise, this approach also shows the buyer what size practices they need to look at in order to achieve their income goals.
Financing the Practice Acquisition
As increasing numbers of prospective buyers embark on the process of becoming independent practice owners, many of them voice a common concern: how do I finance the acquisition?
Where then, can buyers turn for help with what is likely to be the largest single investment of their lives? There are a variety of financing sources, and buyers can find one that fills their particular requirements. (Small practices – those priced under $300,000 – will usually depend on bank financing as the chief source.) For many practices, the following are the best routes to follow:
Banks and other lending agencies provide “secured” loans commensurate with the cash available for servicing the debt. “Secured” is a misleading term, because banks and other lenders of this type will aim to secure their loans if the collateral exists. Those seeking bank loans will have more success if they have a large net worth, liquid assets, or a reliable source of income. When a bank participates in financing a practice sale, it will typically finance 50 to 75 percent of the real estate value, 100 percent of the practice value.
With any of the acquisition financing options, buyers should be open to creative solutions, and they must be willing to take some risks. Whether the route finally chosen is lender, personal, seller, or third-party financing, the well-informed buyer can feel confident that there is a solution to that big acquisition question. Financing, in some form, does exist out there.