When you are ready to obtain a dental practice valuation, it is important to choose a competent, experienced valuation expert who understands the complexity of a dental practice appraisal. While there is no simple formula or ratio used for valuating a dental practice, professional brokers and practice appraisers most commonly use the following three methods: Asset Approach, Market Approach, Capitalization of Earnings Approach. An experienced broker will most likely use different methods for different practices, or use a combination of all of these methods to arrive at an accurate practice value.
This approach attempts to apply a value to each of the individual assets that comprise a dental practice. It is quite subjective and, by itself, could and does generate much debate as to the accuracy of the value assigned to any given asset. However, if used in the context or a practice valuation that is considering several viewpoints of value, it is very useful in identifying and segmenting the value of individual assets in the practice. Once an offer is accepted, the value noted for practice furniture, equipment, supplies, etc. through the Asset Valuation Approach is often used to allocate the price paid for the practice for tax purposes.
Often called the Market Comparables Approach, brokers use this approach by comparing the practice with other similar and recently sold practices to determine the value of the subject practice (practice to be sold). For each comparable practice, the broker individually considers the gross collections of the practice sold as well as the selling price to acquire the ratio by which to determine the selling price of subject practice. See the equation below:
Gross Collections for Practice Sold ÷ Selling Price for Practice Sold = Ratio for Determining Selling Price for Subject Practice
The broker then uses the resulting percentages — for example: 75, 65, 72 or 74 — to determine a percentage by which to multiply the gross collections for the subject practice to acquire its Market Comparable value. The theory behind this method considers the value of the subject practice to be equal to other similar and recently sold practices.
By itself, this approach has one major weakness: it does not allow for adequate consideration of the qualitative and quantitative nuances of one practice versus another. The best way to use this method is in conjunction with other methods as it gives credence to the value of the “potential” in a practice that every reasonable buyer will look for and consider when making an offer to buy.
This valuation method seeks to determine the risk-adjusted present value of the future income a buyer could receive as owner of a particular practice (the value is adjusted for the risk that the income may or may not continue into the future and for future inflation). This approach is more complex than the Market and Asset Approaches, and it is one of the most important processes in vectoring in on practice value, as it is based largely on the income a practice has and may continue to generate.
The most common and reliable documents a broker uses with this method are the historical tax returns of the practice to be sold. The broker adjusts (increases or decreases) the income reported in the tax returns for various historical expenses of the practice that were either understated or overstated for tax reporting or some other purpose having little, if anything, to do with the delivery of dental care.
To the owner, it may seem nearly impossible to put a price tag on the results of the hard work and careful planning that go into building a practice. However, an experienced practice broker will provide you with a professional and accurate valuation that will support the sales price of the practice.