Ask a dentist how they value a practice and you’ll typically hear something along the lines of “75% of last years gross.” Here’s what that means. They are taking last year’s gross collections (before deducting staff expenses and other types of overhead) and saying their practice is worth three quarters of that. Some dentists will use a percentage higher or lower than 75%. Some dentists will want an average of three or even five years of gross income. But however they construct it, they are valuing a practice as a “price to gross ratio.”
Let me be absolutely clear: the price to gross ratio is a very bad way of determining practice value.
There simply is no easy way to determine what a practice is worth. Dental CPAs and transition brokers have more complex formulas to arrive at a number. These methods take into account depreciation, overhead expenses, accounts receivable, and a myriad of other factors.
Honestly, dentists who are not up on their finance and accounting terminology can start to get lost on this subject pretty quickly. I’ve had to re-read some of this material a few times before it started to sink in. But it is important for us to at least have a basic understanding of these concepts so we can have more informed conversations with CPAs, attorneys, and brokers when we are valuing a practice.
Here are a few resources to get you started on your journey:
(1) “How to really value a dental practice” by Ken Rubin, CPA. Ken writes an easy-to-follow article outlining why the price to gross ratio is bad. This is a solid primer and will get you motivated to learn more.
(2) “Dental practice valuation: how much is your practice worth?” by Ryan Clower, CPA. Now we get into a little more detail on some of the methods used to arrive at a figure.
(3) “The 4 methods of valuing dental practices” by Tom Climo, PhD. This is a comprehensive, academic look at four methods of practice valuation, in three parts. I’ve read it a few times and a lot of it still goes over my head. The late Mr. Climo was a brilliant man and a gifted writer, so his articles are dense with material.