Written by Luke Moore of Dental Elite
Dental practice valuations are often shrouded in mystery but they needn’t be; here we give you an insight into the process behind the numbers.
It’s true that since the introduction of business-focused stakeholders into the dental profession, as well as a more concerned credit team in lending banks; the computations behind goodwill valuations require more logic.
Demand for dental practices prior to the 2006 NHS contract and the relaxation of the Dentists Act 1985 was far more limited than in the present market. The NHS contract change installed a scarcity value in NHS contracts, restricting competition significantly. With one of the main concerns business owners previously had removed, practice values doubled if not tripled by August 2007.
Valuing a dental business is now much more of a thought-provoking process and solely using percentages of turnover as a method of calculation is no longer satisfactory.
Alternatively, EBITDA modelling can be used to provide the true operating profit of a dental practice, however, multiplication of a practice’s existing EBITDA does not serve as an accurate calculation of practice valuation either.
EBITDA or Earnings Before Interest, Tax, Depreciation and Amortisation, is an accounting acronym that does exactly as it says. The process of calculation involves removing all of the non-cash costs in your accounts such as depreciation and anything that a new practice owner would not continue to incur. Once the EBITDA figure has been established, this is then multiplied depending on the company, market and economic climate.
Currently, dental practices are being sold for between four and seven times their EBITDA. This can vary depending on a number of factors, however, generally the lower the perceived risk and the more sustainable the profit is (or is perceived to be) the higher the profit multiplier.
Unfortunately calculating this is not as simple as one might think and many practices are far less clear-cut. Practice A and B are radical examples, but even a small difference of £20,000 in projected EBITDA terms can be the equivalent of £140,000 in value.
It is also important to remember that your profit and loss EBITDA calculation will not be the same as the buyer’s EBITDA. This is because EBITDA and multiples rely on each other to make the valuation work, for example, five times profit and loss EBITDA might not be as attractive as a purchaser’s adjusted net income at four times. Furthermore, the EBITDA used may not always be your actual EBITDA. When analysing the valuation, it could be that the amount of money you spend on associates, materials, labs, staff and other areas is higher than what other buyers would spend. Therefore the higher valuation may come from a lower valuation multiple, multiplied by a higher projected EBITDA.
Calculating the valuation of your dental practice is not a simple procedure and a number of variables need to be taken into account. Working with trusted experts, such as Dental Elite, who can offer you the necessary advice and support is crucial.
Dental Elite is the second largest specialist practice sales agency in the country, offering a comprehensive and transparent service. The experienced and knowledgeable team can provide you with a free and non-committal valuation. Following a visit to your dental practice they will provide you with a Healthcheck Report, which demonstrates exactly how they have calculated your practice’s value and how it could be improved.
Although dental practice valuations remain as much a work of art as they are a science, understanding the process will reduce the mystery surrounding the calculations. By working with professionals who are experienced and current in dental practice valuations an accurate and transparent valuation will be achieved.
A very interesting article Luke, it can only help to remove the "smoke and mirrors" from dental practice valuations.
The nub of it all is EBITDA, from an accountancy perspective there should only be one EBITDA, calculated by making appropriate adjustments to the practice P&L.
The second article on the first page of this bulletin gives my views on this important topic.
Alan Suggett UNW LLP Specialist Dental Accountants