Appraisal of Medical Practice Value

There are many occasions when the valuation appraisal of your medical practice is important, primarily for divorce, buy-in and pay-out, and practice sales.

There are a number of ways to value a medical or other healthcare professional practice.

(a) The Asset Approach, including the Adjusted Book Value Method, Net Asset Value Method or Asset Accumulation Method which adjust the book value of the assets and liabilities to fair market value. It also includes the Excess Earnings Method codified in Revenue Ruling 68-609, for valuing intangible assets. It is most applicable to practices with a high amount of tangible assets, like radiology. It is also used when the assets are worth more than the income stream, for example in a low-profitability medical practice.

(b) The Market Approach, including the Direct Market Data Method for closely held companies including medical practices. The Market Approach applied to professional practices compares the subject to other practices that have sold.

(c) The Income Approach is a way of determining value by converting anticipated benefits into a current value. In other words, value is represented by the return on investment available above what you could earn through the result of your labor in simple employment. The IRS has published Business Valuation Guidelines in its Revenue Rulings 59-60 and 68-609 that clarify on the Income Approach. With slight modifications, those Rulings have become the standard for professional practice appraisal.

"Goodwill" is the area that generates the most controversy in medical practice valuations. The value of intangibles, often described in a valuation as "goodwill", generally includes a favorable location; going concern value; use of seller's name; favorable leasehold; covenant not to compete; compensation for past managerial and entrepreneurial services; patient lists; credit records; patient care contracts; employee contracts; as well as assignment of future incomes from the practice. Goodwill value can be modified by a myriad of factors best determined by an impartial third party. Goodwill value is often also abused, at the risk of legal and tax complications to the buyer and seller.

There is some confusion about including in the name of the "income method" a word or words which represents the stream of returns on earnings or income. These words have included the use of "earnings" (which excludes cash flow), "cash flow" (which excludes pure earnings), "discounted cash flow, returns, benefits, economic income", etc. Dividend-paying capacity is what is encouraged in Revenue Ruling 59-60. Dividend-paying capacity in medical practices is identified through the use of net cash flow including deducted benefits after considering the equivalent market-rate compensation of the owner as if the owner were employed and the remaining cash flow was available to shareholders/investors.

The income approach results in a value that includes all tangible and intangible assets, including that described as goodwill. It does not separately seek to break out goodwill value, but to include it. The underlying concept is that when using income of the business as the approach for valuation, that income results from the value of both tangibles and intangibles together.

(d) Rules of Thumb, such as "one times net", are virtually never used anymore because changes in the marketplace and the increasing diversity and complexity of the medical marketplace have eliminated what minimal accuracy they might have once enjoyed.

Practice valuation is an inexact science attempting to reach a value within a reasonable range; therefore, even knowledgeable people can differ in their opinions.

An important factor in valuation is why and how a value is achieved. Good reports generally contain background information and documentation so the protocols followed are clear, and data can be confirmed. The objectivity of an appraiser can often be determined by a close evaluation of his/her report, especially in comparison to other reports by the same appraiser.

You should demand to have the appraiser present the resources-used, the currency of his/her data bases, and the assumptions underlying the opinion. Many so-called appraisers appear to base their valuations on rumors and hearsay, with little-to-no substantiation of their opinions. I recently had a practice-broker tell me that the extraordinary value she placed on a physician's practice with her "appraisal" was based on "that's what the seller wants" (!).

When you ask "What is my practice worth?" a definitive answer may be elusive, but common sense, professional judgment and bonafide statistical analysis can result in a usable estimate.

 

Author Keith Borglum is a Certified Healthcare Business Consultant (CHBC) and Certified Business Broker (CBB) and appraiser with
Professional Management and Marketing, 3468 Piner Road, Santa Rosa California 95401.

Phone 1-707-546-4433 or emailus for consulting and appraisal information.

Keith is one of the few consultants in America to be accepted as a member of all of the following;
the Institute of Business Appraisers,
National Society of Certified Healthcare Business Consultants
National Association of Healthcare Consultants,
Society of Medical Dental Management Consultants (90-94), American Medical Assoc's ConsultantLink© (93-05),
American Academy of Family Physician's Network of Consultants,
American College of Physicians Consultant Network,
American Academy of Ophth Executives' Consultant Network,
American Academy of Dermatology Residents' Faculty,
AAAAI Practice Management Faculty,
and the California Association of (Licensed) Business Brokers,

Permission is granted to reprint or quote any portion of this article provided that the author, firm, phone and city are named and two copies of the quoting journal are immediately mailed to the author at 3468 Piner Road, Santa Rosa CA 95401.


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