Purchasing a practice is one the largest and most important purchases many dentists are going to make. In addition, the expenses and debt repayments are going to bring a level stress that may not be anticipated. In a scenario we have seen all too often, a devastated dentist calls to say they have purchased a practiced that does not resemble the rosy picture that was painted in the appraisal. They want to know what went wrong and they want justice for the broken promises. Unfortunately, depending on the ultimate purchase and sale agreement, many of the representations in the appraisal do not make it into the final legally binding agreement and thus are not legally enforceable. To avoid the dangers dentists may face when relying solely on an appraisal to purchase their “dream” practice, it is essential that you engage appropriate advisors early in the process to ensure someone has your back.
Practice value in an appraisal is typically comprised of tangible assets (equipment, instruments and supplies, leaseholds, software) and intangible assets (goodwill). Though intangible assets can consist of a variety of factors, patient profile and charts, the quality of patient records and the degree to which patients will remain with the practice after sale are the most important aspects of the intangible purchase price. As the intangible assets typically account for a significant portion of the appraised value, due diligence on the appraisal is critical.
- Recurring Active Patients: Appraisals often include patients who attended the practice in the previous 12 months for any kind of dental treatment. Dentists should consider those who, in addition to having visited the practice in the past 12 months, display a pattern of visiting the practice as active patient numbers are required to assess the true revenue per patient, whether patients are recurring and opportunities to improve margins and profitability. We have seen cases where, in preparation for a sale, a dentist has increased the number of one-time patients through marketing, discounts, etc. to present an inflated active patient number in the appraisal. Unfortunately, a dentist relying solely on the appraised active patient number to cover expenses and debt financing costs faces a harsh reality when realizing the represented patients are not “true” patients of the practice.
- Insurance / Co-Payment: In general, dentists must make reasonable attempts to collect deductibles and co-payments. Appraisals usually detail whether the practice is actively collecting co-payments. Unfortunately, though the appraisal may state that co-payments are being collected, that may not be the case. We recently attended a practice to conduct due diligence and found that the practice was regularly writing-off uncollectable amounts, financial records showed the dentist recently started collecting a low flat fee, which can be a strategy to increase the sale attractiveness of the practice by attempting to improve historical co-payment issues, and ledgers showed the practice losing patients due to attempts to enforce a co-payment strategy. Specifically, even though the dentist was only collecting a nominal flat fee, ledgers showed that patients indicted they would not be returning if attempts to collect continued. Though the appraisal noted co-payments were being collected, they truly were not, and it would have been a sobering reality for my client to realise that after the fact. Accordingly, we advised the client not to proceed.
- Types of Treatment / Service Reports: Appraisals often include patients who attended the practice for any kind of dental treatment. Dentists should assess whether the work was preventative or restorative as, if the patient list is primary restorative, the patients are likely more reactive and thus not recurring active patients.
- Postal Codes and Demographics: Appraisals include all patients who attended the practice, despite age and distance traveled. Postal code analysis should be conducted to estimate the proportion of patients who live close to the practice as, on a transfer of ownership, it is likely that patients who travel longer distances to their dentist will relocate to closer practices. Demographic analysis will assist in predicting production from patients based on age models as, for example, if the patients are seniors, they may not be long-term patients as healthcare benefits are precarious.
This is a quick note on the dangers of relying too heavily on an appraisal when purchasing a practice. Ensure you conduct appropriate due diligence and have the right team to protect you.
If you’re thinking of buying a practice (or selling one), contact a DMC lawyer today.
