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Understanding Different Methodologies

 By Dr. David Edward Marcinko; MBA, CMP™

By Hope Rachel Hetico; RN, MHA, CMP™

Much needs to be done before a medical practice can be sold for a premium. In fact, the following should be done before the actual practice appraisal process even begins:

· Choose an appraiser who understands the managed health care industry.

· Acquire historic financial information and consolidated financial statements, operating statistics, tax returns, CPT®, utilization and acuity rates.

·Eliminate one-time, non-recurring expenses, adjusted or normalized for excessive or below normal expenses.

·Understand key assumptions used in financial projections. 

Know USPAP Rules

According to Bridget Bourgeois CPA – a former medical practice valuation specialist from the American Appraisers Association – the IRS first issued guidelines in 1995, suggesting that appraisers use the general methods of the Uniform Standards of Professional Appraisal Practices.  USPAP recognizes three approaches to medical practice valuation: the income method, market method and cost method. Very few physicians are aware of them. 

[1] Capitalization Method 

The excess earnings or capitalization method estimates value by dividing normalized historical or current income by an appropriate rate of return for the buyer. This method does not require assumptions.

Discounted Method: 

Discounted cash flow analysis requires assumptions to estimate practice value by discounting future net cash flows to their present worth based on market rates of return required by an investor. Understanding some of the key assumptions produce a meaningful estimate of practice value:

·Projections of future practice revenues, productivity, reimbursement trends and shifts in payer mix.

·Projections of practice cost structures and projected physician compensation.

·After-tax practice cash flows.

·Reinvestments to replace equipment or other assets.

·Residual practice value at the end of the forecast period.

·Discount rate based on the practice specific weighted average cost of capital.

·  Practice efficiencies, operations and competitive market conditions 

The DCF analysis consistently produces higher values than other methods of estimating practice value because there may be supportable reasons to forecast improvements in future practice performance. 

[2] Marketplace Multiples 

Market transaction multiples are ratios developed by correlating actual practice sale prices to key practice performance measurements. Common multiples include comparisons of sale price to revenues, sale price to earnings before interest and taxes (EBIT), sale price to earnings before interest, taxes, and depreciation allowance (EBITDA), gross revenue, net revenue, and the sale price to number of physicians.  Market transaction multiples are typically limited to serving as a benchmark for testing the reasonableness of the other approached. They are not practice specific and are probably best relegated to history. 

[3] Cost Approach 

The cost approach calls for the identification and separate valuation of all the practice assets, including goodwill, depreciated over 15 years. Moreover, the cost approach is more labor intensive than using the business enterprise analysis to estimate practice value; especially for a new practice which typically include the expenses involved in the acquisition of space, office furnishings, equipment, marketing, advertising, staff development; and losses incurred during the start-up period. This estimate of “replacement cost or cost avoidance” value represents an upper limit (or ceiling) of value, and is generally not considered useful in estimating the value of a going concern medical practice. 

Conclusion: 

If not currently contemplating the sale or merger of your clinic or medial practice; periodic valuation is still a valuable organic growth ingredient in these changing times of healthcare reform. 

Has your practice been appraised within the last three years?

For related info: The Business of Medical Practice [Advanced Profit Maximization Techniques for Savvy Doctors]
http://www.springerpub.com/prod.aspx?prod_id=23759 

Speaker: If you need a moderator or a speaker for an upcoming event, Dr. David Edward Marcinko; MBA is available for speaking engagements. Contact him at: MarcinkoAdvisors@msn.com

Filed under: Practice Worth |