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Understanding Terms and Definitions

Dr. David E. Marcinko; MBA, CMP™

[Editor-in-Chief]

The term “value” in and of itself is too broad to be useful in the business appraisal of a medical practice, ASC or clinic, etc.  It must be given a context. As a medical practice appraiser, the industry generally refers to four standards of value. 

Fair Market Value

This is the most common context given to the term value. Fair Market Value [FMV] is defined by the IRS through Revenue Ruling 59-60 as:

“the amount at which property would exchange hands between a willing buyer and a willing seller when the former is not under compulsion to buy and the latter is not under any compulsion to sell, both parties having reasonable knowledge of the relevant facts.”

It is generally agreed that fair market value is based upon a hypothetical arm’s length transaction before direct consideration of taxes to be paid as a result the transaction.  That does not imply that taxes are not part of the relevant fact set that a willing doctor-buyer considers when determining the value.  Fair Market Value is the standard of value that is used in valuations for estate tax and generally for valuations related to divorce.

Investment Value        

Investment Value focuses on value to a specific buyer rather than value to a hypothetical buyer. For example, let us examine an owner of a medical office who is considering the acquisition of a competitor practice that operates in the same geographic market.  The doctor owner might calculate value based upon the knowledge that the combination of the two entities will create economies of scale and less competition. This would result in greater profitability per dollar of revenue.  Therefore, such a buyer, all else equal, may assess a greater value to the practice than a buyer who would expect to operate the office in its current free standing situation, without the expected cost saving and corresponding expectation of increased cash flow.

Intrinsic Value

Intrinsic Value is similar to investment value however the practice is typically viewed in a stand-alone mode as a going concern.  That is, value is based upon the expected cash flows of the firm based upon its current operating configuration.  However, changes in operating policy such as changing its financial structure can have an impact on its intrinsic value. 

Going Concern Value vs. Liquidation Value

A medical business cannot be worth less than its liquidation value. Thus, liquidation value sets a floor for value. Liquidation value assumes that a practice’s operations cease and assets are sold either piecemeal or in groups and obligations are satisfied. Liquidation value is generally based on an “orderly liquidation” process where assets are sold in manner to realize the greatest possible value for them. 

In contrast, a “forced liquidation” process is where practice assets are sold as quickly as possible often through an auction. Going Concern Value views a firm as a holistic combination of tangible and intangible assets in which the sum is often greater than its parts. This synergistic view of the practice is typically what is being valued.     

Conclusion

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Speaker: Dr. Marcinko is a highly sought after futurist and speaker in the areas of health economics, financial planning, medical practice management and related entrepreneurial e-insights for many intersecting sectors in the healthcare industrial complex. Contact the ME-P for availability and scheduling. 

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Filed under: Glossary Terms, Practice Management, Practice Worth | 1 Comment »