Getting the Most Out of Your Dental Practice
The sale of your dental practice is a once in a lifetime transaction that, when executed correctly, can be your ticket out of clinical dentistry and into a secure future. It’s an asset you’ve dedicated years of your life to build with the potential to fund your retirement or your next venture. It’s not an exaggeration to say leveraging the sale of your practice is your path towards Total Dental Freedom.
With so much riding on this single transaction, it’s important to know exactly what your practice is worth so that you can get the maximum out of the sweat equity you’ve invested through the years.
There are two primary ways a practice is valued, and for the most part it depends on who the buyer is.
20 years ago, selling to a dentist was the main way to offload a practice. Today, selling to a dentist is still an option, albeit less common than it once was. When selling to a dentist, the primary method of valuation is a simple formula: a percentage of annual collections. Typically this number ranges from 70-80%.
This is the simplest method of practice valuation, although often the least lucrative.
DSOs take a different approach. They will value a practice based on a multiple of EBITDA.
The greater the EBITDA, the higher the multiple. We typically see these bands:
- 3-4x: $200,000 – $300,000
- 4-5x: $300,000 – $500,000
- 5-7x: $500,000+
If you’re like most dentists, you’ve based the worth of your practice on the word of your accountant, which is a mistake for several reasons.
First of all, your accountant is an outsider to the dental industry, so they lack the knowledge concerning what makes a practice valuable to investors.
Secondly, one of your accountant’s goals is to mitigate your tax burden, so their focus is on presenting the financials of your practice such that it appears to be less profitable.
But in order to get the best offers for your practice, you need to evaluate your financials using the criteria set by the DSOs.
Since EBITDA is the standard for practice valuation, let’s take a closer look at what it is and what you can do to improve yours.
What is EBITDA?
The term EBITDA is commonly misunderstood, but it’s an important concept to understand because it’s used to determine your short term and long term wealth.
In short, EBITDA is your:
The simplest way of defining EBITDA is the cash flow your practice would produce if you were paid as an employee.
In other words, it’s your revenue related to profit rather than your gross revenue.
As an example, if your total revenue were $1 million dollars and you had 50% overhead and 30% as your salary, the remaining 20% would be your EBITDA. This is the figure that Private Equity firms use to understand the yearly cash flow of your practice.
For this reason, an accountant is unable to look at a profit & loss statement and calculate what your EBITDA is because they aren’t able to normalize your income based upon industry standards.
There are other expenses that show up on a P&L that are one-time expenses which are normalized away.
The total value of your practice is determined by your EBITDA and the average industry multiplier assigned to your practice at the time of the sale. The multiplier establishes the fair market value of your practice in relation to its profitability.
Your EBITDA is not a fixed number. You have the ability to increase or decrease it over time based on how you manage your practice.
Let’s take a look at how to increase EBITDA.
Strategies for Increasing EBITDA
There are only two ways to increase your EBITDA: increase collections or increase profitability. Here are a few strategies to try in your practice:
Perform a S.W.O.T. Analysis
Gain a baseline picture of your practice by identifying its strengths, weaknesses, opportunities, and threats. Engage your staff and Associates during this process to insure you have enough input needed in order to make smart decisions.
Increase Hours of Operation
By offering expanded business hours, you can increase production. Offering early morning and evening hours will accommodate patients who can’t come in during normal business hours. This is an attractive prospect to clients because this means they can get treatment without having to call off work, which is a win-win.
You can arrange to limit these extended hours on either side of the standard 9-5 business day to certain procedures so that you don’t need to have a specialist on hand all day.
The additional hours of operation will make it easier to keep Associates busy and provide you with greater flexibility for your clinical hours.
Doing things the way they’ve always been done means you may be missing out on opportunities for systems improvement. Explore options like switching from paper billing to automated billing, using digital scheduling, and using AI to handle simple patient communication needs.
There are so many ways to move the EBITDA needle, but not all of them are positive. Keep reading to discover some of the EBITDA pitfalls you should avoid.
Common EBITDA Pitfalls
Decreases in EBITDA are costly because the true loss in value depends on the average industry multiple your practice is assigned at the time of the sale.
At a minimum, your practice will receive a 4.25x multiplier, which means for every dollar lost in profit, you’ll lose $4.25! More often than not, the multiple is going to be around 7-8x. When you do the math, it’s clear that a decrease in EBITDA could be a significant blow to your financial security. But it doesn’t have to happen to you.
Here are some common EBITDA decreasing pitfalls to avoid in your practice:
When you prepare to sell a house, it’s a smart move to invest in renovations. Not only will this move attract more buyers, it’ll significantly increase the value of the home. So it makes sense that many dentists think investing in equipment upgrades before selling their practice is a smart move. Unfortunately, that couldn’t be further from the truth.
Equipment upgrades actually cost you money because they decrease your EBITDA. That money would be better spent funding your retirement.
It’s so easy to be taken in by a really great sale price and manageable monthly payment terms. But the fact is, all those purchases must be paid in full when it’s time to sell your practice. What seemed to be a smart decision quickly transforms into regret once you realize the impact it has on your total compensation.
Out of Control Overhead
Overhead is an inescapable part of operating a dental practice. However, you should always be looking for ways to reduce it as much as possible. The best way to do that is to collect data on the different facets of your overhead every single month and to make a plan of attack for improvement.
You should be tracking relevant Key Performance Indicators (KPIs) every month to ensure your practice is healthy and so that you can make strategic business decisions. If you aren’t sure which KPIs make sense for your practice, you should consult with Business Operations Specialists who are familiar with dentistry. In addition to standard financial reports, they can provide you with supplemental reports to give you a full picture of the health of your business. This includes a detailed look at the different types of overhead.
Using the data from the reports, make a plan to address 1-3 factors that will move the needle over the next 30 days. Perhaps that means renegotiating your lease, finding a new supplier, or adjusting your marketing budget. Once you have the plan to reduce your overhead in place, it’s important to communicate it to the team so that everyone can do their part to ensure its success.
By committing to small, regular steps to adjust your EBITDA every single month, you’re building a foundation for short and long term wealth.
Your EBITDA is in Your Hands
You have the ability to determine the real value of your practice by choosing to engage in habits that will increase or decrease your EBITDA. In order to increase your EBITDA, you need to have systems in place to monitor your practice’s performance and the ability to create a monthly plan of action to make ongoing progress towards your goals.
That means the true worth of your practice is determined by what you put into it. If you want to get the greatest financial reward out of your practice, it starts with getting the data you need for a crystal clear picture of its health.
We can help you understand the current value of your practice and the steps you need to take to bring it to the next level with our free Transition Readiness Report. Apply now and our transition experts will help you take control of your financial future today.
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