Valuing a Dental Practice Accurately
Valuation is one of the most critical steps in buying a dental practice.
We’re here to help you navigate the maze of dental practice valuations. And if you want help with due diligence, financing, or closing on a deal, we’ll guide you through the process.
What Is a Dental Practice Valuation?
A dental practice valuation is the process of determining the financial worth or value of a dental practice. It involves assessing many factors, both tangible and intangible, to arrive at an estimation of what the practice would be worth in the market—and what it is worth to you.
The valuation process provides valuable insights into the practice’s strengths, weaknesses, and potential for future growth. It helps buyers make informed decisions and negotiate a fair price.
Buyers can use this information to evaluate the investment potential and determine if the price aligns with the practice’s value.
Dental Practice Values are Made Up–to a Large Extent
Some dentists think there is a “right” price for every dental practice on the market. They assume dental practices are like home values, where someone out there with the right formula can input some numbers into a calculator and get the “fair appraised” value for any practice available. The appraisal is therefore the gospel truth. These dentists know that, just like buying a house, the two parties might haggle a bit over the sales price, but the anchor point of the negotiation is the appraisal.
In reality, valuing a business, including a dental practice, is a much more subjective process than most dentists realize.
There’s no “right number.” A dental practice is worth what a buyer is willing to pay and a seller is willing to accept.
That’s not to say anything goes. The number should be credible and in line with reasonable ranges. My two go-to methods for ballpark figures are price-to-collections and price-to-earnings.
Focus more on price-to-earnings, since you care about profit, not just collections. The average is around 1.6x earnings. For good practices, 1.75-3x is more typical. We’ll go further into valuation methods in the sections below.
Don’t get hung up on hitting a perfect valuation target. Weigh factors like location, facility, and staff. If you see profit potential, a fair valuation shouldn’t make or break the deal.
You make money owning a quality business, not nickel and diming the purchase price. Use valuation to avoid overpaying, but keep the big picture in mind during negotiations.Check out this video on the top financial documents you’ll want to scrutinize:
How to Value a Dental Practice
As we’ve said, there isn’t a “correct value.” There is a range that the value should fall into, though, and the following methods will help you fall within the range.
When evaluating a practice, don’t be blinded by the numbers. Numbers are important, but they’re not the be-all and end-all.
When it comes to valuing a dental practice, you need to look at the staff, the location, the community, and other qualitative aspects, in addition to the quantitative aspects (numbers).
Every dental practice is unique, just like you. Let’s dive into practice valuation methods that can help you on your way to purchasing a dental practice you’ll love.
Practice Valuation Methods
Each of the following valuation methods is like a lens you can look through to get a different perspective. Ultimately, it’s up to you to use these together to compile an overall picture of what you think the practice is worth to you.
Price to Collections Method
When it comes to dental practice valuation, a favorite method among many brokers is the Price to Collections approach.
Collections is definitely one of the most important numbers you can focus on:
The methodology is fairly straightforward—it involves setting a business’s price based on its annual revenues or “collections.” To determine a dental practice’s value using this method, you divide the practice’s sales price by its total revenue. This ratio is then typically expressed as a percentage.
If a dental practice has annual collections of $1 million and it is listed for sale at $750,000, the Price to Collections ratio is 0.75, or 75%. This means that for every dollar the practice collects in a year, a potential buyer would be paying 75 cents.
This valuation method is often used because of its simplicity and its focus on revenue-generating potential. It’s a quick and effective way to compare different practices based on their annual revenues.
While the Price to Collections method provides a useful snapshot of a practice’s value, it doesn’t take into account other factors like profitability, expenses, or future growth potential.
For a more holistic view of a practice’s true value, multiple valuation methods should be used and a thorough analysis of the practice’s financial health and potential should be conducted by a skilled professional (such as our dental practice transition consultants).
Let’s look at some dental practice valuation methods that we use here at DBA to help our clients narrow in on a fair offer.
Price to Earnings Method
The Price to Earnings method takes a bit of a different angle. Instead of considering the total revenue, this method focuses on the net earnings (or profit) of the practice. You take the net earnings and multiply them by a certain factor to arrive at a value.
Price to Earnings, or P/E ratio, focuses on the profitability of the practice and assesses how much a buyer is willing to pay for each dollar of the practice’s earnings.
To calculate the Price to Earnings ratio, you divide the practice’s sales price by its annual net income. This ratio is typically expressed as a multiple.
For example, if a dental practice has an annual net profit of $200,000 and it is listed for sale at $400,000, the Price to Earnings ratio is 2. This means that a potential buyer is willing to pay two times the annual earnings to acquire the practice.
Comparing Price to Collections vs Price to Earnings
Where the Price to Collections model looks at the cash-generating potential of the business, the Price to Earnings method is more interested in how much goes into your pocket.
Let’s compare two hypothetical practices to illustrate the difference between the two methods:
- Annual collections: $1,000,000
- Annual profit: $600,000
- Annual collections: $1,000,000
- Annual profit: $450,000
Using price-to-collections, both practices would be valued similarly, around $700,000 – $900,000 (70-90% of $1M collections).
But with price-to-earnings, valuations would differ:
- Practice A: $1.05M – $1.8M (1.75-3x $600K earnings)
- Practice B: $787,500 – $1.35M (1.75-3x $450K earnings)
Despite identical collections, Practice A fetches a higher valuation due to greater profitability. This demonstrates why price-to-earnings better reflects a practice’s potential.
Practice B could still be a worthwhile purchase if the buyer sees opportunity to lower expenses and thus improve profitability. But the valuation methods would produce different figures based on the practices’ current earnings.
Appraisal by a Dental Practice Consultant or a Dental Broker
When it comes to obtaining an accurate appraisal of a dental practice’s worth, many dentists turn to the expertise of dental practice consultants. Some dental brokers can also assist with valuations, so if you’re working with a broker, ask them if they possess the necessary qualifications.
Dental practice brokers and consultants can help with both qualitative and quantitative analysis and can help you run values based on different valuation models and also on market conditions.
Dental Buyer Advocates is a dental CPA and acquisition consulting firm with extensive experience in practice valuation. We’ll work with you to develop a comprehensive and objective assessment of the practice worth.
We work with you to gather essential information about the practice. This includes analyzing the practice’s financial records, such as gross revenue and expenses. We also consider factors like the patient base, number of active patients, location, equipment, staff, and market trends. We’ll even take into account the practice’s goodwill, which reflects its reputation, patient loyalty, and ability to attract new patients.
We perform a thorough analysis and apply various dental practice valuation methods to determine the practice’s worth. These methods include the Price to Collections and Price to Earnings ratios we discussed earlier, among others. We consider both quantitative data, such as financial metrics, and qualitative factors, such as the practice’s reputation and growth potential.
The valuation process can involve comparing the dental practice to similar practices in the local market to gauge its relative value. We also consider the current state of the dental industry and market conditions, as these factors can influence the appraisal.
Dental practice consultants are independent professionals who offer objective assessments. Our role is to provide an unbiased evaluation of the practice goodwill and its current value, aiding dentists who are interested in buying a practice and want to ensure they receive accurate dental practice valuations.
Engaging a dental CPA is a prudent step for dentists who want an accurate appraisal of how much their practice is worth. When buying a dental practice, working with a dental practice consultant to determine the fair market value of the practice can help you make informed decisions and negotiate a fair deal.
Market-Based Valuation Methods
Market-based factors can impact the value of a practice, and should be factored in for a true valuation.
Here’s how we use market-based analysis (in conjunction with other types of analysis) to help arrive at a reasonable value of your practice:
- Analyze comparable sales data. Examine recent sales of similar practices in your area in terms of size, specialty, demographics, etc.
- Assess market conditions like economic climate, population growth, competition, and reimbursement trends.
- Consider the location: desirability of area, accessibility, visibility, parking, and future development.
- Evaluate the patient base, including loyalty, retention rates, new patient flow, and demographics.
- Factor in reputation through reviews, referrals, brand recognition and goodwill.
- Analyze growth potential including capacity for expansion, new services, and untapped markets.
- Review profitability metrics like net income, discretionary earnings, and overhead costs.
- Consider specialized services and unique or high-demand procedures offered.
- Assess the facility: size, layout, appearance, equipment, and leasing terms.
- Accurately appraise the staff’s skill, experience, systems and workflows.
- Account for intangible assets like software, patents, trademarks, and branding (more on this below).
Check out Brian’s thoughts on patient demographics, with a focus on age:
Tangible and Intangible Assets
Any proper business valuation should assess tangible and intangible assets. Tangible assets can be assigned a dollar value. Intangible assets contribute to the practice’s success, but are harder to place a price on.
- Equipment and technology
- Real estate (building, land)
- Furnishings (cabinets, decor)
- Inventory (supplies, materials)
- Accounts receivable
- Cash balances
- Patient base (loyalty, retention)
- Staff (skills, experience)
- Location (visibility, accessibility)
- Reputation (reviews, referrals)
- Brand identity (name, logos)
- Systems and processes
While tangible assets form the backbone of valuing dental practices, intangible assets often make the difference between a mediocre and outstanding practice.
When you work with Dental Buyer Advocates, we take all factors into account to help you get the most complete picture of a practice’s value and future earning potential.
Get the Most Comprehensive Evaluation Possible
At the end of the day, there’s no “one-size-fits-all” formula for valuing a dental practice. Our valuation approach takes into account multiple methods and perspectives.
When evaluating a practice, we want you to keep the bigger picture in mind. It’s not just about the money you’re paying upfront. Think about the profits you’ll be making down the line. Think about the quality of life you’re buying.
At Dental Buyer Advocates, we keep the numbers in mind. But, beyond the numbers, we look at the practice’s location, staff, equipment, patient demographics, and growth potential when evaluating it. In other words, we consider the big picture.
Here are three numbers you should focus on when evaluating a practice:
How Much Does it Cost to Buy a Dental Practice?
The cost of buying a dental practice depends on the location, size, profitability, patient base, equipment, and overall condition of the practice, market conditions, and much more.
On average, dental practices cost from several hundred thousand dollars to several million dollars. In some cases, the cost may be even higher.
If you’re considering buying a dental practice, we can guide you through the process, help you evaluate the financials, conduct due diligence, negotiate a fair price, and close on your deal.
We can provide you with more accurate and up-to-date information regarding the specific costs involved in buying a dental practice in your desired location and market.
What Does an Average Dental Practice Appraisal Cost?
Dental practice appraisers charge a wide range for their services. When you work with Dental Buyer Advocates, you’re getting much more than an appraisal. You’re getting a trusted partner who will guide you through all the phases of dental practice acquisition, from making an offer to closing on your practice.
We charge a flat fee of $9,000, with half due upfront and the remainder due after you’ve closed on your new practice. Our clients typically save many times that amount—or avoid buying a practice that would have been a terrible deal for them. It’s a bargain.
Learn more about working with us and what’s involved in an accurate dental practice appraisal.
What is a Good Cap Rate for a Dental Practice?
The cap rate, or capitalization rate, is a key metric used in assessing potential returns on income-generating assets like dental practices. It measures a property’s net operating income as a percentage of its total capitalized value. Cap rates help investors gauge the viability of a practice investment opportunity.
- Good cap rates for dental fall in the 10-20% range generally, with 15-17% considered attractive by many investors.
- Higher cap rates indicate greater potential returns, but also increased risk. Extremely high cap rates above 20% warrant scrutiny.
- Lower cap rates below 10% suggest more stable assets, but limited upside. 10-12% can still be solid investments.
- Compare cap rates to similar practices in the same market. Local conditions impact rates.
- Factor cap rate with profitability, growth outlook, facility, and financing terms for full picture.
- Successful practice owners can expand services and increase cap rates over time through operational improvements.
- Work with an advisor to accurately calculate cap rates and determine reasonable thresholds for your target markets.
While cap rates are useful barometers for potential returns, they are not the sole measure of a practice investment’s value. Consider them as one piece of the puzzle, along with all the factors discussed above.
Do You Need Help with Dental Practice Valuations?
Brian Hanks is the founder of Dental Buyer Advocates and is an accountant and advisor specializing in dental practice acquisition. Whether you’re a recent dental school graduate or an experienced practitioner, he will guide you every step of the way.
He is dedicated to helping you buy the perfect practice that aligns with your goals and aspirations.
You may be wondering, now that I have all of this information about dental practice valuations, do I even need a consultant?
Do you need an assistant when you’re performing a root canal? You could do it solo, sure, but having an expert by your side can make the process a lot smoother.
Let’s look at it this way:
- Expertise: just as you’re an expert in dentistry, a dental accountant and advisor is an expert in their field. They’ve seen more dental practice financial statements than you’ve seen molars. They know what to look for and can guide you through the process.
- Red flags: you know the feeling when you see a tiny shadow on an X-ray and your gut tells you it’s a hidden cavity? An accountant and advisor can spot financial and operational red flags that you might miss. They’ll save you from buying a practice with hidden problems, just as you save your patients from hidden decay.
- Negotiations: much like you would explain to your patient why they need a crown instead of a filling, an advisor can negotiate terms for you, translating financial jargon into plain English, ensuring you understand each step of the process.
- Time saving: think about how much faster you can complete a procedure with an assistant handing you instruments. An accountant and advisor can save you time by handling the financial and operational assessments, leaving you free to focus on the clinical aspects of the practice.
- Peace of mind: just like your patients trust you with their oral health, you can trust a dental accountant and advisor with your financial health. Their experience and knowledge can provide you with peace of mind during the often stressful process of buying a dental practice.
So, can you go it alone? Sure, but why would you want to? Get an expert on your team. And remember, when you’re ready to make the leap, contact me and I’ll make sure you land on solid ground!
How Do I Find a Dental Practice for Sale?
Finding the right dental practice takes effort, but following a systematic approach makes it manageable. The key is tapping into multiple resources to uncover potential opportunities.
- Leverage online practice sales platforms like Henry Schein and ADA to browse listings. But don’t rely solely on these sites.
- Work with brokers who can provide insider access to sellers thinking of transitioning. Nurture relationships with brokers and let them know your preferences.
- Network extensively with dentists in your target locations. Attend conferences and join dental societies to make connections. Ask around about potential off-market opportunities.
- Search public records for clues that a practice may be transitioning soon, like retirements, relocations, or adding associates.
- Drive through potential neighborhoods and look for “For Sale” signs, renovations, or staffing changes that could indicate a sale.
- Hire a dental practice consultant who specializes in uncovering off-market opportunities that aren’t broadly listed yet.
With a methodical approach across multiple channels, you can uncover the right practice to buy.
Listen to this podcast to understand how to quantitatively analyze a practice for sale.
FAQ on Dental Practice Valuations
What is the average profit margin of a dental clinic?
Profit margin represents the percentage of revenue that remains as profit after deducting all expenses, including both direct (e.g., materials, lab fees) and indirect costs (e.g., rent, staff salaries, utilities). The average profit margin for a dental clinic typically ranges from 10% to 20%.
How much should labs and supply costs be?
Brian breaks that all down in this video:
What is the average gross revenue of a dental practice?
The average gross revenue of a dental practice varies by location, size, patient demographics, services offered, and economic conditions. The average annual gross revenue for a solo dental practice in the United States typically ranges from $500,000 to $750,000. Keep in mind that these figures are approximate and can significantly vary based on individual circumstances and the specific dynamics of each dental practice.
What is goodwill in a dental practice?
Goodwill in a dental practice refers to the reputation, patient loyalty, brand recognition, and relationships built by the practice over time. It is an essential component of a dental practice’s overall value and can contribute significantly to its attractiveness in the eyes of potential buyers or investors.
Goodwill is one of the most difficult factors to evaluate, and one of the most important things to optimize for in practice management.
What is the overhead percentage for a dental practice?
The overhead percentage is the proportion of total expenses incurred by the practice relative to its total revenue. It is an important financial metric used to evaluate the practice’s efficiency and profitability. The overhead percentage includes expenses such as rent or mortgage payments, utilities, staff salaries, supplies, equipment maintenance, insurance, marketing, and other operational costs.
Check out this video for more about evaluating overhead:
What is the discounted cash flow method?
The discounted cash flow (DCF) method is a financial valuation approach used to estimate the value of an investment or business based on its expected future cash flows. It involves forecasting the future cash inflows and outflows associated with the investment and then discounting those cash flows back to their present value using an appropriate discount rate.
The discount rate takes into account the time value of money and the risk associated with the investment. By calculating the net present value of the discounted cash flows, the DCF method provides an estimate of the investment’s intrinsic value, helping investors assess its attractiveness and make informed decisions.
What is the value of a dental care market?
The value of the dental care market is the total economic worth of all dental products and services provided within a given market or industry. It encompasses a wide range of aspects, including dental procedures, treatments, dental equipment and supplies, dental insurance, and oral care products.
What is a dental estimate?
A dental estimate is a document provided by a dentist or dental office that outlines the projected costs for dental treatment or services. It serves as an approximation of the fees associated with the recommended procedures based on the dentist’s evaluation and treatment plan.
What is the lifetime value of a dentist?
The lifetime value of a dentist is the estimated total value generated by a dentist throughout their career. It encompasses various factors, including patient retention, treatment revenue, and the potential to sell the practice in the future.
By maintaining comprehensive patient records, dentists can better understand and optimize their lifetime value, as it helps identify patterns, patient preferences, and opportunities for improved care.
Additionally, when considering practice sales, a well-maintained patient record can enhance the attractiveness of the practice to potential buyers, as it demonstrates a solid patient base and the potential for continued revenue growth.
Does DBA help with orthodontic practice valuation?
Yes, we can help you determine the value of any dental practice, including orthodontic practices. Don’t hesitate to reach out to us for a confidential discussion and to schedule a consultation. We are committed to helping you make informed decisions when having your practice valued and get your dream practice.
Can a dental practice consultant help me with understanding dental practice transitions?
Yes, a dental practice consultant can be immensely helpful in understanding dental practice transitions. We specialize in providing guidance and expertise throughout the process of buying a dental practice, ensuring a smooth dental transition for all parties involved.
We offer valuable insights into financial considerations, legal matters, marketing strategies, and operational aspects to help you navigate the complexities of dental practice transitions successfully. To learn more about how a dental practice consultant can help you in your transition, read our guide to dental practice transitions.
What are discretionary earnings?
Discretionary earnings, also known as seller’s discretionary earnings (SDE), refer to the financial performance of a business that reflects the total benefits available to the owner-operator. It includes the practice owner’s gross income, additional perks, and non-essential expenses that are not necessarily required to run the business.
What are capitalized earnings?
Capitalized earnings refer to the process of determining the value of a dental practice based on its future earnings potential. It involves applying capitalization rates, also known as cap rates, to the practice’s expected earnings.
The cap rate represents the expected rate of return on the investment and is used to convert the anticipated earnings into a present value. By capitalizing the earnings, determining the value of the practice is easy, as the earnings are divided by the cap rate. This method provides insight into the long-term profitability and attractiveness of the practice as an investment.
What are income-based valuation methods?
Income-based valuation methods determine the value of a dental practice based on its income-generating potential. These methods consider factors like the practice’s earnings, cash flow, or collections.
A common rule of thumb is to assess the practice’s value by applying a multiple to its annual earnings or collections, providing a rough estimate of its worth. These methods are just starting points and should be complemented with a comprehensive analysis for a more accurate valuation by a professional.
I’m selling my dental practice. What should I consider?
Whether you’re buying or selling your dental practice, there are key factors to consider. If you’re looking to sell your dental practice, it’s important to assess practice value, prepare financial documents, and find the right buyer.
Buyers should evaluate the practice’s financials, patient base, and location to make an informed decision. Working with a dental practice brokers and consultants can simplify the process of selling or buying a dental practice and ensure a successful transaction.
Where are you Stuck?
Whether you’re trying to find a practice or have already closed on one, we provide expert guidance for every aspect of the deal. Click any of the links below to learn more.