Sale of an Orthodontic Practice, Part I

This article is not intended to be a standard for the sale of an orthodontic practice, but merely to describe what appear to be some of the ingredients most frequently used as a basis for such a sale.

How is a practice offered for sale?

1. By advertisement in a metropolitan newspaper if the practice is located near a metropolitan area. The ad should state the general location of the practice and ask for a resume from respondents. Replies should be addressed to a box number at the newspaper. The reason for the box number is to preserve the confidentiality of the sale. News of this kind travels on the wings of the wind and revelation of the fact of attempted sale too early can have an adverse effect on new patients and patient referrals. A typical such ad under "Professional Practices For Sale" might read:

Orthodontic practice for sale. Active practice. Long established. Northern suburb. Retiring. Excellent opportunity for growth. Complete resume with reply. Box XX.

A typical orthodontic journal advertisement might read:

New York. Active practice. Long established. 25 miles north of New York City. Retiring. Excellent opportunity for growth. Complete resume with reply. Box XX.

A typical advertisement in a state dental journal might read:

ORTHODONTIC PRACTICE. Westchester. Active practice. Long established. Retiring. Excellent opportunity for growth. Complete resume with reply. Box XX.

The resume requested should include the following information: Respondent's name, address, telephone number, age, place of birth ,education, family status, experience, availability, appliance preference, most convenient time for an interview.

write articles for dental journals and offer courses.

What do you do when the replies come in?

When the replies come in addressed to a box number at the publication, they will be sent to you by the publication. When they arrive, you screen them. Some will eliminate themselves. You want someone now and the replier is available next year. You want to sell and replier wants a job or an association. You practice one technique and he another. Replier specifies a town or area other than yours. So, you screen the replies and call the most interesting ones.

Here is where a practice broker or consultant may, for a moment, be preferable. That person can screen the replies including the telephone call stage without divulging who you are and where the practice actually is located. They can interview the prospects and do this secondary screening while still preserving the confidentiality.

Once your name and address have been divulged, the secret is more or less out. You still try to preserve it as best you can, but the prospect who turns out to be uninterested or unsuitable may not be so careful with the news, and an interested person may feel obliged to make inquiries about the practice among local dentists or local people they may happen to know.

It is a real problem when the first referring dentist or patient tells you that they have heard that the practice is for sale. This should be given some thought in advance and a suitable reply should be planned. If you say "Yes", you may be placing the value of your practice and possibly the sale itself in jeopardy. Nothing will dry up new patients and new referrals faster than the news that you are selling your practice, and if the sale takes a long time to consummate, this could have a very adverse affect on the value of the practice and the possibility of sale. If you say "No", you are Iying for which you may or may not be forgiven. You could suggest that you are considering bringing someone into your practice, but that the whole thing is strictly at an inquiring stage. If and when anything develops, you would announce it.

How do you handle the interviews?

Once the initial screening of the replies has been done, it is time to call the remaining prospects to arrange for an interview. If nothing negative turns up in the telephone call to a prospect, an appointment is made for him to come and see the office. See all the prospects. Don't see one and wait to see what happens. The appointments for the prospects to visit the office are made for a time when the office is closed-- at night or on Sunday or on your day off. You do this for several reasons. One is confidentiality. You may be able to explain one visitor, but a whole rash of visitors

might be revealing. Another reason is to interfere with your practice the least. Also, you may or may not want your own staff to know too early that the practice is for sale. Keeping your secret is one reason. Keeping your staff is another. In addition, it is not required that the prospective buyer have any contact with your patients prior to sale. His information about your practice should come from records.

When he comes to the interview appointment, the prospective buyer can see if he likes the office and its location. He can find out how big the practice is, how it operates, the nature of the practice and the community. He can look over some case records. You discuss training, experience, appliances, attitudes, background. You are trying to see if you have the makings of a compatible sale and transfer of your practice; whether he has the capability and personality to take over in your place. He is trying to see whether the office and practice present an attractive opportunity for him. Inevitably, you get down to the question of money. He is going to want to know how much future income is on the books and what price you are asking for the practice.

How much is the practice worth?

There is no single method of deciding on the value of a practice.

Here is one way.

You should be prepared to demonstrate to the prospective buyer's satisfaction what the financial condition of the practice is. It may be helpful to the sale to first show what the financial condition has been. A quick way to document this is to take the first page of your federal income tax returns for the past three to five years. The figures for gross income reported are the significant ones. You could block out the rest if you wanted to. Make photocopies of these pages and have them available. This quickly demonstrates whether the practice is level, rising or declining; and what the actual income has been. Practices are not generally sold on this basis, but it does present a quick, authentic picture of the practice income.

It is conceivable that, under some circumstances, this simple accounting could form as good a basis as any for setting the selling price of a practice. It alone, however, only tells about the past. It is reasonable that, in the sale of an orthodontic practice, the buyer may want to know how much work remains to be done on the patients in the practice and how much money remains to be paid. If you have not been doing so for your own purposes, now for expediting the sale you should be able to demonstrate the present state of the practice with regard to treatment and money.

How do you demonstrate the present state of the practice?

One way to create a true picture of the practice with regard to treatment and money is to prepare the following three charts:

This chart shows the number of patients on pre-treatment observation. The viability of the list is shown by the date of the last visit and the time interval until the next visit. The "Remarks" column can show such things as imminence of readiness to start treatment, siblings under treatment, etc. A portion of the purchase price of a practice is not usually assigned to observation patients, but they can be a potent factor to show the viability of the practice and the potential for practice growth.

Retention and post-treatment observation represents a certain number of office visits which the buyer must service. In some practices it may be customary to make office visit charges for retention visits, so that retention in such a practice may become a plus factor financially. If the retention visits are included in the overall fee, then no new income will come from these visits. However, retention patients may represent a plus factor for the new man in terms of community contacts and with families with children of orthodontic age. From this point of view, it would seem wise for the buyer to take over the retention file intact and see the retention patients at least once. They may be dismissed after that depending on the retention philosophy of the buyer. Usually, however, the retention patients are not included in the financial considerations either to anticipate income or to charge the practice with visits owed.

chart shows the number of patients under active treatment. Column 2-- "Referred By"-- which also appears on the other two charts, tells where the practice is coming from; whether it is mainly a patient-referred or a dentist-referred practice; who the referring dentists are, how many patients each referred and with what regularity. The importance of this to the buyer is that he may take some comfort from a broad base of referral as compared to a practice largely dependent on a few cronies

of the seller. The list is also valuable when the time comes to announce the transfer of the practice.

The information in Columns 4 and 5 on "Starting Date" and "Estimated Time of Treatment" may be illuminating when compared with Column 10-- "Time Left in Treatment". These comparisons are important when, as with a transfer case, the seller tries to strike a balance between the work that he has done for each patient and the work that remains to be done by the next orthodontist, in this case the buyer. It is necessary to go over each treatment card and, if necessary, assess the patient himself in order to complete this part of the chart in a fair manner.

The amount of treatment that has been done and the amount that remains to be done for each patient is converted to money in Column 11 ($ Earned) and Column 12 ($ Not Earned). These are the amounts that the seller figures he has earned from his total fee contracts and the amounts that he has remaining in his contracts which have not yet been earned because a certain amount of the work remains to be done. There are various ways of figuring these columns. The Total Fee in Column 6 could be divided by the Estimated Time of Treatment in Column 5 and the resulting monthly amount multiplied by the months that the case has been in treatment and the months left in treatment. This is a simple method based essentially on time. A modification of this could be to make a weighted monthly figure for the first year in treatment to compensate for appliances which will normally be a bigger factor in the first year. Another method could be to take the Payment Plan in Column 7 and follow that arrangement. If the arrangement was derived from a breakdown of components of treatment such as diagnosis, appliances, treatment visits, and retention, this may form a basis. Whatever method is used, one must remember that Column 11 and Column 12 together have to equal the "Total Fee" in Column 6. It may be a good approach to figure Columns 11 and 12 separately so that you can examine any disparity between work done and work remaining to be done, between fee paid and fee remaining to be paid and strike a balance of the differences on a fair and reasonable basis.

Whenever "Fee Paid to Date" in Column 8 is lower than "$ Earned" in Column 11, the difference goes into Colume 13-- "Earned Not Paid" -- and this is an amount that the buyer owes the seller on that case. Whenever "Fee Paid to Date" in Column 8 is higher than "$ Earned" in Column 11, the difference goes into Column 14-- "Paid Not Earned"-- and this is an amount that the seller owes the buyer on that case.

Totals are obtained for Columns 8, 13 and 14. The difference between the totals for Columns 13 and 14 represents how much overall the buyer owes the seller or the seller owes the buyer on work done and work remaining to be done. If the seller owes the buyer, if Column 14 exceeds Column 13, the difference is substracted from the total of Column 8-- "Balance Due". If the buyer owes the seller, the amount is added to "Balance Due".

What has been done is to create a dollar value which describes how much money is yet to come into the practice, modified by any amounts earned but uncollected by the seller, or collected but unearned by the seller. This final figure is the one that can be used as the subject of the negotiations of the selling price of an orthodontic practice.

"Balance Due" is an exact figure and it is presumed for the purpose of negotiation that those funds will eventually be collected, even though this may, in fact, not prove to be the case due to transfer of some cases and failure to collect on others. The transfer may be the usual transfer or the option of the patient not to continue treatment with the buyer. The figures for work done and work remaining to be done are, to some extent, also an article of faith. Treatment goals vary. Treatment time estimates are frequently optimistic. The buyer can get some idea of the state of the practice from the starting dates and the length of treatment to date on the active cases. These might form some basis for negotiating the figures in Columns 11, 12, 13 and 14, but only in a most general way.

How to Use the Active Treatment Chart

It might be instructive to fill in Columns 5-14 of the chart for a few cases to demonstrate how it works:

All three cases were estimated at two years of active treatment and all three are assumed for the purposes of this example to have a fixed fee of $1000. For patient John Jones, half the fee has been paid and it is estimated that 15 months or more than half the estimated treatment time remains. Assuming that appliances have been placed, the seller selected $35 a month as a fair rate for the remaining 15 months. If it were earlier in treatment and all appliances had not been inserted, he might make that $40 or more for the remaining months. Fifteen months at $35 a month amounts to $525 which is the dollar value of the amount of work that seller estimates that buyer will have to supply. Since seller has therefore earned only $475 out of the $500 already paid (Column 8) then he owes the buyer $25 which is the amount of the overpayment to him. This $25 is entered in Column 14-- "Paid Not Earned."

Patient Mary Smith has the same estimated treatment time and the same fee at a rate of $35 a month. But, this patient has paid only $100 and has only six months of treatment remaining. Again, the basis of $35 a month for the six remaining months is used and computes to $210 to be earned by the buyer and $790 to have been earned by the seller. Since only $100 has been paid, seller is owed $690 which buyer will eventually collect but which must be credited to seller.

Patient Robert Brown has the same treatment time estimate and the same total fee. However, his Payment Plan is on a basis of $40 a month. Despite that, the monthly amount used as the multiple for the remaining months could still be $35 or $40 or some other figure, depending on the stage of treatment. In this case it is of no concern because the entire fee has been paid and the entire treatment is yet to be done, and the $1000 goes into Column 14. If appliances had been constructed but not placed, an allowance to the seller would be made for that.

When the columns are totalled, the amount for Column 14, Paid Not Earned and due the buyer, exceeds Column 13, Earned Not Paid and due the seller, by $335. Since this will come out of monies that the buyer will receive from the patients, the Balance Due figure must be reduced by $335 and now we have a Net Balance Due of $1065 which is the adjusted true income that the buyer will receive for work expended.

A percentage of the Net Balance Due figure can be the basis for establishing the selling price of the practice. There is no hard and fast rule on what the percentage will be. It is negotiable. The basis of the negotiation could be age of the practice; growth potential of the practice; is the practice expanding, level, or declining; judgment of accuracy of time estimates; how long cases are under treatment; age and condition of office equipment and furnishings; quantity and usefulness of orthodontic supplies; gross income vs. net income; size of delinquent accounts; length of lease; whether the seller is alive and able to assist the transfer of the practice; geographic location of the practice. Depending on the weight of items such as these, the percentage may vary from 30% to 100%.

How to Determine the Selling Price

If there is a substantial value in equipment and furnishings not yet depreciated, this item plus the net cost of usable supplies should be added to the percentage of the Net Balance Due. It should be emphasized that Net Balance Due depends on estimates of time left in treatment and is not exact, but it can be an honest effort to determine the work to be done and the dollars to be earned. Instead of Net Balance Due as the basis for the negotiation, one could use last year's gross income; an average of the last three years' gross income; net asset value; or a combination of these figures such as one-half the net asset value and one-half the gross income. In the final analysis, the selling price of anything is determined by what the seller is willing to take and what the buyer is willing to give.

Once the percentage or percentages have been agreed upon, it remains for your lawyer and accountant to complete a contract for the sale and for the two principals to agree and work on procedures for the orderly transfer of the practice. The selling price has been arrived at.

Part 2 of this article will appear in the January 1974 issue of JCO. It will include what the accountant and lawyer do to complete the sale, including an example of a Sale Agreement; and what steps the buyer and seller take for the orderly transfer of the practice.