The Complexity of Determining Practice Value

How do you calculate the equity in your medical practice? It’s a simple question, but there’s no simple answer. For example, if you needed to borrow money, a bank would identify that your practice has a certain amount of equity. But that’s not the same as the equity if you closed the practice, then liquidated and dissolved everything.

“If a physician is at a cocktail party and they’re talking about how much their practice is worth, that may not necessarily be the same as the formula that they have in their shareholders agreement on how much you pay to redeem someone’s stock when a physician leaves,” says Bob Berg, an attorney with Epstein Becker Green. “I think physicians sometimes misunderstand equity in that sense.”

Who’s the buyer?

Berg explains that determining the equity in a medical practice can often depend on whom you intend to sell the practice. In other words, how much your practice is worth on the open market if you were going to sell it to someone else is different than how much is it worth on liquidation and dissolution. Or, how much is it worth if you merge in with another practice? That’s three different scenarios and three different answers.

“I think maybe the biggest confusion is physicians who believe their practice is worth something because of what a willing buyer would pay on the open market if you sold it,” Berg says. “But that number may be irrelevant.”

Berg explains that the confusion on this topic stems from the difference between equity and going value. In other words, a private equity company could look to purchase a practice based on revenue factors, or profit factors. That, he says, is not the same thing as equity, which is really just what is left over after you subtract your liabilities from your assets.

Really, anything that can be identified as an asset will be equity. Medical records count, but they’re not the only things. There are a lot of intangibles that can be considered assets, according to Berg.

“But equity is just one measure that can be used when you buy or sell a practice,” he says. “There are a lot of different measures.”

What’s your share?

According to Berg, there’s a difference between what a practice is worth to a third party who is going to buy it, and what a physician’s share of that practice is worth when they retire or leave. The factor that must be taken into account, he says, is what the physician paid when he or she joined the practice.

The key here is using the same type formula when a physician leaves a practice as when he or she joined the practice. In other words, if a physician didn’t buy into the receivables value when they became a shareholder, then it would be unfair for them to get that value when they left.

“To me, that’s where the confusion comes in a lot of times for physicians,” Berg says. “They’re saying my best friend just sold his practice, which looks a lot like ours, and he got $15 million. Why am I going to retire, and my one-third interest in our practice is only worth $50,000? Well, it may have little to do with the actual value of the practice, and more to do with the formula is on your shareholder’s agreement, which is based on treating folks consistently coming in as a shareholder and going out.”

Where do you start?

Berg says that when determining the value, or equity, of a medical practice, first consider whether the pending transaction is external or internal.

For an external transaction, whether it’s with another practice with whom you plan to merge, or a hospital that wants to buy your practice, the first step is to sit down with a valuation consultant to determine how much your practice is worth. And that’s using “worth” in the big picture.

“Take everything into account, like the workforce value, cash flow, receivables — anything that might be important as to how you value a medical practice as a going concern,” Berg says. “Because there’s no way you can negotiate a deal with the other side until you have a really good idea of how much your practice is worth.”

Determining your practice’s worth might be a good idea. According to Berg, interest in owning medical practices is perhaps higher today than ever before because of health care reform.

“If you look at what health care reform calls for, it’s all sorts of provider collaboration,” he says. “And I think a big chunk of that is acquisition of physician practices.”