DESCRIPTION

This approach, used by dental supply companies, totals values for equipment (including both leased and owned equipment), supplies, leasehold improvements and goodwill (usually expressed as a value per chart multiplied by the number of charts) to arrive at a total value of a practice.

PHILOSOPHY

This approach measures the value of the practice by breaking it into its component parts and evaluating each individually.

ADVANTAGES

Explicit valuation of each component of practice makes the numbers arrived at by this method easy to understand and verify. · Because all debts are excluded from evaluation, allows the financing problem to be considered independently of the purchase.

DISADVANTAGES

Because cash flow considerations are not directly taken into account, this method may not give sufficient weight to the level of expenses in a practice -- in other words two practices with the same equipment and patients would be appraised at the same value, even if one of the practices was much more expensive to run. There is no assurance that a practice valued under this method will be able to generate sufficient cash to pay its debt payments. Appraisal of goodwill is extremely subjective and subject to bias. Growth (or shrinkage) in patient base is not explicitly considered.

DESCRIPTION

From cash flow projections, a calculation is made of the amount of debt a practice can service and still give the owner a reasonable draw (i.e. at least what would be earned as an associate or employee). This approach is used extensively by Harris Beattie MacLennan & Co..

PHILOSOPHY

This method identifies the amount of "excess future earnings" that a practice can produce and determines how much you would pay for these earnings in today's dollars.

ADVANTAGES

Because this method is cash flow based, the only value any asset has is derived from the earnings it can produce. This approach avoids the tendency to overpay for new equipment (which may look better but not be any more functional than equipment five years old. By using a reasonable payback period for the debt service calculation and a current interest rate, you can determine (based on the assumptions in your projections) that the debt you incur will be able to be serviced. Historical financial data is normally available to help you make your projections.

DISADVANTAGES

This approach relies on predictions for the future. Since events do not always unfold as planned, there is the possibility that conclusions reached from this approach will subsequently turn out to be erroneous. There is a tendency when using this approach to purchase the benefits of future improvements to a practice. While if you are the purchaser you should certainly quantify the financial results of any improvements that you may plan to implement, these results should be excluded from your calculation of how much debt can be serviced because the profits from your improvements should be yours.

Harris Beattie MacLennan & Co. Limited is Atlantic Canada's leading dental consulting firm.