May 24, 2021
How Rent and Salary Can Affect Your Dental Practice Valuation
Answering the question of how much your dental practice is worth isn’t as cut and dry as assessing the market price of your house since a dental practice’s value is linked to how attractive it is as an investment for potential buyers. Every dentist has unique goals, so making the right move will depend on your understanding of how the game is played and what it means for your practice. Here’s how rent and take-home salary play out in the valuation game.
‘Circular reference’ in EBITDA
Earnings before interest, taxes, depreciation, and amortization (EBITDA) is a nonstatic evaluation that can be affected by multiple factors, including salary and rent, which are both subtracted from profits, a number that investors pay close attention to. Raising and lowering a dentist’s salary based on how taxes affect their take-home pay can affect EBITDA calculations, leading to a “circular reference” that trades off to fit a practice owner’s goals. While the owner often doesn’t have valuation in mind in this instance, rent can be a circular reference, as well.
Valuation gets complicated when the dental practice also owns the real estate that it occupies, in which case the dentist pays rent that doesn’t reflect the market value of the rent in their area. Because it can be higher or lower than the prevailing market standard, it can lead to another circular reference that significantly affects EBITDA when valuing a practice. When the rent is adjusted to reflect the true market value, the amount is directly added to or subtracted from EBITDA, making the practice correspondingly more or less attractive to investors.
Salary and rent should be top of mind when selling a dental practice since they are both linked to EBITDA. Though raising or lowering one or both to meet the market rate can produce a strong return on the sale while staying on board under the new ownership at a higher salary level, it would take a full five years to make up the difference in price (even longer if the opportunity cost or the time value of money is factored in). With a bit of forward-thinking and planning, both salary and rent can both be leveraged to create a favorable circular reference that meets seller and buyer goals.
Contact the experts at Professional Transition Strategies for more guidance on how to produce a favorable valuation for your dental practice.
Read the full article from PTS CEO and Founder Kyle Francis on DrBicuspid.com.