What Percentage of the Purchase Price should be Allocated to Goodwill?

I see this question frequently, and occasionally I get asked this question from potential buyers. I see claims made by sellers’ advisors that goodwill should be at least 80% of the total purchase price or worse, they suggest that anything lower than 80% will draw the attention of the IRS. This is just plain FALSE!

I hate to break the news to all the folks who believe that there are “standard” percentages that should be used, there aren’t! In fact, I often define goodwill for my buyers as “the difference”. That’s right; goodwill = the difference. Here’s what I mean by that.

Let’s assume you have two practices, each 4 Ops with nearly identical equipment and it’s valued at $150,000. Let’s also assume they’ll have the same allocation to the covenants of $5,000 and the only other remaining assets that need to be allocated are dental supplies and goodwill. Practice A has revenue of $1.5 mil and is selling for $1mil while practice B has revenue of $750k and is selling for $500k. Here’s the proper way to go about allocating the purchase price:

                                                            Practice A                      Practice B

Furniture and equipment                  $150,000 (15%)                  $150,000 (30%)

Dental Supplies                                     20,000                                  10,000

Covenants                                                5,000                                   5,000

Goodwill (the difference)                 825,000 (82.5%)                   335,000 (67%)

You’ll note that goodwill is listed last as it should be the last item that is assigned a value. That’s because every other asset above it should be relatively easy to value and after you’ve agreed upon the values of them, the difference goes to goodwill. Furniture and equipment can be appraised, and dental supplies can be estimated based on practice revenues. You might even see allocations for other items like net contract receivables, consulting agreements, leasehold improvements, patient charts, etc. in every case, a value should be assigned to those assets FIRST then the remainder of the purchase price is allocated to goodwill, LAST!

Technically you’ll see the definition of goodwill, an intangible asset, as the excess amount paid for a business over & above its tangible and other asset values. In my world that’s the same as saying “the difference,” it’s that simple. Statistically speaking I would agree that with the “typical” dental practice sale, 75-80% of the allocated purchase price is usually goodwill, but it’s just a statistic, that’s it.

So don’t get sucked into someone else’s world when they tell you “goodwill should be at least 80% of the purchase price of a dental practice” and any other allocation will draw the attention of the IRS. If you hear a seller’s advisor say that then you know they’re NOT being truthful with you and you have to begin to wonder what other statements they’ve made that aren’t truthful.

Written by Tim Lott, CPA, CVA. For more information on our services, please feel free to contact Tim or one of the members of the Dental CPA team by calling 844-DENT CPA or emailing info@dentalcpas.com.

When Should Dental Associate Set Purchase Price for Dental Practice?

I've joined an established practice as an associate and we are discussing when to place a value on the practice. I was under the impression we'd take the value of practice now, but his attorney is suggesting December of 2011. We are both looking for what is fair and customary.

What are your thoughts? And what company would be a wise to use for structuring the purchase agreement?

Thanks!

It depends.

If the practice has had an associate prior to you joining and you're replacing that associate, have no problem with 12/11.

If you're the first associate in the practice I usually lean towards setting the price NOW.

If the attorney has a lot of dental experience, they can certainly initiate the structure of the purchase agreement.

This first appeared on Dentaltown.

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Dental Practice Purchase Offer.

I have been negotiating with a local dentist for a couple of months and recently, we came to what I feel to be very fair terms for an associateship opportunity with a delayed sale. Associate for 2 years, paid 40% of production. I pay my own lab fees. CE $$ as well. After 2 years, it would have been a 100% buy-out. That was the original plan.

Tonight, he brought up a unique structure of a transition. He said his CPA and attorney formulated the plan trying to improve the tax advantages for all involved. I need your advice on what tax advantages are present for both the buyer and the seller.

Asking price $840K

He is most interested in me having a "vested interest" in the practice. An interest so strong that he will not be caught in two years with me leaving and he having to begin the whole process all over again. I completely understand this. He'd like me to buy 25% of the stock of the business when I begin (210K) creating this vested interest. However, the associateship lasting 2 years would still apply. He then went on to say that he believes, based on his CPA and attorney's advice, that me, the buyer, would be able to borrow money from the corporation at year 2, paying for the final 80% of the practice. By doing this, am I able to pay the debt service pre-tax? And I assume I'd still be able to deduct my interest.

I told him I am obviously interested in owning 25% of the stock, but with that means that I'd be paying back the debt to that borrowed $$$. Because I'd own 25%, wouldn't that warrant that I receive 25% of the hygiene production? From the way he understood it, I would still only make my associateship compensation with no hygiene production. I am not educated in taxes and many of these matters, but to me, I don't understand how this can work. I understand that he wants a commitment and I'm willing to give that commitment to him, but I cannot borrow $210K without a means to pay it back.

This doc is a very generous and honest man and I know he is not trying to put me in a bad spot. I need your thoughts. Thanks in advance.


What they APPEAR to be suggesting is a buy-in\buy-out that is done with a combined stock purchase\earnings shift\deferment\differential method. The fact is this is a VERY common method and while I generally agree that an asset purchase may be preferable in most cases, buying stock isn't the devil that some make it out to be in reality.

That said, IF they continue to have you buy the other 75% in year two then you should stick to your guns and make it an asset purchase and DO NOT buy stock now. There's NO WAY to buy the other 75% as a stock purchase and do so with pre-tax dollars, can't happen and I think I'm missing part of the proposal simply based on that part of your post.

It almost sounds like they want you to pay 25% of the purchase price now for stock (or maybe a deposit against 100% of the stock to be held in escrow) and potentially pay him out over 5 years beginning in 2 years as some form of severance, deferred comp or mgmnt type compensation that the corporation can deduct.

Again, THAT's what it sounds like.

If they want you to have a vested interest, an approach would be that you DEPOSIT $25k now and in two years do the deal. If you walk within the two years, you lose the $25k or a portion of it depending on when you walk. If they terminate you within 2 years they give it back PLUS some add'l severance payment equivalent to approx. $2k per month you stay there (so if they terminate you in month 23 for no good reason, they give you back the $25k AND they pay you another $22k over a year). Of course there would be conditions placed on termination.

Now, is that a good deal for you? Who knows, I don't know you OR the situation.

The bottom line is that it's time for you to make a nominal investment (in the grand scheme of things) NOW (if you truly see this as your future) and hire a professional who handles transitions to represent you.

If you're buying 50% why consider an asset purchase? You purchase a 50% interest in the assets of the C-corp & maybe a 50% interest in the owner docs personal goodwill (that needs to be addressed by his advisers). There is an added level of complexity to this approach, however, for the buyer(s), who in theory will ultimately own the practice, they aren't stuck with an old c-corp they don't want or need and you use an entity that allows for more flexibility in future sales\purchases of interests in the business.

This post first appeared on DentalTown.

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Dental Practice Purchase Question

Gross average: 1.5 million
Net: a little over 800k
Patient active 12 months: 1800
NP/month: approximately 12
Building owned and for sale separately
8 chair practice
95% C&B, Implant and removable
FFS+ Delta premier only
Hygiene only generates 280k/year. I believe 8 hygiene days. Very little soft tissue management.
Dentist takes a month off a year.
Sale price: 1.05 million

I’ll start the list of questions:

1. How many docs? If one, can you produce $1.2mill/yr?

2. 8 hygiene days equates to approx. 1,500 patients going through hygiene recall with a good recall system and approximately 6 weeks off. How was the 1,800 arrived at, any idea? Hygiene gross of $280k is about right for 1,500 patients.

3. Average doc prod should be about $900k, here its $1.2million. Any procedures being done that you won't\can't do?

4. Selling doc staying on board? Leaving ASAP?

5. How’s the equipment? Facilities? Any major investments that need to be done?

6. Location good for future growth or at least maintaining of existing patient base?

7. Must real estate be sold with practice? If not, what's the lease arrangement? First right of refusal an option?

Comments:

1. If net is accurate, looks fantastic

2.If net is accurate, price seems good

3. How much due diligence have you done so far?

Go to either http://www.dentalcpas.com/ or http://www.newdocs.com/ and grab the checklist for a practice purchase. From a financial perspective it provides a good bit of the initial documents you'll want\need to see and once you've analyzed that info it usually generates more questions. newdocs.com also has other checklists for this type of project you'll find helpful.

So specifically, there's nothing more I can add w/o seeing a lot more specifics.....

This post first apepared on DentalTown.

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Is $650,000 a Good Price for a Dental Practice?

We have come across a 6-year established office in a shopping strip whose GD and Endodontist are relocating to a professional medical building by the end of this year. They want to sell the current location for $650,000. For the price, all we are getting is the location and the equipment/fixtures. They are taking the patients with them.

They have 3 years remaining on their current lease. The total rent is nearly $3200. The approximate square footage is 2000. It has 5 operatories with ADEC chairs, digital x-ray, digital panoramas, 9 computers, new compressors, nitrous oxide tanks and plumbing (no idea of exactly how old). Number of patients and production information was not offered. The office's location is very good. It is nearby a major grocery chain. There are between 5-10 other dentist offices within a 2-mile radius.

Essentially, what my wife and I asking ourselves (and hope to get advice for) is: IS THE $650,000 WORTH IT FOR JUST THE EQUIPMENT AND LOCATION? (The price includes the GD's costs for renovating the office) OR should we just look for an empty location and start - literally - from scratch?

Since my wife is sill working for a group practice, this is our first experience. Can you advise us of how to proceed or how to negotiate with the GD seller?

$650k is the ASKING price, I doubt it'll be the AGREED UPON price.

You MIGHT be able to duplicate that office for approx. half of that, maybe not depending on the build-out cost.

The fact that you're considering this leads me to believe you'd consider a scratch start-up & if that's the case, the question is, how much are you willing to spend on a scratch start-up that comes with NO patients? THAT number may be the number that your willing to offer at MOST, probably less since you're buying USED equipment\improvements.

Don't be insulted by the asking price, it is what it is, nothing more. Make an offer & plan on sticking very close to it. The WORST that can happen is they say no & you're in the exact SAME position you are now, nothing lost.


Good luck.

This post first appeared on DentalTown.

Send your questions to Tim Lott, CPA, CVA at tlott@dentalcpas.com

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