Most recent grads have in excess of $200,000 in dental education debt. Many of them may feel that they have to work as an associate for many years before even considering purchasing a practice. We have found, however, that the cost of delay can be significant. Oftentimes, the sooner you buy a practice the better your long term financial outcome will be.
Let's look at a hypothetical situation of two classmates who bought a dental practice, but did so at different points in time after their graduation. We'll make the practice's financial picture identical so the comparison will be consistent.
Dr. A has decided to buy a dental practice three years after graduating from dental school. Let's assume that the practice Dr. A will purchase has revenue of $800,000 with a 60% overhead, so the practice's Net Profit is $320,000. Let's assume the practice sells for $504,000. Dr. A will also need $100,000 in working capital so he will require a practice acquisition loan of $604,000. Dr. A's loan terms are for ten years at 7% interest, with annual principal and interest payments of approximately $84,000. Let's also assume the practice will grow 5% a year and that overhead remains at 60% excluding any debt service. Dr. A's projected net income before taxes, but after debt service, will be $236,000 in the first year of ownership.
Dr. B does not feel as confident in purchasing a practice as soon as Dr. A did. Dr. B decides to work as an associate for three more years. Let's assume Dr. B earns an income of $120,000 a year over that three year period with 6% annual increments in associate compensation. Dr. B also decides to buy a practice grossing $800,000 with overhead of 60% and Net Profit of $320,000. We'll assume that the purchase price will be identical at $504,000 with the same working capital needs of $100,000.
However, let's also assume that interest rates will have increased to 9% (up 2% from three years ago) with the same loan term of ten years. The annual practice acquisition payments will now be $92,000. Dr. B's net income after loan payments, but before taxes, will be $228,000 in the first year of ownership. Next, if we were to compare the total income earned by Dr. A over a ten year period from the time he purchased his practice, and comparing that to Dr. B's earnings over the comparable period, the difference amounts to over $826,000! So, when considering a purchase opportunity from a timing perspective, it can make a significant financial difference.
Imagine if Dr. B would have purchased a practice at the same time as Dr. A. The additional $826,000 in income could have retired his dental school debt earlier, putting him in a much stronger financial position. The old adage "timing is everything" is quite applicable to purchasing a dental practice.
NET INCOME COMPARISON
Timeline Dr. A (Owner Year 1) Dr. B (Owner Year 4)
Year 1 $236,000 $120,000
Year 2 $252,000 $127,200
Year 3 $268,800 $134,832
Year 4 $286,440 $228,000
Year 5 $304,962 $248,800
Year 6 $324,410 $270,832
Year 7 $344,831 $278,440
Year 8 $366,272 $296,962
Year 9 $388,786 $316,410
Year 10 $412,425 $336,831
TOTAL $3,184,926 $2,358,307
Send your questions to Tim Lott, CPA, CVA at tlott@dentalcpas.com
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