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Investment-Grade Practice by Dr. Victoria Peterson

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Categories: Practice Management, HR and Accounting;
Investment-Grade Practice 

How to achieve maximum value and career satisfaction

by Dr. Victoria Peterson

What would it feel like to know the exact date you’d achieve financial freedom—the moment that you wake up each day excited to go to work, not because you must financially, but because you truly enjoy what you do? Sadly, for nine out of 10 dentists, this feels like wishful thinking.

It has been reported that 95%–96% of dentists cannot retire at age 65 and maintain their lifestyle.1 In a typical career spanning 30 years, nearly $30 million will flow through your business, yet most dentists can’t overcome their overhead to the point of creating true wealth. The reality is, most dentists fall short in receiving what is deserved at the time of transition.

It doesn’t have to be this way: The top 5% are not significantly different than the rest. Top-performing owners focus on key areas of business that make all the difference. In the process, maximum value is created. We call this building an “investment-grade practice” (IGP).

 Defining the terms

Applying Wall Street terminology to your dental practice is appropriate because shifting your language from that of a practice owner to that of an investor is the first step to achieving financial freedom. Here’s how financial education website WallStreetMojo defines “investment grade”:

“A rating of fixed-income bonds, bills and notes by credit rating agencies like Standard and Poor’s (S&P), Fitch and Moody’s, which signifies a low risk of default. The rating determines the creditworthiness of companies based on their financial strengths and structure, past data and growth potentials. Companies with good levels of debt, debt repayment, good earning potential and growth will have good credit ratings.”

The keys to success are written in this definition: optimizing earning potential, creating predictable growth year over year, balancing debt, building durability into the systems and a structure for ongoing success. It sounds easy enough, so why is it so hard? Two things set IGP practices apart: profits and career satisfaction. Let’s visualize why so many average practices fail to thrive.

  • The average dentist produces $400 per hour.
  • The average practice collects about $725,000 including hygiene revenues.
  • Average overhead (including owner salary) is 90%.
  • Revenues increase about 5% year over year.
That leaves only $72,500/year to service debt and new growth, and fund retirement.

Owners who operate in a business-as-usual fashion typically experience growth of 5% per year. Moving from $725,000 to $763,000 to $803,000 over three years may feel like adequate growth, but when you layer in inflation, increased salary requirements and continuous decreases in insurance reimbursements, profits get squeezed. What appears to be a growing practice is often barely treading water.

 The business life cycle

Visualizing your business life cycle as a bell curve from the beginning of your career through the long midcareer phase to contemplation of selling might look something like Fig. 1. Notice that the average practice peaks long before it hits the optimization curve. Even practitioners who elevate to $600 per hour in productivity—about $1.1 million in office revenue—create a very comfortable living but may be compromising their ability to fund their lifestyle in retirement.

Top-line revenue is only one data point. The more informative piece of information is the net income, often referred to as EBITDA (earnings before interest, taxes, depreciation and amortization). You may have a healthy top line yet suffer high overhead because of:
  • Team turnover, creating loss of continuity with systems and rising wages.
  • Downward pressure on fees from insurance reimbursements.
  • Increased regulation.
  • Lack of business education for topics such as taxes, accounting, legal issues, HR and lease negotiations.
  • Physical discomfort and mental fatigue, slowing down productivity.
These financial pressures often lead to a disorganized, chaotic and stressful work environment. Remember, the difference between business as usual and an investment- grade practice involves profits and career satisfaction. With this type of stress, both happiness and profits suffer.

There is a level beyond “above-average,” shown by the golden dome in Fig. 2. This is the space of optimization that the top 5% of owners achieve—the IGP zone, where profits are maximized today and seller’s value is secured for the future.

Fig. 1
Investment-Grade Practice



Fig. 2: IGP-optimized practice
Investment-Grade Practice



Securing your financial freedom

In my book Building an Investment Grade Practice, I go in-depth on issues that affect the value of your practice. In this article, I’ll provide three steps that will put you on your path to freedom.

 Step 1: Determine your destination

Knowing the assets you’ll need in retirement informs decisions within your practice; without this  target, you may fall short of your goals. The table in Fig. 3 should help you ballpark your financial needs after hanging up the handpiece, based on 30-year spending.
Review all investment accounts, 401(k)s, IRAs, nonretirement stocks and bonds and any commercial real estate portfolios. These assets plus the value of your practice will make up the bulk of your net worth and assets available during retirement phase of life.

 Fig. 3
Investment-Grade Practice



Step 2: Estimate your practice value

We can’t ignore the role that consolidation of the industry plays in terms of sale price. Practice value has shifted from a percentage of collections to a multiple of EBITDA. Private-equity-backed DSOs and emerging private groups are leading the charge in consolidation; the American Dental Association predicts DSO market penetration will continue to rise dramatically, from 8.8% in 2017 to nearly 30% by 2035.2 This leads us to believe that this valuation methodology is here to stay.

To determine your EBITDA, you’ll first need to normalize your profit-and-loss statement by “adding back” any personal items that are legal business deductions but would not be a part of the business with a different owner. Also normalize your salary to reflect that of a highly paid associate within your own practice. With a better sense of the true profits, you’ll have a clearer indicator of practice value.

A general rule of thumb for selling general dental practices is that you’ll receive an offer reflecting five to six times EBITDA; market supply, geography, population and the demographic profile of the population all play a role in which multiple is offered. To approximate your sale price, multiply your EBITDA by five—six if you believe you’re in a desirable area, have optimized current systems and have room for additional growth.

 Step 3: Optimize your practice value

As Stephen Covey, the author of The 7 Habits of Highly Effective People, once said, “If your ladder is not leaning against the right wall, every step you take gets you to the wrong place faster.” The top 5% of dentists lean their business against the wall of value. Savvy dentists optimize their value by preparing for transition at least eight years before the event. You can certainly sell your practice in one or two years; however, you may miss out on key opportunities to shift from renter to landlord, bring in associates to maximize your facility, expand your service mix to optimize health of patients, and reduce PPO impact to improve profits and the health of your business. Each of these goals has a strategy and takes time to implement. They’re all part of seller readiness and practice optimization.

Building an investment-grade practice is easier than you think! It’s a matter of focusing on the end game first and building a critical path toward your goals. Shifting your thinking from year-over-year growth into optimizing toward financial freedom makes all the difference in the world.

References
1. https://www.dentistryiq.com/practice-management/financial/ article/16360890/would-you-choose-96-or-4-for-your-retirement- from-dental-practice
2. https://www.ada.org/resources/research/health-policy-institute/ dental-practice-research/how-big-are-dental-service-organizations

Author Bio
Dr. Victoria Peterson Dr. Victoria Peterson, co-founder and CEO of Productive Dentist Academy, combines her lifetime of entrepreneurship with a doctorate in spirituality. Her latest book, "Building an Investment Grade Practice," will be released in summer 2022. For more information, visit productivedentist.com.

 

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