How Much Is My Practice Worth? Part 2: The Market Approach
May 1, 2009

Continuing our discussion of physician practice value, we will take a look at some of the methods that may be used to measure the value of a practice. The most commonly accepted approaches used in the valuation industry include:

The Market Approach

The Income Approach

The Cost Approach

This month, we will specifically look at the Market Approach to value. The market approach relies upon available data on comparable organizations that may give an indication of what the going rate for a practice may be. Although this method can be very effective in determining a practice’s value, it is highly dependent on finding reliable and comparable market data.

Practice valuation under this approach would be a simple matter if we could assume that since Dr. X’s practice was valued at $10, Dr. Y’s should be worth $10 too. All things being equal this should hold true, but it turns out that Dr. X’s practice has consistently collected $5 in annual net medical fees as compared to Dr. Y’s $3 (Dr. X is a cardiologist and Dr. Y is a family practitioner).

Dr. Z, on the other hand, is a family practitioner and her practice was valued at $7, so maybe Dr. Y’s practice is worth $7 too. In addition to being a family practitioner, Dr. Z’s collections have historically been very similar to Dr. Y’s. This sounds reasonable, except when we consider the fact that Dr. Z saw half as many patients as Dr. Y, suddenly the two practices don’t seem to be comparable.

Despite our oversimplification, the intent of the examples above was to stress the basic issues of comparability and reliability of market information when using the market approach. Some widely accepted sources of market data include:

Publicly traded company data (e.g. GE, Microsoft, etc.).

Databases containing information on private party sales transactions.

Industry and trade organizations.

Information from these sources is usually converted into some type of factor or multiple that is applied to some measure of income or revenue for the practice being valued. For example, MEGA Healthcare’s shareholders own $1,000 of stock (market value), and MEGA’s net income was $100. Using this information, we can create a multiple of net income as follows:




Therefore since Dr. Y had $1 of net income last year, his practice should be valued as follows:



 
This seems like a logical way to value a practice, but publicly traded companies are typically much larger than our MEGA Healthcare example. Although publicly traded company information is reliable, any comparisons to private practices using publicly traded companies do not usually seem reasonable given the differences in income and capital.

Some data is available on the sales of private companies that may seem to be more similar financially to private practices, but this type of data is scarce, usually dated and typically not very detailed.

The market approach can be a very effective method of determining value if the market data being used is reliable and comparable. In the case of physician practices (and most professional service companies for that matter), reliable and comparable data is generally hard to come by. For these reasons, use of this method is typically as a “litmus test” for other methods.

If you have any specific questions regarding this article or if you would like to suggest a topic for upcoming articles, feel free to call or email Jeff Moffatt at 317.275.7405 or jmoffatt@blueandco.com.