Magnifying glass: dental practice valuation

How to Value Tax Returns

Here’s how you should evaluate tax returns of a dental practice you want to purchase.

Let’s move on from FINDING a practice to deciding whether a practice is a good one to buy. Up to this point, you’ve Googled almost every dentist in your target area. You’ve sent out mailers, vetted potential offices and found at least one to look at in greater detail. You’ve requested practice information and now you’re looking at a page full of numbers and categories.

If you have a knack for accounting or you’ve taken our course, you may have some idea what you’re looking at. More likely, though, you’re more used to looking more at the contour of molar surfaces instead of financial reports and you feel a bit lost. Let me help!

I want to break it down to the basics first. Hang tight, this is very riveting information! There are usually 3 different types of financial reports.

The first is a Schedule C form. The second is an 1120S form. Spoiler alert: This is DBA’s favorite way to review financial information (most of the time). It usually gives the most comprehensive view into the office and how they are running things.

Both of these tax documents will have a few additional pages to keep an eye out for. The primary focus would be the “Statement page(s)”. The correct statement page will break down all the “Other Expenses” that are not listed on the front page of the tax returns.

These expenses are usually categories like: bank charges, continuing education, utilities, phone/internet, accounting/legal, etc. All things you want to pay attention to!

The third financial report is a Profit & Loss statement. A well-managed practice should have a fairly current P&L ready for you upon request. It could be a red-flag if you request a P&L in September but the practice doesn’t have one that covers at least January through June, or worse, doesn’t have one at all.

In an ideal world, you would be viewing tax returns for all completed years and a P&L for the current year. Why? Tax returns are the most official report you can get. When it comes to the high value offices you’re looking at, you want it to be official! Plus, banks will use tax returns to assess how much they’ll lend.

If we were always in that ideal world, those tax returns would also give you all the information you need. However, sometimes there are large, uncharacteristic expenses that have been placed in a general category. For example, a report may say “Professional fees- $120,000.” (That’s absurdly high by the way!)

As your advocates, we want to know why that is so high. Is there an associate wage buried here? Are these discretionary expenses for the owner’s personal expenses? Answers to these questions will significantly impact the value of the office and what you should pay for it.

When questions like these arise during our assessment, we could reach out to you, and you would then ask the seller, who will ask their accountant, who will tell the seller, who will relay the information to you and then back to us.

Instead of playing this game of telephone, where something is bound to get lost in translation and take up lots of time, we could save some time by cross referencing documents.

Though P&L statements are “unofficial”, they provide a plethora of information. They are usually very detailed. If you want to know why “Professional fees” are $120,000, look at the P&L. Most of the time it will follow a format such as this:

Professional fees

Accounting $8,100

Legal Fees $2,400

Consultant $725

OS Fees $108,775

Total Professional Fees $120,000

Now you know that the office is paying an outside Oral Surgeon to provide in-office services. This expense can be deducted if you wish to provide these services or refer out, thus lowering overhead and increasing profitability…in other words: More money in your pocket!

In the next few weeks, we’ll break down some other specific things to look for when you’re looking at these documents the office provides, whether financial documents or office reports so hold on tight, it’s about to get crazy!

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