Why Appraisals and Partnership Buy-ins Don't Mix

Different valuations and different times can mean confusion.

BY BRAD RUDEN, M.B.A.

I am often approached by practices and candidates wanting me to appraise a practice as a first step to the buy-in/partnership process. I tell each and every one of them that it is a common mistake to hire an appraiser such as myself to value the practice for the buy-in. The reason I say this is because an appraisal provides a value of a practice at a specific moment in time. An appraisal is called for when placing a practice up for sale on the open market or when a buyer has been identified for selling the practice as a whole, but an appraisal simply does not fit the long-term needs of a partnership situation.

Appraiser Bias

While it might seem logical to have the practice appraised at the time of buy-in, the limited life span of an appraisal (12 months or so) does not help the parties when there is an additional future buy-in or buy-out. Such a scenario would require yet another appraisal, which leads to the basic problem of such an approach — inherent appraiser bias.

The appraisal of a practice is not an exact science. Because of this, each appraiser must apply his or her skill, experience and best judgment in deriving a best conclusion of value. With each appraiser having different experiences and skill sets, it follows that different appraisers get differing results. Three appraisers can view the same practice, be provided with the same financial data and even use similar appraisal methodologies, but the results can still vary widely as each appraiser will interpret the data differently and assign different variables to the appraisal methodologies. This is inherent appraiser bias.

Appraiser bias can unintentionally skew results toward the practice offering partnership or toward the doctor buying into the practice. This potential for unintended skewing of the results becomes even more pronounced if different appraisers are used for different buy-ins or buy-outs over time. This creates an uneven playing field for the parties involved.

Same Method, Different Appraiser

Because a medical practice — like any business — is designed to continue in perpetuity with new partners replacing retiring ones, it is unreasonable to think the same appraiser can always be used. At a certain point, a new appraiser will be introduced into the equation, and then the potential for appraiser bias could become reality.

To combat this — and to provide uniformity — my suggestion is to design a partnership package that is uniform (meaning that it uses the same methodologies for a buy-in or a buy-out) as well as "timeless" (i.e., the buy-in/buy-out methodology can be used now or any time in the future). I have been successful in designing such an approach that captures values for tangible assets, supplies, accounts receivable and goodwill. Furthermore the data used in my formulas are pulled from sources that cannot be influenced or biased by either the person buying in or the person being bought out. As such, there is an inherent fairness to such an approach in which all parties buy in or are bought out using the same mechanisms.

This is not to say that the dollar amounts for a buy-in or buy-out are the same. A practice's value is always in flux according to its performance (e.g., gross collections, profits accruing to the partners, etc.). So, while a uniform methodology may be applied and buy-ins conducted under one derived value figure, the hard work of the partners can easily increase the practice's performance and result in a higher buy-out coming to them, even though the valuation mechanism was unchanged.

Be Prepared

Will a formulaic approach identify all aspects of a practice's value? No. If a formula could capture all aspects of a practice's value then appraisers would never be necessary. However, the point of a formulaic approach is not to capture every last dollar of value but to create a system by which partners can enter and depart in a uniform and standardized manner. The value derived under such an approach is fair and reasonable for all involved, even though the value may not be maximized.

If you are anticipating offering partnership to an associate or believe you may be offered a partnership in a practice do not make the mistake of utilizing an appraisal for determining the buy-in value. The limited life span of an appraisal will not be of assistance in the case of a future buy-in or buy-out, and inherent appraiser bias is a risk. The goal of adding partners is to preserve the long-term health and survival of the business. As such, it is best to bring partners on board with an approach that is uniform and timeless to better ensure the practice's future growth and prosperity. OM

Brad Ruden, M.B.A., is owner of MedPro Consulting & Marketing Services in Scottsdale, Ariz., and is a frequent author and lecturer on ophthalmology practice management topics. You can reach him at (602) 274-1668, by e-mail at bruden@medprocms.com or via his Web site at www.medprocms.com.