In addition to heartbeats and blood pressure, physician practice owners increasingly are paying more attention to vitals like cash flow, assets and productivity. Implementation of the Affordable Care Act has caused a run on physician practices, and in preparation, these practices are paying more attention to how they are valued than ever before.
In the past, valuations of physician practices were mostly done when a new partner is added, a divorce occurs or the owner would like to retire. But with consolidation and integration on the priority list for hospitals and large physician groups, valuation has become more commonplace.
Monica Kaden, principal at Fischer, Barr & Wissinger P.C., said physician practices interested in being purchased are evaluated like any private business, and, depending on the wishes of the buyer, can expect at least one of three valuation methods.
Kaden said the most likely form of valuation physicians can expect is the income method, where the practice's normalized cash flow is looked at and discretionary spending is cut out. The value of the practice is determined by dividing the normalized income by the investor's potential rate of return.
"These transactions are generally revenue driven. A purchaser generally is most focused on receivables that are generated by the selling entity, both actual and potential," said James Robertson, partner in the health care practice of McElroy, Deutsch, Mulvaney & Carpenter, in Morristown.
Other methods, which are less accurate for medical practices but can be used in conjunction, include the asset method, which looks at just the tangible assets of the practice and establishes a "floor value"; and the market approach, which considers the price other practices have been sold for in the area.
"It's the approach of last choice for medical practices," Kaden said. "Everybody loves the idea of finding transactions that have occurred out in the marketplace, and how can we apply those … (but) the issue with the market approach is you have very little detail on the transaction."
Kaden called the market approach more of a "sanity check."
That valuation then can be translated either into fair value, the value to the holder of the practice, or fair market value, which is what the practice is worth to a willing buyer and a willing seller.
Robertson said more of his hospital clients are becoming willing buyers because of health care reform, and adding practices to a network is becoming more complex.
"Hospitals have become more and more interested in investing in private medical practices through various different acquisition models, such as 'friendly' professional corporations and management companies, which allow hospitals to generate revenues in ways they have not been able to in the past," he said.
"The most important revenue factors include payer mix, types of procedure performed (and) how the practice is reimbursed for those procedures," Robertson said. Because larger organizations have more leverage in negotiating reimbursement contracts, hospitals and large physician groups also take that into consideration.
Kaden said these new practice models, in addition to accountable-care organizations and other inter-provider agreements, make valuation of practices more complex, but reimbursement is still the bottom line.
"The evaluator has to understand how reimbursement is going," Kaden said. She added that cost structure, staffing, operating costs and profitability also would figure into the final value of the practice.
"Valuation is basically a projection of the future, and what you think you can generate from that practice," Kaden said.
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Correction: The print version of this story included the wrong methodology for determining the value of a practice through the income method. It has been corrected above.