business advisor

Buyer Beware

Weigh your options carefully before deciding how to invest your money.

JERRY HAYES, O.D.

I was recently asked to consult with a young O.D., let's call her Dr. Morr, who was considering buying into the highly successful practice in which she worked. The office had gross revenues of about $1 million in 2006 and was growing rapidly. Her O.D. employer was in the process of getting a formal valuation, a must in deal like this, and expected an appraised value of around $700,000.

The senior doctor and owner was still in his forties and wanted to maintain majority ownership, so he said he would allow Dr. Morr to buy-in at 30%. So, should Dr. Morr take advantage of this opportunity to be a minority partner?

Get the facts

We must evaluate several factors in order to answer this question. The first question I would ask: How would minority ownership of an optometric practice benefit her? The usual answers:

• job security.
• authority in management
• participation in profits
• equity in the practice

The second question I would ask: What will minority ownership cost her, and how will she pay for it? At an appraised value of $700,000, a 30% stake would cost $210,000. The practice owner gave Dr. Morr two reasonable payment options; She could pay cash and immediately become a 30% owner, or, she could do what's called an "earn-in" and reduce her salary by $30,000 per year through a seven-year period with no interest. Her equity would then grow at a pro-rata rate of 4.5% per year until she hit 30%.

Consider the cost

The third question I would ask: What else could Dr. Morr do with the money she is considering investing in the practice? For one, she could start her own practice. Or, $210,000 cash invested in stocks or mutual funds returning 8% would grow to an impressive $2,113,157 over 30 years. It's very unlikely her minority share of a practice would grow at that same rate or be as liquid as a stock portfolio.

If she took the conservative "earn-in" approach, her $30,000 per year pay-cut would be worth approximately $20,000 after income taxes. Investing $20,000 per year at an 8% return would yield a value of approximately $187,000 after seven years. If she left that lump sum invested for another 23 years, it would grow to $1,097,963. Would her interest in the practice be worth that much in the future?

Buy-in for the right reasons

Practice ownership can be a great deal if you pay a fair price, get a greater share of the practice profits than an employee would and have a bigger say in key decisions.

There's the rub. Minority ownership may give you a little more influence, but it won't give you true control in terms of how the majority owner spends money, distributes profits and perhaps most importantly, when he may sell the practice.

If you're in a similar situation, work with an accountant or banker to carefully analyze your return on investment before you buy all or part of a practice. And, understand that while owning equity in a practice is nice, there may be better places to put your money if all you're getting is a minority stake.

While every situation is different, I advised Dr. Morr to negotiate for a higher salary and not become a minority partner at this time. OM

THE FOUNDER OF THE HAYES CENTER FOR PRACTICE EXCELLENCE AT SOUTHERN COLLEGE OF OPTOMETRY IN MEMPHIS, DR. HAYES IS A REGULAR CONTRIBUTOR TO OM. E-MAIL HIM AT JHAYES@HAYESCONSULTING.COM.