Dr. Peter Brown is president and co-founder of Cara Veterinary, a network of family-owned veterinary hospitals.Read Articles Written by Peter Brown
Times have changed. When I graduated from veterinary school, most of my classmates started as an associate at a practice and intended to buy in to the practice when the older generation exited. This was a great system. Senior partners would finance junior partners’ purchases, and junior partners could make their principal and interest payments as long as the practice continued to perform. The practice value was based on a variety of metrics but was often simple: one year’s gross.
Things have changed over the past few decades. Student debt, the number of specialists and the value of veterinary practices have all grown dramatically. This has made purchasing a practice challenging for junior partners.
Many graduates today have a hard time making their student loan payments, much less adding a practice-purchase payment. Because of their high debt-to-equity ratio, securing bank lending is difficult and expensive, if not impossible. The rise in students pursuing residencies has led to fewer general practitioners and fewer veterinarians interested in practice ownership.
The Dawn of Private Equity
The internal transactions of old are no longer happening because practice values have climbed so much. The value a selling owner can receive on the open market is often dramatically higher than what junior partners or associates can afford or finance. In some cases, it’s a multimillion-dollar gap. Asking a selling doctor to forgo a windfall is unreasonable, but what is also not fair is when junior doctors pay a price that might put them in serious financial trouble.
Enter private equity. Private equity is essentially an investors group that manages large pools of capital with specific rules attached to how the money is invested. All but a few firms require a three- to five-year investment window and a 10-year fund life, meaning most investments are held for a few years only.
For many years, private-equity investors did not pay attention to the pet industry. The recession 10 years ago opened their eyes. Our industry was deemed recession-proof. For what it’s worth, I don’t believe this is 100 percent true. We did see a growth slowdown, just not one as dramatic as other industries. For this reason and others — many veterinarians aren’t the best business people, for example — private-equity firms decided to get involved. Today, over 40 private-equity-backed groups are purchasing veterinary hospitals. How does this all this work?
A Focus on EBITDA
Most practices today sell to private-equity firms based on two factors: adjusted EBITDA and a multiplier, or multiple. EBITDA stands for earnings before interest, taxes, depreciation and amortization.
The income we provide to the IRS is very different from EBITDA. I think of EBITDA as profit before my CPA gets a hold of the books and after I pay myself a fair wage and a fair rent for my hospital. That is where the adjusted part comes in. Adjusted EBITDA eliminates owner perks — if they are run through the books — adjusts veterinarian compensation and the building lease to be consistent with the market going forward, and accounts for any other significant changes occurring to the business after the closing of the transaction.
Any buyer will care most about the potential for a practice to generate EBITDA. For example, if half of your doctors are leaving after the transaction, the EBITDA a buyer uses to value your practice will be affected dramatically. As a selling owner, be very careful with this process. Buyers often insist on last-minute downward adjustments to your EBITDA after weeks or months of discussions, leading to a dramatic decrease in the selling price. I will share more about this process later.
Multiples are just what they sound like: a certain number by which adjusted EBITDA is multiplied. In the past, multiples of adjusted EBITDA were typically in the four to six range. Given the current practice-buying frenzy, multiples for single practices have increased to five to 11, and multiples for large groups of practices have risen as high as 18. The multiple you receive is a function of many variables, including the practice size and profitability, the number of veterinarians, the revenue mix among veterinarians, the quality and age of facilities and equipment, and the mix of services provided.
The difference in multiples between single practices and large groups of practices is driving the behavior of private-equity investors. They know that if they buy 10 practices each with $500,000 in EBITDA at a multiple of six (a $30 million investment), they will suddenly have a group of practices worth a multiple of 12 (a $60 million value).
The holding period for this type of strategy is short. The increase in multiple is so dramatic that private equity firms often have no need, and therefore no desire, to add value to a practice they purchase. The focus is to consolidate and accumulate, not improve. And then they sell to another private equity group with the same incentives and a potentially very different approach.
How to Pick Your Partner
The first question, the Big Question, for the independent practice owner is this: What do you want to do for the rest of your life? A complete retirement filled with golf, fishing and chores is often not as great as it sounds. Are you at the stage where you want to work only one or two days a week? Do you want to expand your footprint? Do you want to expand the practice? Do you want your daughter or son to take over?
There are many questions for a potential seller, but most of us want three things when we consider selling all or part of our practice: a large payday, a path to what we want and preservation of our profession. My suggestion is to focus on the group that will best take care of the second two questions. Enough money will be there. Do your homework.
The group you partner with is very important. Develop a relationship, a great level of trust. Do not accept a culture that does not work for you. Do not feel pressured. For most of us, our practice is our second home and the team our second family. Are we leaving them with a great new boss? Do your diligence. If the potential buyer is not a great communicator or does not give you a strong sense of comfort during the purchase process, the situation will not get better post-acquisition.
When to Sell
When my partners and I sold our practice, I was unaware of all the options. I felt it was an all-or-none process. That is not true. There are many creative ways to sell your practice. Everyone is in a different place.
I strongly recommend not waiting too long. I have talked to a large group of great practitioners who saw their business shrink to the point that they have lost millions of dollars in value. I encourage every owner to look at options now, as multiples are likely to drop in the future.
If you can find a partner who will give you a large check and an opportunity to achieve your rest-of-career objectives, and who will preserve the culture of your second home and continue operating your practice in a way that preserves the profession, you should sell now. Whether that means selling 50.1 percent and continuing to expand your footprint with a great new partner or selling 100 percent and riding off to the golf course, you should sell and realize a gain now. Selling a portion of your business when you are in your 30s or 40s might make complete sense.
Do not hesitate to look. I was unaware of the creative ways a practice owner can partner with a corporate group to achieve his or her goals.
How to Sell
First, make sure your financial statements are accurate and in good order. If need be, contact an adviser. Second, determine what compensation package you want after the transaction and, if you own the building, what rent you want to be paid.
After you feel comfortable answering the Big Question, I would reach out to different buyers. These might include the large corporate players, the smaller accumulators, neighbor hospitals and private practitioners. Brokers can play a role in finding the right match.
Be sure to lead with what you want professionally; do not focus on the dollars. Spend some time with each high-potential group. Have a phone meeting, share your financials and, of course, meet everyone in person. This needs to be a partnership, and partnerships take time to develop. Trust is critical.
I have observed some interesting approaches to defining EBITDA. A common buyer tactic is to get a seller excited by presenting both a big multiple and a large EBITDA in an indication of interest (IOI) or letter of intent (LOI). Especially after an LOI is signed — it establishes an exclusivity period during which you may work with that one buyer only — both you and the buyer do a lot of work to complete due diligence. This can take many months and cause significant disruption to your business.
Right when you’re ready to sign the final papers, the buyers might decide your EBITDA is $100,000 lower than they thought, meaning the practice’s value is $500,000 to $1.2 million lower than you thought. This is often a valid conclusion based on detailed work done by the buyer. Sometimes it is not. You must be prepared for this adjustment either way and be able to determine whether the buyer is requesting a valid adjustment or just trying to get a lower price. You need to partner with a group that you trust.
A buyer’s engagement with your team is a very important part of the sale process as well. Any group that does not want to get to know your entire team is unlikely to be a good partner for your clinic. Ultimately, your people have made your clinic what it is today. In order for a buyer to preserve your culture, communication is key. Remember, a sale is a scary time for everyone, from the selling DVMs and new graduate doctor to the technicians and receptionist. Do not ignore this fear.
Ensure that your new partner is deeply involved in communicating with the staff before, during and after the sale. The small, though not trivial, things often make a difference in culture preservation. These might include preserving employee benefits, which are sometimes slashed by buyers, maintaining hours of operation and keeping the arrangement with Sally, the 25-year-old client who brings a weekly flower arrangement in exchange for veterinary services. All these things are what makes a clinic special. Work with a partner who recognizes this.
After you have chosen your partner and signed a letter of intent, the due diligence period starts. In my opinion, your due diligence should be 30 percent about making sure the buyer has all the information needed and 70 percent about ensuring the cultural fit is right. You must be completely transparent with the buyer. Remember that if you are staying in any capacity, you are entering a long-term relationship, not conducting a one-time transaction. Be sure you trust the people.
In summary, practice values today might be the best we will ever see. All owners should explore their options and try to find a partner who presents a compelling fit and vision for the future. But beware of buyers who offer prices that come down or promises that disappear. Take the time to find the right partner — the one you like and who will preserve your legacy far into the future.
We all want to remain proud of what we helped build.