By: Jim Stephenson, DVM, CBA and Joe Stephenson, MA – Simmons Northeast
It’s tough out there for veterinary practice buyers today. Every year a few new investors and/or corporate consolidators call me looking to spend way too much money on 2+ doctor practices. So how can you, the young, ambitious associate compete for 2+ doctor practices? You can’t, unless you get lucky enough to find a seller morally opposed to corporate veterinary medicine, or who likes you well enough to give up on $500,000 to $1,000,000+. Thankfully, there’s another way. If you’re willing to live in a smaller town, you could walk into a stunning cash flow with little competition from other buyers. Alternatively, if you start thinking like an investor and find a poorly performing practice, with the right tools you can build it into your dream practice. The marketplace is flooded with these practices and the owners would love to find a buyer like you. Here I’ll focus on buying the under-performing practice and give you some tools to spot and fix the most common drain on practice profits to help you land a fixer upper with real upside potential.
Buying a Fixer Upper
Practices with low gross/profitability hold a wealth of opportunity if you know what to look for and are willing to put in the work and follow through to correct the practice’s course. You can get a great practice for very little money and realize a bigger return more quickly than if you bought a slightly bigger practice.
Procedures: The Root Opportunity
Most growth opportunities stem from poorly laid out procedures. Look for an employee manual and a written protocol for all aspects of the business for each staff member. If there isn’t a manual or aren’t procedures, the practice could hold untold opportunities. Keys to look for:
- Clear mission statement
- Regular, focused team meetings
- Detailed process for each job description
- Openness to feedback from the staff on how to do their job better/more efficiently
- Appropriate investment in continuing education
Whether or not there is a procedures manual, interview the owner about how they operate the practice and train the staff. If there is a manual, try to get some information on how well the owner follows through to ensure the staff lives up to those procedures. Examining procedures is the best way to start to assess the likelihood a target practice suffers from common profit killing mistakes.
Cost of Goods Sold
Cost of goods sold (COGS) often hold the biggest growth opportunities in a practice. COGS is the direct cost of producing income from goods, as opposed to from services. Sometimes you’ll find wages and other expenses in this category, but it’s only supposed represent the direct costs of the goods you sell. That means drugs, medical supplies, pharmacy products and food. Not every business entity puts the COGS category on their tax returns, and most businesses put too much into that category, so you’ll have to parse out what really matters.
Once you have a clear picture of what the practice actually spends on COGS, if that expense is above 25 percent of gross revenue, you can start hunting for growth opportunities. The biggest COGS issues include the procedures around ordering and negotiating the price of supplies, procedures for consistent price increases, and procedures around protecting against embezzlement, theft, and walk, discounting and gifting (WDG).
Suppliers offer deals to convince veterinarians to stockpile items, but stockpiles are actually hard to track and inevitably expire. A well run practice strives to have only what they need on hand at any given time. Luckily, this problem is easy to diagnose and fix.
When you visit a practice, look carefully at the drug, supply and food inventory. If they have extra storage just for their food, they’re probably over-ordering. You can also ask the owner about their ordering policy. If the owner delegates the responsibility, you may not be able to talk to the staff member early in the buying process, but you can consult practice procedures around ordering (if they have any) and gauge the owner’s level of oversight. Owners will often gladly tell you about how much money their office manager “saved” by stockpiling a year’s worth of something. There are more precise ways to calculate inventory turnover, but if a practice is struggling, the owner probably isn’t tracking expenses precisely enough for inventory turnover calculations to be useful in your assessment.
Vendor Price Negotiation
The other easily fixed COGS mistake is not negotiating with and/or price shopping among vendors. Remember, most things in business are negotiable, including the price of practice drugs and supplies. Competing companies are always looking for a competitive advantage and will have varying price structures. This is another easy one to track down in conversation with the owner and an easy one to fix when you own a practice.
The last of the somewhat easy to diagnose and fix COGS problems is price increases. This isn’t as straightforward as the opportunities above since veterinarians have had to face online pharmacies driving prices down which necessarily limits price increases. When evaluating a practice, ask the owner about their procedures around increasing drug and supply prices. Although they have to be cautious about competing with online pharmacies, if they don’t have procedures to generally increase prices regularly with vendor price increases, you’ve found another great opportunity for practice growth.
Embezzlement is harder to pinpoint than many other business opportunities, but you can determine if the practice is at higher risk by examining procedures and interviewing the owner.
Embezzlement affects COGS when a bookkeeper removes entries from inventory sales reports and pockets that income. The embezzler can never take too much at once or their theft becomes too obvious. Over time this will significantly affect practice profits.
To see if the practice is at risk for embezzlement, look for procedures that decentralize balancing the books, closing out invoices at the end of the day and taking cash to the bank. Many practices have only one person responsible for this entire procedure, maybe two. Without a dedicated system to check and balance this system among multiple people, the practice has an elevated risk for embezzlement.
Similar to embezzlement, if this is an issue in the practice, you’re not going to be able to pinpoint it, but you can draw out whether or not the practice is a high risk for drugs and supplies theft. No owner thinks theft is a problem, but you would be amazed how often tightening up procedures around theft seems to magically improve the COGS expense.
To assess the practice’s susceptibility to theft, look for procedures around supply storage. Are drugs and food kept in places that are highly visible? If not, can the storage space be locked and only accessed by a few trusted people? Does the practice have cameras? Does the practice conduct random audits of items such as flea and tick preventatives and food to ensure the inventory and sales data match?
Walk is essentially a euphemism for theft but it can also blend into discounts and gifting. The only major difference is the thief doesn’t really think of it as theft. Walk refers to inventory “walking” out the door. It could be from employees figuring there is no harm in taking just one heartworm dose, or a small bag of food here or there.
Discounting refers to any time one party allows another party to have an item for less than the practice generally charges that party for that item. A manager or even an owner could think it’s harmless to let employees have a small bag of food or dose of heartworm. Receptionists might give some clients a break on their bill, or toss in extra free supplies. Again, these small dents in profit add up quickly.
WDG are similar to theft and embezzlement in that they’re hard to exactly pinpoint but different in that they’re easier to fix. In WDG the party doesn’t think they’re doing anything wrong. Simple staff education and some follow through can correct this behavior.
To track down potential growth opportunity in WDG, like everything else, hunt for procedures. The owner may even mention that they will give staff and good clients a break. Barring that, if there aren’t specific policies and dedicated education around informing staff how much these actions harm a practice, it’s very likely this is happening and driving up COGS.
Bringing it all Together
A poorly-run practice results from poorly-thought out and poorly-implemented procedures. If you’re willing to buy a practice in a smaller area, you could easily walk into a great cash flow and possibly great procedures. If you really want a practice in a high demand area, or want a great deal and an amazing return, you’ll have to learn how to analyze practice procedures and infer growth opportunities from those procedures, or the lack thereof. COGS is often the largest opportunity to improve an underperforming practice. So, it’s a great space to start to quickly build that lackluster practice you’re looking at and turn it into that beautiful practice you were dreaming about.