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The phrase “Rule of Thumb” likely originated in England sometime in the 17th century and, while its origin is obscure, it is still in common use after more than 300 years.

“This is likely because thumbs have been used in numerous ways over the years to estimate things such as judging the distance of an object by holding the thumb in one’s eye line, the measurement of an inch from the joint to the tip, the temperature of brews of beer, etc.” ( see “Rule of Thumb” from Google)

Thus the definition on the internet under Rules of Thumb – “a means of estimation made according to a rough and ready practical rule, not based on science or exact measurement (emphasis added).”

So it is that you often hear that the “Rule of Thumb” for the value of a dental practice is some percentage of the previous year’s practice revenues. As in, Doctor Smith’s practice had patient revenues of $750,000 last year and the “Rule of Thumb” states that it worth 65% of that amount. So Dr. Smith’s practice is worth $750,000 times 65% or $487,500.

That is neat and easy and such a method is commonly used. The percentage used may vary but that is the Rule of Thumb frequently used in conversations about practice values.

Years ago when we first starting valuing dental practices, we often heard dentists say they thought their practice was worth 100% of previous year’s growth. To date, we are not aware of any practice that has sold for cash in that amount in this area. (Some D.S.O.s may be offering that amount but, upon examination it turns out to be 50% cash and 50% in stock in the D.S.O.). Maybe somewhere, sometime, that has happened, but it certainly has not happened often enough to be a guide to value.

At this point, in this area, the current “Rule of Thumb” seems to be 65% to 70% of previous year’s patient receipts. So that’s easy but is it correct?

Going Beyond the Rule of Thumb

Without getting into valuation details, let’s answer that question with another question.

Do you think a practice with patient receipts of $750,000 and a 50% overhead is worth the same as a practice with the same receipts and a 70% overhead? Use of the Rule of Thumb would produce the same values for each, but intuitively you would know that one is more valuable than the other because one produces more income than the other.

Likewise, comparing practices with the same patient receipts in high demand areas with practices in low demand areas would be valued the same.

Or comparing practices with up-to-date equipment to practices with old outdated equipment would be valued the same.

Many factors go into the valuation of a dental practice. We analyze tax returns, production reports, fee schedules, patient analysis reports, employee data and much more to come up with a complete valuation. The more we know about a practice, the better we feel about deriving a value.

If it turns out to be 65% of the previous year’s patient receipts, that is a coincidence not a conclusion. Nothing in life is simple, including the valuation of a dental practice.

For more information on practice valuation, feel free to contact us.

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