Should One Times Gross be the Price in an Accounting Practice Sale?
We present several webcasts per month and frequently poll the audience about the old industry rule of thumb that all practices are worth one times gross. So, we thought we should take a look at this rule of thumb and let you be the judge.
For a basis of our analysis, let’s say we are looking at two practices each grossing $500,000 annually. Under the one times gross rule of thumb, they are each worth the same amount, $500,000 or one times gross.
But wait, we delve into the practice information and find one of these practices is netting $250,000 and the other is netting $150,000. Are they still worth the same amount? In our webcasts, our attendees almost unanimously agree that the $250,000 net is worth more.
Now, let’s say the owner of the $250,000 net firm is personally billing 2,000 hours per year and the owner of the $150,000 net firm is personally billing only 500 hours per year. Now which one is more valuable? This is where it gets tricky. Is 1,500 billable hours worth only $100,000 in additional net? What is the line between quality of life and money made? A very personal determination, but all our webcast attendees unanimously flipped their perception of value with this additional layer of information. Not a single one across all of the webcasts we have held believed the $250,000 gross was more valuable if it required the owner to personally bill 1,500 additional hours.
You can draw your own conclusions, but we have just barely scratched the surface of these two example practices and already the one times gross rule of thumb is looking pretty flawed. Our experience is that not all practices are worth one times gross. How could they be? A practice is far more complicated than just a gross and differences like staff, billing rates, location, length of service, types of clients and owner’s billable hours among dozens of others are critical components that need to be factored to determine value.
Year in and year out, we see practices selling for 1.0 times to 1.35 times annual gross, with very strong practices selling above 1.35 and struggling practices selling for less than 1.0. In the end, if a practice sale is well executed, the market will determine the price and it will be based on far more than just the gross.