By Bob Schultz
CEO, Vision One Credit Union
Dec. 29, 2021
My last article, “Private vs. Private Equity Sale: Decision Analysis,” provided a tool to analyze the differences between private-to-private practice sales and a private equity sale. One point briefly discussed was how OD practice owners receive multiple income streams from the practice. To gain a deeper understanding of this concept, let’s further examine how this occurs, its impact on your personal income and wealth, and its strategic use.
An independent optometric practice owner is paid two ways directly from the practice:
1. Practicing as an OD seeing patients.
2. Ownership Premium.
First, let’s define and learn how to calculate each income source. Then, review how Ownership Premium is used to create additional income and wealth opportunities.
What is your value as an OD seeing patients and how is it calculated?
Most owners do not break down their compensation sources within the practice. They view their compensation simply as what is left over after paying the cost of materials, rent, staff, associates, other overhead items, and debt payments.
Your value as an OD is seeing patients in the clinic. The economic value is based on an equivalent associate wage. If you replaced yourself in the clinic, you would hire an associate at the prevailing market wage rate. For a second view of your books, you should adjust your OD compensation to an associate’s wage. Owner OD compensation includes wages, 401k contributions, auto, medical and any personal expense paid by the practice.
Calculating your value as an OD:
Determine your time spent seeing patients in the clinic only, not for management. Use the market per diem wage in your area for an associate OD. For example, if the average local associate OD makes $460 per day and you work five days per week seeing patients, the calculation is:
If you work partial days, add up the hours you work each week, then divide by 8 hours for a standard workday. Plug the result into the “Days Per Week” part of the formula.
What is “Ownership Premium” and how is it determined?
Conceptually, to understand Ownership Premium, ask yourself, “Why would I take on the risk of ownership if I could only make an associate’s wage?” Ownership Premium compensates for risk of ownership. It is the Free Cash Flow available to the owner(s) after paying all practice expenses including OD expense (with owners recast at their OD value, per the formula in Table 1).
Ownership Premium provides the practice owner(s) additional compensation over the amount they receive for acting as an OD. One caveat is debt payments. A true Ownership Premium calculation excludes debt payments. At Vision One Credit Union we calculate your Ownership Premium, sometimes referred to as “Free Cash Flow” to determine debt repayment ability, which is the basis of credit decisions.
Calculating your Ownership Premium:
The numbers used are for a well-run, efficient practice, with good metrics.
In this example, an owner of a $1,000,000 practice can earn $150,000 or more per year in Ownership Premium. Keep in mind this is in addition to your OD value, compensation you receive acting as an OD in your practice (as calculated in Table 1). Therefore, in the example, you could realize compensation totaling $270,000 per year ($120,000 as a full time OD seeing patients + $150,000 Ownership Premium). This assumes no debt on the practice.
Vision One Credit Union is the only financial institution solely dedicated to independent optometric practices. It is all we do. Founded in 1951, by ODs for ODs, we are not for profit with an all OD, all volunteer Board.
Achieving optometric practice growth and value requires continuous investment and a long-term banking relationship. We take the time to know you, your goals and capabilities. Vision One Credit Union, because your team matters. You will appreciate the difference.
Our full banking services include:
Practice Transitions – Practice purchase, startup, partner buy in, exit strategy development (with affiliates) and execution.
Practice Growth – Purchase or startup additional location(s), relocation, remodel, equipment loans.
Wealth Building – Commercial real estate, location consolidation (rollups). A full range of deposit services including interest checking, financial planning (with affiliate).
Time Savings and Convenience – We offer full-scope financial services needed by an optometric practice. As the only banking organization asked to present Management CE at major optometric events, we know the business of optometry.
Monday through Friday
7:30 a.m. to 4:30 p.m. (Pacific Time)
Value of your Practice Upon Sale
Ownership Premium is also used to value and sell practices. It is utilized by practice buyers, sellers, appraisers and bankers. The value of your practice is a multiple of annual Ownership Premium (Free Cash Flow).
The higher the Ownership Premium the greater the practice value. You can increase Ownership Premium through profitable revenue growth and by improving the ratio of Ownership Premium to revenue.
Conversely, the lower the Ownership Premium, the lower the practice value. The example in Table 2 indicates Ownership Premium of 15% of revenue for a financially efficient practice ($150,000 / $1,000,000).
Consequently, Ownership Premium is much more valuable than your work as an optometrist in your practice as it provides additional compensation and value. It also provides much more.
The Strategic Advantages of Ownership Premium
• Increased owner compensation.
• Increases the value of your practice.
• Practice investment. Ownership Premium (Free Cash Flow) is used to make debt payments. Debt is used to keep your practice current, for expansion, or for starting up additional practice locations. Note: Additional practice location purchases are excluded here as they should be paid by the Free Cash Flow from the practice being acquired. Practice purchases should create additional Ownership Premium and value if performed properly.
• Other compensation and wealth options
- Work choice:
- You can choose to slow down or stop seeing patients, replacing yourself with an associate. You retain the annual Ownership Premium as ongoing compensation.
- Outside investments:
- Securities (stocks and bonds). Use Ownership Premium to fund a 401k or other investment vehicle.
- Practice or other real estate. Save the Ownership Premium for a down payment to purchase investment real estate. Use the practice rent to make the mortgage payments.
Your incentive is quite high to increase Ownership Premium. It enhances your personal compensation, improves your wealth through higher practice value, provides you with work options and funds other investments.
Keep in mind, income sources should transition from active to passive as you move to retirement. Retaining practice ownership without seeing patients, a securities portfolio and investment real estate holdings are examples of relatively passive investments with income and wealth opportunities. It pays to understand the multiple values of private practice Ownership Premium.
Since 1951 Vision One Credit Union has provided banking services exclusively to independent optometrists, helping ODs grow practices and find the best path forward. Contact us today at 916.363.4293. Because your team matters!