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Jack Ahern, MBA

Now that the effects of the bundle are (relatively speaking) more clear than they were a year ago, many LDOs and entrepreneurially minded nephrologists and investors feel much more comfortable in terms of either selling their present unit(s) or in purchasing/building new units.

For instance, two new dialysis units have recently opened near my downtown Chicago office which is located very near the Illinois Medical District. One of these units is owned by an LDO, the other is not. Clearly the downtown Chicago market appears to have been well established for many decades, yet not only one, but several new units have "popped up."

At least in the case of these two inner city units, outpatient dialysis services are still viewed as not only profitable, but sufficiently profitable to warrant investing in new buildings and equipment.

Keeping in mind that a new dialysis unit is not only an opportunity for owners, but also for employees, vendors, and patients, this month I would like to provide some food for thought for all of my readers who are in any way influenced by the sales, purchase, or building of new dialysis units.

How Much is Unit Worth?

There are several standard methods of valuating a business operation; each method must be used with insight and care because although each method has certain strengths, misunderstanding or using a given method out of context or without proper research can yield an inaccurate result.

Discounted Cash Flow (DCF)

The DCF method is based on the same logic used to value annuities. You may recall that some life insurance payouts offer the choice between either a lump sum payout, or a monthly payout for the life of the beneficiary. The DCF method likewise views a business as an annuity, with rhythmic dispersions of revenue. The DCF business valuation method assumes that a business will yield a predictable net cash flow (presumably positive) over a period of time.

The DCF method, also assumes that inflation, and other factors that affect the present value of money earned in the future, can be reasonably predicted.

The logic used to by the DCF method is that the present value of a business is in the range of the present value of the entire cash flow generated by the business over a set period of time (with adjustment for business risk and any other significant factors). The primary issue faced when using this method is the accuracy of any estimates of future cash flows, as well as cost of capital (interest rates) and inflation rates.

Comparables

Another very common method used to value businesses, is the use of market value of "comparable" business(s) as a reference point. This is similar to the method used in determining the value of real estate. However, as with real estate, care must be taken to ensure that the comparable business used for reference (in this case, probably a dialysis unit in your area) is a valid reference point.

The logic of the comparable method is that the value of a business is in the range of the value of similar businesses sold recently.

The drawback of the comparable method, especially with a limited supply of dialysis patients, is that much of the value of a unit is dependant on the relationship between the dialysis unit with local nephrologists and nearby hospitals.

While one unit may have a good relationship and an ample supply of patients, another unit may not be able to duplicate this intangible, but very real, asset.

Per Patient Valuation

Finally, a common method of valuing dialysis units is to place a value on the number of patients the unit presently handles and can reasonably be projected to handle. Valuation distinctions can be made based on the number of patients with commercial insurance versus other payers; however, the thought process is a simple, per capita, value. The logic runs that the value of a unit is the number of patients times a standardized value per patient.

The per patient approach is only as good as the projections used, and as with other methods, is dependant on relationships with nephrologists and nearby hospitals.

Market Dynamics and Competitive Strategy

Each of the methods above must be used with an optimized insight into not only the historical market dynamics in your area, but also the predicted market response to opening a new unit, or the changing of the ownership in a unit.

Much like playing chess, it pays to be not only one step, but several steps ahead of the market, and to address questions such as: "If we open or purchase dialysis unit A, will our competitors quickly move to open dialysis unit B, nearby? If so, how would we handle this?"

Triangulate

If possible, use several methods to valuate a unit before selling or buying, if they all yield about the same answer, you should be fairly close to a reasonable value. Remember however, in any given marketplace, there are a limited number of dialysis patients, nephrologists, good locations for units, and qualified staff.

Track and identify any shifts in patient demographics or the competitive landscape which could alter your chances for success and be sure you can still survive, or even better thrive, in those scenarios which are most probable and be willing to adapt quickly to any unexpected curve balls.

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Jack Ahern, MBA - As a seasoned Healthcare Executive, Instructor, Author and Financial Manager, Jack Ahern brings to the table expertise gained by managing finances for an academic medical center, and providing guidance to physicians, hospitals, HMO's and major academic medical centers on issues pertaining to physician and hospital billing, hospital administration, strategic planning, renal dialysis reimbursement, HIPAA, ethics, regulatory issues and compliance.

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