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Buying a dental practice is a major financial commitment, and understanding its financial health is crucial before making a decision. While a practice might look successful on the surface, a closer look at its financial statements, overhead costs, and key performance metrics can reveal whether it’s truly a worthwhile investment.

For those buying a dental practice in California, factors like local market trends, lease agreements, and operational efficiency also play a role in long-term profitability. Knowing what to look for and how to analyze financial data helps ensure you invest in a practice that aligns with your goals.

Key Financial Documents to Review

Reviewing detailed financial records before committing to a practice helps paint a clear picture of its past performance and future potential. Some of the most important documents to examine include:

1. Profit and Loss (P&L) Statements

A practice’s P&L statement shows income and expenses over a given period. Analyzing trends over the last three to five years gives insight into: ‍

- Revenue consistency: Are earnings stable, increasing, or declining? ‍

- Expense breakdown: What percentage of revenue goes to rent, supplies, salaries, and other costs?

- Net profit margin: How much revenue remains after expenses? A strong practice should have at least 35-45% profitability.

If revenue has declined or overhead is unusually high, deeper investigation is needed.

2. Tax Returns

A seller’s tax returns for the past three years confirm reported income and expenses. These documents help verify if the stated revenue matches actual tax filings and uncover any discrepancies or underreported earnings.

3. Overhead Costs

A well-run practice typically has an overhead between 55% and 65% of revenue. Reviewing expense categories like staff wages, lab fees, rent, and supply costs ensures the practice operates efficiently. If overhead exceeds industry standards, it may indicate poor financial management or high operational costs.

4. Accounts Receivable and Collections

A profitable practice should have a strong cash flow, meaning patients pay their bills on time. Reviewing accounts receivable helps determine the following:

- How much outstanding debt is owed to the practice

- Average collection times (90+ days overdue payments could signal financial trouble)

- The percentage of revenue from insurance vs. direct patient payments

If collections are slow, the practice might struggle with cash flow issues, affecting profitability.

Key Financial Metrics to Assess Profitability

Understanding a practice’s financial metrics and ratios helps measure performance and long-term viability.

1. Net Profit Margin

The net profit margin is one of the most important indicators of financial health. It’s calculated as: Net Profit Margin (%) = (Net Profit ÷ Revenue) × 100

A successful dental practice typically has a 35-45% profit margin. Anything significantly lower could indicate high overhead or inefficiencies.

2. EBITDA (Earnings Before Interest, Taxes, Depreciation, and Amortization)

EBITDA assesses a practice’s true earnings potential before considering financial obligations. Higher EBITDA suggests strong cash flow, which is essential for a smooth ownership transition.

3. Production per Provider

Examining revenue generated per dentist or hygienist helps determine if the practice is operating efficiently. Industry benchmarks suggest:

- $500,000–$1M in annual production per full-time dentist

- $100,000–$250,000 in production per hygienist

The practice might have underutilized capacity or low patient retention if these numbers are lower.

Common Financial Red Flags to Watch For

Certain warning signs should not be overlooked, even if a practice looks financially solid.

1. Declining Revenue Trends

If revenue has been dropping over the past few years, it could indicate:

- Loss of long-term patients

- Increased competition in the area

- Inefficient marketing and patient retention strategies

A declining trend should prompt further questions about the practice’s ability to grow.

2. High Staff Turnover

Frequent staff changes can be a red flag. If key employees (such as hygienists or office managers) have been leaving, it might indicate:

- Poor workplace culture

- Low staff morale or compensation issues

- Inconsistent patient experiences that lead to lower retention

3. Expiring or Unfavorable Lease Terms

A lease that expires soon or has restrictive terms can create issues post-purchase. Before buying a dental practice, review the lease for:

- Fair rental rates aligned with market conditions

- Renewal options to ensure long-term stability

- Assignment clauses that allow easy transition of ownership

Leases that heavily favor the landlord could result in higher expenses or relocation challenges down the road.

Are You Considering Buying a Dental Practice in California?

WeCare Practice Advisors provides expert analysis and negotiation support. From financial assessments to lease reviews and transition planning, our team ensures you make a confident and informed decision. Contact us today for a consultation and secure the best investment for your future!