Independent valuations of shares, units and partnership interests in healthcare businesses

From enterprise value to equity value

Enterprise value is the value of the operating business before its financing. HPNA assesses future maintainable earnings, the profit the business can sustain once earnings are normalised (owner-specific, non-market and non-recurring items removed, market-rate remuneration charged for every working owner), then capitalises them at a multiple reflecting the risk and growth prospects of the business: the capitalisation of future maintainable earnings method. A discounted cash flow, projecting cash flows and discounting them to a present value, suits a business whose earnings are expected to change materially; a net assets approach suits one whose earnings do not support a value above its assets. Comparable transaction evidence tests whichever is adopted. See what is maintainable earnings and healthcare business valuation methods.

Equity value is what the owners' interests are worth after financing: enterprise value less net debt (borrowings, equipment finance and amounts owed to shareholders or related parties, less cash), plus surplus assets, meaning assets not needed to earn the maintainable earnings, such as an investment property, excess cash or a loan owed to the company by a shareholder. A capitalised earnings value also assumes a normal level of working capital, the debtors and stock needed to trade less trade creditors, so a balance well above or below that level is adjusted at the same step.

The interest and the rights attached to it

A constitution and any replaceable rules take effect as a contract between the company and each member and between the members themselves, so the first question is what this holder can receive and decide. Where more than one class of share exists, the class rights must be set out in the constitution or approved by special resolution, and equity value is allocated between the classes before a value per share is derived.

Shareholders and unit holders agreements add rights the accounts do not show, and they decide who could buy the interest and on what terms. Pre-emptive rights require an exiting holder to offer it to existing holders first, often at a formula price or a price set by an independent valuer, and the replaceable rules give shareholders in a proprietary company a comparable right on a new issue. Drag-along rights let a majority require minority holders to sell alongside them; tag-along rights let minority holders join a sale on the same terms; and directors of a proprietary company may be able to refuse to register a transfer.

A contractual formula produces the number the formula produces, whether or not it matches market value: the price a hypothetical willing but not anxious buyer and seller, both fully informed and neither compelled to act, would agree at the valuation date. Fair value is different again, defined for financial reporting in accounting standard AASB 13 and carrying other meanings in agreements and legal proceedings; which basis applies is a question for your lawyer, and HPNA states the basis adopted. Price also differs from value: what was paid on an earlier transfer can reflect one buyer's position and terms, so it is evidence, not a conclusion.

Control, minority interests and marketability

A controlling interest can appoint directors, set remuneration, decide distributions and sell or restructure the business; a minority interest cannot. Between them sits influence: a parcel large enough to block a special resolution, or a swing holding between two evenly matched owners, can be worth more than its size suggests.

Whether a pro rata share of equity value already reflects control depends on the evidence behind the method. Capitalising maintainable earnings on evidence from sales of whole businesses produces a control value, from which a discount for lack of control may be applied to reach a minority basis; where the evidence comes from minority holdings, a control premium may be added for an interest carrying control. How far any adjustment goes depends on voting power, the rights in the agreement, the distribution history and the purpose, and an agreement or an order may direct that discounts be applied or excluded.

A discount for lack of marketability reflects the difficulty and cost of turning the interest into cash. Shares in a private healthcare company have no ready market, transfer restrictions narrow the buyer pool, and ownership rules narrow it further wherever only practitioners may hold an interest: in New South Wales a person must generally be a registered pharmacist to hold a financial interest in a pharmacy and may hold an interest in no more than five. See pharmacy valuations. HPNA explains any discount or premium with reasons rather than a rule of thumb.

Healthcare ownership structures

Many healthcare businesses separate the practice from a service entity: a trust or company controlled by the practitioners or their associates that supplies staff, administration, premises and equipment to them for a service fee. A doctor buying into a medical centre usually buys shares or units in that entity, not a share of the other doctors' billings, so value turns on the number and stability of the practitioners paying fees and the profit left after the entity's own costs. Because the buyer will also pay those fees, the share price and the fee rate must be read together. See medical practice valuations.

An associate dentist or physiotherapist usually buys into the practice entity itself, so the valuation separates transferable goodwill, the patients, referrers, systems and location that stay with the practice, from personal goodwill attached to individual practitioners, including the buyer. See does a medical practice have transferable goodwill.

Buying into an entity is not the same as buying a business and its assets: registrations, leases, employment obligations and past tax positions stay with the entity, and so with everyone who owns it. Revenue NSW ruling PTA 041, for example, treats contracts under which practitioners serve patients on a medical centre's behalf as relevant contracts for payroll tax, and it applies to dental clinics, physiotherapy practices and radiology centres as well. An exposure of that kind belongs in due diligence, in the warranties and, where it cannot be resolved, in the price. Confirm your own position with your accountant and lawyer.

Dividends, distributions and the valuation date

A minority holder's return is what is actually paid. Under section 254T of the Corporations Act 2001 a dividend may only be paid where assets exceed liabilities by enough to cover it, the payment is fair and reasonable to shareholders as a whole, and it does not materially prejudice the company's ability to pay its creditors. Subject to that, payment is decided under the company's own rules; a unit trust distributes under its deed and a partnership under its agreement. HPNA examines whether the history of dividends, distributions and drawings reflects the economics of the business or the preferences of those in control.

A conclusion is expressed at a valuation date and relies on what was known or reasonably foreseeable then, not on hindsight. That date is often fixed by the agreement, an order or a tax event, and the same interest can carry a different value at each. See valuing a healthcare business for a shareholder exit.