By Brad MacLiver
Authorship and profile at Google
Industry Roll-Ups are where an industry’s many players are consolidated into smaller groups for economic benefits. SD pharmacy buyers participate in the South Dakota pharmacy industry roll-up to achieve economies of scale in purchasing, marketing, information systems, logistics, distribution, and top management. Pharmacy sellers both independent owners and drug store chains must consider their current market value, recognize the narrowing of profit margins, and realize what their tax consequences will be if they sell.
When pharmacy owners sell their South Dakota pharmacy it is considered a capital asset. The difference between the amounts it is sold for and the amount spent to either purchase or start the pharmacy is a capital gain, or a capital loss. In the U.S., all capital gains must be reported and the appropriate tax paid.
Specific tax strategies can be used to help offset the tax liabilities when selling a SD pharmacy or a drug store. Unless a professional is handling a large number of pharmacy acquisitions, they usually do not know these federal regulations that allow for reducing the tax liability for the pharmacy owner in South Dakota.
Many Business Brokers, CPA’s, attorneys, and other professional advisors inform their clients that selling a SD pharmacy will result in tax consequences. However, most of these professionals do not handle the buying and selling of pharmacies on a daily basis and may not realize the different aspects of structuring a South Dakota pharmacy transaction allowing the reduction of the tax burden to the pharmacy owner.
Some capital gain tax strategies exist that must be implemented before any obligation to sell the pharmacy. When a drug store owner is considers to sell their pharmacy now or in the next few years, it is urgent that the best course of action be considered now instead of later.
Estate planning when selling a South Dakota pharmacy should also be a consideration. Specific federal regulations allow an asset to be converted to an income stream, provide a tax deduction, increase asset diversification, and provide risk reduction, along with offering effective retirement and estate planning. If the pharmacy seller in SD is nearing a retirement age, or will be working as a pharmacist for another company, instead of being an owner, then estate planning should also be considered.
As reimbursements are cut, more regulations are applied, and pharmacy profits continue to slip, more independent pharmacy owners along with small and regional pharmacy chains will be considering selling their South Dakota pharmacies and drug stores. Tax considerations should be a paramount part of the decision process.
Pharmacy owners should consult with a SD pharmacy industry expert for advice on structuring the sale of their pharmacy. Someone with extensive experience in South Dakota pharmacy and drug store acquisitions will have the knowledge and expertise to structure the transaction for tax considerations. Like all tax planning issues, waiting until the end of the year is not always the best strategy. Following this advice can place larger sums of money in the bank of South Dakota pharmacy owners when a pharmacy is sold.
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By Brad MacLiver
Authorship and profile at Google
EBITDA is an acronym for earnings before interest, taxes, depreciation and amortization and is often used to measure the value of some businesses. It can also be used in the comparison of similar companies.
Generally, EBITDA makes it easier to evaluate various companies and to compare them against industry averages by removing the non-core and irregular operating costs, such as interest, which can vary depending on the management’s choice of financing, taxes which can fluctuate depending on acquisitions or losses from prior years, and arbitrary factors of depreciation and amortization.
The EBITDA formula can be used as a guideline when valuing larger companies, or when comparing the profitability of large similar companies in the same industry.
For the effective use of EBITDA, these larger companies should possess significant assets, have heavy amortization schedules, or bear substantial amounts of debt. Considering independent pharmacies in South Dakota don’t meet that criteria, this formula is not a useful measure as the sole means for valuing pharmacies for acquisition purposes.
Calculating EBITDA is done by:
1. Determining net income by obtaining total income and subtract total expenses.
2. Calculating the total amount of taxes paid to federal, state, and local governments.
3. Establishing interest fees paid to companies or individuals for the use of credit, or capital.
4. Determining the cost of depreciation (the expense recorded to allocate a tangible asset's cost over its useful life).
5. Calculating the cost of amortization (the expense for consumption of the value of intangible assets, such as goodwill, patents, and copyrights, over a specific period of time, or the asset's expected life.
6. Add #1 through #5 together to determine the EBITDA.
EBITDA calculation example:
1. Total Income 1,820
2. + Total Taxes paid 472
3. + Interest Fees 266
4. + Depreciation Costs 133
5. + Amortization Costs 66
6. = EBITDA 2,757
There are drawbacks of EBITDA that should be taken into account. EBITDA can be misleading number when it is confused with cash flow, and they an make even completely unprofitable firms appear to be financially healthy. The numbers are easy to manipulate and they are not factual when valuing small companies. With EBITDA, it is easy to overlook cash requirements for growth in accounts receivable, as well as miss cash requirements for growth in inventories. EBITDA is also not effective for companies with few assets, small amounts of debt, or low depreciation or amortization schedules.
EBITDA was being used during the 80's as a means of determining approximate cash flow in leveraged buyouts in order to determine whether companies could service their debt. By factoring out taxes, interest, amortization, and depreciation, this formula can allow an unprofitable business to appear financially healthy. This method of valuation was used extensively during the dotcom era to value unprofitable businesses, with few assets, little earnings, and the results from that method caused many to go bust. This was a blaring example of misapplying EBITDA.
Knowledgeable SD pharmacy specialists performing pharmacy business valuations will use EBITDA in pharmacy valuations, but only as part of a larger formula when computing values for specialty South Dakota pharmacies especially those who have a niche in HIV, disease management, long term care, etc. However, EBITDA should not be used as part of the usual formula for standard retail pharmacy acquisitions.
The EBITDA number for a specific existing pharmacy is important, for the most part, when the existing ownership is establishing their drug store's value for the purpose of a line of credit, borrowing, creating a Trust, stock values, etc., but EBITDA does not have the same importance when selling a South Dakota pharmacy. This is due to the fact the buyer will not have the same expenses as the seller.
Buyers may not have the same tax base, interest expense, or the same depreciation schedule, thus it is important that the buyer calculate an estimated EBITDA that is specific to their operating model, business systems, buying power, cost of operations, etc., not the sellers. It should also be noted that EBITDA assumes that the buyer will acquire all of the assets, working capital, accounts receivable, and liabilities. Those assumptions do not hold true regarding an acquisition of a pharmacy in South Dakota. Instead of the EBITDA number, SD pharmacy buyers should be focusing on sales, gross profit, cash flow, and customer mix.
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By Brad MacLiver
Authorship and profile at Google
SD Industry Roll-Ups are where an industry’s many players are consolidated into smaller groups for economic benefits. Recessions, new government regulations, or other aspects of the industry that may be stifling profits end up providing incentives to consolidate
A principal reason for an industry roll-up is to achieve economies of scale in purchasing, marketing, information systems, logistics, distribution, and top management. Consolidated businesses also have less risk from the impact of an unsatisfied customer and have the reward of being able to recruit, or keep, key employees.
An example of an industry roll-up can be seen with the pharmacy industry in South Dakota. It is a well established industry and is still experiencing sales growth. However, pharmacies and drug stores in SD have seen a steady decline in their profit margins due mainly to government regulations, even as sales increase. There has also been a shortage of pharmacists - a required key employee.
Industry roll-ups are often initiated by investors seeking investment opportunities. However, in the case of South Dakota pharmacies, the roll-up is a necessity due to declining net profits ratios. Companies that are acquired in a roll-up are usually small independently-owned businesses whose owners believe in the economic benefits of combining forces with a larger organization, or simply need an exit strategy. In the pharmacy industry roll-up, independents have been a majority of the acquisitions, but there has also been a consolidation of a number of the larger pharmacy chains in South Dakota.
During the South Dakota pharmacy industry roll-up pharmacies with better financial wherewithal are acquiring their local competition and combining two or more stores into a single location. This results in more customer traffic through a single location and reduces the expenses that come with multiple locations. This can dramatically drive up total sales while driving down the administrative and overhead costs per customer.
To help fund pharmacy acquisitions during the South Dakota roll-up, specific funding programs have been developed. These SD pharmacy chain funding programs are backed by major financial institutions that provide the funding for pharmacy acquisitions. These pharmacy funding programs allow an individual South Dakota pharmacy business, or an investment group, the capital to acquire and combine pharmacies in geographic areas.
Funders are willing to provide the capital for the pharmacy roll-up because they recognize that combining the individual pharmacy businesses provides a greater total business value than if each individual pharmacy value were added together. This synergistic value reduces the risk of funding the individual acquisition.
When considering the buying, selling, or financing a pharmacy, whether an independent drug store, or multiple pharmacy locations, due diligence and understanding of all aspects of the transaction should be considered. Using the services of a pharmacy industry expert to guide a pharmacy owner in South Dakota through the maze of details will benefit the pharmacy owner in making the best business decision.
All transactions tied with the pharmacy roll-up need to have the business valued at the current market value. Business valuations for the South Dakota pharmacy industry should be calculated by a company that has in-depth knowledge of the South Dakota pharmacy. Simple accounting formulas used by many companies for estimating value does not provide an accurate picture because the simple formulas do not take into account the aspects that are causing the SD pharmacy industry roll-up.
The factors of the market which are stimulating the pharmacy industry roll-up are also having downward pressure on the pharmacy business valuations. Pharmacy owners have been paying attention to what has been occurring in the pharmacy industry. Even while profit margins slip, new regulations are being imposed, and as reimbursements are pared down there is wide expectation that the business values in the pharmacy industry will continue to slide to lower levels, and thus the South Dakota pharmacy industry roll-up will continue.
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By Brad MacLiver
Authorship and profile at Google
When a SD pharmacy or drug store is being sold, seldom does the buyer pay “out of pocket” cash for the acquisition. Even when cash is available, South Dakota pharmacy acquisition strategies usually involve financing the transaction.
Typical acquisitions take 6-9 months to complete, so the pharmacy seller will need the buyer to provide some proof up front about their ability to close the transaction. Acquisitions will involve many hours of due diligence and negotiation, so the process should involve qualified parties.
Along with the buyer and seller the acquisition will involve attorneys, accountants, lenders, valuation companies, industry specialists, along with others. No one wants to pursue 6-9 months of work involving a variety of highly paid professionals without having some confidence of the South Dakota pharmacy buyer’s ability to close the deal.
The process will begin with determining the value of the business. There are many companies that offer valuation services. However, pharmacies in SD are not ice cream stores. There are many aspects of valuing a pharmacy that are unique to the industry, so generic valuations or simple accounting formulas should not be used. An industry specialist should be used for valuing the South Dakota pharmacies instead of a valuation company that has a broader spectrum.
The selling company should provide current, up-to-date data to complete a valuation. Old data is not accepted by lenders, and neither is a sellers “gut feeling.” Lenders to make their decisions to finance based on sound, verifiable data.
Structuring the transaction is extremely important. The seller of course wants as much money as possible and wants cash. The buyer needs to spread out the debt service and wants to have as little cash as possible invested in the acquisition.
Pharmacies in SD and drug stores are in an industry where it is tougher to obtain business loan due to most of the value in a pharmacy being in customer files and not hard assets. For the acquisition to be properly financed, a lender will therefore need a solid understanding of the industry and what, in addition to its collateralized assets, the company has to offer to reduce the perceived risks.
Pharmacies have typically been known for generating profits and to be stable businesses. However, they are usually in leased locations, and their furniture, fixtures, and computers will only provide $15-20,000 of collateral for a buyer possibly requesting a million dollar loan. A lot of money is tied up in inventory, but the small pills are considered by a lender to easy to move out the door in the event of default. Due to these circumstances many lenders will not loan money to these traditional money making businesses. A successful transaction takes a lender that understands the South Dakota pharmacy industry.
Tips regarding pharmacy acquisitions and finance:
1. Attorneys and CPAs who have been representing the South Dakota pharmacy seller for many years may see the transaction as putting themselves in a position of losing a client when the business is sold. Make sure they are working diligently on the transaction and are not slowing or undermining the process
2. Since pharmacy acquisitions in SD involve 6-9 months of work to complete , all parties involved need to be aware of time tables. Much too often, items of importance end up sitting on the desk of someone that is outside of the control of the buyer or seller.
3. All financial information needs to be current. Over the lengthy process the data supplied to both the buyer and the lender will need to be updated on a continuous basis. Things can change drastically during a nine month period and the SD pharmacy seller will need to continually prove the financial condition of the company.
When pursuing “pharmacy acquisition finance,” for the best chance of success, make sure the valuation company and the lender have expertise in that industry. Choose a company that has the pharmacy experience and expertise, and is a direct correspondent with lenders who understand South Dakota pharmacy.
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By Brad MacLiver
Authorship and profile at Google
The United States Department of Health and Human Services provides a program for discounted prescription drugs to qualified Federally Qualified Health Centers (FQHC), Disproportionate Share Hospitals (DSH), and other qualified entities. When these facilities don’t have their own pharmacies they are allowed to contract with a local SD pharmacy. The drug pricing program is often referred to as 340B, named after the section of the law that established the program.
Section 340B legislation was enacted to provide indigent and uninsured populations access to deeply discounted medications. Since the program was enacted to assist certain populations there are restrictions and regulations in how the program operates and who the medications can be dispensed to.
South Dakota Pharmacies can be contracted by a FQHC, or similar 340B qualified entity, to manage and dispense the medications. Patients from these entities provide additional traffic in the pharmacies allowing the pharmacies the opportunity for additional front end sales along with the Rx sales.
Pharmacy owners in South Dakota participating in a 340B pharmacy program need to manage their business consistent with customary business practices. In the event of an audit the pharmacy should have dispensing and inventory records, billing statements, etc. Business records should show that drugs purchased by customers, under the 340B Drug Pricing Program, were not diverted to people who are not part of the program.
Along with the additional record keeping a pharmacy owner will need employees who understand the various state and federal rules and regulations, which govern the 340B program. The South Dakota pharmacy will also need to have a location for the 340B inventory, which is separate from their normal inventory, or have a software management system to track the separate inventories.
A system of separating the inventory is required due to the drug inventory used for the 340B pharmacy program is owned by entity that contracted the pharmacy. Since the 340B inventory is not “owned” by the pharmacy this inventory will be treated differently for tax purposes. The South Dakota pharmacy generates income from dispensing fees they are paid instead of a mark-up or profit margin on the inventory.
Since customers participating in a 340B program can only purchase the designated medications from a pharmacy contracted with a 340B entity, this allows a pharmacy to have a market niche. A contracted pharmacy servicing 340B customers benefit from additional customer traffic visiting the store.
With the current economic situation and high unemployment, many people have lost their insurance benefits. This will likely expand the need for 340B pharmacy programs and provide additional 340B customers to a participating pharmacy in South Dakota.
However, when a pharmacy owner is weighing the potential benefits of a 340B program, they should also consider other aspects of their business and the current market conditions of the pharmacy industry. What are the pharmacy’s goals over the next couple years? A younger SD pharmacy owner with long term objectives can benefit for many years from the added customers. However, a pharmacy owner considering selling the business in the next couple years should be aware that acquisition values are based on the customer files, and many buyers are not currently willing to include 340B customer files in their offers. This results in a lower pharmacy business valuation and market price for the pharmacy despite the volume of business. Also, considering the current economic conditions, there are several 340B customers who have chosen not to purchase medications despite the deeply discounted prices. Pharmacy owners must consider the additional costs and time of 340B inventory and that customer tracking and reporting may not be offset by the fees received.
If a SD pharmacy owner considers the benefits of participating in a 340B program, or considers to sell the pharmacy in the couple years, it is advisable to discuss the options with pharmacy industry experts.
