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Pharmacy Cash Flow Instruments and Maine Financial Discount Rates

By Brad MacLiver
Authorship and profile at Google


When a Maine (ME) pharmacy is considering selling a cash flow instrument such as the pharmacy’s receivables, or a pharmacy business note, the price the Maine pharmacy owner receives will reflect how much time is involved before the Buyer/Investor/Funder of the cash flow instrument will recoup his principal investment and the desired rate of return the Investor needs to make it desirable to take the risk of buying the pharmacies cash flow instrument.
                    
To entice an Investor to shift the risk of holding the cash flow instrument from the pharmacy owner in ME to the Investor, there is typically a financial incentive for the Investor. The incentive is the rate of return, which is required to compensate for the Investors perceived risk. The risk is based on the credit of the cash flow instrument’s Payor, previous payment history, seasoning, interest rate, and other variables. Discount rates may change depending on the circumstances of the cash flow instrument, the economy, etc.

If the Maine pharmacy owner or an investor could take the cash flow instrument to the bank and cash it in at face value, the asset would hold more value. However, since this can’t happen the risk of holding the cash flow instrument makes it worth less than face value.

Time Value of Money: The concept of cash being more valuable to have a dollar today instead of tomorrow is based on the Time Value of Money (TVM). Most business people are aware of the TVM and how it is fundamental to both personal and corporate decision making, but to make sure we are on the same page, we will cover the basics of TVM.

TVM assumes that money earns interest over time. Therefore, as the cliché says time is money, and because of this we can compare money at different points in time that have different values and call them equal.

Within the same reasoning the reverse is true. An investor will not pay $1.00 today for a dollar that won’t be collected until next year, or 10 years from now. Today’s dollar will be discounted to reflect risk, inflation, the strength of the economy, etc.

In addition to principal amounts and interest rates, cash flow instruments like Pharmacy Business Notes in Maine are originated within a certain time period. The TVM can be looked at as if it were on a sliding scale; the earlier the Note is paid off, the smaller the interest amount becomes. When the Note is paid early, you don’t get to collect the compounded interest amount, which would have accumulated if you had waited the full time period. The Note has already been written and the terms set. Unlike a loan where the rate of return needed to cover the risk is added to the loan amount. An investor cannot go back to the buyer of your business and change the terms of the note. Therefore, the investor looks at the portion of the note, which is going to be purchased and subtracts the rate of return needed to justify the risk. This is called Discounting. The amount of the discount is contingent on the risk.

If you want an investor to advance you money, you will no longer have any risk because you have transferred it to the Investor. To compensate the Investor for accepting the risk of holding the note, the Investor will discount the note, and pay you an amount equivalent to the time and risk involved.

The price you receive when selling your note will be the discounted rate according to the basic TVM principals minus the amount that allows an investor to justify the risk.                               

If a note is a length of several years, it may be beneficial for you to sell only a portion of the note. Because the payments from a month in the 5th year will hold less value than payments collected this year, it is beneficial to you to only sell the number of months that you need to obtain the cash that meets your current financial needs. You can always sell more payments at a later date if you need additional funds. Determine what cash you really need and we will calculate the number of months we will purchase to meet your needs.

Although it involves a much shorter period of time, understanding discount rates is the same when selling a Maine pharmacy’s accounts receivables.


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To learn more about pharmacy finance, cash flow financing, business loans for local drug stores visit www.PharmacyValuations.com or the Tips and resource web site www.BuyingAndSellingPharmacies.
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Is it Worth Selling Pharmacy Notes at a Discount in Maine?

By Brad MacLiver
Authorship and profile at Google


When a Maine (ME) pharmacy acquisition has been accomplished by using the private financing method of a pharmacy business note, the holder of the Maine pharmacy note has the option of selling the pharmacy business note for a lump sum of cash instead of waiting for the monthly payments and taking the risk those payments will always be made. Pharmacy business notes can be sold by using a discounting method. Instead of buying a pharmacy note at its face value, the pharmacy note will be discounted. Meaning the Investor will pay less than face value due to the risk being transferred from the Pharmacy Note Holder (the note seller) to the Pharmacy Note Investor (the note buyer).

Most pharmacy business note sellers in Maine only look at the discount rate and quickly calculate in their head that they are giving up too much money to make the selling of the pharmacy note an attractive proposition. However, further analysis needs to be completed before a final decision is made by weighing the discounted amount with the benefits of a lump sum of cash.

#1. What is the motivation for selling the ME pharmacy note? What are the desired goals? Is reducing the exposure to risk a consideration? Is there a financial decision to pay off debt? Is capital required for a new venture? Are there dreams of exotic vacations or world travel that could be accomplished with a lump sum of cash? How important is it to accomplish these goals? What are the opportunity costs if you don’t have the lump sum of cash to achieve your goals, or invest in something that pays a higher return? Determine investment and family priorities.

#2. What is the Current Fair Market Value of the pharmacy business? This is what someone is really willing to pay for the business, and not just an “earnings times x” formula. Real aspects of what is happening in the pharmacy industry must be considered and it is advantageous to have a Maine pharmacy industry specialist calculate the pharmacy business valuation.

#3. How much cash is immediately required by the holder of the pharmacy note?

#4. A pharmacy note that is seasoned has more value than a “green” note that doesn’t have a payment history. Are you willing to hold the note for a certain amount of time to allow the business buyer time to prove to an Note Investor the capability of the payor making the payments?

#5. Are you willing to sell only a portion of the Note (this is called a “Partial Sell”)? The discount rate can be a more attractive proposition when only a portion of the note is sold and the Maine Pharmacy Note Investor is not holding all the risk.

Understanding the Risk for the Note Buyer:

#1. Pharmacy Buyer Competency - There is the risk that the pharmacy buyer may not run the business as efficiently as you have, sales drop, and the pharmacy business buyer in ME cannot meet the payment obligations. Incompetency could lead to late payments, missed payments, or bankruptcy.

#2. Pharmacy Industry Changes - Changes caused by influences either within the industry, or regulations governing the industry, can make it increasingly difficult for the Maine pharmacy business buyer to meet the contractual financial obligations.

#3. Future Competition - Sales and income of the store may be affected by yet unforeseen Maine pharmacy competition either building in the neighborhood or through mail order.

#4. Loan to Value - When originating a pharmacy business note you may be creating financing where there is a “negative loan to value.” Example: the ME pharmacy business note is for $300,000, but there is only $100,000 of tangible assets for collateral.

#5. Title Insurance – Maine pharmacy business notes don’t have title insurance that will make good a loss arising through defects of titles, or liens.     

#6. Time Value of Money - Where a dollar received today is more valuable than a dollar received in the future.

#7. Opportunity Costs - When the selection of holding the pharmacy business note in Maine ties up capital and prevents potential financial gains from other investments.

It is beneficial to discuss the options and potential origination of a pharmacy note with Pharmacy Business Note Investor before the Purchase and Sale Agreement is finalized for the acquisition of the pharmacy. This provides the pharmacy business seller, and future note seller, valuable insight into structuring the Maine pharmacy business note so it can be successfully purchased.

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Using Business Notes for Financing Maine Pharmacy Acquisitions

By Brad MacLiver
Authorship and profile at Google


When acquiring or selling a ME pharmacy or drug store, an alternative method to traditional financing is to have the seller originate the financing and carry back a business note. At a glance, many pharmacy owners will choose to avoid this approach because they want their cash and their exit.  However, when a Maine pharmacy owner is considering selling their drug store, if they look at the benefits of originating a business note rather than just looking at the perceived costs, they will notice that offering Private Finance in the form of a Pharmacy Business Note provides them an alternative course of action.

Advantages of Creating and Selling a Pharmacy Business Note in ME

1.  The process of selling a Maine pharmacy or drug store to an individual can be easier and less time consuming when the pharmacy seller agrees to carry a business note, than a buyer pursuing traditional financing.

2. By offering Seller Carryback Financing, often referred to as Private Finance, a pharmacy business owner in Maine can greatly increase the number of potential buyers for their business, and most likely sell the business at a higher price.

3. When a pharmacy business note is created there are the options of keeping it for monthly income, selling the entire pharmacy note for a large lump sum, or selling part of the Maine pharmacy business note to meet current financial needs and keeping the remainder for future income.

4. Selling either a portion, or the entire pharmacy business note, frees up capital that can be used for new ventures, or paying off old debt.

5. When a pharmacy business note in Maine is created and sold, with the proper professional guidance, a transaction can be structured that allows the pharmacy business seller the biggest advantage in achieving the seller’s goals.

When originating a Maine pharmacy business note the terms and interest rate are set and agreed upon between the seller and buyer of the business. The seller of the business accepts the promissory note, which is secured by the business including any inventory and equipment that belongs to the business. The pharmacy business seller then sells the note to an Investor who is willing to hold the Maine pharmacy note in exchange for compensation. Since Investor can’t go back to the pharmacy business buyer and change the terms of his purchase agreement, the seller of the note must discount the note. The Investor is compensated from the difference of what the note was originated for and the discounted price paid for the ME pharmacy business note.

Tips:

1. Poorly structured business notes may prevent their sale, so seek professional advice before originating a financial instrument that can’t be sold.

2. Sellers of business notes need to fully understand the Investors risk in order to successful sell the business note.

3. Private Finance, in the form of a Business Note, is an alternative that should be looked at as a business financing option.

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Pharmacy Acquisition Finance in Maine

By Brad MacLiver
Authorship and profile at Google


When a Main (ME) pharmacy is being sold, the pharmacy buyer will rarely pay cash for the acquisition, and even when cash is available, Maine pharmacy buyer strategies usually involve financing the transaction.

A typical acquisition takes about 6-9 months to complete, so the Maine pharmacy seller will need the buyer to provide some proof up front about their ability to close the transaction. Acquisitions involve several hours worth of due diligence and negotiation. This process, in addition to the buyer and seller, will involve attorneys, accountants, lenders, valuation companies, pharmacy industry specialists, pharmacy brokers, along with others. Nobody wants to pursue 6-9 months worth of work that involves a variety of highly paid professionals without having some confidence of the pharmacy buyer’s ability to close the deal.

The process begins with determining the value of the pharmacy. There are many companies that offer valuation services. However, due to the changing circumstances of the pharmacy industry in Maine, a pharmacy industry specialist should be used for valuing the company instead of a valuation company that has a broader spectrum. In order to complete a valuation the selling company needs to provide up-to-date data. Lenders funding pharmacy transactions will not accept a sellers “gut feeling” or a value based on a simple accounting formula. Lenders need to make a decision to finance a pharmacy based on sound and verifiable information.

There are a number of methods to finance a ME pharmacy acquisition. Each can be customized or included with other forms of financing to provide the buyer with the best financing package and the greatest chance for the businesses financial success.

Structuring the transaction is extremely important. The drug store seller of course wants as much money as possible and wants cash. However, the pharmacy buyer desires to spread out the debt service, wants to have as little cash as possible invested in the acquisition.

The Maine pharmacy industry is in a market where it is more difficult to obtain funding. For the acquisition to be financed a lender will need a strong understanding of the pharmacy industry and what, beyond the collateralized assets, the company offers to reduce the perceived risk.

One simple example of this is the Pharmacy Industry in ME. 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 typically will only provide $15-20,000 of collateral for a buyer 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.

When pursuing Pharmacy Acquisition Finance in Maine, for the best chance of success, make sure the pharmacy valuation company and the lender have expertise in the pharmacy industry.

Tips:

1. Attorneys and CPAs who have been representing the Maine pharmacy or drug store 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 pharmacy transaction and are not slowing or undermining the process.

2. Since ME pharmacy acquisitions involve 6-9 months and sometimes a couple years, 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 of the Maine pharmacy’s 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 pharmacy seller will need to continually prove the financial condition of the company.

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View our video about Pharmacy Acquisition Finance.

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EBITDA and Maine Pharmacy Acquisitions

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 including some in the pharmacy industry. EBITDA can also be used in the comparison of similar companies. Drug store and pharmacy owners in Maine who are considering either buying a pharmacy or selling their drug store should have an understanding of EBITDA and how it affects pharmacy valuations.

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. Many in the pharmacy industry also use the EBITDA method.

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 Maine (ME) don’t meet that criteria, this formula is not a useful measure as the sole means for valuing pharmacies for acquisition purposes.

Six easy steps for Maine pharmacy owners wishing to calculate their store's EBITDA:

1. Calculate net income by obtaining total income and subtract total expenses.
2. Determine the total amount of taxes paid to federal, state, and local governments.
3. Compute interest fees paid to companies or individuals for the use of credit, or capital.
4. Establish the cost of depreciation (the expense recorded to allocate a tangible asset's cost over its useful life).
5. Determine 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.

EBITDA calculation example:
1. Net Income            3,000
2. + Taxes paid            900
3. + Interest Expenses     600
4. + Depreciation          300
5. + Amortization          150
6. = EBITDA              4,950

EBITDA Drawbacks:
1. It can be a misleading number when it is confused with cash flow.
2. It can make even completely unprofitable firms appear financially healthy.
3. The numbers are easily manipulatable.
4. They can overlook cash requirements for growth in accounts receivable.
5. They can miss cash requirements for growth in inventories.
6. They are not factual when valuing small companies.
7. They are ineffective for companies with few assets, small amounts of debt, or low depreciation or amortization schedules.

An example of the drawbacks of EBITDA:
During the 80s, EBITDA was used as a way to look at cash flow during due diligence for an acquisition. This was used to calculate whether or not a company had the ability to service their debt. By factoring out interest, taxes, depreciation, and amortization, they can allow an unprofitable business to appear financially healthy. This method of valuation was used quite often during the dotcom era to value unprofitable businesses with few assets and little earnings. The results from this method caused many to go bust, a blaring example of misapplying EBITDA.

Pharmacy business consultants, who are knowledgeable about performing pharmacy business valuations, will use EBITDA during ME specialty pharmacy valuations, but this is only as part of a larger formula when computing values for specialty pharmacies especially those who have a niche in HIV, disease management, long term care, etc. EBITDA should not be used, however, as part of the usual formula for standard retail pharmacy valuations for acquisitions.

The EBITDA number for a specific existing pharmacy in ME is, for  most purposes, important when the existing ownership is establishing their store value for the purposes such as establishing a line of credit, borrowing, creating a Trust, and stock values.  EBITDA does not, however, have the same importance when selling a Maine pharmacy. This is because the buyer will not have the same expenses as the seller.

Buyers may not have the same tax base, interest expense, or depreciation schedule. It is thusly 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 Maine pharmacy. Instead of the EBITDA number, pharmacy buyers should be focusing on sales, gross profit, cash flow, and customer mix.

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Maine Pharmacy Industry Roll-Up

By Brad MacLiver
Authorship and profile at Google


ME 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 Maine. This industry is well established and is still experiencing sales growth, but pharmacies and drug stores have seen a steady decline in their profit margins due mainly to government regulations, even when sales increase. There has also been a shortage of Maine pharmacists, a key required employee.

Industry roll-ups are often initiated by investors who are looking for investment opportunities. However, in the case of Maine pharmacies, the roll-up is necessary because of declining net profits ratios. Companies 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 ME 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.

During the Maine 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 roll-up, specific funding programs have been developed. These pharmacy chain funding programs are backed by major financial institutions that provide the funding for pharmacy acquisitions in Maine. These Maine pharmacy funding programs allow an individual 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 in Maine, due diligence and understanding of all aspects of the transaction should be considered. Using the services of a ME pharmacy industry expert to guide a pharmacy owner through the maze of details will benefit the pharmacy owner in making the best business decision.

All transactions involved in the pharmacy roll-up need to have the business valued at the current market value. Business valuations for the pharmacy industry should be calculated by a company that has in-depth knowledge of the pharmacy. Simple accounting formulas used by many to estimate a value do not provide an accurate picture because the simple formulas do not take into account the aspects that are causing the pharmacy industry roll-up.

The aspects of the market which are stimulating the roll-up are also having downward pressure on the Maine pharmacy business valuations. Pharmacy owners have been watching what has been occurring in the pharmacy industry. 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 pharmacy industry roll-up will continue.

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