Medici Capital > Articles > Buying And Selling a Pharmacy

Article By:

Frank Sirianni

Buying And Selling a Pharmacy

Wednesday, 4 October 2006

With all the challenges and uncertainty pharmacy still faces, and the pressures on profitability, why are the prices pharmacies are selling for still so high? Security, we had with previous agreements, is not there. There is also significant unease in market place - across all pharmacy sectors; community, aged care, hospital, wholesale, and manufacturers. This article reviews the warning signs and provides tips for current and prospective pharmacy owners.

TABLE 1: Warning Signs
A number of warning signs have recently appeared on the pharmacy horizon. While each of these may notapply to all pharmacies, they signal the importance of both due diligence (or self assessment if youcurrently own a pharmacy) and revision of strategic plans.

	Further details
Banks tighten lending	Banks, for the first time in 10 or more years, are tightening their lending policies. AggressiveBanks who sought to gather market share are now rejecting deals!
Margin pressure	Margin pressures are being driven across a number of fronts: PBS reduction in margins unlikely to be offset by the wholesalers Generic pricing being monitored and likely to be further clawed back by Government Retail competition from non-pharmacy retailers aggressively marketing health & beauty Big Box pharmacy warehouses increasing in number and further competing on price
Volume declines	Current evidence suggests the PBS is in decline (refer to previous data release in AJP) orachieving only moderate growth. Current estimates are that growth for the 2005/06 financial yearare 41.5% of the growth for 2004/05 with the PBS growth being 33.3%. Respectively a decline ingrowth rates by 58.5% and 66.7% That's a significant slow down!

Know yourself
As a buyer (or prospective junior partner), have a clear understanding of your ideal business.This means understanding your skills and limits as well as how much you can afford. It alsomeans setting clear boundaries for what type/style of pharmacy best suits you, the area you wouldprefer, and once in ownership, your support network and business development plan.

Recently a pharmacist, who had been searching for a pharmacy for 3 years, successfully purchasedhis first pharmacy. He wasn't a young man and had a good understanding of how to assess the business.However, after only 10 months in the business, it was back on the market. He realised he was usedto running large retail businesses and couldn't cope with a small community pharmacy with aprescription focus. A very expensive lesson.

Generally it will take at least 18 months for you to find and negotiate on a pharmacy purchase. Be prepared.

As a seller, know your exit strategy and your reasons for selling.

Do your homework
Whether you are a buyer or seller, get a 'realistic' handle on the market.

While business brokers provide an excellent and often undervalued service, they cannot berelied upon for "independent" advice!

Gather as much knowledge as possible from a range of sources - mentors and colleagues, pharmacywholesalers, accountants, magazines, and other reference sources. Speak to pharmacy owners.With the average pharmacy price of $2.5 million, its will be a significant investment. And yes,pharmacies can go broke!

Pharmacy is not, and has never been, a licence to print money. Successful pharmacists are successfulbecause they work hard!

Anecdotal evidence is that there has been an increase in pharmacy defaults. A recent example of arural based group, indicates a good plan was never implemented. Compounded by the opening of adiscount warehouse in the area, the new owners went broke and lost 3 pharmacies. While theopening of the discounter could not have been foreseen, the sensitivity to margin changes couldhave been tested.

Understand the rules of the game
Know the players, understand their objectives, and enjoy the process.

Like any process there are rules and players. The rules must be followed. Each player hastheir own objective.

Rules:

Ready to buy when a "good" pharmacy is found! It's a sellers market (see later comment).If the pharmacy meets your criteria move quickly. Have your processes (finance, due diligence,etc.) ready. If you procrastinate in a purchase where you have advised the market you areinterested, you will be unlikely to get another offer.
You are buying the future not the past. Understand the impact that changes in the localcompetition and economy as well as the PBS changes will have on the pharmacy. Just becausethe pharmacy achieved a 32% gross profit margin in the past does not mean it will continueinto the future.
Focus on profitability. Turnover and estimated expenses are not the critical measuresfor a good business. You can make more money in a moderate turnover pharmacy in a good(low cost) strip location than most high turnover shopping centre locations.

Players:

Brokers represent the vendor. They get their fee from the vendor and, the higherthe price, the higher their fee! While most are very ethical, they have a vested interestin selling the pharmacy and maximising the price.

Vendor may have numerous motives for selling the business. They may also be a criticalfactor in the success of their business to date. Understand and work with the vendor.

Have a plan
You need a plan for a number of key areas, including:

How to assess? The tools and process by which you will assess each opportunity.

I recently met with a young lady who had completed all her analysis "literally" on the back of anenvelope. This is not the way to assess and buy a $2.0 million business.
What you will do if you succeed in buying a pharmacy? Plan for the first say 90 days and thenincrease it once you are in the business.

All the thoughts and ideas you have for pharmacy and this pharmacy, should be listed on a singlepage to ensure you do not lose sight of how you are going to recreate the business. Once you arethere you can quickly get caught up in the day-to-day crisis and the quagmire of managing customers,staff, and your time.
How to implement your plan?

Due Diligence
Due diligence is now, more so than ever, absolutely critical. Regardless of the size of thebusiness, or who you buy it from, doing your homework is very important.

Brokers go to a great lengths to "qualify' the information they provide you, warn you to doyour own analysis, and disclaim liability. (Read the fine print).

Due diligence can vary depending on how far you want to take it. Ultimately, you

Should have a qualified accountant with pharmacy knowledge complete some aspects of the due diligence; and
Take it as far as you need to be confident that the financial and other information presented to you can be relied upon.

Often the focus of due diligence is financial validation of the business results usingverifiable evidence. For pharmacy this may mean checking HIC Returns & Claims, BankingRecords, Till Rolls or POS Reports, and Wages Records.

However, due diligence can also (and should also) involve a review of the non-financialaspects of business. You should also assess aspects of the pharmacy which cannot bemeasured in financial terms. For example, demography, shop layout & design, dispensarywork flow and equipment.

TABLE 2: Due Diligence - a short list
Here is a list of a few of the areas you should include in the due diligence. I have provideda list below of the areas you should consider. Please note, THIS IS NOT AN EXHAUSTIVE LIST. Your approach must be tailored to suit the situation.

Check	Which includes
Financial	A quick check to ensure the figures look reasonable given the business location, size,trading hours, staff levels, and stock levels. Is gross margin consistent for the business profile, in line with the industry averages,or believable/sustainable? Gross margins are declining! Prescription gross margins (subject to generic substitutionrates) are often well below 30%. Is the reported margin supported by evidence?
Property Lease	Do you have a secure lease? Is the rent reasonable? Does it reconcile to the financial accounts? What is the remaining lease term (inc options)? What are the rent increases based upon?
Stock	Does existing stock include old or unsaleable items? Are stock levels OK - have they beenrun down in anticipation of the sale? How will stock value be treated in the purchase price?
Profitability	Is it sustainable? Is the profit stable or sensitive to external factors (i.e. major contracts)? What effect would increased or decreased sales have on costs? I appreciate that there may be broker's adjustments to arrive at the stated profitability. Howreasonable are these adjustments? What if they are incorrect?
Sales Growth	Is the business expanding, shrinking or remaining static? What are the monthly/yearly sales patterns? Current growth in excess of 5% should be checked.
Commercial issues	Is the business transferable to you? Are there any risks related to this business? Is the business reliant on major customer(s)? Systems, IT, and fit out
Team	Staff - do you have enough? Are Staff contracts in place? Will existing staff continueemployment? Do they have the right skills? Do staff appear to be motivated? Happy? Liabilities - Have you assessed remuneration arrangements and any outstanding obligations e.g.Long Service Leave, Sick Pay, Annual Leave, etc.
Legal	Property Lease - Transfer of approval number - Title to assets - Vendor warranties
Location	Population Growth - Business growth potential - Proximity to Doctors and prescribers -Seasonality of Trade - Parking (no of spaces, proximity, cost) - Overall Impressions on location
Check & Recheck	It is very important that you check the calculations and analysis included in any informationprovided (including the Disclosure Documents). Also have someone check the valuation calculationsor asking price. You can use Medici Express http://express.medici.com.au/ to obtain an indicativevaluation and assessment of the pharmacy. An investment of $220 inc. GST is very worthwhile whencompared to the investment you plan to make.

Partnership & Succession issues
What if you are offered a partnership? Is a partnership a better solution for you as a seller?

Assuming you can work with the partner(s), for many, partnerships are an excellent alternative.It provides the vendor a staged exit and transition. For the buyer (partner entering the business),it enables the hand-over of control and transmission of the pharmacy's goodwill. It also providesthe new partner a mentor and progressive move into ownership.

Sellers Market
Pharmacy is and remains a sellers market.

Supply side - Consolidators with the support of wholesalers wanting to sure up distribution have"soaked up" any pharmacies.

Demand side - Consolidators, aspiring owners, and continued relatively good returns (despite lowin historical terms) continues to feed demand.

This has created a premium in the market for select and better sites.

Pressure on profits may lead to reduced prices

Reduced margins
Pressure on generic prices
Reduced growth
Static or decline in retail
Wages pressure
Fixed increases in rent

All these factors are leading to reduced viability. In the long run, this will need to be reflectedin reduced prices.

Where to go for further information
A number of reference sources are available:

http://www.practice4sale.com.au/ provides a listing service for pharmacies for sale as well as partnershipand job opportunities.

http://www.medici.com.au/ for reference material and checklists.

http://experts.medici.com.au/ ask a question and get business advice. If of general interest, or alreadyin our knowledge base, it's FREE!

http://www.buyingandsellingapharmacy.com.au/pages/index.asp The Pharmacy Guild of Australia website on"Buying and Selling a Pharmacy: 7 Steps to a highly effective sale or purchase".