When a person decides to sell or purchase a practice, one of the most critical steps they must take is to perform a valuation of the business. Owners and buyers have many methods to choose from, including the one times gross method.
If you want to learn more about this approach and its reliability, this blog can offer valuable insights. Read on as we explain the one times gross method and discuss whether it is a good way to value a business.
What Is the One Times Gross Method?
If you are unfamiliar with the one times gross method, it is pretty simple. Owners or buyers determine a practice's worth by multiplying its gross revenue by a factor of one. This means that if your practice generates $500,000 in annual gross revenue, the one times gross method would value your business at approximately $500,000.
Why Do People Use It?
One of the reasons people turn to the one times gross method is because of its simplicity and accessibility. Unlike complex discounted cash flow models or asset-based valuations that require extensive financial analysis, users can apply this method in seconds while using basic revenue information. For busy practitioners managing their day-to-day operations, this simplicity represents a significant advantage when they need quick estimates for planning purposes or initial negotiations.
Why Is It Not a Good Way To Value a Business?
Although the one times gross method can offer buyers and sellers convenience, it is not a good way to understand the true value of a business. There are multiple reasons for this, which we will explain below. Understanding these limitations will help you make a more informed decision regarding your upcoming sale or purchase.
The Method Doesn't Confirm Profitability
The most significant flaw in the one times gross method is its complete disregard for profitability, which represents the fundamental driver of business value. Two practices with identical gross revenues can have dramatically different profit margins based on their operational efficiency, cost structure, and management effectiveness.
For example, a physical therapy practice generating $800,000 in gross revenue but operating at break-even levels may provide substantially less value to potential buyers than a practice with $600,000 in gross revenue and healthy profit margins of 20 percent. Profitability analysis reveals the practice's ability to generate cash flow for new owners, service debt obligations, and provide returns on investment.
Buyers typically focus on earnings before interest, taxes, depreciation, and amortization (EBITDA) or similar profit metrics when determining how much they're willing to pay for a practice. The one times gross method overlooks these crucial profitability indicators, potentially leading sellers to overestimate their practice value or buyers to overpay for underperforming operations.
It Doesn't Consider Other Value Indicators
Another flaw in the one times gross method is that it doesn’t consider other factors that would contribute significantly to a practice’s value. For example, the strength and stability of the client base, including client retention rates, average client tenure, and revenue concentration, will have a direct impact on future cash flow predictability and risk levels. A practice with diversified revenue streams and long-term client relationships can also command higher valuations than operations dependent on a few major clients.
Operational factors such as staff knowledge, system efficiency, technology infrastructure, and management depth also have a substantial influence on practice value. A well-established practice with experienced staff, documented procedures, and modern technology platforms typically warrants premium valuations because it requires less investment from buyers and presents lower operational risks. The one times gross method fails to account for these qualitative factors that sophisticated buyers evaluate carefully during the acquisition process.
You Can't Apply It Across Industries
Another reason why buyers and sellers should not use the one times gross method is because they cannot apply it across multiple industries. Doing so assumes that all businesses within similar revenue ranges deserve comparable valuations regardless of their industry characteristics, market dynamics, or competitive positioning.
This assumption proves problematic when applied across different professional service sectors or even within specialized niches, such as accounting and physical therapy. Industries with diverse regulatory environments, reimbursement structures, and competitive landscapes necessitate tailored valuation approaches that accurately reflect their unique risk and growth profiles.
Physical therapy practices operating in markets with favorable insurance reimbursement rates and growing demographics should receive different valuation multiples than those facing reimbursement pressures or demographic headwinds. Similarly, accounting firms specializing in high-growth technology clients may warrant premium valuations compared to practices focused on declining industrial sectors. The one times gross method's one-size-fits-all approach fails to capture these critical industry and market distinctions that influence actual market value.
It Doesn't Include Growth Potential
Another flaw of the one times gross method is that it provides no mechanism for evaluating future growth potential, which represents a primary value driver for many practice acquisitions. Buyers often pay premium prices for practices positioned for expansion through factors such as favorable market demographics, untapped service opportunities, or scalable operational platforms. A practice with declining revenue trends deserves significantly different valuation treatment than an operation with consistent growth trajectories and expansion opportunities.
Growth potential analysis examines factors such as market size, competitive positioning, service line development opportunities, and management capabilities that could drive future revenue and profit growth. Sophisticated buyers conduct extensive due diligence on these growth factors and adjust their valuations accordingly.
Practices with strong growth prospects may warrant valuations significantly exceeding one times gross revenue, while declining operations might deserve substantial discounts from this benchmark. The method also fails to consider the sustainability of current revenue levels and the investments required to maintain or grow the practice.
Some practices may generate impressive gross revenues but require significant capital investments, technology upgrades, or staff additions to remain competitive. These future investment requirements reduce the net value delivered to buyers and should influence valuation calculations accordingly.
Despite the simplicity and convenience that the one-time gross method can provide to buyers and sellers, it should not be relied on, as it ignores critical factors that determine true practice worth. Instead, business owners should seek a more comprehensive valuation that considers aspects like profitability, growth potential, industry dynamics, and operational strengths to maximize their transaction success.
Private Practice Transitions can provide you with more accurate numbers when you use our business valuation services. Our team members will consider all important aspects, allowing you to receive a precise determination of a practice’s market value.
