3-Year Financial Cleanup: Preparing Your Practice for Sale

Every serious buyer of a medical practice underwrites the last three years of financial statements. The trailing 36 months determine the EBITDA the buyer will pay a multiple on, the working capital peg the buyer will demand at closing, and the quality-of-earnings story that either supports the asking price or invites a discount.

A physician-owner who decides to sell 12 months out can still get a deal done. A physician-owner who begins the financial cleanup 36 months out gets a materially better one. This piece walks through what should happen in each of the three years leading up to a sale, what the working capital peg actually means, and the tax cleanup that prevents a late-stage retrade.

Year 3 to Year 2: Financial Discipline That Shows Up in a QoE

Year three (36 months before close) is the earliest point where cleanup decisions will land inside the trailing period a buyer reviews. This is the year to establish the financial discipline that will read as steady, professional operation during diligence.

Three moves matter most:

• Reconcile the P&L to a chart of accounts a buyer can read on the first pass (see the medical-practice chart of accounts guidance)
• Stop running personal expenses through the practice; every dollar of personal spend still on the books at diligence will need to be identified, defended, and often added back
• Move to accrual-basis internal management financials, even if the tax return stays on cash

The trailing 36-month window is the entire dataset the buyer will underwrite. Discipline established in year three sets the baseline the following two years will build on.

Year 2 to Year 1: Normalize Owner Comp and Related-Party Rent

Year two is when the two largest normalization adjustments should already be sitting cleanly in the numbers.

Owner compensation should reflect a realistic replacement salary for the specialty and market, or be cleanly identifiable as owner-discretionary. Under-paid or over-paid owner comp forces a buyer-side normalization that reduces the practice’s negotiating leverage. Fixing this two years out gives the practice a full year of trailing data with the adjustment already made.

Related-party rent (practice paying rent to an entity the physician owns) should reflect fair market value or be disclosed with a documented FMV analysis in the file. Rent that is materially above or below market is one of the most common EBITDA adjustments in medical practice deals, and it is one buyers use to negotiate price down.

Year 1: Contracts, Credentialing, and the Rev Cycle Story

Year one (the final 12 months before close) is when the operational story gets tightened.

Payer contracts should be current, in the file, and reviewed for change-of-control provisions that could complicate a sale. A physician-owner who cannot produce clean copies of all major payer contracts during diligence has already lost negotiating credibility.

Credentialing should be verified for every provider, with all state licenses current and any adverse actions disclosed. Late-stage credentialing surprises kill or delay deals.

Revenue cycle metrics should be trending stable or improving through the final trailing period. A denial rate spike or DSO drift in month 33 of the trailing 36 is a signal buyers pick up quickly, and it invites either a price cut or an earnout to bridge the confidence gap.

The Working Capital Peg: What Buyers Actually Watch

Every practice sale includes a working capital adjustment. The buyer wants to acquire a practice with “normal” levels of receivables, payables, and other working capital, not a practice stripped of cash or overburdened with obligations at closing.

The peg is set by looking at the trailing 12 to 24 months of average working capital. If the practice delivers less than the peg at closing, the price gets reduced dollar for dollar. If it delivers more, the seller receives an increase.

Practices that spend the last six months before closing collecting hard on receivables and delaying payables can inflate the working capital they deliver, but the peg calculation catches this. Managing the peg means running the practice normally in the trailing period, not sprinting for extra cash at the finish line.

The Tax Cleanup That Prevents a Late-Stage Retrade

Three tax items surface late in diligence and can force price adjustments if not addressed early:

• Sales tax exposure on any product sales the practice has been running (contact lens sales, orthodontic appliance sales, retail products)
• State income tax nexus in states the practice has telehealth or occasional in-person presence
• Payroll tax classification on independent contractor arrangements that might not survive audit scrutiny

Each of these can be addressed cleanly with 12 to 24 months of runway. Addressed at diligence, they become reasons for the buyer to hold back price or hold back closing.

Cooper Norman’s business transition planning team runs three-year practice cleanup engagements for owner-doctors across Idaho and Utah, in coordination with the tax planning team. To start the runway on your own practice, talk with a Cooper Norman advisor.