What is your real return on investment? And do pharmacists understand what this actually is? Natalie Sirianni clears up the confusion
As a pharmacy business broker, I often get asked by pharmacy buyers looking to buy a particular business, “What’s the ROI?”
While it is a good question, the figure that the buyer is wanting, is not actually the ‘Return on Investment’ or ROI of the business.
What do I mean by this?
When I get asked for the ROI for a pharmacy business, the buyer is actually wanting the Capitalisation Rate that is implied in the purchase price of the business. And this is not ROI!
The reason for the error is that historically, business brokers have used the capitalisation rate as a surrogate for ROI, but they are not the same thing. I will explain…
Capitalisation rate equals the annual adjusted net profit for the business divided by the purchase price. Therefore, it is the annual return that the owner will get on the business, as a percentage of the price that they paid for the pharmacy. (Note, this return is after add-backs such as interest, depreciation etc.)
But Return on Investment has two parts:
- Annual return; PLUS
- Capital gains
The Capitalisation Rate for the business does not take into account any capital gains achieved on the business. Therefore, the Capitalisation Rate only equals ROI if there are no capital gains or growth in profit is 0. Also, it is worthy to note that the Capitalisation Rate is based on the previous owners’ historical results, which you will hopefully improve on.
So, it is important that you understand and examine the difference between these two measures. Depending on the growth levels of the business, your ROI can actually be much higher than the Capitalisation Rate!
But perhaps even more important than the Return on Investment on the business is the Return on Equity. Most pharmacy buyers will use bank or other finance to purchase the pharmacy. Therefore, they are not putting in 100% of the purchase price in cash.
So, as a business owner (or potential business owner), the real question that you should ask is “What is my Return on Equity?” That is, what is the return I’m going to get for the money I put into this investment?
This is the real question you want to understand.
If you have any questions about this topic or would like to discuss the pharmacy market in general, please feel free to call me on 1300 ATTAIN (288 246). I look forward to discussing with you further!