In early 2020, Romeo, a dentist, and his wife, Juliet, a digital marketing specialist, relocated to Vancouver, BC. Shortly after the move, Juliet, a digital marketing specialist, obtained a full-time job with a private company at Burnaby. Romeo, a dentist, obtained his dentistry degree from the university of his home country several years ago. He has recently spent a lot of time studying for the reciprocity examination administered by the Canadian National Dental Examining Board (NDEB), enabling him to practice dentistry in Canada. Last summer, Romeo passed all the exams. He has now approached you as a financial advisor and is seeking advice on establishing his dental practice. It is October 1st , 2023. You are meeting with Romeo and Juliet to discuss their plans. Romeo: Thank you for your assistance. Now that I am licensed to practice in Canada BC province, we aim to establish my dental practice as soon as possible, hopefully by the beginning of 2024. Juliet: I plan to assist Romeo with the administrative side, leveraging my prior experience. My income as a digital marketer covers our basic living expenses, excluding future mortgage payments. However, we intend to buy a house in North Vancouver, taking on a substantial mortgage. Romeo's BC dental certification allows us a $1 million loan for any house. Our goal is to pay it off quickly to save for our retirement. We turned 45 this year, and both plan to retire by 65, promoting our desire to start planning and saving promptly. Romeo: A colleague connected us with an agent in Vancouver who is helping retiring dentists sell their practices. The agent has already found a suitable practice. Dr. Daniel Paredes' practice is located in North Vancouver, and he currently runs it. The agent has given us two years of financial statements for Dr. Paredes's practice and highlights of the business (Exhibits I). We have some savings set aside, and the agent has indicated that Dr. Paredes is willing to offer $800,000 purchase price. I made some notes from our discussion with the agent (Exhibit II) and from my research (Exhibit III). Juliet: I prefer that Romeo set up his practice and build his client base. Romeo already spoke with one of the local dentists in North Vancouver who helped mentor him through the NDEB exams, and he gave us some estimates of how much it would cost to start our practice (Exhibit IV). Alternatively, Romeo could work as a dental associate in other clinics. I searched and found that the average annual salary for a dental associate is $100,000. Group Case: Romeo Dental Clinic Romeo: I specialize in implant and surgery dentistry, an area of increasing patient demand. If I have my practice, I would like to offer these services to my patients. I estimate 60% of the gross margin on implant and surgery services. Juliet: I've heard that professionals these days incorporate to take advantage of lower tax rates. The average tax rate for small corporations is about 10% in BC. How should we set up the practice to generate the best tax savings? What are the other benefits of incorporating the business? Romeo: The agent wants us to decide about Dr. Paredes's practice by month-end. Can you please help us understand our options and provide a recommendation? What are the advantages or disadvantages of each option? If we start our practice, could you please tell us what would be our sales and patients numbers at the Break-even point? Could you prepare a cash flow projection for both scenarios over the next 5 years? Juliet: Our plan is to be retired in 25 years. We want to pay off the clinic and house mortgages by then, ensuring financial security for at least 20 more years with an annual expense of $70,000. If we plan to sell the practice for $1 million in 20 years, what should be our retirement savings? Please let us know if there are any extra common business ideas that could benefit us and our new business. Group Case: Romeo Dental Clinic EXHIBIT I: DR. PAREDES FINANCIAL STATEMENTS As of December 31($000s) 2021 2022 Cash $12.5 $20 Accounts receivable 25 32.5 Medical supplies 15 18.5 Capital assets (Note 1) 551 509 Total assets $ 603.5 $ 580 Accounts payable and accrued 50 85 Due to Dr. Paderes (Note 2) 300 220 Proprietor's capital 250.5 275 Total liabilities and proprietor's capital $ 603.5 $ 580 Dental service revenue $ 785 $832 Advertising 12 15 Licenses and insurance 50 54 Medical supplies 195 210 Internet and software 15 14 Professional fees (Note 3) 9 10 Rent 84 88 Salaries (Note 4) 248 277 Utilities 15 18 Entertainment and meal (Note 5) 14 15.5 Interest expense 8 6 Depreciation 50 42 Total expenses 700 749.5 Net income $ 85 $ 82.5 Group Case: Romeo Dental Clinic DR. Daniel Paderes Inc. FINANCIAL STATEMENT NOTES The financial statements are provided each year-end by Dr. Paredes's accountant for the filing of his income tax returns. 1. Capital assets are net of accumulated depreciation, and include all dental equipment, furniture, and fixtures in the office; these assets have an average useful life of 10 years. 2. Due to Dr Paderes, consist of previous unpaid bonuses and other personal loan given to the business by Dr Paderes. 3. Professional fees are for legal and accounting services. In 2022, Dr Paredes has paid his personal legal expense for 3K from the business account as he has the same lawyer for his personal issues. 4. Dr. Parades draws a salary of $120,000 per year from the practice. Salaries expense includes the hygienist salary of $65,000 and receptionist for 45,000 annually plus all government remittances, employee health plan coverage, and bonuses. 5. Meal and entertainment include three events for all staff. Each year, there is at least 10k of Dr. Paderes personal expenses that have been paid by the business account. 6. Dr Paredes usually withdraw 40K annually as his dividend at the year-end. EXHIBIT II: NOTES FROM DISCUSSION WITH AGENT Dr. Paredes founded the practice 25 years ago. He chose not to incorporate his practice, believing it would only lead to higher fees charges by his lawyer and tax accountant. Dr. Paredes prides himself on his loyal patient base. Most of his adult patients have been with him since they were children and now, many of them have their own children who are also patients. He currently has 600 active loyal patients. In today's market, each active patient is worth $800. Dr. Paredes's receptionist has been with him since he started the practice. He now also has a dental hygienist, who has worked for him for 12 years. He has always given them healthy raises every year, along with bonuses. One of his conditions for selling the business is that the new owner should rehire his receptionist and hygienist. On average, when changing the owner of a dental clinic, the new owner will experience a 20% customer churn rate. It takes approximately 4 years to compensate for the lost number of patients with new ones, assuming a 10% growth rate each year. In the dental practice industry, the value of a business is typically determined by a multiple of 5 to 6 times the average EBITDA or a combination of net asset and customer list. Group Case: Romeo Dental Clinic EXHIBIT III: ROMEO RESEARCH NOTES RBC is willing to finance 80% of the sale price. The terms of this loan would be fixed- term 9% (Prime plus 4%) interest per annum / 10-year term, due on December 31 each year. TD Bank is willing to finance 75% of the sale price. The terms of this loan would be fixed- term 7.5% (Prime plus 2.5%) interest per annum / 20-year term, due on December 31 each year. Both banks will secure the loan with the assets of the practice. TD will ask for a personal guarantee from me and Juliet. We are going to buy a house in North Vancouver for $1,200,000 and are carrying a mortgage of $1,000,000 on it. The terms of our mortgage allow us to draw up to 50% of our equity in the house as a home equity line of credit. Average mortgage payment would be 6,000 monthly if we payoff the mortgage in 20 years. We have $200,000 in our saving account. EXHIBIT IV: NEW PRACTICE START-UP ESTIMATES (Prepared and searched by Juliet) New furniture and equipment to start up a dental practice costs about $500,000 and have an estimated useful life of 10 years. There is a leasing company willing to lease all furniture and equipment for 10 years at a 10% interest rate. For the first few years, while building a client base, a new dentist should spend about $20,000 annually in advertising and patient referral incentives. Average annual revenue per patient is expected to be $1,300. A new practice typically attracts about 300 new patients in the first year with a 10% growth rate for the initial four to five years. One dentist and one hygienist can comfortably service up to 600 patients per year. After that at least one hygienist should be added. We believe there are more dentists per capita in Vancouver today than there were 20 years ago, so patient growth will be slower per year than what Dr. Paderes originally experienced. We will be satisfied if the practice has positive cash flow by the third year. The monthly rent expense for a decent office would be $10,000 with a 3% annual increase. Medical supplies account for about 25% of total revenue plus an additional 5% of administrative expenses. Group Case: Romeo Dental Clinic EXHIBIT IV continued: NEW PRACTICE START-UP ESTIMATES We plan to employ a receptionist and hygienist with annual salaries of $60,000 and $40,000, respectively. Additionally, we are considering an annual payroll of $120,000 for Romeo as the CEO and Dentist of the Practice. Any additional dividends or bonuses will be directed to our retirement savings account (RRSP). I will continue to work voluntarily for the next 5 years. By offering implant procedures, we expect that at least 10% of patients will request this service, generating an additional $2,000 in revenue for the clinic per patient