Pharmacy Lending: The Inside Scoop from Live Oak Bank
Have you ever considered pharmacy ownership? In this episode of The Bottom Line Pharmacy Podcast, your hosts and special guest Greco De Valencia from Live Oak Bank discuss the current state of pharmacy lending from a banking perspective. The pharmacy industry is evolving with many current owners transitioning out and new owners coming in with fresh ideas that go beyond filling prescriptions.
See how finance can help pharmacy owners expand the role of pharmacy to meet health care demands of the future.
If you prefer to read this content, the video transcript is below.
Scotty: Hello, everybody, thanks again for listening in to the Sykes Bottom Line Pharmacy Podcast. And today’s guest is Greco De Valencia with Live Oak Bank. I think I pronounced that right, Greco.
Greco: Almost got it.
Scotty: I’ve probably said it a hundred times. I’ve probably said it wrong every time. Appreciate you getting on, Greco, and talking about some good old pharmacy issues that revolve around the banking industry there, and particularly, Live Oak, as most listeners out there know, have a niche there in pharmacy lending.
Greco heads that up for the most part. You’ve got a lot of experience in pharmacy, don’t you, Greco?
Thanks, Scotty. Thanks, everybody, for having me on. I’ve been here at the bank for seven years, seven great years. And I’ve been in the pharmacy industry for almost 14 now. And it’s been a great ride, and I love working with the customer base. They’re some of the best people to work with.
Scotty: Great folks. So, Greco, kind of get us rolling here with, you know what is the bank seeing? What are you seeing in terms of the current pharmacy marketplace with buy-sell transitions? What are you guys seeing right now as we kick off 2023 here?
Greco: Yeah. So, we just closed out 2022, obviously, and had a great year. Still saw a lot of activity in individuals wanting to purchase pharmacies, which is always very good. Saw a lot of activity for individuals that wanted to expand their business also.
I think some of that had a little bit to do with some of the regional chains that were in the area that had closed down in specific regions, and people saw opportunities to expand their business. We saw a lot of owners still transition out, saying, “Hey, now’s the time to leave.” They got through 2020, 2021. They really saw the opportunity. Now, hey, 2022 is the year that I want to be able to transition to somebody new. I think we’re going to see more of that in 2023, particularly as, you know, 2024 with some of the DIR fee changes coming, how that’s going to play out in people’s decisions, I think, is going to come out.
But I also think there’s going to be a big opportunity for individuals to take over stores and grow them because some of the ideas that I hear from our new borrowers or people that are just going to enter into ownership on how to grow the business, how to market the business, it really excites me. And so, I think we’re going to have another good year in 2023. And that’s what I’m looking forward to.
Scotty: I’m glad you brought that up because there are obviously sellers getting out. They’ve put their time in, and now is a good time to get out. But you also see some buyers out there coming in with new ideas, fresh energy on how to grow the pharmacy, what’s new in pharmacy, that they’re going to grow into the wellness centers of their community, so on and so forth.
But you also have those owners that are growing into multi-store owners as well. I know that was a theme last year that we saw, but speaking of those owners that are coming in new, newer ownership, with those fresh ideas, what are some of those ideas you’re seeing, some of these owners bring to the table?
Greco: We’ve seen, so great call on the multi-store ownership. We saw it continue in 2022, and I think we’ll see that trend continue in 2023 as well. For some of our newer owners that have either purchased recently in the last two or three years, or some of the people that are looking to buy now, some of the ideas they have obviously surround how they can increase their cash business, not just through OTC.
It might be through other pharmacy services that they’re offering to the community. A lot of them are also partnering more and more with how they can grow their prescription side, but maybe not necessarily always through the administration of medications, or maybe it’s in tandem with medication and making sure that adherence is there, right?
For lack of a better term, making sure that people are staying healthy and how can they get incentivized through that. We’ve seen a lot of people collaborate with some of the PBMs or some of the local counties or cities that they’re in, communities that they’re in, to be able to do that.
We’ve also seen people continue to branch out into other niche offerings: compounding, care homes. A lot of people have not shied away necessarily from specialty; they may still be carving out a certain type of disease state that they’re working with their prescribers on, maybe not going full in, like we used to see back five or six years ago where you were a strict specialty pharmacy, but people are trying to, I think, diversify into that.
And obviously, some of our borrowers who were big in immunizations benefit tremendously from a lot of the COVID vaccines and COVID administration. So that was really big for them. I think that gained them also some goodwill and recognition in the community. So, all those things are part of what people are doing.
Bonnie: Yeah. I would say, I work primarily with transitions and those coming in looking at stores to purchase, and that’s exactly what I’m seeing. I had two calls yesterday with those who are buying, looking at buying existing stores. They’re not looking just to buy, they’re looking to buy and they’ve got all these big ideas.
So, like you mentioned, it’s definitely surrounding wellness, compounding, clinical kind of stuff. That’s what I’m hearing.
Scotty: It’s an exciting time, it really is. This is a transition in pharmacy that was really accelerated with the pandemic, and there’s no going back. I mean, you have got to transition, you have got to expand that role of pharmacy.
Scotty: Because that is the future. Would you agree with that, Greco?
Greco: Absolutely, absolutely. I think if, I think the number one message we give to a lot of people that are looking to buy a store or expand their store or come to us for maybe the first time…one of the biggest things we tell them all the time is that if you’re just going to rely on prescribed, prescription drugs, and that’s it, you’re going to have to have a lot of volume for that.
And some people do, some people are out there finding those nine, ten million revenues, 400, 500 scripts a day type of thing. That might be okay in the beginning, but we tell them all the time, how are you going to increase the gross profit through script, the gross profit per script, what are you going to do?
And that’s where some of the ideas are coming out on how to do that. Because if you’re just going to rely on the prescription, that might work for a short period of time, but for the long term and for growth, because people get into business for growth, that’s the point.
The idea of entrepreneurship, for them to be able to do that, they have to have these other ideas. And the answers are out there, just takes a little bit of work sometimes in collaboration, but we’re still seeing people very excited to do that.
Kendell: And I have a question. So, for a lot of pharmacists that I know I work with, with the DIR fees and the nature of the business, the cash flow is a little tight, and as a bank I know you’re a business partner that kind of helps to make different ventures, different ideas, the entrepreneurial spirit happen; they rely on you. So, if someone says, “I would like to get into compounding” or “I would like to maybe do more long-term care or specialty, but that’s going to even put a tighter drain on my already tight cash flow.”
Do you see pharmacists coming to you for opportunities to expand their current business model? Not necessarily buying a whole new one, but to just further expand the business model that they have…is that something that a bank is able to assist with?
Greco: Yeah, so to one of your first points, you’re absolutely right, Kendell. It is still a pretty thin margin business compared to when you look at some other types of business models, right? It is something where you still have to really watch your numbers and, that’s another thing, we encourage people to really fall in love with that common size P&L statement.
Understand your financials. You don’t have to be experts in it like you guys are, but it’s a really good idea to at least have an idea about where your wages are compared to revenues…because that will give you a good idea for the next point that you’re talking about, which is how do you get financing for capital for growth?
And to answer your question directly, yes, we are still seeing that. Yes, we still lend working capital. We’re not afraid of helping people grow their business, but primarily it’s because they already have a good business model. It doesn’t have to be great, but a good business model in place. If they’re struggling because of mismanagement or they haven’t really put in the type of programs to help grow the business incrementally year over year, that might be a little more challenging in those situations.
I encourage people to really focus on how to clean up the current house, but for people who have been running a good business and have new ideas for growth, and we are seeing a lot of them again because certain chains or regional chains are exiting, there’s opportunities there for loans to be serviced and we’ll help them with that working capital growth, be it $350,000, $500,000 or whatever the number might be, and we love partnering with people like that. So, I encourage anybody that has those ideas for 2023 to reach out to us. We’d love to partner and hear about what your plans are.
Bonnie: So, I’m going to go ahead and ask this question because I get asked by clients all the time. Since we’re talking about current trends, what are you seeing as far as interest rates? How is that looking moving forward in 2023, do you think?
Greco: Yeah, interest rates have definitely been a wild ride here, and it’s a hockey stick and it is cause for concern, obviously. I think anytime you have that many interest rate hikes in a short period of time, in tandem with all the information, you know, the proliferation of information that we have on our iPhones and news, it’s going to cause a lot of questions. And I’ve often wondered how many potential buyers that might have been put on the sidelines that never just thought about reaching out. Which is too bad because while you have to be concerned about the cost of the money, the interest rates relative to historical numbers and relative to what they could be in some other types of financing options, they’re still relatively low. I just think the rapid rise of it has caused people to do a double take. But I’ve always said this, that if individuals didn’t over-leverage themselves in the very beginning, they’re able to weather these types of increases.
And for us, you can’t undo a loan that you did. You can’t undo a financing project that you did in the past. But I’m very confident in the fact that we did, we do such due diligence. We provide borrowers with more wiggle room than maybe another bank might give so that they’re able to weather these types of increases. And I understand people’s concerns, but if you didn’t over-leverage yourself in the beginning, then you should be okay. Everybody’s situation is different, obviously, but that’s how I’m seeing it. Interest rates, I think, are going to level off. That’s just my own personal opinion. And then we’ll see what happens with the economy. It depends on what the Feds see and depends on which numbers they’re looking at.
Scotty: Greco, kind of give listeners some of the lending options you guys provide for those looking to maybe listen in, that’s thinking about buying a store or getting into ownership. Kind of walk through that from your perspective.
Greco: Yeah. Live Oak Bank is the number one SBA lender by volume. Our main product is the SBA 7a, which is a Small Business Administration, 7a product is one of our, one of our main products that we offer. We have non-SBA conventional loans, as well. We focus, I would say, first and foremost on, just like you talked about, transitions, mergers and acquisitions, and we run the gamut from the first-time owner to the multi-store owner who owns many. That’s something that we pride ourselves in, is being very, well knowing the space and helping individuals with the due diligence and the structure as well, right, making sure the structure of the loan, structure of the financing project is correct so they can be successful.
We also do commercial real estate projects, which I think we might see more of now that there might be a little bit of softening in the commercial real estate prices, because of the rise in interest rates. I always encourage pharmacy owners, if they can buy the building, do so because you control your own destiny, first and foremost, and you have an appreciating asset that you now own. Usually, for the most part, it’s going to be a rent replacement situation, wash out or be about the same. Usually, every situation is a little bit different. Then, if they ever decide and elect to sell the business, or after they pay off the loan and now, they have a, now they have a piece of property that they can rent out to the next person. So, we’ll do commercial real estate.
We do working capital loans for growth, like we talked about. We are also looking at doing and we’ve done in the past, backfill projects for those who might be looking. You know, a pharmacy exited, “Hey here’s a business plan I have,” we’ll do a back project. We do those a little bit more carefully because obviously they’re going to be projection based, so they’re startups even though there may have been a customer base that’s already there, but a lot of times those make a lot of sense. For the right project, we’ll do that as well.
Bonnie: Yes, we have seen a lot of successful backfills.
Scotty: They work.
Kendell: Is it going back to a little of pre-pandemic numbers? Some of my pharmacists I work with, meaning if I look at their gross profit and I look at their percentage of wages of gross revenue and things of that nature, the numbers, this, the end of 2022 is more comparable to around 2018 and 2019.
But I think a lot, a lot of you get used to the 2020s, and the 2021s really quickly. You just get used to that influx of cash that’s there, and you get used to the subsidies and maybe having a very high bank balance. it’s quickly how our mind adjusts and then the numbers go back to kind of where it was before on a month in month basis.
And it’s like, what’s happened? You know, the sky is falling. It’s like, well this is kind of how the pharmacy-
Bonnie: I hear that a lot. It’s like, what’s happened to my cash? Well, you don’t, you’re not getting all this free money right now. You know? That’s the difference. We have to go back to where before where it was, you know, more normal…ERTC…oh, I will not. Everybody’s declined ERTC, I’m over it.
Greco: Yeah. Quick question for you guys. As bankers we’re always looking at people’s debt service coverage ratios or liabilities, or we’re looking at a lot of that. What would you guys suggest two or three KPIs that people should know or, want to know going into 2023 to help prepare better?
Scotty: Well, you have to have that balance sheet tied down first and foremost. If you don’t have the balance sheet, you don’t have the P&L and then you don’t have anything. So, the balance sheet is going to be number one, tying that down, a full accrual balance sheet to give you the full picture of the pharmacy.
Obviously, your margin is extremely important. Where is that margin? Margins tied directly with receivables and inventory on the balance sheet. So those balance sheet items need to be tied down. You need to be doing everything you can on the inventory side, that’s a huge cost in the pharmacy, obviously.
Wages are clearly an area of opportunity in pharmacy. You’re seeing DIR fees continue to grow, but I can tell you that the pharmacies that are engaged, and I like to use the word engaged, in their DIR fees and they’re doing everything they can to manage it, understand it, know the payers, know the issues, concerns, know the underlying fundamentals of those DIR fees in their pharmacy.
Their DIR fees are usually less than what you typically see for those pharmacies that are just letting it happen, so being engaged in DIR fees. And then once you have those pieces in place, then you can start looking at your cash flow liquidity ratios. You know, where am I? Where’s the money coming out?
Is it debt? Is it personal distribution? Is my payroll too high? Then you can start putting together those pieces of where a cash flow concern might be. And then, of course, projecting out how you can plan for 2024 with your liquidity ratio and things like that.
So, it’s putting the whole puzzle together.
Bonnie: And you’ve had to be able to trust the numbers. So, like Scotty mentioned to me, it’s not just someone giving me an inventory number that they maybe cycle counted or, yeah, it’s really knowing a perpetual number, a perpetual, a great perpetual inventory system in place so that we know that inventory number that we’re getting is right.
Because the gross profit doesn’t really tell us anything. If it’s just coming from an estimate from, you know, same thing with third party receivables. There’s still lots of pharmacies that we come across that are out there that don’t have anything in place as far as keeping that reconciled; it’s an estimate.
Greco: Yeah, we see that a lot too.
Bonnie: But a good reconciliation service so, we know again, that’s a firm number. All that goes into the sales projection and the cost of goods sold inventory that actually gives you that gross profit number. So then if you, those two things are perfect, then we know that gross profit number’s right.
Otherwise, it could be off.
Greco: Yeah. Yeah, it could be off and if you’re off by a percent or two, that makes a big difference to the bottom line.
Bonnie: That throws all your other KPIs off.
Scotty: Greco let me ask you a question here. How much weight is the, and you might not be able to answer this, I don’t know, but how much weight is you guys, the underwriting, how much weight are you guys putting on just, pharmacies looking to purchase pharmacy where they’re not, there’s no, I’m having a hard time putting this together.
Greco: I know, I think I know what you mean. Where there’s not those types of things you guys were all talking about.
Scotty: I’m talking about the top line. So, if a pharmacy comes to you where they’re just filling scripts, as an underwriter you might be saying, hey, that’s, I don’t know.
You want to see pharmacists coming in that are going to grow that top line other than just maybe fill scripts, right? How much weight are you putting on that?
Kendell: Diversification of the revenue. Like how important the diversification of the revenue is, but outside of fulfilling prescriptions.
Scotty: It almost seems like going forward it’s going to be a requirement in the pharmacy. You’re going to have to find something other than just filling scripts.
Greco: Yeah. I think I understand what you’re, what your question is. It’s a nuanced one because you have to look at it from the perspective, if someone’s buying a pharmacy and let’s say an individual’s owned one for 20 or 25, maybe even more years, you, you almost can’t get, critical of the current owner because that’s what it has always been, right?
Yeah, it’s worked. So, I think you have to look at what are the trends of those top lines. What do they derive from, are there any concentration risks in any one particular medication that’s causing, or any one particular prescriber? So, that’s the first thing you have to look at, right? Then you have to say to the new owner, and I think Scotty, this is to your point.
Okay, so this is what the current owner’s done. We want to make sure that you understand that you have a smooth transition with it. That’s that transition period between, when the new owner takes over and the old owner exits out. Because you want that to be smooth and, as people in the industry say a kumbaya phase, right?
But then the question does become, okay, so what’s your plan then afterwards, after that? Quantitatively and qualitatively? That’s where the questions become in your projections, and to any new owner who’s thinking about buying, yes, you have to put together projections, no, they do not have to be equal to what the Federal Reserve might project on, on where the economy’s going.
It’s just very simple, right? I’m going to increase revenues by one or 2%, and here’s how I’m going to do that, and if it’s in my prescription side, okay, what’s my average, revenue per script today? Where do I want to take that and how am I going to get there? If it’s going to be more in, hey, I think my revenues are only going to incrementally increase, but gross profit’s going to go up, how are you going to do that? It might be just as simple as managing inventory better, right? I think you guys hit on something, which is the biggest low hanging fruit for any new owner is, implementing a perpetual inventory system where the current owner may not have done that because frankly, they just never needed to or maybe they were a little scared to do that because it was change to the staff and it involved technology. I think that’s one of the biggest low hanging fruits. We have some clients, here in my area, in California, who purchased a pharmacy, and it was a good one, but they’ve just knocked it out of the park from there.
One of the first things they said when they got in the current inventory, the current owner always carried roughly between 350 inventory, right? And they said that they were able to manage it on 150. At first I was kind of like, that seems thin, but because they implemented perpetual inventory, because they started to get people on Medsync so that they had more of a predictive approach to their inventory and they were really able to do so, and today they’re running upwards to a $9 to $10 million pharmacy on what, I think from the, if we all looked at the inventory number, we might be like, that’s not possible, but because they have these systems in place, you know the cash isn’t getting held up on the shelves with the inventory. So, I always think that’s one of the first low hanging fruit things that a new owner can do.
Bonnie: Yeah, well that’s kind of the question I was going to ask you. because I get this a lot, again, working with people that are looking to purchase stores and, Greco we’ve done the NCPA Ownership Workshop.
Greco: Yeah. Together many times.
Scotty: Nice plug there, Bonnie.
Bonnie: But I get asked a lot,…oh, it’s not just a plug. I mean, that’s the place to be [Pharmacy Ownership Workshop] if you’re looking to start. One is a virtual one. I’ll do one extra plug, a virtual one is coming up here at the end of the month. It is, and I’m sure you can still sign up. I think it’s that, what, the 28th and 29th.
But they ask that you know, obviously that you guys want them to have good credit, you want them to have a good business plan, but you know, I get asked a lot how much of that do you look at the person and you’re really actually just analyzing whether or not that person has that entrepreneurial spirit and they because, I know you feel it, us you know, you talk to some people sometime and it’s you just know if you didn’t even hear their plan, you can just tell in their, in what they say and how they act in their, everything about them, you know, they’re going to be successful and you’re usually right about it. But how much do you guys weigh on just kind of your, your gut feel on that?
Greco: Yeah, I mean, that’s kind of where it gets a little more of an art than a science. The science is the numbers, right?
So first and foremost, you never want to have somebody go into a project where the numbers don’t make sense because you know, negative trends are not easily reversed. So, we have to make sure that someone is going to be able to pay the debt day one as the business is right? Now, where that comfort level is depends a little bit on what you’re talking about, Bonnie, on the qualitative side of somebody, and we’re willing to, we’re willing to partner with the right person and get them in a little tighter deal at the current time, and I’ll, and because they have these great ideas on how to grow the business, they have this plan. They may even have a track record of doing so in the current business that they’re in, and that can give us a lot of faith that hey, they might be at a little thinner debt service coverage today but because they have these ideas and we’ve seen them work in the marketplace, they’re not like first time ideas out there, then they’re going to increase the business. It might take a little bit of time, but that’s in there. Another factor too, that we’re seeing more and more of is a leadership factor, right?
How to get their employees to be engaged in the business. I think that’s an often overlooked aspect of things. We’re always so focused on how you are going to grow the numbers. How are the numbers? How are the numbers? How are the numbers? How are you going to manage people? That’s the qualitative side of things, the emotional intelligence.
How are you going to lead? How are you going to sell? How are you going to sell your services to the community or to the prescribers or to these individuals where you want to go after the business? So, that’s a big thing too. But all those things we put them in and that’s where the science becomes, right?
All the years that we’ve been doing this and the years that I’ve been in this space, you start to develop a good keen sense of where and who to put a lot of faith in.
Scotty: That’s a great point there, Greco. The team environment and how you can lead your team because it is a pretty common denominator when you see success in a pharmacy, it’s usually the team is fully engaged in every bit of that pharmacy. We’ve got a lot of examples of that for sure. Greco, I guess we, we wrap it up here with the bottom line and a summary of what your bottom line is.
So, who wants to start it? Bonnie, how about you start us off on the bottom line today?
Bonnie: Well, I’m just going to reiterate what we just said because that’s huge. We see that a lot. I can name three or four right now of pharmacies that we work with that have an awesome team. I think that’s a big key in what Greco is talking about, what they’re looking for when they’re looking at, standing behind someone with a loan is that you’ve got someone that’s a great, has a great potential to be a good leader and have that team behind them that’s going to stick with them, thick or thin, and grow that pharmacy.
Scotty: Very nice.
Kendell: Very good.
Bonnie: Something you wouldn’t think about with lending, I just learned that. So, that’s my bottom line.
Kendell: I’ll shoot next. I think, obviously as accountants, we work really hard to execute the numbers, but one thing, Greco, you highlighted several times is that as a pharmacist you don’t, you have to at least understand or have a high-level touch point on what your numbers are.
So, we have to work day in and day out to make sure the numbers are right, but at the very least, for a pharmacist, periodically they should have an understanding of where they’re at. And with this ever-changing market, I mean last year, it’s all the money coming in this year, it’s the DIR fees, all the money leaving.
It’s just, you know, you can’t really control the wind, but you can set your sails. But the only way you can set your sails is if you know where you’re at currently. So, know where you’re at and be able to be nimble with all the changing forces that are coming.
Scotty: That was well said there, Kendell. Yeah, that was deep.
Bonnie: That was deep, Kendell. It was good.
Greco: Yeah, that was good.
Bonnie: Well spoken.
Scotty: I’m just going to have to, I’m going to go with the, I guess I could go with a couple different bottom lines.
Bonnie: You can’t follow up after that one.
Scotty: That’s a wrap!
I guess I’ll just say you know, I guess the theme, what, what kind of theme [pharmacist TW Taylor] started with, mindset. You know, it’s about that mindset. I’ll just keep saying what I’ve always said, I think there’s more opportunity in pharmacy today than there’s really ever been, to really grow into those healthcare community centers, for their communities.
It’s an exciting time if you’re looking to get into it. And Live Oak Bank, you guys have the experience to, to help those pharmacies. So that would be my bottom line.
Greco: All right. I am going to try my first bottom line here. See, see how I do? I hundred percent agree on mindset. I think people need to be prepared for, that it’s not going to be easy, but the opportunities are there and it’s how you are going to achieve them and how you’re going to approach them is really going to be the defining reason for your success.
I love that idea about mindset. And, and I’ll just encourage everybody, whether you own a pharmacy now or you are thinking about owning a pharmacy, understand those numbers, know the numbers, just get familiar with them. And then you’ll have a partner like myself and my team at Live Oak Bank to walk you through what they mean and how they impact your future.
Because for a lot of people out there, buying their business is the largest asset that they will ever own and biggest purchase they’ll ever put in. People put in their entire lives on this. So, don’t just guess. Don’t just, don’t just think it’s going to work. Know it’s going to work and…
Scotty: Go to the NCPA Ownership Workshop.
Scotty: There’s that plug.
Scotty: There is a strong correlation with success and that workshop. I can tell you that.
Bonnie: For us, especially, I can’t tell you how many clients we’ve got that have a successful pharmacy and they’ll tell you that’s where they started. Got to be something.
Greco: Well because you’re around a lot of other people that want to be successful too.
Bonnie: Yes, it’s a great group to feed off of.
Greco: Yeah. The old saying, proximity is, there are successes a lot about proximity, right? Proximity to successful people.
Bonnie: Kendell and I were on one not long ago that, there were folks on there that were still in school.
Kendell: They’re ready.
Bonnie: They wanted to jump in and learn.
Kendell: You create relationships that you’ll utilize. It’s not just that weekend. Those relationships that are built are going to be a part of your, you know, like your cabinet of advisors that you’re going to keep for the duration of your career as a pharmacy owner.
So, I think that’s huge.
Scotty: Greco, Live Oak Bank does present at that program. Yep.
Greco: Yeah, I’ll be presenting. Always enjoy presenting that, you know, always look forward to that. And, people know that have worked with me, it doesn’t stop there. I’ll continue to help them and walk them through a lot of information.
Yeah, I’m passionate about education, always passionate about that.
Scotty: Well, we appreciate you getting on and sharing your passion with us today, Greco. We’ll have to do it again sometime soon. All of you out there listening, we appreciate you listening in. If you have any questions, comments, let us know.
Ask Sykes at sykes-cpa.com and like, subscribe, all that good stuff, share whatever we would appreciate it. So, thank you all and thank you, Greco.
Greco: Thanks a lot everybody and have a great 2023.