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The bubble is about to burst for group dental practices looking to sell. Here's what to consider.

Group dental practices looking to exit: Proceed with care

March 27, 2024
The bubble is about to burst for group dental practices looking to sell. Here's what to consider.

There has been a dampening effect on private equity (PE) appetites for group dental practices over the last 18 months as lending rates have increased. PE firms have been quietly renegotiating loans in default. And across the country, PE-backed credit is also drying up even for well-run, profitable DSOs.

Yet, despite these multiple warning bells, many average group dental practices are still hoping for large valuations and exits. Our prediction? The bubble is about to burst for group dental practices anticipating a massive payday.

But there is good news: as the market comes back into postpandemic equilibrium, group dental practices still have many options to prepare themselves for a changing economy and ensure that their businesses are positioned for success.

Operational excellence never goes out of style

Due to multiple interest rate hikes since spring 2022, along with other factors, we are entering a slower, more cautious market environment. This is a distinct change from the feeding frenzy of the pandemic when group dental practices of varying quality were snapped up by PE firms and private equity-backed DSOs focused on building volume. With valuations dropping and the cost of capital being redefined, group practice owners should refocus on operational excellence. Those who build great businesses will be rewarded with higher future valuations, favorable structures, associate acquisition and retention, and other growth opportunities.

Consider your options

Exits and M&A activities are still viable options, as the general and specialty dental industry still has a long way to go before being considered consolidated. Today, approximately 35% of DSOs are PE-backed, and another approximately 25% are debt-funded, clinician-led group practices. The remaining balance is made up of solo practices. Industry consensus is that full consolidation will be achieved when the market reaches 75%–80% PE-backing, but our opinion is that it will be closer to 10 years (or more) before that outcome is realized.

Different funding models may be a better fit for specific practices at different stages, particularly depending on an owner’s selling price, desired equity, and personal interest in staying on with the parent company postsale, among other considerations. It is critical for doctor-led group practices interested in an exit to consider their own nonnegotiables, have a comprehensive understanding of their options, and understand reasonable expectations to be able to successfully complete a favorable transaction.

Do your due diligence

As the market shifts, some doctor-led group practices are still operating under the assumption that massive payouts, or deals that promise huge returns, are the standard. However, based on our experience, we advise that if doctor-led group practices have received an offer that sounds too good to be true, it is prudent to check the fine print. In addition to understanding how their organization will be affected, owners should do their due diligence on the buyers.

There are essentially two types of buyers group owners should be aware of: strategic buyers and financial buyers. A financial buyer is a PE group, family fund, or other investor who is going to make an investment in your business in exchange for an ownership stake but is likely not going to bring resources other than cash to the table to build a bigger business.

Strategic buyers, often existing enterprise-level DSOs that are already operating in the marketplace, are typically PE-backed entities and their partners tend to recapitalize the business every five to seven years. This means one PE group reaches their internal rate of return expectations and sells their position to a new incoming group.

Both options carry their own risk and opportunity, which must be weighed carefully by owners.

Favorable outcomes are possible

Despite current conditions, the truth is that the market is cyclical, and different times simply require different steps to realize successful outcomes. More creative approaches, a structure that provides value from a source less impacted by credit concerns, and competent advisement can protect doctor-led group practices from costly mistakes.

That said, it’s also wise for doctors to right-size their expectations after the boom of the pandemic. While some doctor-led group practices experienced record-setting payouts during the pandemic, it’s not always reasonable to expect that your business is going to generate millions of dollars without some measure of risk. Unfortunately, many doctor-led group practices go in with unreasonable expectations around the process, outcome, and the actual dollars of an exit.

Understanding cash, equity, and multiples and how they affect future outcomes is critical to ensure that you’re left satisfied with your transaction and the level of risk you are assuming. A deal structure for someone looking to walk away from business operations next year may look very different than someone interested in working for another decade for a bigger potential payout.

What’s next?

As pricing eases, the market will certainly start to rebound, but it will also most likely reflect a more disciplined approach to both valuations and the pace of activity. While there are still plenty of opportunities for group owners looking to exit, it’s wise to anticipate that the path to success will look different for the next several years than it has in the recent past. Whether professionals are looking for an exit near-term or years from now, by focusing on streamlining operations and building scalable systems, group dental practices can be assured that by proceeding with care, successful outcomes are always possible. 

Editor's note: This article appeared in the March 2024 print edition of Dental Economics magazine. Dentists in North America are eligible for a complimentary print subscription. Sign up here.

Perrin DesPortes, cofounder of Polaris Healthcare Partners, heads the strategic consulting and M&A advisory firm that helps group dental practice owners and clinicians unlock potential and create generational wealth. Perrin brings more than 25 years of experience in the business side of dentistry, having started as a fourth-generation family member of Thompson Dental Company, then as a general manager for 15 years with Patterson Dental Supply. For more information, visit polarishealthcarepartners.com.

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