The Dental Practice Sale

Every dental office sale requires that dental buyers, dental sellers, and attorneys agree to several, major deal points within the asset purchase agreement. Keep in mind that these negotiated deal points come after both parties have agreed to price and timing, and, while most of them are typical in the business-selling world, some are specific to dentistry. Below are our top 10:

The buyer will most likely be purchasing the assets of the dental practice rather than the seller’s corporate stock (assuming seller is established as an S or C Corporation). For tax purposes, the purchase price of the practice will be broken down into categories including supplies, furniture & equipment, non-compete, personal goodwill and corporate goodwill. How the price is allocated to each of these categories impacts the taxes for the seller and the depreciation schedule (future taxes) for the buyer.

As a general rule, approximately 75-85% will be allocated to goodwill, unless all of the equipment is brand new. Most buyers and sellers ask their accountants to provide and agree to the allocation.

Because payment for work done by the seller prior to the sale will be received by the buyer, the parties must agree how this is to be treated. The easiest and cleanest way to do this is for the buyer to purchase the accounts receivable at the same time they purchase the practice. This is done at a discount using a sliding scale. For example, the buyer would pay 90% of A/R in the 0-30 day tranche, 80% of A/R in the 31-60 day tranche, etc. There are three reasons for the discount:

1. The seller receives the money now rather than waiting.
2. The buyer now assumes the risk of non payment
3. The buyer will be paying staff in order to collect the funds.

When purchasing the A/R, the calculation is customarily done one day prior to closing. If the buyer does not buy the A/R, the front desk will need to keep careful records of payments received, and buyer and seller will need to develop a method of depositing the seller’s money in the seller’s account. There is generally a 5% fee the seller pays the buyer for administering AR collections.

Delta Dental has discontinued its Premier reimbursement rates for all new contracts. This means the buyer will only be able to receive Delta PPO rates, which are generally 25%-40% lower, depending on the sellers UCR schedule. If the seller is a Delta Premier provider, the buyer will most likely experience a reduction in collections for Delta patients (the difference between Premier and PPO fees). This is an important disclosure when buying and selling a practice and could make a significant impact on the value.

The covenant not to compete ensures that the seller does not open a competing practice near the practice being sold. These covenants are usually for a specific period of time and specify a distance from the practice, 5 years and 15 miles for example. While these numbers are negotiable, the buyer should take great care in analyzing the impact of this covenant. This particular deal point should be addressed upfront on the letter of intent. Keep in mind that there is still some question as to the enforceability of this covenant in California.

Similar to the non-compete covenant, the seller must covenant not to solicit the dentist’s office patients or staff from the practice being sold. Doing so would be detrimental to the buyer and the buyer’s success. When buying a practice, a buyer relies on the staff staying in place and all patients staying with the practice (except for those noted by the seller such as family and friends).

Retreatments can be burdensome for a buyer. A clear understanding of how retreatments are to be handled post sale is critical. Customarily, if a patient needs retreatment, the buyer allows the seller to perform the work in the office. If the seller is not available, the seller will pay the buyer a percentage, 75% for example, of the office’s normal fee for the work. This agreement is usually in place for a specific window of time, 12 months for example, and may already be agreed to as part of the letter of intent.

Similar to retreatment, work still outstanding that the seller is obligated to will need to be addressed. If the seller is going to remain working in the practice, the seller can perform the work uncompensated and reimburse the buyer for supplies and staff of the dental practice. If the seller is not able to perform the work in the office, then the seller should agree to pay the buyer for the work. If possible, the seller should try and complete any outstanding procedures prior to the sale.

Supplies must be maintained as if the practice was not being sold. Customarily, supplies and inventory should equal to approximately 15 days of normal operations and be completely paid for prior to closing.

Generally when selling a practice, the buyer can assume that all of the equipment, tools, cabinetry, leasehold improvements, computers and furniture convey to the buyer with the practice. Occasionally a seller will not include certain items. Often these are personal items (personal computer, pictures, etc) but occasionally significant assets may be excluded. It is important for the seller to disclose any items that are not included, so the buyer can properly value the practice. In addition, banks require a detailed inventory as an exhibit of the purchase agreement to have a record of the assets purchased.

An indemnity clause in the APA protects each party from claims arising from events which happen outside of their ownership of the dental practice. The seller indemnifies the buyer from claims which arise during the seller’s ownership, and the buyer indemnifies the seller from claims which arise during the buyer’s ownership. In this way, the selling dentist is protected against future claims and the buying dentist is protected against past claims.

In this weeks episode, we talk with Dr. Landon Libby and his wife and right arm in the practice, Nichole Libby. In five years they've purchased three dental practices, rolling each new practice into their own. Through leadership and culture management, they've built  a premier practice. Listen and learn how they did it. 

Preparing your dental practice for sale is much like selling any other business. When you increase income and decrease expenses, the value goes up. Conversely, if you have high overhead relative to your collections, the value of your practice decreases. High overhead might be attributable to

1. Staff costs that exceed the dental industry average. For a general dentist, that would be approximately 28%. High staff costs don’t just happen overnight. They happen when you continually give pay increases without corresponding increase to your collections. In heavy PPO practice, this trend has been common over the past few years due to a loss in Delta Premier and general lowering of contracted rates.
2. Facility costs (rent/maintenance) that exceed 10% of collections. We’ve found that practices with the highest value don’t correlate to practices with the nicest offices. And remember, you may only get 25 cents on the dollar, or less, of the value of a buildout/remodel when selling your practice. Hence, we don’t advice doing one within 5-7 years of selling your dental practice.
3. General spending in other areas that don’t affect your collections.

With that in mind, if selling is on the horizon, there are things that you can do now to prepare your dental practice for sale. Anything to streamline the health of your dental practice and your financial statement should be done as soon as possible. Buyers and banks like to see seasoning, or an amount of time to prove effectiveness. For example, you can’t just fire your staff one day and then expect to benefit from the savings the next. Banks usually use 3-year averages, so it takes time to make meaning adjustments.

As mentioned, increasing collections is an obvious start in increasing dental-practice value. Chances are though that if you are considering selling your dental practice, you might be out of gas and not excited about taking on more advertising, attending more study clubs or learning specialized skills. You may have even seen collections start to trail off. If this is the case, I would recommend selling immediately. The last thing you want is a “falling knife” scenario where collections are trending downward, and no one can predict how far down they will go. But if you’ve got some fumes left in the tank, then work to get those collections up. Upward trending collections allow banks and buyers to put more weight on the most recent year, and this can be a good thing—like the COVID rebound most dentists experienced in 2021.

Next, take a look at your expenses. Trim everything you can. Do you really need Netflix, Hulu and AppleTV+ in the office? Can you find a cheaper and comparable lab? There is always something. The largest portion of dental office expenses is in payroll. You’ll want to be careful here, especially in the current labor market. Finding good and devoted staff is tough. You may find that you actually need to hire staff, such as increasing hygiene days by hiring another dental hygienist or even looking for a hygienist with extended function to free you up to do more specialty work. Leveraging staff for higher collections is always a good thing.

Lastly, consider tiding the place up. As mentioned above, I wouldn’t recommend a full remodel, but if the walls are chipped and dirty, paint them, if the floors and carpet are scuffed and worn, fix or replace them. Is your cabinetry a strange color from the 70’s? If so, consider a cost-effective way to update them by refinishing the doors, for example. As we know, these office cosmetic touches may not sway the banks since they rarely ever see a practice, but they will influence and motivate buyers. The more dental practice buyers you get writing offers, the higher the price will potentially go. So don’t hesitate to take action now. Just like regular brushing and flossing, hard work and effort will pay off in the future.

In today’s show, we interview Dr. Nick Marongiu. Nick owns and operates a very large, single-location multi-specialty practice in La Jolla California called Scripps Center for Dental Care. We learn about Nick’s journey from Loma Linda, where he graduated in 2010 to stepping into a strong practice in 2013 as a partner and then doubling it by the time he purchased the remaining equity in 2019. With 11 operatories and 10 providers, many of who are specialists, it truly is run as a multi-specialty practice. Learn about how Nick branded his company separate from himself, how he’s working into a position where leadership and management are even more important than his clinical production, and how he’s created a purpose-driven practice built on detailed business processes. If you’re interested in growing and branding a practice that’s bigger than you, tune in. There’s great content for you here. 

Episode Summary:

In this episode, we dive deep into the intricacies of valuing dental practices, particularly in the context of partnerships. We break down key valuation concepts for general practitioners (GPs) and how factors like cash flow, overhead, and goodwill contribute to a practice’s overall worth. We also explore different partnership models, including associate buy-ins and common pitfalls when transitioning from associate to partner. Gain insight into how practice owners and associates can fairly assess and negotiate valuations to build equitable and sustainable partnerships.

Key Points:

1. Understanding Dental Practice Valuations: Importance of cash flow, overhead, and goodwill in determining a practice's value.
2. Associate Buy-In Models: Different approaches for associates buying into a practice, including up-front 50% buy-ins and phased purchases over time.
3. Calculating Ownership Value: Methods for estimating buy-in costs for associates and considering contributions to the practice’s growth.
4. Equity Distribution and Decision-Making: Pros and cons of 50-50 ownership versus minority stakes, and how these impact authority and motivation.
5. Potential Pitfalls in Partnerships: The need for clear agreements around patient distribution, revenue sharing, and equity to avoid conflicts and financial imbalances.
6. Importance of Professional Guidance: Engaging accountants, attorneys, and other professionals to ensure fair valuations and sustainable partnership structures.

#DentalPracticeValuation #DentalPartnership #AssociateBuyIn #DentalBusiness #DentalFinance #PracticeGrowth #DentalPartnerships #Goodwill

The year 2021 will g down in the books as our "rebound" year-the year the dental industry clawed its way back to the new normal after COVID. Most dental practices experienced a robust rebound as patients came back after long absence from treatment. This led to increase collections, full schedules and, oddly, a challenging labor market. We expect 2022 to continue this trend and remain a strong seller's market for those selling their dental practice. However, several risk factors could derail the trend. These include COVID resurgence, adverse tax changes/shortage, and global economic and political shifts.

While we don't expect another full dental shutdown like we experienced in early 2020, a COVID resurgence may cause patients to push pause on dental treatment. This will differ from 2020 when patients "couldn't" get treatment to a situation where patients "wouldn't" get treatment. Should this happen, we expect downturns to follow the weather, viruses historically being more active in the colder months of Q1 and Q4. Dental practices can attempt to insulate themselves from patient continuousness by promoting safety and protocols, being diligent about staying in contact and even upping penalties for cancelations. ON the flip side, dental practices may also experience further staffing strain due to COVID flare ups, whether staff become infected or fear exposure by being chairside all day. Offices should have clear COVID policies and double ensure that staff remain safe and comfortable. Retaining staff in your dental practice will be as important as unlocking the front door in the morning.

On the subject if staffing, office values can be adversely affected by loss if staff and even newness of staff. Dental buyers know that hiring new staff members is extremely challenging in the market with many staff members tempted to move for higher pay and/or locations more proximate to their homes. This is especially true with hygienists whose payrates have seen double digit increase in 2021. These payrates have seen double digit increase in 2021. These payrates may continue to increase as finding skilled hygienists remains challenging and doctors are reluctant to sit at the hygiene chair themselves. For buyers, considering a practice without a hygienist is almost a nonstarter. Other staff members are equally important. Doctors who are selling to relocate and attempt to take staff members with them will likely experience considerable downward pressure on the pricing.

Although Staffing will remain a challenge, possibly the greatest risk facing the dental transition market is capital, i.e., banking. While most do not consider a dental office as being global, most would agree that banking is. The recession of 2008 started in the capital markets when large pools of securitized loans (CMBS) could no longer be sold. This caused an immediate banking shutdown, which lasted for months. The world has since cautiously restarted the CMBS engine, but other events can and will affect banking, and banking could be considered the most important reason the sakes market is currently so strong. Buyers of dental practices can borrow below 3% right now-historic lows in most of our lifetimes. While we expect this to last for 2022, we are anxious about unrelated events that could cause banks to pump the brakes-events like China's faltering commercial real estate market or continued lag in the supply chain...among a long list of others. If banks pull back, practice sale will slow considerably, and lending may only be available to A+ credit borrowers. In these cases, we anticipate loan dollars receding from higher near 90% of collection to amore conservative range of 70%-80%.

We continue to encourage dentists considering a sale of their practice in the next 2-3 years to consider a sale sooner. With current market dynamics, many sellers of dental practices are being spoiled by multiple offers from eager buyers looking to leverage historically low lending rates. Plus, increasing collections, which was commonplace in 2021, have further fueled the confidence of buyers and aggressive valuations by banks. However, be on the lookout for events which won't necessarily seem to directly impact the dental industry. These global ripples can have adverse effects on patients, staff, banks and values. While we still feel confident that we can "hope for the best" in 2022, it is prudent to consider a "plan for the worst" strategy as a cyclical swing could be on the horizon

What makes for a happy "business marriage" between two or three dentists? Why do dental partnership fail at frequently? Will a dental partnership help me compete more effectively in the dental market?

In this episode, we interview Bob Spiel and Bryton Nield, founders of Dentist Partner Pros (formerly Dentist Hiring Pros). Bob and Bryton spend most if their time helping a single doctor practice owner find, vet, and onboard partner. They outline the process of partnership that leads to a healthy, productive relationship in which one plus one equals three, both in professional enjoyment and financial reward. If you are in a dental partnership, or would like to be part of one, tune in. Lot of great content in this episode!

Episode Summary:

In this episode, we dive into the essentials of forming a successful dental partnership—a vital strategy in today's challenging economic landscape for dental practices. Our host draws on over 15 years of experience to highlight the financial benefits of partnerships, explaining how joining forces can alleviate cost pressure, increase profitability, and create a supportive work environment. Key discussion points include the importance of chemistry, shared clinical philosophy, and profit allocation between partners. Tune in to learn to navigate potential pitfalls and maximize the benefits of a dental partnership.

Key Points:

1. Benefits of Dental Partnerships - Understanding the economic advantages of sharing cost structures to boos take-home profits and enhance wealth-building.
2. Three Pillars of Successful Partnerships - Chemistry, shared clinical philosophy, and equitable profit sharing as the foundation for a harmonious business relationship.
3. Financial Insights on Cost Structures - Explanation of fixed vs. variable costs in dental practices and how partnerships can optimize expenses.
4. Navigating Challenges in Partnerships - The common reasons for partnership dissolution and the complexities of handling conflicts.
5. Evaluating Chemistry and Communication Skills - Why strong interpersonal skills and trust are crucial for long-term partnership success.

Valuing Dental practice is one part science and one part emotion. The science is the numbers—what the bank sees and uses to calculate the amount they will loan. The emotion part is everything else—the location of the dental office, condition of the equipment, the patient base, the recall program and many factors. As mentioned in the previous post, because bank make 100% loans for dental practices you can reasonably assume that Loan Dollars = Purchase price; i.e. the selling price is generally close to whatever the bank will lend. This makes understanding how banks approach valuations extremely important and how the emotion piece factors in with buyers

Rarely do bankers visit the practice in person. Typically, bankers review and loss statements, tax returns and production reports to make their decisions, and the emotion piece rarely factors in. In doing their assessment, banks try and determine what the true income and expenses of a dental practice will be for the buyer. This process requires them to strip out certain income and expenses that the buyer will not earn or incur. They call this income and expenses "add backs". For example, if the dental practice received $50,000 in government stimulus (e.g. PPP loans) and it shows on the profit and loss statement under income (collection), they will reduce income by $50,000 since that is no recuring, expected income in the future to the buyer. Similarly, they will go line by lone through the seller's financial statements looking for expenses that the buying dentist or, more specifically, the dental practice will not have to pay. These often includes the things like the selling dentist salary, associate pay if the buyer is going to cover the associate's production, loan interest, depreciation, travel, cell phone, auto, kids on payroll, etc. Once the bank has generated a profit and loss statement with add backs, they can apply their underwriting formulas to the collections and profit to determine the amount of the loan. A general rule of thumb for the banking formulas is 85% of collections and 2.2 times the profit. Where this two formulas intersects is approximately the value of the practice...at least in the mind of the bank. And more specifically, banks calculate a "Global Debt Coverage Ratio". This ratio is calculated by taking the expected net profits of the dental practice and dividing it by the sum of (1) all debt payments in the practice and (2) all debt payments outside if the practice. If the buyer does not have a home loan, the bank will impute an estimated rent. If the net cash flows are at least 1.25 times the global debt payment requirements, then they will generally commit to that loan.

Now, it is not entirely accurate to suggest that dental lenders are mere robots with simple inputs and outputs. They do consider other factors such as the total amount of debt the buyer has and whether the buyer's clinical skills and production matches those of the seller. Do they care if the chairs are new from A-dec or used from 1976? Not so much. This is where emotions comes in. I call it emotion, but it is more the characteristics of the dental practice that motivate buyers to want to buy it. For example, would you rather have a 3-op practice in Coronado? The characteristics of the dental practice also paly into value. not so much on paper, but in the actual process of selling it. These are the things that generate tours, get people talking, motivate dental buyers to write offers and competes for the opportunity. More ops, nicer equipment and better locations allow me to push value while fewer ops, older equipment and tertiary locations sometimes leave me wondering if the practice can even be sold. In special cases with special dental practices, I have even had buying dentists offer to pay more thank the bank will lend. Why? Sometimes good practices are hard to find and when you are trying to be picked as the buyer it makes sense to write a check.

To sum up, valuing practice can be both scientific and emotional. Understanding how each play off the other and results in a final practice value takes understanding, practice and time. If you are a dental practice seller, consider ways to increase your collections, reduce your expenses and spruce up the office. These efforts will increase you value and hasten the selling process. If you are a dental practice buyer, you will rely heavily on your banker to help you what you want to offer, but keep in mind there is more to it than what the bankers see, and you are likely competing against other who want the same thing you do. Being aggressive and building relationship with the seller will be key to winning. Good luck out there!

In this week's episode , we have Dr. Jared Lee and his wife Kristin on the show to discuss their journey toward their 10-year goal of financial independence.  Dr. Lee and his wife give a great perspective on important course corrections and their move to Juneau Alaska in search of a great (though challenging) opportunity.