Selling a dental practice is one of the most significant financial and professional decisions a dentist can make. Yet, many practice owners unknowingly sabotage their own transitions by relying on advisers -- such as certified public accountants (CPAs), general brokers, or attorneys -- who may lack dental industry-specific expertise.
Kim McCleskey.
While these professionals may be well versed in general business transactions, the nuances of dental practice valuations, deal structuring, and market positioning require specialized knowledge. Without it, practice owners risk undervaluation, poor deal terms, and lost opportunities that could cost them a substantial portion of their practice's value.
How the wrong adviser can block the perfect partner
A real-world example illustrates how damaging poor advice can be. Recently, we worked with a dentist who identified an ideal individual buyer -- someone with the right financial backing, clinical skills, and vision to take over the practice. The buyer was prepared to move forward, and the seller was willing to stay on for a few years to mentor and train the buyer, ensuring a smooth transition.
In many dental practice deals, this arrangement is critical for ensuring continuity and fostering long-term success. However, the buyer's CPA, unfamiliar with the dental industry, advised against the sale based on flawed assumptions about operational complexities.
The CPA believed the buyer lacked experience in the practice's specific workflows and billing processes, failing to recognize that the entire team, such as the front-office staff, was already trained on how to handle these systems. Moreover, the seller's willingness to stay on as a mentor provided an extra layer of reassurance. But because of this advice, the buyer walked away from a strong offer, losing an opportunity that may not come again.
Misvaluation: The hidden pitfall
One of the most common mistakes non-dental-specific advisers make is misvaluing a practice. Unlike other small businesses, a dental practice's value extends beyond just revenue or net profit. It hinges on factors such as:
- EBITDA vs. SDE misinterpretation: Many CPAs unfamiliar with dental merger and acquisition (M&A) transactions incorrectly equate the seller's discretionary earnings (SDE) with earnings before interest, taxes, depreciation, and amortization (EBITDA). While the SDE represents the true take-home pay for a practice owner, including salary, net income, and personal expenses paid for by the practice, EBITDA reflects a practice's operating profitability. EBITDA is used primarily by buyers, such as dental service organizations (DSOs) or private equity (PE)-backed groups, that are looking at the practice as an investment rather than a personal income source. In these cases, EBITDA shows the profitability of the practice if someone else were to handle the operations. When miscalculated, this can lead to significantly lower valuations when selling to DSOs or private equity investors.
- Operational misunderstanding: Advisers outside the industry often don't grasp the unique cost structures of a dental practice, such as how hygiene production impacts profitability, the role of specialty procedures, and overhead expenses like lab costs and dental supply management. If an adviser lumps all expenses into broad categories without industry benchmarks, they may inadvertently misrepresent a practice's true earning potential.
- Misclassification of expenses: CPAs unfamiliar with dental practices often incorrectly categorize expenses, such as payroll allocations, lab fees, or equipment purchases, which can distort profitability calculations. These inaccuracies become apparent during a buyer's due diligence process, leading to renegotiated offers or sometimes even deal terminations.
The cost of poor negotiation strategies
Even when a practice is accurately valued, an inexperienced adviser unfamiliar with dental transitions can leave money on the table by mishandling negotiations. The dental industry is undergoing rapid consolidation with significant M&A activity, and sellers who lack proper representation may fail to capitalize on competitive offers that exist in the current environment. Some of the potential results can include:
- A lack of leverage in negotiations: Brokers who do not specialize in dental transactions may not understand the competitive dynamics between DSOs, private equity firms, and private buyers. They may accept the first offer without leveraging multiple bids to drive up the sale price.
- Failure to recognize unique deal structures: Dental M&A transactions often include creative structuring, such as equity rollovers, joint ventures, or earnouts. These options provide flexibility, allowing sellers to maximize their financial gain while retaining some level of involvement in the practice's future success. This flexibility can also reduce the immediate tax burden for the seller and create alignment with the buyer's long-term goals. An inexperienced adviser likely will not know how to structure a deal to maximize a seller's long-term financial gain.
- Inadequate understanding of DSO buyer preferences: DSOs assess practices based on specific criteria, such as collections, regional patient demographics, and payer mix. A general broker may fail to highlight these selling points, limiting the pool of interested buyers.
The risks of working with inexperienced legal counsel
Beyond CPAs and brokers, attorneys can derail a transition if they lack dental-specific knowledge. Some of the most common pitfalls include:
- Reinventing the wheel: Many attorneys unfamiliar with dental contracts spend unnecessary time and billable hours trying to create new agreements instead of working with established industry-standard documents. This can drive up costs and delay the process.
- Overlooking industry-specific clauses: Dental practice sales involve unique legal considerations, such as noncompete agreements tailored to specific geographic areas or indemnifications related to patient liabilities. A general M&A attorney may overlook these critical elements, leaving the seller exposed to future legal risks.
- Excessive fees for unnecessary work: I've seen attorneys charge upward of $20,000 for contract reviews that should have cost a fraction of that. The structure of the transaction, such as whether it's an individual buyout or a sale to a DSO or PE group, significantly impacts contract complexity and legal costs. As an example, individual asset purchase agreements differ from DSO or PE transactions, which often involve additional layers of negotiation, earnouts, and equity components. This is why sellers should work with legal professionals who specialize in healthcare transactions and understand the intricacies of dental M&A.
Selecting the right adviser for a successful transition
To avoid costly mistakes, practice owners should be diligent when selecting their transition team. Here's what to look for:
- Industry-specific experience: Work with CPAs, brokers, attorneys, and other financial experts who have a proven track record in dental practice transitions.
- Understanding of market trends: Your advisers should be well versed in DSO consolidation trends, PE and group dynamics, and individual buyer preferences.
- Ability to maximize value: Choose professionals who know how to structure deals creatively, market to the right buyers, and negotiate the best terms.
- Reputation and recommendations: Speak with colleagues who have successfully sold their practices and ask for adviser referrals. Use professional networks and industry-specific forums to find trusted experts.
Bottom line
Transitioning out of your dental practice can be a complex process that requires specialized knowledge. While general advisers may have the best intentions, their lack of dental industry expertise can lead to undervaluation, missed opportunities, and costly mistakes. By choosing a team with deep experience in dental practice transitions, sellers can avoid these pitfalls and maximize the value of their life's work.
Kim McCleskey is a practice transition consultant with Professional Transition Strategies. She has worked in dentistry for more than 30 years and is a certified professional business coach. She can be reached at [email protected].
The comments and observations expressed herein do not necessarily reflect the opinions of DrBicuspid.com, nor should they be construed as an endorsement or admonishment of any particular idea, vendor, or organization.
