DSO sales are very enticing to a small practice owner who runs a strong income-generating office but seeks retirement and doesn’t have the time, energy or achieved outcome in the private market to sell to a private buyer. Let’s face it: selling your practice to a private buyer means that you may go through several prospective buyers until you find “the one”. Even then, there will be a lot of hurdles to achieve such as financing, motivation and timely execution of paperwork to get you to the closing table within the timeframe that you are hoping to sell.
Most DSOs look for powerhouse offices that are strategically located in their target areas with a motivated seller who is ready to retire from practice ownership (not dentistry) but who can practice for several more years. Bonus: a seller who owns the underlying real estate.
DSOs will generally make a good offer which can sometimes be negotiated to a great offer, at least in theory. They agree to pay you a total sum of $2 million, for example, but it will be paid as follows: 70% cash at closing, the rest through an earn-out (or hold-back) that will be achieved within 2-3 years, equity interests and compensation/bonuses through employment.
When you look at it that way, it changes the offer a little, doesn’t it?
Irrespective, a lot of private sellers still agree to explore the offer because they still get a higher amount in cash at closing that they presumably would on the private market, for various reasons. Before you rush to sign the paperwork, there are some pitfalls in many of these contracts that we often see:
In many instances where the Seller owns the underlying real estate, the DSO will offer tenant-friendly rental payments as a condition of the purchase. Oftentimes, this figure comes from how the seller declared their rental payments on their returns. For many of our sellers, this amount is often below fair market value. If you try to negotiate this amount, the explanation is that “our purchase price offer will change based on your practice cash flow if we allocate more monies toward rent”. This is fancy speak for: “sure, we’ll pay you more rent but we’ll have to reduce our offer.”
Most DSO purchase contracts give them plenty of room to sue (if they need to) under the theory that the Seller did not provide all necessary information needed to help the DSO identify whether this was a good or bad opportunity.
Most DSO purchase contracts will remain silent (meaning, provisions are missing) as it involves various traditional buyer warranties pertaining to legality of the purchase, no litigation, and confirmation that the DSO has conducted their due diligence.
A few things to look for:
Take a cold hard look at the proposed hold-back or earn-out parameters which are often hinged on the practice’s earnings through the seller’s post-closing ownership. Either the formula will require you to flip to the definitions portion of the contract to figure out what it really means (meaning, it’s not easy to figure out and subject to some ambiguity) or there will be some language in the contract that allows for this amount not to be paid under certain circumstances that have no bearing on the seller failing to meeting the revenue requirements. For example: there may be an excuse to payment like if the DSO’s lender will not permit payment, then the DSO is excused from payment.
Take a look at the equity investment. Most DSOs will say that a portion of the offer will go toward buying you equity interest in the underlying company. Great! But, take a closer look-- under what terms can you cash out? Often times, many large DSOs will be reluctant to provide you a guaranteed term of years where if you cash out by year X, then you will be given X. Many go by a relatively standard fair market value formula which may go hand-in-hand with the employment agreement so that if you stop working at the office, you forfeit your full investment potential.
Remember what you are getting into: as a seller, most DSOs will take the daily management obligations off your shoulders but then require you to operate the clinical entity on their behalf (through their management) due to state restrictions that generally prohibit a non-dentist from operating a dental practice. This generally means that you will still be the record owner of the clinical practice, operating it as a “friendly dentist” for the DSO.
Are all DSO sales bad? Absolutely not. In fact, we’ve assisted a lot of happy sellers who have jumped aboard the DSO train and are very content with their choice. The difference often lies in understanding the nature of a DSO sale and what to expect. If you walk into the process aware of these potential issues, you can feel more empowered with the negotiation process and achieving your desired results.
If you are contemplating a sale to a DSO, let us know. We are more than happy to talk to you about the process to make sure you are aware of the intricacies before you embark on the process.