Emerging Undercurrents Threatening The DSO Boom
In part 1 of this article, I discussed how rising interest rates and the cost of capital can limit the ability of dental service organizations, or DSOs, to orchestrate lucrative recap events and be able to maintain their portfolios at a high level of profitability. Their financial pressure is passed on to doctors. Due diligence is essential to protect your interests and make smart decisions in this new economic environment. Previously, I went through steps to prepare your practice and evaluate your partner.
Now, let’s discuss some other key things to review…
Evaluate the proposal.
- Don’t rely on future earnings: Ensure the deal is satisfactory at closing without relying on future earnouts or recaps. Beware of counting on future earnings.
- Economic realities: Recognize that the market and economic conditions have changed, making it uncertain to promise future recaps or significant multiples.
Confirm the employment contract reflects the purchase and the sale.
- Revenue replacement clause: Consider replacing language tying you to specific production targets with a commitment to a certain number of clinical hours per week/month.
Make sure the rights of termination are clear.
- Ensure that the contract outlines your rights in the partnership, avoiding a situation where you can be terminated without fair representation.
Ensure consistent accounting.
- Verify that the accounting methods used now will be consistent in the future to prevent any drastic shifts in eligible earnout.
Insist that you have debt voting rights.
- Ensure you have a say in major financial decisions, especially those involving debt that may impact the practice’s long-term future.
Check for no clawbacks.
- Be cautious of any contract language allowing the DSO to reclaim payments based on future production, as future production cannot be guaranteed.
Remember, you are negotiating with professionals who structure dozens of practice sales every year. For many practitioners, this will be the single largest transaction of your lifetime. Most doctors will only buy or sell one or a very small number of practices in their career. It is essential to educate yourself and to understand not only the terms of any agreement, but WHY they are structured that way.
What’s your plan for the equity after the sale?
How do you intend to protect and preserve that nest egg once you step away from your practice? Will you risk that equity in the volatility of the markets in the current economic climate?
- Capital preservation is key: Be cautious about putting your nest egg at risk in the volatility of the markets.
- Be wary of market volatility: Consider the potential risks of a major market crash, especially if it could impact your investments.
- Invest for replacement cash flow: Plan for sustainable investment cash flow to replace active income after retiring from practice.
- Become your own financial advocate: Exercise caution and educate yourself when navigating significant financial decisions after a liquidity event.
Plan well for a reinvestment in yourself and your future.
The decision to sell a practice and partner with a DSO represents a significant financial transition that requires careful planning, financial acumen, and a keen awareness of the shifting economic landscape. You can secure your financial future through astute investments, proactive financial advocacy, and a thoughtful approach to capital preservation and sustainable income generation.
ABOUT THE AUTHORS
When his young daughter was hospitalized with leukemia, Dr. David Phelps, DDS, could turn to his alternative investments, step away from his dental practice and be by her side. From this experience, he created Freedom Founders in 2012. This community helps dentists and other professionals take control of their retirement investments to produce passive cash flow, security and live life on their terms. To contact Dr. Phelps, visit www.freedomfounders.com.
Alastair Macdonald is an ex-safari guide, African expedition leader, TEDx speaker, former co-founder and CIO of The Parallax Fund, a private investment fund, former veterinary clinic owner, and multi-location dental practice owner, investor, BJJ blackbelt, suit-loathing peregrinator, terminal optimist, spreader of stoke, student of everyone and mentor to some.
FEATURED IMAGE CREDIT: Pexels.com.