6 Keys to Recovery of the DSO Industry After COVID-19

Over the last 11 years, the United States economy enjoyed an extraordinary period of prosperity.  However, in mid-March of 2020 this record setting period of economic expansion and growth came to a screeching halt due to COVID-19. The pandemic forced shutdowns of businesses, social activities, and economies across the world and took us from a period of unprecedented prosperity to a period of unprecedented economic distress seemingly overnight.  Reminiscent of a modern-day Great Depression, we have never in our lifetimes seen such sudden global market turmoil, nor have we before seen a post-Civil War society where American governments mandate their citizens to shelter in their homes.  Every industry has been impacted by COVID-19, and dentistry is no exception.

The good news is that this too shall pass. The dental industry has historically been virtually recession-proof and, once again, the dental industry will emerge victorious. Patients will soon be back in clinic seats, and DSO groups will continue to make lasting affiliations and partnerships and improve the businesses of dental practices across the country.  As we start to hear more and more plans to reopen local economies, it is critical for dental practices and DSO groups to map out their own plans for recovery.  Here are 6 key principles for post-pandemic recovery of the DSO industry and the broader dental industry as a whole:

1. Patients must feel safe (and be safe, too!).

It goes without saying that  dental practices need to be safe places for patients to visit post-pandemic. Patient care and safety is of the utmost priority, and after COVID-19, this means two things: (i) the dental offices must in fact be safe places for patients to visits;  and (ii) patients must feel safe when choosing to leave their homes and step into their dental office. The former is generally a black-and-white concept, but the latter is more subjective to the individual consumer.  Patients must have confidence that their dental office is putting their health and safety first by staying up-to-date with the latest protocols and procedures.

We have already started to see an emphasis on the improvement of patient safety after COVID-19, such as recommendations to increase the use of personal protective equipment (PPE) by providers and to use advanced and more frequent sanitization for tools and instruments. For example, the Organization for Safety Asepsis and Prevention (OSAP), a community of clinicians, educators, researchers, and industry representatives who advocate for safe and infection-free delivery of oral healthcare, has developed a COVID-19 Toolkit listing best practices for dental offices during this COVID-19 crisis.  Dental practices and DSO groups need to stay on top of developments in the area of patient safety and swiftly implement and revise their procedures accordingly.

An emerging trend in patient safety is to develop minimal-contact dental services that allow patients to be seen and receive treatment while mitigating some of the potential risks associated with going out in public during the pandemic.  It would not be a surprise for providers to start receiving recognition for employing innovative strategies such as virtual check-ins/check-outs, virtual waiting rooms (where patients can wait in the comfort of their own vehicles until they are paged for their treatment), no touch payment services, and teledentistry services.  In fact, we are already starting to see an increase in trademarks associated with limited-touch and minimal-contact healthcare services.

Special certifications and accreditations relating to patient safety and participation in limited-touch and minimal-contact programs will likely be soon to follow. Dental practices and DSO groups would be well-served to capitalize on marketing and promotional opportunities available to advance their public goodwill and social capital by participating and enrolling in legitimate certification and/or accreditation programs sponsored by recognized organizations. The message here is that it is not enough for dental practices to merely be safe for patients. That is a de facto requirement by law. Instead, dental practices must adequately convey their safety to current and potential patients through appropriate marketing, education, advertising, and messaging channels. Patients will not feel comfortable to return to their dental office without at least a fundamental belief that the practice is safe and staying on top of current trends in a post-COVID-19 world.

2. Practices and DSO groups must attract and retain top talent.

It is undeniable that COVID-19 has led to an increase in national unemployment rates.  This means that there are more associate dentists and dental professionals looking for new opportunities than ever before.  One major way dental practices and DSO groups can ensure their success after reopening is to develop attractive compensation packages to attract and retain top-tier talent.

It will be important for dental practices and DSO groups to develop innovative and creative compensation programs including profit participation plans and equity plans. By getting creative with regulatory-compliant bonuses, options, and even profits interests or capital interests in a DSO model, dental practices can put themselves in the desirable position of employing the best people in the business.

Once talent has been acquired, it is equally as important to maintain it.  Providing opportunities for advancement, curating a culture of positivity and collaboration, and having high-quality management and leadership are all non-economic aspects of a dental practice or DSO group that will make it more likely to retain talent.  In the midst of this global crisis created by the COVID-19 pandemic will be an unparalleled opportunity to attract and retain talent.

3. We must restart a robust M&A market.

To date, DSO market penetration sits at just under 25 percent, which leaves an enormous runway for potential continued expansion over the next 10 years. There continues to be an ever-growing volume of buyers and sellers in the dental industry with strong desires to make deals happen.  But what will dental M&A look like after COVID-19?

First, the methodology of valuing practices will need to change at least temporarily. Before COVID-19, we saw EBITDA multiples for large DSOs and group practices routinely hitting the double digits, with some even exceeding 18X.  The standard valuation model for these deals has been based on a trailing twelve month EBITDA, but purchasers will now be forced to account for 2-3 months of low or no production.  Some options for adjusting valuation could be to bridge over any reasonable period of practice closure (using only normalized production levels in the calculation), relying on predicted future cash flows, setting discount rates relative to each seller, and weighing in circumstantial factors such as the practice’s geography, liquidity, and health of suppliers/vendors.

Second, we can expect a shift in the ratio of cash to equity consideration. The traditional mix of consideration to asset sellers in many deals has been approximately 60 percent cash and 40 percent rollover equity. With buyers attempting to decrease their risks, a shift to a 50/50 split or greater would not be surprising, arguably creating a larger incentive for practice owners to accelerate recovery. This is a reasonable way for buyers to hedge their bets while still allowing for the dental M&A market to continue.

Third and finally, there may be increases in the prevalence of regulatory-compliant earn-outs and holdbacks to the purchase price. When we say that the traditional mix of consideration to asset sellers has been comprised of approximately 60 percent cash, that cash is not always paid in full at closing.  Sometimes, buyers structure earn-outs or holdback payments whereby sellers receive a portion of the cash at closing and the remainder contingent either upon longevity or production milestones.  There is certainly federal regulatory scrutiny that is placed on these types of cash splits, but they are not impossible to construct in a compliant manner. By deferring a portion of the cash purchase price, sellers will be able to affiliate with DSO groups to assist their operations during the downturn while giving buyers some financial peace of mind.

Finally, a word of caution:  As with any industry, a good reputation is imperative.  Buyers who start seeking bottom-barrel prices and seek to exploit the pandemic by imposing  unfair  practice valuations will  likely harm themselves in the long run even if they achieve some short term success. Similar to pre-COVID the Buyers who will likely do the best are the ones that create a fair deal for both parties.  In the post-COVID M&A market, a fair deal will be one that allows the seller to earn a pre-COVID price if they can demonstrate that their practice has fully rebounded to pre-COVID numbers.

4. Practices and DSO groups must choose the right growth partners.

Our team has spent years counseling clients on the importance of picking the right DSO group or practice to partner with.  A good partner is not just for times of prosperity, but should also help navigate through challenging climates.  The COVID-19 pandemic has highlighted this criterion as sellers observe how potential buyers conduct themselves during these times and inquire into how equipped they are to handle the next crisis.

Before COVID-19, many sellers focused solely on prices even when the deal contemplated post-closing relationships through equity ownership in the DSO entity and continued practice-level employment for a number of years.  While normally unclear until after closing, sellers can see how their long-term affiliations may look like in real-time by checking out how potential partners react to the pandemic.  Groups must collaborate to preserve value through mitigation strategies and smoothen transitions as much as possible.  The right partner can help manage cash, make recommendations on staff and patient management, lower overhead, and provide guidance on re-opening practices.

Realistically, the best partner does not always come with the highest price.  A good partner is in the partnership for better or for worse, not just for better or until the road gets rocky.  Once this crisis is over, we believe that the right partnership will be required rather than merely a consideration  for many deals moving forward.

5. Have a disaster plan.

While many DSOs and practices considered implementing disaster plans, some were ill-equipped for a crisis of this scale.  Many groups found themselves scrambling to manage staff, maintain supplies and reconfigure their organizations around emergency care.  Now is the time for DSOs and practices to strengthen their disaster plans and help mitigate the impact of COVID-19 on the oral health needs of patients in affected areas.

Dental offices must maintain an inventory of cleaning and personal protective equipment to minimize disruptions resulting from any disaster.  COVID-19 triggered a surge in global demand for infection control products such as gloves, masks, hand sanitizer, disinfectant wipes and general cleaning products.  DSOs should be mindful of inventory and communicate with the vendors to determine the availability of these products.  While we encourage lowering overhead, it is prudent to dodge any shortages by stocking up on vital equipment when available and keeping a list of back-up vendors.

Although we are all highly aware of COVID-19’s implications, new information and updates are being released almost by the hour.  It is crucial that practices remain informed as the situation evolves. For general office management purposes, practices should consider doing the following when they continue operations during an emergency:

  • Review proper office and equipment cleaning protocols
  • Educate staff on how to advise patients about safety precautions and changes to office procedures
  • Review illness policies and ensure compliance with new federal and state employment laws
  • Prepare for staff or dentist absences and coverage
  • Cross-train personnel for all requisite office and medical functions to cover for team members who are out

Disaster plans are critically important for all types of practices.  These measures will not be luxuries but necessities when recovering from COVID-19.

6. State leaders and government officials must recognize the value of dentistry.

To recover from COVID-19, we must help local governments and dental boards understand and appreciate the value of dentistry.  State dental boards have historically argued that they must fiercely protect the dental professional and do whatever they can to preserve every dentist’s right to practice dentistry.  Ironically, during the pandemic some dental boards are actually sending disconcerting notices to practices threatening criminal prosecution if they remain open to treat their patients with  some letters even going beyond the conditions of the executive orders.

In some states, businesses that have been deemed essential include golf courses, hunting and fishing, liquor stores, marijuana dispensaries in marijuana legalized states, laundromats, dry cleaners, auto shops, and many more.  It is difficult to conceive that dentistry is not as equally essential as these businesses.  One may even argue that dental offices are even safer than all of these other businesses since dental offices have always had extensive cleaning protocols.  Yet the dental boards have gone after dentists for remaining open and performing a valuable public service. In doing so, dental patients resort to overwhelmed emergency rooms and are more likely to be exposed to the virus.  This leads to the potential risk of further spreading of the virus and further overwhelming our healthcare system.

As soon as this crisis passes, we ought to set up meetings with local government officials and dental boards to emphasize the value of dentistry and the burden of shutting down dental practices on the public health sector.  Furthermore, DSOs, solo and group practices and dental boards ought to engage in concerted lobbying to defend dentistry as they have done in the past.  These efforts will shape the strong future that all dentists want for their profession and certainly for their patients.

On another note, it is crucial that the dentist makes the ultimate choice on whether to remain open or closed during these times.  If a dentist is uncomfortable with remaining open, they should not be required to stay open as this should ultimately be the dentist’s decision.  Dr. Yahya Mansour, the Chief Medical Officer at Rodeo Dental, says dentists that grapple with this decision should be able to look back and ask themselves: “Did I do something to help or to hurt? Was I part of the problem or part of the solution? If you look back and say ‘I did everything I could to help reduce this burden on the public health sector and on humanity’, then you did something good.”

Lastly, DSOs are uniquely situated to act as thought leaders on the essential nature of dentistry to ensure that we never find ourselves in a situation where dental offices must shut down for not being deemed an essential business.  By freeing dentists from the administrative burdens of running dental practices, DSOs have allowed dentists to focus on patient care.  Many DSOs consist of strategists who can offer guidance on the value of dentistry based on their experience in the space and coordination with practices to improve the quality of life for patients around the nation.

Conclusion

In the past, the dental industry has been virtually recession-proof and excelled during times of economic downturn.  As history has shown, the negative impacts from a recession on dentistry will only last for a relatively short period of time.  Dentistry is well-positioned to thrive post-COVID-19.  To do so, we need to focus on the keys discussed above for many more years of prosperity.  If we execute these keys, the DSO and dental industry will emerge from this crisis stronger than before and the Great Consolidation and Evolution of the industry will continue unabated.


Registration is OPEN for Dykema’s free virtual conference: Reigniting Dentistry and the DSO Industry, May 12th from 1:00 p.m. – 7:30 p.m. ET. The conference will feature timely discussions on ways to help the dental industry come back stronger than ever. Busy on the 12th? Register anyway! A copy of the webcast recording to watch at your leisure after the event has aired will be sent to you: https://lnkd.in/exkSUYT

Written by: Brian Colao (Director, Dykema’s Dental Service Organizations Group), Victoria Bahrami-negad (Dykema Associate), Kristin Naidysh (Dykema Associate)

Brian Colao is the Director of Dykema’s Dental Service Organizations Industry Group.

Brian Colao is the Director of Dykema’s Dental Service Organizations Industry Group. Brian has been in the dental space for approximately 25 years. He is widely regarded as one of the foremost authorities in the United States on DSO formation, DSO business structures, DSO related mergers & acquisitions, and regulatory compliance for DSOs including the corporate practice of dentistry, illegal fee splitting, advertising regulations, laboratory regulations, patient finance regulations, billing regulations, HIPAA regulations, credentialing, permit and licensure regulations, marketing regulations, & labor law regulations affecting dental practices.

 

Victoria Bahrami is an associate in Dykema's Dallas office.

Victoria Bahrami is an associate in Dykema’s Dallas office. Ms. Bahrami focuses her practice on corporate finance, corporate governance, and mergers & acquisitions matters. Ms. Bahrami regularly advises Dental Service Organizations, practice groups, individual dentists and other health care providers in various corporate and regulatory matters, including acquisitions, regulatory compliant restructurings, private equity investments, and the negotiation of key commercial agreements. She has experience in drafting purchase agreements, company agreements, management agreements and employment agreements.

 

Kristin A. Naidysh is an associate in Dykema's Dallas office.Kristin A. Naidysh is an associate in Dykema’s Dallas office. Ms. Naidysh focuses her practice on Corporate Finance, Corporate Governance, Mergers & Acquisitions, Venture Capital, and Technology & Outsourced Transactions matters.While in law school, Ms. Naidysh concentrated her education on corporate transactions and earned an M.B.A. concurrently with her J.D. to enhance her value to corporate clients. Prior to joining Dykema, Kristin gained experience working as legal counsel for emerging technology companies in a variety of industries such as biotechnology, healthcare, energy, SaaS, and social applications.


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