As part of representing both buyers and sellers of dental practices, including individual dentists, group practices, and DSOs, we are all acutely aware of the current economic headwinds impacting DSO transactions. When I refer to a DSO transaction, I am referring to add-ons and liquidity events. As most of us would agree, the 2024 calendar year will be interesting, and potentially unsettling for some. For those that look at the positive aspects of 2024, who are proactive, future-thinking, and strategic, 2024 may continue to be robust. For those that take the wait-and-see approach, however, and are more reactive than proactive, they may be left behind. As an advisor to DSOs, I choose not to be left behind. This blog post will discuss what DSOs should be doing in 2024.

Let’s Always Revisit: What is a DSO?

So, what is a DSO? It is simply a business that focuses on managing the administrative side of operating one or more dental practices, so the clinical staff, including the dentists, can focus on caring for their patients. Really, it is that simple.

Refer to our previous blog post on DSOs for further detail: Dental Support Organizations (DSOs)—What Are They and Are They Right For You? – Vince Nardone (vincentjnardone.com)

What does 2024 Look like for DSO Transactions?

Let’s be clear, none of us have a crystal ball. I do not have the ability to predict future events, including changes in interest rates. Interest rates are influenced by a variety of factors, including economic conditions, inflation rates, central bank policies, and geopolitical events. Predicting interest rate movements requires a thorough analysis of these factors, and even then, it is subject to uncertainties and changes in the economic landscape. And, keep in mind, the economic conditions can change, and predictions are inherently uncertain. In many instances, those predictions lack supportive data. It is always advisable to consider multiple perspectives and sources when making financial decisions based on interest rate expectations, to ensure that we rely on data-driven decision making as much as possible. So, what about 2024?

From what I see and have experienced with our clients to date, 2024 will bring about some new DSOs, some merger and restructuring of DSOs, some that will leave the market, and others that will continue to be in growth mode, although with some guardrails in place.

Will DSOs Continue to Add on Individual and Group Practices?

When it comes to DSOs adding on dental practices (i.e., purchase additional dental practices), we expect 2024 to continue to be strong, with one caveat: The growth will come from those DSOs that have the capital in place to do so. I know that sounds obvious, but some DSOs simply do not have the capital or the access to the capital, at reasonable acquisition costs, in the current economic environment. For those DSOs that are adding on practices, we expect those acquisitions to continue at a good pace. We also expect many of those DSOs will do their best to position themselves on the low end of the market valuations, citing interest rates, cost of acquisition, and economic uncertainty, to justify those lower valuations. The focus on the lower end of the valuations, if successful, will position those DSOs for future successful liquidity events.

What do We Expect to See when it Comes to DSO Opportunities for Liquidity Events?

Let’s first address the question, what is a liquidity event in the context of dental practices and DSOs? A liquidity event refers to an occurrence that allows an investor to convert an investment into cash or a more liquid asset. This term is often used in the context of investments in privately held companies, like DSOs, and it signifies the point at which investors can monetize their investment and realize returns. Liquidity events can take various forms, and they typically provide an exit strategy for investors or stakeholders, including the partner and founder dentists. The timing and nature of liquidity events depend on various factors, including the DSO’s growth, market conditions, and the preferences of stakeholders.

When it comes to liquidity events in 2024, however, we believe there will be a slowdown, recognizing that most DSOs are looking for a secondary market sale, where investors sell the overall business to another private equity firm. Unfortunately for some existing DSOs that are looking to go to market, the private equity firms that are on the buyside will likely want to buy the DSO assets at the lower end of the multiple range, citing the same factors DSOs will cite when adding on individual practices. Thus, the multiples that DSOs have been citing to their future partner dentists may not come to fruition in 2024, requiring the DSOs to slow down the liquidity process or place it on hold altogether, frustrating many of their partner dentists. Other DSOs that have positioned themselves well, in terms of buying low in the first place, may still see market opportunity. I generally feel that 2024 will be slow for liquidity events in the DSO context, while interest rates continue to remain high in comparison to the wild-wild-west of 2019 through 2021. Thus, most DSOs will remain proactive, but pivot and focus on EBITDA value and organic growth, as discussed below.

So, if we are a DSO in 2024, what should we be doing? Well, certainly every DSO is different, in terms of size, types of practices, being backed by varying parties, including private equity firms and private investors directly, and all have differing needs and opinions. With that said, two common strategies exist for 2024 and likely into 2025.

Continue to Focus on Value through EBITDA Appreciation

Just like an individual dental practice, DSOs are ultimately valued based upon their EBITDA, which refers to Earnings Before Interest, Taxes, Depreciation, and Amortization. It is a measure of a company’s operating performance, and increasing it often involves improving operational efficiency and profitability. The higher the EBITDA, the higher the multiple, and therefore the higher the payout for investors and the partner dentists in any particular DSO. Historically, DSOs have focused on increasing their EBITDA by adding on practices with strong operations and profitability. That has been the easiest way to increase EBITDA. In 2024, however, DSOs will also consider revenue generation and cost reduction strategies through organic growth, as we discuss below.

Here are some strategies to consider when it comes to increasing EBITDA:

1. Revenue Growth: Identify opportunities to grow your top line by expanding your patient base, entering new markets, and introducing new products and services, such as Invisalign supported by AI.
2. Pricing Strategies, including Fee Schedules: Evaluate your pricing strategy to ensure it reflects the value you provide while remaining competitive in the market. Can I increase my various fees on the procedural fee schedule?
3. Cost Management: Operational Efficiency: Streamline operations to reduce costs and improve efficiency. Evaluate processes and identify areas where cost savings can be achieved without sacrificing quality. As an example, look at the credit-card processing fees, and determine whether we can be more efficient in that regard as well?
4. Supply Chain Optimization: Negotiate with suppliers for better terms, optimize inventory management, and explore opportunities for cost-effective sourcing.
5. Expense Control: Overhead Reduction: Analyze overhead expenses and identify areas where costs can be reduced without compromising essential functions.
6. Cost Allocation: Evaluate the allocation of costs across various business functions to ensure efficiency and eliminate unnecessary expenditures.
7. Working Capital Management: Inventory Management: Optimize inventory levels to minimize holding costs while ensuring timely product availability. May not be as relevant in a dental practice. But certainly comes up in areas like implants.
8. Receivables and Payables: Improve cash flow by managing receivables and payables effectively, negotiating favorable payment terms, and incentivizing early payments.
9. Capital Expenditure Management: Evaluate Capital Projects: Scrutinize potential capital expenditures and prioritize projects that offer the highest return on investment.
10. Asset Utilization: Optimize the use of existing assets to maximize returns without unnecessary capital outlays. Basically, can we do more with less, and hold for a period of time.
11. Debt Restructuring: Consider restructuring debt to improve cash flow and reduce interest expense.
12. Operational Enhancements: Technology Integration: Implement technology solutions to enhance operational efficiency and reduce manual processes. This is huge in the dental industry right now. It will impact every practice and every dentist, and therefore every DSO.
    1. This is probably the biggest advancement and opportunity for savings and significant increase in profits.
13. Employee Productivity: Invest in employee training and development to improve productivity and overall performance. This applies not only to the dentists, but the dental team, both clinical and non-clinical.
14. Strategic Partnerships: Collaborate: Explore strategic partnerships that can bring in additional revenue streams or cost-saving opportunities. This maybe done on the insurance side, internal dental savings plans, lab companies, supply companies, etc.

Remember that the specific strategies will depend on market conditions, unique characteristics of each dental practice, each partner dentist, and each dental practice location. To be clear, DSOs must be mindful of the various skill sets and personalities of the partner dentists. Be respectful of the differences. It is advisable to conduct a thorough analysis of the DSO’s financials, operations, and market environment to identify the most effective areas for improvement. Additionally, consulting with financial experts or business advisors can provide valuable insights tailored to your DSO’s situation.

As Part of EBIDA Value, Focus on Organic Growth

Organic growth refers to the natural and internal growth of a business through its own resources, as opposed to growth achieved through mergers, acquisitions, or other external means. In the context of a DSO, organic growth typically results from increasing revenue, expanding patient base, procedure mix, developing new products or services, and improving overall operational efficiency.

Key elements of organic growth include:

1. Internal Initiatives: DSOs achieve organic growth through their own efforts, such as expanding existing product lines, entering new markets, or improving operational processes.
2. Increased Revenue: One of the primary drivers of organic growth is the ability to sell more products or services to existing patients or attract new patients.
3. Innovation: Developing new and innovative products or services can stimulate organic growth by meeting changing patient needs and preferences. Again, technology is abundant and readily available. What works best for one DSO, may not work well for others.
4. Market Penetration: Expanding market share within existing markets can contribute to organic growth, whether through effective marketing strategies or enhanced patient satisfaction.
5. Patient Retention: Keeping existing patients satisfied and loyal can lead to repeat business and positive word-of-mouth referrals, contributing to organic growth. Organic growth is often seen as a sustainable and stable form of growth because it relies on a dental practice’s internal capabilities and the strength of its fundamental business operations. It contrasts with inorganic growth, which involves external strategies like mergers and acquisitions to achieve expansion (e. our add-ons).

Nardone Comment: When it comes to organic growth and the slowdown of liquidity events, partner doctors selling to DSOs, or those partner doctors that have already sold to DSOs, will need to be patient. They will need to be collaborative, in alignment, and a part of the team. In almost all cases, the partner dentists, the DSOs, the DSO’s administrative team, and the DSO’s investors are all looking for the same, long-term goal: to benefit from a liquidity event on their investment. The DSO is not intentionally delaying a liquidity event. Rather, they are looking for optimal terms for all involved, based on the current economic conditions and headwinds. In some instances, the best strategy to obtain the optimal terms maybe to pull out of the market until we see improvements in the market, including lower interest rates and higher multiples. So, in many instances, patience is our friend.

Vince Nardone is a partner with Benesch, with a focus in Benesch’s healthcare practice and co-lead of Benesch’s dental practice sub-specialty group within healthcare. He is a thought leader and regular speaker in the dental industry. He may be reached at (614) 223-9326 or vnardone@beneschlaw.com.