Thinking of joining a DSO? Owning practice building can complicate sale
COLORADO SPRINGS, Colo., U.S.: For dentists who own the property on which their dental practice is located, the property is typically their second-most valuable asset after the dental clinic itself. When selling a clinic to a dental support organization (DSO), however, owning the wider premises can result in challenges for dentists. Dental Tribune International spoke with an experienced medical practice broker who said that selling the property to a cooperative group can solve the problem and allow dentists to retain partial ownership.
Many solo dental clinics have struggled during the SARS-CoV-2 pandemic. Research by the Health Policy Institute earlier this year showed that DSOs and larger group practices were more likely to have returned to pre-pandemic patient volumes compared with smaller and solo dentist-led clinics. Stanton Kensinger is lead broker at Professional Transition Strategies (PTS), a mergers and acquisitions advisory firm that has completed more than 400 dental practice transitions in 39 U.S. states. According to Kensinger, the number of dental clinics being offered for sale in the U.S. has increased during the pandemic, as has the number of DSOs that are operating.
Kensinger says that dentists who own the single-tenant building in which their practice is located and who enter purchase discussions with DSOs can see their property fall through the cracks. He explained: “The biggest issue is that, if DSOs are backed by private equity, their debt covenants won’t allow them to purchase real estate. That is because they want to be solely focused on buying the business and not having another business on the side. In our experience, this is the case with many of the biggest DSOs.”
Private equity groups that offer cooperative structures, Kensinger said, are in a position to meet the need that exists for a number of purchase arrangements for owner-dentists who want to sell their clinic to a DSO. Often, he added, dentists and other doctors simply want to exit a loan scenario when they sell their practice or want to be free of the real estate for other reasons. In other situations, doctors want to retain partial ownership of the real estate and to continue to jointly hold the lease.
He explained: “The real estate could be condos, it could be freestanding retail or office space, industrial-type complexes, but there are two main scenarios in which we are approached. One is working with the dentist as a seller of their dental practice. The second is that a dentist wants to offload real estate or enter into a partnership scenario. The DSO can’t do it because of debt covenants, so many of them will come to us and ask us if we will provide a fair market value or partner with the dentist so that they can be part of something bigger.”
In this scenario, dentists could continue to be a holder in the real estate and the cooperative would partner with them in the same way that a DSO could partner with a former owner-dentist. Kensinger explained: “Such an arrangement with a DSO allows the dentist to continue to have distributions on the net profit of the practice, and we would offer the same situation regarding the real estate. Dentists would still be able to get distributions on a quarterly basis, depending on how we have it set up.”
“The biggest issue is that, if DSOs are backed by private equity, their debt covenants won’t allow them to purchase real estate”
When asked what the best outcome would be for dentists who own the building in which they practice and want to join a DSO, Kensinger said that it depends on the scenario. “The value that working with a cooperative brings is educating the dentist and helping him or her to see what the best outcome could be. Every scenario is different, and every debt structure is different. We want to tailor every solution to match the situation, and we have the flexibility to be able to do that.”
If dentists do choose to sell their real estate to a cooperative like PTS, they can retain a revenue source from the net profits of the real estate; here, Kensinger pointed out that being backed by private equity can increase the value of the lease. He explained that if, for example, two businesses are situated on opposite sides of the street and operate in the same industry and make the same revenue, if one of the businesses is backed by private equity, then that lease will provide a better return.
“A lease is going to be worth more when it is backed by private equity and not by an individual dentist,” he emphasized. “We can then partner with the dentist and sell the real estate off as part of a portfolio after a period of time at a reduced capital rate.”