Episode 120: Assembling a Group Practice - Financing and Capital
In the second episode of The Dental Amigos fifth season, Assembling a Group Practice, Rob and Paul discuss different strategies that DSOs employ to acquire financing for their group practice ventures. The Amigos identify different factors that lenders consider when reviewing loan requests such as liability, risk of default and success with prior dental practice acquisitions. Finally, they discuss unique challenges that DSOs may face when searching for financing.
See the full transcription below:
Welcome to the dental amigos podcast with Dr. Paul Goodman and attorney Rob Montgomery, taking you behind the scenes of the dental business world. All the things you didn't learn in dental school, but wish you had. Rob is not a dentist and Paul is not a lawyer. But since Rob is a lawyer, we need to tell you that this podcast is for informational purposes only and shouldn't be considered legal advice. listening to this podcast does not and will not create an attorney client relationship. As is always the case, you should formally consult with legal counsel before proceeding with any legal matter. Learn more about the dental amigos at WWW dot the dental amigos.com. And now here are the dental amigos.
Rob Montgomery 0:39
We're one and welcome to another episode of the dental amigos Podcast. I'm Rob Montgomery. And I'm joined as always by the head Nacho himself, Dr. Paul Goodman. Great
Paul Goodman 0:48
to be talking, Rob.
Rob Montgomery 0:49
It's good to see you. Paul is always here in the studio. And here we are Season Five nice of our sort of recast format, which will roll through this few more seasons and bring some people back in Yeah, right. Some
Paul Goodman 1:02
guests backwards to deliver a lot of value on basically making the biggest decisions your career
Rob Montgomery 1:06
said. And truthfully, we're given some good guidance. So today, our Season Five is assembling a group practice. Today we're going to talk about financing and capital. Very important. Perhaps the most important Yeah, yeah. Last episode, we talked about the importance obviously, of identifying good practices or good locations. Another episode we'll talk about to know those are startups versus acquisitions. But you know, certainly financing is probably the the biggest challenge. And the most important thing when it comes to growing your group proposes
Paul Goodman 1:40
over a banking resource day and I say I affectionately call the bank, the mom of the deal, because you couldn't do anything when you were younger, unless your mom thought it was a good idea. And this is kind of like almost like a group of moms having to say yes, it's okay. And I know it doesn't fit exactly that analogy. I think it's important because dentist and mean, we've just entrepreneurs in general, and it has happened to me they get very passionate about a vision, a culture, an idea, a service, Rob, and then go, who's going to pay for this? They go Oh, yeah, we should pay attention to that one, too. Yeah. Because none of it happens unless you get money
Rob Montgomery 2:15
at the money. Yeah. And so and I think when it comes to, to financing, a group of practices, or multiple acquisitions, or startups, this is where like, out Oh, away from like the world of the intuitive here. You know, I think a lot of times, and for as long the 27 years that I've represented dentists, maybe it's even longer now I guess it's 28. It's when you come across really good operators that have a group of practices, but then there have challenges getting money from the lenders. And they say like, well, how come the bank won't lend me the money to buy this eighth practice? We're doing really well. And they'll lend that person that graduated dental school two years ago, $700,000 to do a start off? And the answer is, because
Paul Goodman 3:09
you know, this what for our listeners, is there really, it's a lending someone $800,000 out of dental school who has a million dollars in debt, even though the two sentences I just said, if someone was not in our shoes with sound crazy, it's a low risk for the bank. Yeah, right, the lower of the fall known risk and low risk?
Rob Montgomery 3:28
Well, I think what you get into is like there are these sort of discrete healthcare lending divisions, obviously, in these banks that have the programs or the products, as they call them, right. And there are certain underwriting requirements that they have, and they'll make these loans for the startups and for the acquisitions for a practice or two. And it's great. I mean, for for our sake, I mean, this is what fuels the majority of the transactions that we both
Paul Goodman 4:03
deal with is the just for one, this is the zero to one, zero to zero to one, and then maybe one to two, we wanted to but in general is 01. And then if I did form the GWA, Coop, Rob, good name for a group and I said, I got these five practices, and we do $10 million. So we want to acquire this other practice and Conshohocken and we need 1.5 million. What you're saying is getting that money is gets trickier. It gets hard. Why? I mean, even though your budget, I think, why is that mean? If I'm like, Hey, I lead a group with five practice owners who know what they're doing. Yeah, we know what they're doing. Right? We want 1.5 million for this thing. We obviously the five of us would have maybe I'm not using this word wording right but like the financial savings to backstop a big problem, right, but they still are sort of like we're not so sure so maybe tell us tell our listeners why they're not so sure.
Rob Montgomery 4:56
Well, I guess you know, it's my my theory or perspective, which is you know, A collection of conversations with with lenders and people in the industry over the years, I think it a few things, I mean one, it, it the the lenders look at the total exposure, the total liability, and when that number starts to get a little too big or larger, then that bumps them out of this health care lending world and whatever bank that they're in. And now they go into the world of like regular business lending. And in the regulator, business lending world, it's a different set of rules, the people in the banks that transact these loans for the zero to one, one to two, and you know, maybe even, you know, two to three, they understand how low the default rates are, they're comfortable lending against the cash flow of the practice without having anywhere nearly sufficient hard assets as collateral. I mean, we talked about some recent episodes, look at a dental practice acquisition, and the purchase price allocation. It's like 8080 85%, goodwill, and, you know, whatever 5% of that is supplies, and like, you know, whatever 15 ish percent is hard assets, equipment. And most of the time, the equipment's not even worth what you allocate it for, you know, that's on a good day, because who's gonna buy seven, you know, seven equipped ops, you know, like an old, you know, 15 year old dental chair, what is that worth, you know, not very much. So. But you know, again, in the, in these very specific discrete health care lending, sort of portals, you've got, you know, people that understand that the cashflow, the exposure is not too great. It's enough money for, you know, the professional who's the owner operator to make it work. Like it's all really small, neat and clean. But once you start to get beyond that, you get away from those people in those programs. That is basically
Paul Goodman 6:59
me. But I mean, just to kind of catch our listeners up because you're living this space. And you can correct me if I'm not totally right here. But most of the one dental deals are under $2 million, right? I mean, most of the one dental deals because I was talking to a broker recently, and it made me think about this, because like, they're usually not like, hey, I want to buy this one practice that $6 million, right, they usually live in this 800 to $1.5 million world close to the time, where the bank probably has an enormous comfort zone for all parts of those deals. Exactly.
Rob Montgomery 7:29
Exactly. But now multiply that by five,
Paul Goodman 7:33
it's and then maybe, you know, I'll try to give you an ally up, Rob, you know, who's going to fund the gwoc group that who's funding these deals?
Rob Montgomery 7:41
Well, that's the challenge, you know, there are some lenders that we're starting to see they're putting programs in place that are a little more friendly towards that expansion model. Because ultimately, you know, if you're looking at lending to an expanding dentist, or a, you know, non dentists, they're looking to do a group of practices. That expanding dentist has the wherewithal the track record the ability to, to lend and so if really, if you look at it on a case by case basis, if they're making good acquisitions, then it makes sense for the bank to do it. So we're starting to see some of that. But that being said, most lenders will not finance I say most are pretty much all the dental specific lenders will not finance a non dentist looking to buy a dental practice, you know, that's still, that's still a bridge too far for them. And like some of these, these non dentists, as we talked about, in our first episode of the season, you can hire somebody as your CEO or whatever role, whatever title you give them. And they may have done this several times, they may have a great track record, and it may not be dentists, but they know how to operate dental practices profitable. He's kind
Paul Goodman 8:56
of a little bit just as just as probably in this moment, I'll say something that's been sort of the running themes, episode one till now it's like, it's a little bit laughable that they have this trust in the clinical dentist who has no business skills, right? And almost don't trust at all the person with the business skills, right, when it's clear the business skills are what grows these things. Right, exactly. Because we're not talking about Dr. Joe's practice on 15th and walnut doing $900,000 A year Yes, Dr. Joe can do the fillings and the finances of that place and not mess it up most of the time. But now when you're growing, the financial part becomes equally complex or more complex than trying to manage all the clinicians. Right.
Rob Montgomery 9:37
But that's why they don't want any parts of it. Yeah, for the same reason, you know, and that's what that's really takes us back to what we were saying a few minutes ago that these loan programs these products so to speak, which again, yeah, that's what they call them right? are geared for a dentist buying a dental practice,
Paul Goodman 9:55
so that if you're in this space Robin, you want to do this and I've heard this term a lot. I've dealt with this term. I do deals like you, then you ask private equity, whose private equity, right? We will go, we're gonna go to private equity financing deals who who usually makes those people up because people say I have private equity money to to grow my group. I'm assuming that could be anything from a rich uncle to a investment firm.
Rob Montgomery 10:21
Yeah, it's only gonna read but there might be another another step before you that, you know, the SBA back loans, you know, small business administration makes loans, some cases to non dentists to really to grow that's an avenue that they could explore. there are downsides to that. I mean, the those loans generally the fees are high with those the terms are not great. They're going to ask for typically a second mortgage on on the principal's homes. So like there's, there's a lot more
Paul Goodman 10:56
you talking to this asset about upping the ante. And so just if I'm hearing you, right, and I think you actually coached me to this years ago, when a good way, or advise me, you're also upping the financial ante of your life when you do this. Like you're playing in a league that's different.
Rob Montgomery 11:13
Yeah, yeah. If there's just there's more going on. And when there's more going on, there's more risk. But, you know, this, again, takes us back to what we talked about in the first episode of the season that you can, you really have to be careful about doing big deals, because whether you're going to go to private equity, we'll talk about that in a minute, we got a pending question for ya, right, haven't forgotten that, or you're going to a bank, if you know, if you have a couple of practices that are pulling everything else down. Nobody wants to loan your money when things are not looking great. You know, and so, you know, as we talked about upping the ante, it becomes even more important to, to do good deals, because then that shows that that's, that's successful, and it's been a good add to your portfolio of practices, that's going to make you more attractive as a buyer, borrower rather, or a partner, right? Do some bad deals, the numbers don't look so good. And then you start to hear from these folks that have the money. Well, let's see how things go. And in the next couple of quarters, you know, you're gonna get that back on track is that gonna get back up to where it was before or, you know, your numbers aren't so good, we're not really anxious to give you more money. So you really have to be careful just acquiring practices and growing for the sake of growing, if you're not doing it smart can
Paul Goodman 12:38
I'll use an example that might is meant to just kind of be an emotional story. It's like, when you're a solo practice owner, you can step on the scale and see what you weigh, and nobody looks at it. And now you're involved with this. And they're like, step on the scale. We want to see what you weigh. And we have some comments to make about it. Yeah, it's good. Like, some of that can be very uncomfortable. But that's what you sign up for. Yeah. And you kind of say, I mean, I'm just using a just a, an easy example, you kind of say, I'm going to keep losing weight, right? We're going to I'm going to keep getting more fit. And maybe the scale is not the best way. It could be the benchpress. Or it could be swimming time for you. But it's like in your solo practice world, you get to keep all this to yourself. And now you're in a group where we have people looking at you
Rob Montgomery 13:17
Yeah, right. Yeah, you have to answer to people. Right? You are no longer the king of the castle. Right? Right. Nachos late
Paul Goodman 13:23
at night? And you could someone going to ask you why. Right, instead of just saying everyone's asleep, my house on takeout, some fistina
Rob Montgomery 13:30
sneaking them. So what is private equity, that can be the whole gamut of things. But I think when you talk about private equity, usually when you go to that route, because you can't get money someplace else, you're giving up a whole lot. You know, you are partnering with them, so to speak, but depending on the size of your practice, if you only have a handful of practices, generally that's looking a whole lot like a sale, you know, and where you're not going to have any kind of control. If it's a larger group, or if for some reason, the the DSO is kind of in its earlier stages, you may have the ability to have more control over over the direction and the path of that of that group. But it's just like anything, I mean, you put you have as much leverage as what you bring to the table. Yeah, right. So it's not necessarily like with with, you know, if you own five or six practices, that you just partner with some private equity group that's going to take 30% of your business and then invest lots of more money to help you grow your six to 20 to 30. Those deals are out there. But that's not the common DSO deal that we say or the private equity deal. I mean, usually with those you're looking at, at a much larger scale, and then they're looking to roll up practice and looking for partners
Paul Goodman 14:55
meet you, you know this world a lot more than I do, but like also the private equity group If you ask to do this, they may not want to play the game with you forever, and they can sell you to a different group. Right? Yeah, they can, you know, you got a whole new leadership team now involved in your life.
Rob Montgomery 15:11
Yeah. And I think, and for that reason, and so many reasons, you really you're giving up control. And either, you know, complete control, or, you know, just about click complete control. And so, you know, really, that becomes almost like a last resort for for practice growth at that point. Gotcha. You know, but, and again, that's when you've exhausted, whatever other resources, you have financing internal financing, friends and family, banks. But, you know, I think, you know, like I said, there are some, some lenders that we're seeing in the space, that are recognizing that there is value to this. And so, with what has been the proliferation of, of DSOs, and people trying to assemble large practice groups, I think lenders are getting a little more in tune.
Paul Goodman 16:05
I also have the same night. This isn't a conspiracy theory, but you know, I just was talking with the bank today. And they seem to, they said the words, they they don't care how many locations you have the always funded I said, it made me think maybe that was overly optimistic. Not true, but like, and, you know, I could also be surmising something that they would walk back if they were here in this room. But one of my things, my thought this was an maybe, you know, base because like, the evolution of this world is consolidation. And to get more deals they might have to play in this world. Yeah. Oh, for sure. Because, you know, I actually do remember, five years ago, when I was listening to a banker give a talk. He's like, Well, once a practice is sold to a DSO, it's never going to be sold to a private practitioner again. Yeah. And that pretty much is true. 99% of the time. Yeah. And so for them to, I mean, I don't know who's keeping stats on all these things. But are the number of buyer acquisitions declining? Right, you know, the, the zero to ones, and they're probably saying, hey, Glock group, we do want to get involved with you.
Rob Montgomery 17:02
Yeah. Well, you know, as we sit here in March of 2023, though, remains to be seen what's gonna happen with the DSL? Mark? Yeah, you know, it's definitely things that we're seeing in our practice where deals have have paused or been called off, that the, the same momentum that we've seen in recent years is definitely slowed down. Now with a lot of a lot of groups had soft, fourth quarters, interest rates have gone up. And a lot of these groups, if they're not playing with their own money, they're borrowing money, too. And so if profits are down, and the cost of them acquiring money to buy, the practice is going up, and they're getting squeezed, and remains to be seen kind of where that, where that settles. Yeah, so maybe we will see some deals where private practice owners are buying DSL assets. We've seen that in the Philadelphia market. Paul, I mean, we were talking about that before, before we went on that, you know, there are DSOs are offloading things. So you know, and I think like you said to that, when you're partnering with these people, I mean, for the most part DSOs are looking to consolidate and flip and get out, right, they're not looking at sticking around for the next decade. And I say most you know, again, there are exceptions with all that but it's a much shorter term play that's that's focused on on keeping that that profit strong until they can assemble you know, the bigger positive EBIT on see the arbitrage of the higher multiple with with the greater part of EBIT da but that's a very different different mentality than Hey, I'm looking to bring on a partner to be with me for the long haul to help me grow this this empire
Paul Goodman 18:55
for sure. You can see as well it's a soap opera of financing you know, financing and capital could be such a so prop I really can hear from SBAS to banks, increasing their risk appetite, private equity, I want to meet Mr. Private equity. I hope I hope you introduced me to
Rob Montgomery 19:12
Terry Scott, like it's like the Wizard of Oz. Pay no attention to the man behind the curtain. Yeah. Well, on that note, thanks, everybody, for listening. And as always, if you enjoyed today's episode, please give us a good review, please on your favorite podcast app, and thanks again until the next time.
Thanks for Thanks for listening to another great podcast with the dental amigos. And don't forget to tune in next time to have the dental business demystified. If you're looking for more information about today's podcast, you can find it on the dental amigos.com If you're looking for Paul, you can find Paul at Dr. Paul goodman.com. And if you're looking for Rob You can find him at your dental lawyer.com This podcast has been sponsored by Orange Line Media Group. Helping dentists and other professionals create content people love find out how we He can help you take your business to the next level at WWW dot Orange Line mg.com. Till next time