Latest / Orthodontic Products Podcast / Consolidation, Private Equity, and DSOs: What Does it Mean for Orthodontic Practices

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Consolidation, Private Equity, and DSOs: What Does it Mean for Orthodontic Practices · Orthodontic Products Podcast

0:02
Alison Werner: Hello and welcome to the Orthodontic Products
0:04
podcast. I'm your host Alison Werner. Joining me today is Dr.
0:07
Greg White. Dr. White may be familiar to some of our readers
0:10
as he was featured in our February 2023 cover story. Dr.
0:14
White has been in practice for more than 25 years and is one of
0:17
the founding partners of White Greer and Maggard Orthodontics,
0:20
a pediatric and orthodontic group practice located in
0:22
Lexington, Kentucky. More recently, he is the founder and
0:25
president and CEO of PepperPointe Partnerships, an
0:29
alternative to the DSO model for practices that are looking to
0:32
self consolidate. Dr. White, thank you for joining me.
0:36
Dr Greg White: It's my pleasure. Great to be here, Alison. Thank
0:38
you.
0:39
Alison Werner: Great. Well, so the reason you're here is you
0:41
recently wrote a white paper called "The State of the Dental
0:44
Industry." And it looks at the rapid consolidation in the field
0:48
led by private equity and kind of offers predictions for the
0:52
future. And that's what we're going to focus on for this
0:55
conversation. So I want to start with, what was your motivation
0:58
for the paper?
1:00
Dr Greg White: Well, the primary motivation came as a result of
1:04
me being invited to and speaking on a panel at the DSO summit in
1:10
Austin, Texas, back in October of last year. And during that
1:14
panel discussion, it was called Point Counterpoint. Really, the
1:18
whole idea was private equity against other alternatives that
1:24
were out there. And so it really became obvious to me during the
1:31
course of that panel, and then the conversations that I had
1:35
afterwards, that there were a lot of people in dentists,
1:38
dental industry that really do not understand all of the
1:41
nuances associated with private equity backed DSOs. And what
1:47
that model looks like and what the the end result of that can
1:52
be and mean for all of the primary stakeholders in
1:55
dentistry, primarily the dentists themselves, the
1:58
communities that they serve and the patients that they treat.
2:01
Alison Werner: Okay. So your thesis is that the dental
2:03
industry is undergoing a lot of change, if anything, it's
2:06
constant in the industry. And one of those changes is that
2:10
rapid consolidation of practices. But before we get to
2:12
what is happening today, can you talk about how consolidation
2:16
isn't necessarily a recent phenomenon? This actually goes
2:18
back to the 90s, correct?
2:21
Dr Greg White: Yeah, it does. And I can remember back in the
2:25
mid to early 90s, actually exploring it to, there were a
2:30
few different companies that had popped up, I can think of, I can
2:35
think of OCA, Apple Orthodontics, Castle, there were
2:39
several of them. And I even went out and visited one of the
2:43
corporate offices just to try and get an idea of what it was
2:46
simply because anything that comes in new to my profession,
2:51
I'm curious about it. Because, you know, so many things can be
2:57
positive, and you can have disruptions positive or negative
3:00
nature. And so you had a lot of different issues that occurred
3:05
with some of those and many others that tried to start in
3:08
the 90s. But the primary thing I would say, is that those
3:14
disruptions were minimum and minimal and it really didn't
3:16
take off. Because number one, there wasn't a ton of private
3:20
equity in it, there wasn't a lot of momentum behind it, there
3:23
weren't that many of them, and they never really got the
3:27
critical conversations going in a big way. The second thing was,
3:32
is the dental profession in the early 90s really had not
3:37
experienced many disruptions and have been pretty much the same
3:40
for years. I remember the biggest disruption that we saw
3:43
was when Invisalign came out by Align technology, that was the
3:47
biggest change we'd seen in orthodontics, and maybe since
3:52
the since bonding materials to go from bands to brackets. And
3:57
so people just did not see these disruptions as being anything
4:03
that they needed to take part of, or there wasn't a critical
4:06
enough reason for them to make a change from the status quo. And
4:10
so those pretty much kind of died out or went underground for
4:14
a long time until the recession of 2008.
4:18
Alison Werner: Okay, so let's talk about that recession and
4:22
how it changed the trajectory in terms of consolidation.
4:28
Dr Greg White: Yeah, so there were several different things
4:31
that came to bear at that time. When the recession hits in 2008,
4:37
you saw a lot of discretionary income that went away. And you
4:43
saw the top line of dental offices start to diminish, and
4:47
you saw the bottom line start to diminish as well. So dentists
4:50
are very conservative by nature. And when we run into economic
4:53
downturns, we generally look immediately to the expense
4:57
columns on our P&L and we try to say have ourselves to
5:00
prosperity. So what we're not going to do is buy dental
5:05
offices that are for sale, we're not likely to bring on associate
5:09
doctors at that time. And we're likely to try and cut costs such
5:13
as marketing and other items, look for less expensive supplies
5:20
in order to kind of hunker down and make our way through the
5:25
downturn. So what had happened at that point was that you had
5:31
the DSOs that had started, as we discussed in the 90s, many of
5:35
them, they only gained about 2% market share, up until 2008. But
5:43
now all of a sudden, you saw a dramatic seismic shift, as a
5:47
result of that recession, and the doctors that were not buying
5:51
practices and not expanding through associate recruitment.
5:55
And so you had practices that were for sale that no doctors
5:58
were buying, and you had dental students coming out of school
6:01
that needed jobs. And that was very much exacerbated by the
6:06
fact that the student loan debt had doubled over the seven years
6:10
leading up to that time. And so these kids coming out of school,
6:13
had a lot of debt, much more so than their predecessors, they
6:17
needed a job, and the DSOs were there. And so the DSOs started
6:22
hiring these kids coming out of school and started buying these
6:25
practices that were for sale. And you saw a growth from 2% to
6:29
13% of the overall dental market, general dentistry, being
6:33
consolidated during those years from 2008 to 2013.
6:39
Alison Werner: Okay, so then can you talk about how the growth
6:41
pattern of DSOs of the dental industry and what is spurring
6:45
that growth, so because I know in 2015, there was about 12%.
6:49
But now, in 2023, we're at about 34%, you wrote.
6:54
Dr Greg White: So, in 2008, through 2013, you had these
7:00
platforms, these DSOs, which are basically platforms to be able
7:05
to handle many of the administrative services of the
7:08
practices that they had purchased. And these platforms
7:13
became very intriguing to private equity. Private equity
7:18
started looking at this fragmented industry dentistry,
7:21
they started taking a look at the balance sheets of these
7:24
practices and realized these practices have like a 35, 40%
7:29
cash flow, profit margins are enormous in there. If we can
7:34
somehow figure out a way to grab a hold of some of that
7:39
profitability, that could be a really, really good investment
7:42
for us. So what's the best way to get to as many of those
7:46
practices as possible? Well, the best way to do it is to invest
7:50
in primarily majority interest in the DSOs that own the non
7:57
clinical assets of those practices, which is where all
8:00
the monetary value is held. That's the furniture, fixtures,
8:03
equipment, the names of the practices, the leases, the
8:08
accounts receivable, the profits. If we can go in and buy
8:11
majority interest in the company, that is a platform for
8:15
managing those and owns those assets, we can now pay a pretty
8:20
good amount of money for that, in order to be able to have a
8:25
great little return on investment. So they started
8:29
looking around private equity started looking around because
8:31
there was a lot of cash that certainly started starting to
8:35
come into the economy, and what do we do with it. And so PE went
8:40
out to institutional investors or family funds or whatever,
8:44
created the PE fund and then went to these DSOs and said,
8:48
Hey, we would like to partner with you. And we're going to put
8:52
this on a three to five year trajectory before we
8:56
recapitalize which means sell out to the next private equity
9:01
group that then will take majority interest in the DSO.
9:04
And so an example of that would be they would pay X number of
9:11
dollars in order for to get majority interest. And then the
9:15
DSO with the backing of private equity and private equity would
9:20
usually arrange this for them would arrange mezzanine loans
9:25
and say, Hey, listen, if we can get this money from you, we're
9:29
going to invest it in buying additional dental practices here
9:33
and expand this footprint greatly. And we're going to,
9:36
we're going to they're going to sell it to us because we're
9:39
going to offer them a higher multiple than traditionally than
9:44
dental offices have traditionally sold for. So
9:47
instead of the three and a half multiple they started offering
9:50
5x and 6x and beyond multiples of EBITDA in order to buy those
9:57
practices, meaning buying the nonclinical assets out of those
10:01
practices. And we can discuss the difference between clinical
10:05
and non clinical assets later, but we're going to buy those and
10:09
offer them more money than that doctor would think they would
10:13
ever get for their practice; but we're going to also put that
10:16
doctor on an employment contract so they're going to stay, we're
10:19
not losing our provider. So that shifted the manner in which
10:23
doctors retired, because in the past, doctors would generally
10:27
bring an associate doctor and associate for a while, could be
10:32
six months, it could be 10 years, they would then sell that
10:36
associate interest in that practice, and then eventually
10:39
sell the practice out. In many cases, they would bring an
10:42
associate and say, I want to be out in six months, I'll sell it
10:45
to you, we'll do a transition six months and gone. In this
10:48
scenario, the doctor is now working for the practice in the
10:53
DSO for a much smaller income, and they're doing it for a
10:57
period of years, really hoping that the partial value of their
11:03
practice that they rolled into stock is going to pay out at the
11:07
next capital as a recap event.
11:10
Alison Werner: Okay, because I was going to ask you were stock
11:13
plays into that, because you do mention it into the paper as
11:16
kind of one of those cons to private equity funding this
11:21
growth.
11:23
Dr Greg White: Yeah, so what happens and the best way you did
11:26
this in the paper gave an example of a $2 million practice
11:27
that has $1 million of profitability. So say you have
11:28
an orthodontic practice, it's two year $2 million in revenue,
11:32
$1 million in expenses, and that doctor is taking home before
11:41
taxes a million dollars a year. DSO would come to that doctor
11:46
and say, Hey, listen, if you're willing to work for $300,000 a
11:50
year, we'll sign a contract with you for three or four years, you
11:54
get the same results that you're getting, now we're better, we're
11:58
going to take that difference between that million that you
12:01
used to make and the 300,000 that you're going to make as an
12:03
employee of the company, and that's a $700,000 difference,
12:08
we're going to take a five multiple of that 700,000 and say
12:12
your practice is worth 3.5 million, we're going to give you
12:15
$3 million in cash, we're going to give you a half million
12:19
dollars in stock, be sure to go out and say some really good
12:22
things about what you've done, so that other people will do
12:25
likewise. And when we have this recap event in three to five
12:28
years, your 500,000 will grow to some unknown number. So what's
12:35
interesting is that doctor's really given up $700,000 a year
12:39
income for four years, which is 2.8 million in order to get $3
12:43
million up front. So they really have just gotten a cash advance
12:47
on the money that they own on the profits they were going to
12:49
take anyway. What's really interesting is about how the
12:54
finances play out in that practice, though. The private
13:01
equity company is that the money that they put into buying the
13:04
majority interest in the DSO is very rarely the money that
13:08
actually goes to that doctor, that $3 million to pay them for
13:13
their practice. That is that mezzanine loan. So the growth
13:17
really started taking off when interest rates were low at 3%.
13:22
Because that doctor gave up 700,000 of income that now the
13:27
DSO was getting in one form or another through managed service
13:31
fees or profits or whatever, for the $3 million, but they were
13:37
only having to pay 3% and interest only on that mezzanine
13:42
loan. So 3% on 3 million is only 90,000 a year, that doctor gave
13:48
up 700,000 of income for that $3 million check. And the DSO is
13:54
only having to debt service 90,000 of it. So that gives them
13:57
610,000 of profits in that practice to be able to use as
14:03
managed service fees distributions to the
14:07
institutional investor or profits for the DSO. And the
14:11
doctors in total, all of the doctors combined in that DSO,
14:16
usually own a very small percentage of the DSO. It's the
14:20
institutional or it's the private equity company that
14:23
usually has majority interest in it. And then the founders of the
14:27
DSO have a piece of it. So most of the time, you will find that
14:31
it's around 18 to 24% of the entire DSO that's actually owned
14:37
by the doctors themselves and there could be hundreds of
14:40
doctors and a handful of people in the PE and when one investor.
14:45
Alison Werner: Okay, okay, so what is driving doctors to turn
14:49
to DSOs today?
14:53
Dr Greg White: That's a question I asked myself a lot and I think
14:58
I can only think of two reasons why anybody would take a four
15:01
year cash advance, work the four years and just give up their
15:07
entire practice, the monetary assets of the practice and the
15:11
value, for some unknown number that they're going to get on
15:16
this little piece of stock that they have in the DSO. So outside
15:20
of not understanding basic math, or they owe somebody money that
15:27
they have to get to them fast, I can't think of a real legitimate
15:32
reason. But if you ask me why I think they're doing it is I
15:36
think that that presentation that is made by the salespeople
15:40
within that DSO and the way that they present these huge numbers,
15:46
make it look so good, that I think the doctors get married to
15:51
that number, and they hope that that big payout occurs. Because
15:55
what they would show, what I've seen shown is, they will show
16:00
you the 3 million you're going to get in cash, they don't show
16:03
you the 700,000 that you're going to lose each year over the
16:06
next four years, they show you the 300 that they're you're
16:09
going to make. So now they're adding 1.2 million to the three.
16:13
And then they're saying that 500,000 could be worth a four or
16:17
five or six multiple. So now you're looking at this number.
16:20
And it looks like it's like $7 million for my practice, but
16:25
you're only getting three, and you're giving up 2.8 to get it.
16:29
And I think that gets so excited about that number. Now that ties
16:33
into, they're also probably tired and fatigued. And they
16:38
also probably haven't located an associate that's going to come
16:41
in and and buy them out. And so they finally, or maybe they've
16:46
had a couple of associates that haven't worked out, and they
16:49
think this is the best option I'm ever going to have. And so
16:52
why not. But the biggest problem that I see with that long term
16:57
is that they're not just selling their practice, they're also
17:01
selling all the future profits out of their practice. And
17:05
therefore the next doctor that replaces them, when they do
17:08
retire, is now has been commoditized. They're going to
17:13
come in at entry level. And they're going to work at that
17:16
entry level or what the least amount that can be paid for that
17:21
doctor until they thence that group sells it to the next
17:25
group. And it really turns the dentist into the equivalent of
17:29
what we've seen happen in pharmacy and medicine, where you
17:32
don't have the corner drugstore, where the proprietor owns it and
17:37
the business, but rather you have the third shift worker at
17:40
Walgreens or Rite Aid or whatever. And and that's, you
17:44
know, exactly where this is heading as this snowball
17:48
continues to roll.
17:50
Alison Werner: Did you find any trends in terms of age or point
17:56
in career in terms of who is interested in DSOs at this
18:01
point, that option?
18:02
Dr Greg White: Yeah, so it's changed. And and you saw this
18:03
Alison Werner: Yeah. Well, you talked touched a little bit
18:05
change really starting to occur just before but really
18:09
accelerated by COVID. Most of that growth from about 20% to
18:13
32% of the the consolidation of general dentistry and from about
18:17
2% to 10 to 12% in ortho and pedo occurred between nine the
18:21
end of 19 and the end of 21. Okay, so that was greatly
18:25
accelerated by COVID, as a lot of people just said, Hey, I'm,
18:29
I'm tired of this, I don't want to ever go through this alone
18:33
again. And so bring me the paperwork, I'm signing it. It
18:37
was also exacerbated by the scare that when President Biden
18:41
came in that capital gain tax and capital gains taxes, were
18:45
going to double and this is your year. So every single year, I've
18:47
there about what this means for younger doctors selling their
18:49
heard this is a year to do it. This is a year to do it. And so
18:54
they're you know, they're still around every single year saying
18:58
this is a year. But if you go back to where this really
19:02
started gaining momentum, you saw more of the doctors were on
19:06
the end of their career spectrum. This was their exit
19:10
plan. I'm not going to find a doctor that's going out of
19:13
school is going to be able to afford this. They owe so much in
19:18
student debt. They're basically coming out of school with the
19:22
equivalent of a mortgage. They're not going to be able to
19:26
take another mortgage to do this. They're certainly not
19:30
going to be able to pay what these folks will pay. I'm going
19:34
to be working the next four years anyway. I might as well
19:36
practices. But I'm curious, what does it mean for younger doctors
19:38
just do this and and retire. So that's what happened with those
19:42
folks. Now, what you're seeing a lot of is the younger folks that
19:46
are starting to do that, and they're doing it for a few
19:50
different reasons. One is they do have the student loan debt
19:54
and this is an opportunity to get some cash upfront to be able
19:57
who are coming out of their residencies and looking to get
19:58
to pay that off and get that burden behind them. They're also
20:00
started their careers? What does the growth of DSOs do to them?
20:03
promised these multiple recapitalizations, or the
20:06
opportunity for them that you're going to be able to cash out
20:10
some of your stock, roll it into the next one rolled into the
20:14
next one, instead of taking the full $3 million, take 1 million
20:19
of that plus the 500,000. Roll that in. And now you don't have
20:23
500,000, that's going to be that's going to yield you a 4x
20:27
or 5x. But you're going to have 1.5. And so they're buying into
20:31
that. And who knows how that's going to pay out a play out,
20:35
it's going to play out well for some and not well for most
20:39
suspect. But it is a really good way of keeping folks in what I
20:44
called indentured servitude long term. Because if they make the
20:48
wrong play on that, and it doesn't pan out, what are they
20:52
going to do now? What's the next move? Are they going to go out
20:56
and start all over again, they're not going to really have
21:00
the funds to be able to purchase a practice. So they're going to
21:04
be there either way, is my thought. And so I think you're
21:08
gonna have a lot of disillusion people that are going to come
21:12
through this. How much you're going to hear about it, I don't
21:17
know, because I think it's going to be very embarrassing to talk
21:21
about it much.
21:40
Dr Greg White: So what's happening right now and I have
21:44
been to probably 18 to 20 dental schools, mostly the residencies
21:50
in ortho and paedo over the course of the last six months.
21:54
And very few of them are going to be able to buy practice, very
22:00
few of them, if any, are going to be able to start a practice
22:04
because of the amount of student loan debt they've got. And so
22:11
they are definitely ripe for recruitment by the DSOs. And
22:15
their thought in their, their minds at that stage of their
22:18
career is well, I'll go work for DSO for a little while while I'm
22:22
figuring it out. And I'm always really a little bit intrigued
22:28
about that. Because I talk to these residents and talk about
22:30
how much effort and energy and thought and planning and
22:35
discipline it took for them to get from being one of many in
22:40
their high school to being someone that got accepted into
22:44
an ortho or pedo program. It takes a different type of person
22:48
with a different type of discipline and a lot of
22:50
planning. So I'm always very congratulatory of them for
22:55
making that accomplishment, reaching that goal. But I'm
22:59
equally little bit perplexed by how little thought has gone into
23:06
the next move, which is the one that's going to greatly impact
23:09
their life, probably more so than any that they've made to
23:12
that point. And that is, what next? What am I going to do? So
23:18
I think they see that DSO as being kind of a mezzanine step
23:21
when they graduate. And they also I find that a lot of the
23:28
residents, they have a different mindset than maybe I did 30, 35
23:33
years ago, in what they're wanting out of life at this
23:37
point. They seem to have a very distinct idea about where they
23:44
want to live and what they want that to look like. A a survey
23:51
that I saw that was taken by Shannon Patterson of Bentson and
23:54
Copple about five years ago, had roughly about 80% of all the
23:58
ortho residents that year wanting to live in the same six
24:01
states. So I think that if you're coming out of school, and
24:07
your mindset is I want to live in Dallas, Texas, you have a
24:11
number of opportunities to go to work for DSOs in Dallas, Texas.
24:15
And so that's the next step. The big question is, how do you get
24:20
out of that? And where do you go from there? Because if I'm
24:24
getting out of school with $750,000 of student loan debt,
24:27
and I'm taking a job for a DSO in Dallas, Texas as an
24:31
orthodontist for 300,000 a year, where do I go from there? It's
24:37
not like I'm making enough money to be able to save up to buy a
24:40
practice. Probably not going to be offered an opportunity to
24:44
come in as an associate paying that much in a privately owned
24:48
practice. And if I do, take a little bit of a pay cut or go
24:53
make a lateral move, what makes me think that doctor is going to
24:57
sell that practice to me at a discount and not sell it to a
25:00
DSO, and here I find myself working for a DSO again, all of
25:04
a sudden. So I don't know that there are many ways out of that
25:09
once you get into it because of the financial chasm between the
25:15
student loan debt and the higher multiple that is being offered
25:19
for valuable practices. So what you end up finding is some
25:23
practices that the DSOs aren't interested in, they do not have
25:28
much of an EBITDA, maybe the doctor is taking home 300,000 a
25:33
year, and so they don't want to buy his practice, because
25:35
there's no value in it, they're going to have to hire somebody
25:38
for 300,000 to come in and replace this doctor. And there's
25:42
no profit. So when will you pay anything for something that's
25:45
yielding no profit? The same question I could ask why would
25:48
the resident go out of school and buy a practice that's only
25:52
cash flowing 300,000, when they can go to work for a DSO for
25:56
300,000. So you end up with these practices in the middle
26:01
that nobody really wants. And so what do you do, and chances are
26:06
they close down; or you have a very successful practice in a
26:10
very rural area three hours away from the nearest airport an hour
26:14
away from the nearest interstate, it might be cash
26:17
flowing a million dollars a year, but it's completely
26:19
worthless to the DSOs because they are not going to be able to
26:23
get a doctor to replace them. So, you know, if that doctor is
26:28
really young, and they're willing to sign a long term
26:30
contract, and maybe they're interested, but if it's somebody
26:33
looking to exit, they're probably not going to find a
26:36
doctor to replace them. The DSOs probably not going to buy them
26:39
for the very same reason.
26:40
Alison Werner: Okay. Well, I want to talk about what it means
26:43
you talked a little bit about this before, but what does it
26:45
mean to be owned by a DSO? Who owns what? And who owns the
26:51
practice? And what do they own? Basically.
26:54
Dr Greg White: Yeah. So you'll very seldom ever hear a DSO
26:58
talking about owning a practice. In fact, they're very proud of
27:01
the fact that they don't own the practice. Okay? The doctor owns
27:04
the practice, and we partner with the doctor, this is a
27:08
partnership. So I'd started digging into that. And I
27:11
thought, well, partnership sounds good. I've been a part of
27:14
partnerships for many, many years. Great partnerships work
27:18
out real well. I've been married to the same woman for 34 years,
27:21
and that's a partnership. And I knew exactly what it looks like.
27:24
I was a part of a orthodontic group practice for a quarter of
27:28
a century and I knew exactly what that partnership looks
27:31
like. So in my mind, I'm thinking, okay, this is going to
27:34
be exciting. So what this partnership looks like. So I
27:38
looked at it and said, Okay, when you pay the money to the
27:42
doctor, what, what are you buying? And what are you not
27:47
buying that? creates this partnership? They said, Well,
27:52
we're not buying the practice. I said, alright, well, this define
27:55
for me what exists in the practice after you partner with
28:00
them? Well, the patients and the patient records. I said, okay,
28:04
well tell me what part of it that you own, either all or a
28:08
majority of, when you pay that doctor the money to become a
28:13
partner of theirs? I said, Well, we own anywhere from 51% to 100%
28:21
of the non clinical assets. That's it. All right. So what
28:25
are those? So well, that would be the furniture, fixtures,
28:28
equipment, the accounts receivable, the names of the
28:32
practices, the leases on the offices. I said, so, and the
28:36
profits. So you own everything to its monetary value, and they
28:41
own everything that's not of monetary value. So how are you
28:48
partners? They said, Well, they're still doing the
28:52
dentistry. I said, Okay, so the partnership is that they do the
28:56
dentistry, and take on all of the liability associated with
29:01
doing that dentistry, for entry level pay. And you guys get all
29:08
of the rest of the profits out of the practice through one form
29:11
or another. And that is what they mean by partnership.
29:16
Alison Werner: So what does that mean? Say there was a case where
29:20
a doctor got kicked out of the practice or somehow was removed,
29:27
they wouldn't own anything, and they could just install another
29:29
doctor in there. Correct?
29:32
Dr Greg White: Well, that doctor who's the partner if they once
29:35
they leave, they're not getting anything anyway except for
29:39
whatever value they have in that stock, that they did not take in
29:46
cash up front. And we've just described that, you know, there
29:50
are literally DSOs out there that have well over 1000
29:58
doctors, okay, that are partners, by that definition
30:04
that I just gave. Those 1000 people are all splitting 20 to
30:12
25% of the money that comes into that DSO when they recapitalize
30:19
and that money when I say that money, I mean, after they pay
30:22
off all of the debt of all of those doctors that they bought
30:28
the practices from, since the last recap. So you could you
30:33
could get, let's say, you have you sell, you have a large DSO,
30:41
and they sell majority interest that the private equity company
30:46
sells their 60%, for example, to the next private equity company,
30:51
and they do it for $100 million. Okay. But let's say that, since
30:57
the last recap, there were $60 million that was borrowed in
31:03
mezzanine loans that they've just been paying interest on
31:06
interest on at of what used to be the profits of all of those
31:09
practices. So that debt gets paid off. So now you've got 40
31:13
million left. Well, those doctors if that DSO is owned 20%
31:20
by all of the doctors, of that, what I say $40 million, that's
31:26
left? Yeah, only 8 million of it gets divided out among those
31:31
doctors, all the rest of it either goes to the private
31:34
equity company that has majority interest, or the the
31:39
administrative group and or the owners of the DSO itself,
31:43
meaning the people that founded it, and the people, you usually
31:47
get a big carve out to the executive team, a lot of times
31:51
that's 10% of the whole transaction that keeps them on
31:55
to get to the next recap. So the doctors are getting pennies,
32:01
maybe nickels on the dollar out of that after it's all said and
32:05
done. Okay, so they don't care if that doctor leaves, that
32:09
doctor is going to stay until that recap. And that's all that
32:13
private, that's all that DSO cares about because it's not
32:16
their problem after that, it's whoever bought them. Now they're
32:19
going to try to have them looped in for a period of time after
32:22
the recap, because if they've got the doctors in place, the
32:25
longer they have them in place, the better off that is for what
32:29
the value they're going to get at the recapitalization. And
32:33
what's happening with the younger doctors now is the
32:37
younger doctors who have a growing practice and who are
32:40
willing to take less cash up front. And within those
32:43
documents, it says that they can only cash out 20% of their stock
32:49
at each recap. They know that they've got those doctors for
32:52
about 20 years; and a lot of doctors are willing to sign on
32:57
to that agreement because they know they're going to practice
32:59
20 years anyway, and they can get a higher multiple for that.
33:02
So instead of a five, they could be looking at a nine, ten. If
33:06
you listen to the podcast on group dentistry now, that was
33:09
late last year, with Chip Finster from Large Practice
33:13
Sales, he talks about double digit sort of multiples in
33:20
scenarios just like that.
33:22
Alison Werner: Okay. Okay, so what does this all mean for the
33:25
patient and the community?
33:29
Dr Greg White: So I don't think you have to look too far do much
33:32
guesswork. This is private equity once they entered through
33:36
the medical service organizations in medicine, and
33:39
once Walgreens and Rite Aid and CVS started buying out or, or
33:46
placing the local independents in such dire financial straits
33:50
that they had to shut down, you get a real good sense of what
33:54
that looks like. So even in the DSOs, you know, you're seeing
33:57
30, 35% turnover rates, and a lot of them, if not most of
34:01
them. What does that do from continuity of care for a
34:06
patient. So if I'm a doctor, and I get out of school, and I take
34:09
a job for $300,000, a year, or 150,000 if I'm a general dentist
34:13
or whatever, my commitment is the length of that contract.
34:18
I've got no investment made in that. I've got no ties to it. I
34:23
can take a look around and see where I want to live next, and
34:27
Florida sounds good. If I can get get a dental license there
34:29
or I've got you know, reciprocal opportunities for licensing in
34:35
other states, I just throw a dart on a map and take a look at
34:39
the DSOs and see who's hiring and what they're offering
34:42
because they're all trying to incentivize people—signing
34:46
bonuses, 25, 50,000, moving expenses. So you could do that
34:52
every two years and take that signing bonus and take the job
34:56
that's going to pay 10, 15,000 more and see the world rolled
35:00
that way. What that ends up being is a lack of continuity of
35:04
care for the patient long term. And if you don't have ownership
35:08
in that practice, meaning control of the profits and the
35:13
dollars and the P&L, you're not going to commit any resources to
35:18
the community and community involvement. So you have a
35:21
deterioration of commitment to community and continuity of care
35:25
to the patient, and high turnover rates. And all that
35:30
goes with it. We've seen it in medicine. We've seen it in
35:32
pharmacy. You're going to see it in dentistry as well. As
35:36
consolidation is going to continue to occur, you'll get
35:40
people that will say, well, it's only going to be about 50%
35:44
consolidation. No, it may be 50% consolidation, but it's going to
35:49
be near 100% of all of the practices that they want. You're
35:54
right, you know, I grew up on a farm and we didn't pick 100% of
35:57
tomatoes out of the garden, we just took the 50% that we
36:01
wanted, and the rest of them weren't good enough to eat. So
36:06
that's kind of what you're gonna see. It's a little bit
36:08
misleading when they say that, I think.
36:10
Alison Werner: Okay, so what are the alternative practice models
36:13
then to a DSO? What's what exists at this point? Because I
36:16
know pepper point is one of those.
36:19
Dr Greg White: I looked around with this. You have to realize
36:22
Alison that, you know, I had 19 orthodontic offices me and my
36:26
partners did and we were absolutely ripe for to sell. We
36:35
had a back office platform that basically performed the same
36:42
functions as a DSO. And in fact, that's what PepperPointe was. It
36:47
was simply a location where all of the administrative functions
36:52
for White Greer Maggard's 19 offices were performed. It was
36:57
part of the whole, it was all the same thing. And so we had PE
37:02
groups that wanted to use that as a platform in order to this
37:06
was easy come right in the platforms already built. The
37:10
technology's in place. The systems are in place, We've got
37:13
19 offices here. Let's rock and roll, let's go. And I explored
37:18
that, and came to the same conclusions that I've just
37:22
covered with you today about what that true value was. And it
37:27
didn't make sense financially, it certainly didn't make sense
37:29
through my core values of settling out to the next
37:32
generation of doctors, especially given the fact that I
37:36
have one daughter that's a pediatric dentist and another
37:39
is graduating from dental school this May. I didn't want to leave
37:43
the profession worse than I found it. And so I started
37:46
looking around. And you have to be really careful when you when
37:51
you listen to what people say about well, this is doctor
37:54
owned, this is a partnership. We're never, you know, we don't,
38:02
we're going to always maintain majority ownership in it, those
38:06
types of things. This is what I've come to realize. No private
38:11
equity company or family fund or any venture capitalist is ever
38:15
going to invest large sums of money into purchasing a DSO
38:23
without having control of when it's going to sell. You're never
38:27
going to see a situation where it's like an institutional
38:34
investor calls up the PE group and says, Hey, we would like to
38:38
exit this, when are we going to be able to get, you know, get
38:42
our investment back, we've gotten nice returns, but we're
38:45
ready to kind of shift into another direction. And the PE
38:48
group says, let me get back to you, I need to go and ask the
38:51
dentist when they're going to want to sell. That's never going
38:57
to happen. They have control—either through majority
39:00
ownership or they have control through the board to be able to
39:07
sell that when they want to. So I looked at all of that, and I
39:11
didn't like the fact that it made no sense from financial
39:14
perspective, core value perspective. And so we decided
39:20
to do something different. And that's what PepperPointe really
39:22
was, was, hey, it's the idea that nobody needs all of this
39:27
cash up front. Or if you don't, then, but you want the
39:31
protection and you want to increase your income going
39:33
forward, and you want an exit strategy, and you want to be
39:37
able to transition ownership from one generation to the next
39:41
and you would like passive income in retirement and the
39:44
equivalent of a 10x multiple when you add that together and
39:47
leave the profession better than you found it rather than worse
39:50
than you found it then this could be something you would be
39:53
interested in. So it was founded out of the idea that we wanted
39:57
to protect our legacy here in Kentucky. We wanted to protect
40:02
what we had built. We wanted to be able to create a transition
40:06
for the next generation of doctors, but one that they could
40:10
afford, and would protect them and help them grow in this
40:15
economic environment that we're in, and this in this
40:18
consolidation, environment, and create the best, and this is
40:24
what this is what a model has to be, in order to be the most
40:28
successful model, in my opinion, and to be the best model: It has
40:33
to produce the absolute best financial outcome for the
40:36
incoming doctor and the outgoing doctor. It has to have great
40:41
alignment for all of the stakeholders, and the
40:45
stakeholders are the communities, the patients and
40:49
the doctors, and it has to be the most sustainable. So the
40:53
question is asked, well, what's the most sustainable model? The
40:56
most sustainable model is the one that can attract the next
41:00
generation of doctors. No model is sustainable if you have
41:04
doctors retiring, or dying, and no one to replace their work.
41:08
That's it. So which is the most sustainable model, given that
41:13
definition? It's going to be the one that is going to provide for
41:17
those incoming doctors, the best possible financial result and
41:23
the most security and the best long term plan for them in both
41:29
of those realms. So it's easy for us to win that from that
41:36
perspective, because this is about ownership. It is about
41:40
absolute transfer of true ownership, clinical and non
41:43
clinical assets from one generation of doctors to the
41:46
next, as my daughter became a partner in the group on January
41:50
1. And when you don't have all of the hands in the pot, such as
41:55
private equity, and the institutional investor, and all
42:02
of that money stays in the company to be distributed to the
42:08
partners, of which 100% of those partners are the doctors. So
42:13
PepperPointe does not own any of the practices. Doesn't own any
42:18
of the clinical or non clinical assets at all. We simply unite
42:22
the doctors together, and then guide them forward in a group
42:26
because they do not have the experience to be able to manage
42:33
a group practice of 30 or 40 locations. So we have brought
42:37
together four of those such groups. One was 50 locations,
42:42
one was 42 locations, one was 20 locations, and one was 24
42:47
locations. And so what PepperPointe does is help
42:50
strategically manage those four. So the actual managed services,
42:59
but also the strategy and the tactics in order to grow. And we
43:04
have been able to produce in those first two groups, anywhere
43:08
from 20 to 35% growth since 2019; and we've been able to
43:16
increase profitability between 27 and 40%, for those groups,
43:21
since 2019 and 2020. And when you think about the headwinds
43:25
during those times, we've had COVID supply chain shortages,
43:30
and the highest inflationary year in 40 years. So we beat the
43:34
industry and the industry was probably down one to 2% in those
43:39
years, not 21, but if you take a look at 22 and 23. And during 22
43:45
and 23, we were having double digit growth in both
43:47
profitability and revenue while the rest of the industry was
43:51
stagnant. And one of the reasons for that is there's no, we're
43:57
not capital intensive because nobody's getting these big
44:00
checks that we're having to borrow up front. They're getting
44:02
increased income as time goes on. They're getting the
44:05
transition from one generation to the next, and they're getting
44:09
the passive income in retirement. So it's a different
44:13
model for a different time for a different type of people. These
44:16
are not about quitters, these people that we helped bring
44:19
together, these are fighters wanting to fight for their
44:21
backyard. They don't want to give up their income. They want
44:24
a path forward. And they need guidance and want guidance in
44:27
getting from here to there.
44:29
Alison Werner: Well, before we wrap it up, I'm just curious,
44:31
what's your message to orthodontists who are in private
44:35
practice and looking at the road ahead?
44:37
Dr Greg White: So one of the things that we've seen since
44:41
interest rates have gone up and the early adopters have already
44:46
jumped on the DSO bandwagon is you're now seeing a more
44:53
tentative group, a more thoughtful group of people that
44:57
are taking a look at their options. And I think that's
44:59
good, I think that's really good. I believe that anyone that
45:05
is in practice right now, should absolutely start contemplating
45:10
their exit. Okay, whether it's three years from now, or 30
45:14
years from now, they need to start thinking about what is
45:17
that exit strategy, because I can tell you one, that's not
45:20
very good now, nor will it be and that is the one that's
45:24
worked for all the years in the past: When the time comes, I
45:27
hope I find somebody that's going to come in, that wants to
45:31
buy the practice and is willing to pay what it's worth. That is
45:35
not going to work in the future. So there's going to need to be
45:38
some strategic planning right now about what that exit
45:42
strategy is going to look like. So you got to figure out who are
45:45
you going to team up with? Are you going to get together with
45:48
some of the other folks in the area and team up in order to be
45:51
able to combat the inflationary effects that are going to
45:55
absolutely hit the independent doctor more than anyone else, as
45:59
you're going to see the big supply companies and vendors,
46:02
they're not going to come out to the local doctor five years from
46:04
now. They're gonna go to the procurement specialist at the
46:09
100, 200, 300, 400 unit DSO. They're not going to go to a
46:13
sale, they're going to move from a sales force to a service
46:16
force, servicing large accounts, not selling to small practices.
46:21
So that's going to be death by 1000 paper cuts. You can do it
46:25
and you can go on forever. Practices that have been going
46:28
for 20 years, you're not planning on retiring for 10
46:31
more, you're probably going to be fine, because you've built a
46:34
reputation. But you're going to be hit by this inflation. And
46:38
you're going to be hit by the shift from sales to service. But
46:43
still, you haven't figured out your exit strategy; what's it
46:46
going to be? And so that was really what we were thinking, we
46:50
brought that first group together. We want to know what
46:54
that exit looks like. We want to know that it's the best
46:56
financial outcome, we want to know that we can retire when we
47:00
want to retire. So I think those are the questions that people
47:03
need to be asking themselves: Which model is going to be best?
47:08
Staying it alone, teaming up with a traditional private
47:13
equity backed DSO, or something more innovative? All right, and
47:20
do the homework. You know, what I ask people all the time is
47:23
they will call them inquire and I'll give them you know, 30
47:26
minutes, 40 minute overview of it, and then they might say,
47:31
Okay, well, thanks a lot. Appreciate it. And that may be
47:34
enough for some but for many, I wonder, are they doing that same
47:37
thing are you you've put your put more time into deciding
47:42
where you're going to go for dinner, than you're willing to
47:45
put in to how you're going to dispose of the biggest asset
47:50
that you have created in your entire lifetime. So I would say,
47:54
go in and engage, engage with DSOs, engage with whomever you
47:59
want to, us, anyone. Go through the process of truly
48:03
understanding what it is, so that you will have an idea of
48:07
what's on the menu out there so that you can determine which one
48:11
is going to get you where you want to go, and allow you to
48:15
exit in the way that you want to exit at the time that you want
48:18
to exit.
48:19
Alison Werner: Great. Well, Dr. White, thank you so much for
48:21
taking the time to expand on your paper and for fleshing out
48:24
this topic and giving some really helpful advice for
48:26
orthodontists as they look to the future. I really appreciate
48:29
it.
48:30
Dr Greg White: No, it's my pleasure. It's always great
48:32
talking to you. And you can probably tell I'm pretty
48:35
passionate about this. I care greatly about what happens to
48:40
dentistry. It has meant so much to me and my family. And I want
48:44
it to continue in its very best form possible with a great
48:48
alignment for all those stakeholders. So thank you so
48:50
much and you have a great day.
48:51
Alison Werner: Thanks you too. As always, thank you for joining
48:54
us. Be sure to subscribe to the Orthodontic Products podcast to
48:57
keep up with the latest episodes. And be sure to check
48:59
out orthodontic products online dot com to keep up with the
49:01
latest industry news. Until next time, take care.