Everyone is struggling with the impacts of the COVID-19 pandemic. We are all concerned about the implications on our family, friends, broader society, as well as on our businesses and livelihood. At this point, none of us know how this will all play out. However, even in times of unprecedented crisis, data, experience and basic principles can often help us draw reasonable conclusions about what the future may hold. As one of the oldest brokerages in Canada, with a very experienced team of valuation and transition specialists, we are getting a lot of questions these days. Here are our responses:
At this time, very few sales are being completed. Purchasers and the banks that provide them financing are waiting until we have a clearer sense of how and when dental practices will be able to resume treating patients. While most deals won’t close until there is more certainty, many buyers and sellers continue to work through the process, right up to the formal purchase agreement stage, including completion of due diligence. That will enable them to move towards a quick sale completion, once more is known about when practices will be able to start providing non-emergency treatment again.
For the most part, banks are taking a “wait and see” approach before advancing funds. While they continue to work with buyers, loans are unlikely to be approved until practices are able to return to treating patients. Discussions with senior people at various banks confirms that dental practice financing will remain a very high priority for them. Banks continue to view dentists as some of the most secure customers they can loan money to, and they understand that dentistry is far better positioned to deal with recessionary pressures than most other businesses.
Buyers are definitely still interested. Response to new listings continues to be strong. One recently posted listing has attracted over 290 initial enquiries, more than 85 requests for the appraisal and 10 requests to see the practice — all within the first two weeks it was on the market. The significant imbalance in the supply of and demand for dental practices across much of Canada has not gone away. Smart buyers realise that stock market declines may further limit the number of practices for sale in the future (as some owners will no longer be able to retire) and are positioning themselves to be able to secure a practice, while they can. As well, the corporations and their venture capital backers that have been significant dental practice purchasers have continued their interest in purchasing more practices
Uncertainty is never good for prices, and we are in the most uncertain of times now. If there is no immediate need to sell, it may be advisable to wait until things have returned to normal, or until we know what the “new normal” will be. However, not all owners can or should wait. Some owners will need to proceed now due to premises lease issues, health, financial or other personal considerations. Fortunately for these owners, interest in new listings remains strong, although the timeline to close a sale will be dependent upon when and how offices can return to normal patient treatment. Talking to an expert about your specific situation is an important way to understand whether you should proceed with a sale now or not.
The truth is, none of us knows. It will very much depend on what public health and regulatory authorities recommended in terms of starting up again.
An important thing to keep in mind, is that unlike many other businesses, much of what dental offices have experienced is a deferral of revenue, not the loss of revenue. This is very different than many businesses. The revenue for the Uber ride someone did not take, or the restaurant meal they did not eat is lost forever. But COVID-19 does not reverse tooth decay or make impacted wisdom teeth go away. That restoration will still need to be done. Those wisdom teeth will still need to be extracted. And the extra calculus, that built up in the absence of a regularly scheduled hygiene appointment, will take more units of scaling to remove.
So, while we do not yet know when and how dental offices will be able to resume patient treatment, what is obvious is that there will be a very significant backlog of patients to be seen. Most practices already have hundreds, if not thousands, of patient appointments that were cancelled and need to be rescheduled. Addressing this large and growing backlog could make many practices very busy, once they can schedule patients normally again. Being flexible enough to respond with adequate scheduled hours and staffing, when you are allowed to reopen your practice, will be important.
As with all aspects of practice sales, this will be determined on a case by case basis. It is understandable that some purchasers will push for evidence that revenue has returned to previous levels. Banks will be more cautious about advancing funds, until they are confident that practice earnings will be sufficient to service the debt. But competition between both buyers and banks is likely to remain strong, and competition is a powerful force. Buyers with greater risk tolerance, who submit offers with fewer conditions around closing, are the ones vendors are most likely to chose.
Many people are anticipating that in order to protect providers, staff and patients, there will be a requirement for increased use of personal protective equipment (PPE) in dental offices. This has two significant implications. Sourcing adequate PPE supplies will need to be an important part of reopening dental offices. While supplies right now are perilously low, and are appropriately being directed to front line health care workers, production capacity is rapidly gearing up on a worldwide basis. Smart practice owners will ensure they have a resourceful team member seeking out and securing PPE supplies, once it is feasible to do so again.
Increased use of PPE could have a significant cost impact. If providers are required to use a new N95 mask, face shield and gown for every appointment, the incremental supply cost
would be in the $2.00 to $5.00 range, per provider per appointment, depending upon the proportion of disposable versus reusable supplies. At the extreme, if new PPE is required for every patient appointment, this could increase supply costs in an average practice with 4,400 patient visits a year, by $15,000 to $30,000 or 2% to 4% of revenue. If this happens, a compensating increase to fees will be required in order to maintain practice earnings. Encouragingly, the magnitude of that increase isn’t too large.
If this is the approach recommended by health authorities and regulators, hygienists should still be able to scale teeth by hand. This will be a significant change for some, particularly hygienists that have graduated more recently. More units of time will be required to achieve proper results, particularly with patients who have built up unusual levels of calculus because they were overdue for an appointment given office closures. This has the potential to increase hygiene revenues. It is also still possible that patient screening, and fast response testing before an appointment, may enable continued use of equipment that produce aerosols. We just don’t know yet.
Stay tuned here for updates.
There is a lot of speculation about what type of changes might be considered, ranging from modest to very significant impact. Addressing specific options isn’t very productive until we know what health authorities and regulators will decide. There is also discussion of pre appointment screening that could reduce the need for many changes. Until more is known, we would limit our comments to the fact that some changes, such as the increased use of PPE, can be offset over time with manageable fee increases. For potential changes with bigger cost implications, it will be important that the people making those decisions effectively balance the benefits to the public versus the risk of increasing costs to the point that dental care becomes unaffordable for segments of society
The first priority should be staying in regular communication with your staff. They are critical to the operation of your practice, and many are going through a more difficult time than you may be. Understanding their fears, concerns, and readiness to return to work once current restrictions are lifted is very important. Your staff are the bedrock of your practice. Having them ready and motivated, once your office can reopen, will be crucial to your business recovery. Another very important thing to do is to prepare to get all those cancelled patient appointments rescheduled. Smart practice owners will position themselves to be able to respond quickly once it is clear when and how offices can reopen. Make sure you have a prioritised list of which patients need to be rescheduled, and adequate staffing to be able to both do the rescheduling and provide the resulting patient care.
Now may be a very good time to be looking to address any staff shortages you had going into the pandemic or any concerns among your existing staff about returning to work. There are thousands of hygienists, assistants and receptionists sitting at home, unemployed right now and feeling uncertain about their future. It may be a good time to be recruiting to fill any holes in your office staffing.
Finally, don’t neglect basic practice operational issues. One important consideration for offices that have been closed for weeks is ensuring that equipment has been properly shut down and any necessary maintenance for an extended shut down has been done. There are good resources available from equipment suppliers and provincial dental associations in this regard. Also, as previously mentioned, an office should be identifying who will be responsible for sourcing PPE and making sure they are staying on top of developments regarding availability.
For the most part, banks are working closely with the dental offices that have significant debt. Of the many types of small businesses that banks have loaned money to, dental practices will remain among the most secure loans the banks have. For most practices, this is more of a revenue timing issue than an existential one. And banks are smart enough to know this. Unlike some businesses, dentists have been able to shed most, but not all, costs. The four costs which generally account for the vast majority of dental practice expenses are wages (25%- 30%), rent (5%-8%), supplies (6%-10%) and lab (3% to 8%). Most offices immediately laid off staff. Supplies and lab costs are not incurred until patients are back. So, with the exception of rent and loan repayments, most offices have pared costs to the point that their economic survival is not threatened. Many landlords are prepared to defer rent, plus there are now more than 5 government programs providing various forms of cash flow assistance to small businesses, including dental offices.
When it comes to loan repayment, banks have generally been prepared to defer principle repayment and make other arrangements to keep practices going. They have a very strong economic incentive to help a dental practice weather the storm. Only those practices that get through this crisis will be able to eventually repay the remaining balance on their loan. So, the banks have an entirely rational, economic imperative to help practices get through this. Just look at the facts. In most cases, 75% or more of the value of a dental practice is goodwill. That goodwill becomes virtually worthless if the dentist and dental team aren’t there to treat patients. And even the 25% that may be tangible assets can’t be sold at close to that value, in the absence of ongoing practice operations. So, in almost all cases, the best way for a bank to protect itself is to ensure continued operations of the dental practice – and that won’t happen if they push the practice into bankruptcy.
History has a lot to teach us in this regard. Readers will remember the major recession we went through in 2008/2009. By some measures, it was the worst economic decline since the Great Depression. How did it impact dental practices? For most practices, it had only modest, if any, negative impact on revenue and earnings. There were individual exceptions, but for the most part, dentistry is remarkably resilient in the face of economic declines. Indeed, that is often cited by the large institutional and private equity investors, who are backing the companies consolidating dental offices across Canada, as a primary motivator in investing in dental practices.
History teaches us that a recession will have far less impact on the average dental office than the majority of other businesses, small and large. While the exact impact will be determined by the magnitude and duration of the recession plus regional factors, we and more importantly many buyers, remain confident that recessionary impacts on dental practices are likely to be moderate, and an eventual return to normal levels of revenue and profitability will ultimately be where things end up. The key question is, “How long will it take?”
Once again, history provides us some guidance for what we may face as we emerge from practice closures. First, a key thing to keep in mind is that prior to the COVID-19 pandemic, existing supply and demand forces had already driven practice values to unprecedented heights. We were in a strong “sellers’ market” in most places across Canada. The key drivers of this – a significant oversupply of dentists making patients the scarcest resource in dentistry, the strong economics of most dental practices, banks offering great financing terms on practice loans, and an unlimited supply of investment capital funding practice consolidators, are unlikely to change.
Second, history teaches that those intractable forces of supply and demand are likely to get stronger. During and after the 2008/2009 recession, what happened to dental practice selling prices? They went up! Often considerably. That may sound counter intuitive to some, but not if you look at the factors driving supply and demand – the ultimate determinate of the price of everything.
A basic principle in valuing a business is to remove the impact of one-time events that purchasers are not going to factor into their assessment of future earnings potential. The revenue declines that practices experienced due to office closures are just that kind of “one time” event. It is straightforward to adjust for this in a practice valuation. The most common approach will be to substitute monthly revenue from 2019 for the months in 2020 that are affected by COVID-19 related declines, with appropriate consideration being given to whether monthly revenue trends prior to the arrival of the pandemic were positive or negative.
The longer term unknown is whether ongoing practice earnings will be impacted. Selling prices are best thought of in terms of a multiple of earnings (billings minus expenses). As we come out of the COVID crisis, we believe that the potential for reduced supply of practices for sale, along with continued strong or even increased demand, should keep earnings multiples as strong as they were before the crisis. But, if those multiples are applied to lower ongoing earnings, prices could fall. Revenue recovery, and the ability to price to recover any PPE related costs increases, will therefore be the most important factors in sustaining earnings and determining future selling prices
Sadly, there will always be those that will try to take advantage of the fear, uncertainty and doubt that we all experience in a crisis. Just a week into this crisis, we had already begun to hear stories of buyers who were trying to panic practice owners into selling now, at prices below fair market rates, or with unreasonable conditions that hugely favoured the buyer.
Practice owners need to take comfort in the fact that, despite everything going on, the fundamental laws of economics, led by supply and demand, have not been repealed, or even deferred. The one thing we know about all crises, is that they end. And that the prospects for practice values remain strong. The key is to seek out experienced advisors you can count on, not yielding to buyers whose real interest is their own gain.