A few weeks ago, my partner, Kevin Arnold, wrote a blog post about “The Reasons DSOs Hit a Debt-Funding Wall” that created a lot of reaction. The subject matter is obviously a hot button for a lot of growing group dental practices and emerging DSOs these days, so we decided to revisit the topic and have a bank weigh in on the topic directly.
Imagine that – asking a real, live banker to share some “inside baseball” on the nuts and bolts of lending in the group practice space! 
Here’s what the boys in dark gray suits and floral ties had to say…
As the dental industry continues to boom, many group practices are reaching key points of growth in their business. Securing financing is a crucial step to scaling your practice and reaching your acquisition goals, but the process can be daunting. However, it doesn’t have to be.
Banks, whether they specialize in dentistry or not, all evaluate the same credit criteria when determining their risk appetite for lending: basic credit, practice ownership characteristics, and the group’s overall value proposition.
The Five C's of Credit
All FDIC banks, including finance lenders that specialize in dental practice, have specific credit policy guidelines that must meet both OCC lending requirements as well as their own individual credit standards in order to lend. Whether a bank is choosing to finance a dental group’s first practice or tenth location, the five basic “C’s of Credit” are still evaluated:
- Credit: What is the owner’s rating among the personal credit bureaus?
- Clinical: What is the practice’s level of production and professional experience?
- Cash Flow: What is the group’s scale of global debt service coverage?
- Collateral: What is the fair market value of the practice?
- Character: Does the practice have a history of clean dental licenses, a positive reputation, etc.?
Practice Ownership Characteristics
In addition to screening the above, there are many other material questions that must be addressed and practice ownership characteristics evaluated when underwriting group practice loan requests. Some of the qualifications and characteristics that are evaluated include, but are not limited to:
- Practice Owners and Operators: How long has the practice been under the current ownership? Does the education and training held by and required of clinical and support staff meet industry standards? What is the practice’s level of liquidity and production?
- Business Model: Does the practice have a positive track record of effectively managing multiple profitable locations? Is there an effective acquisition strategy in place? What is the practice’s debt leverage ratio? Are the practice’s levels of scalability, economies of scale, and centralization enticing?
- Management Team: What is the level of expertise of the financial, clinical, and staff members within the practice?
- Office Systems, Processes, and Technologies: Is there presently a scalable level of productive practice management, specialty procedures, marketing, etc.? Is there a process in place to track individual practice P&Ls and KPIs?
Value Proposition
Another crucial ask of banks is to receive the long term strategic plan outlining the group’s value proposition. Plans should specifically address how the practice will both attract and retain top talent providers, managers, staff, and high-end patients alike. This provides the lender with a comprehensive picture and helps the banks assess their credit risk appetite to invest $3 - $20 million in intangible practice value exposures.
Questions for the Dental Group
While much of the focus of securing financing for a practice can be aimed at providing the creditors with criteria for evaluation, it is imperative that dental groups also evaluate their own lending needs. Before selecting a lending partner, practice lenders must answer the questions below and commit to a financial institution that can best help them reach their desired levels of growth:
- What is the maximum number of practices the bank will finance for the group? What are the debt, revenue, earning, and cash flow ratios?
- Will the institution offer a large line of credit ($1 - $5 million) for future practice acquisitions, start-ups and equipment purchases? What are the criteria to release the funds?
- Will the bank finance one-off practice acquisitions or does the lender require a first priority lien on all locations?
- Is 100 percent financing offered for practice acquisitions or is an equity infusion required?
Notably, one of the most significant challenges for banks are requests to finance practices selling for more than 100 percent of the practice’s GAR, or four-to-eight times the group’s EBITDA. Large DSO players backed by private equity capital are willing to pay these heightened investment values; however, most banks’ lending guidelines rule out these types of practice value multiples.
To ensure a smooth and successful financing process, it is imperative that group practice owners understand the criteria evaluated by specialty healthcare bank providers, as well as their own needs from a financing partner. Through the delivery of detailed and accurate basic credit criteria, present favorable practice ownership characteristics, and the group’s value proposition, practices can obtain a long-term sustainable capital investment to reach their growth goals.
Special thanks to Dan Croft, Jim Brady, Kurt George, and the guys at TD Bank for providing their insight and collective experience in helping us share this information with our audience.
If you’d like our help in analyzing your debt structure or to discuss any other topics related to trends in our industry, please feel free to contact me at Diwakar@TUSK-Partners.com. TUSK provides industry-leading resources for Group Dental Practices and DSOs. We help our clients START, GROW, and SELL their Group Dental Practice or DSO. For more details, visit our website HERE or feel free to download our Overview of Services.
TUSK will be the featured presenter at the “DSO Foundations” seminar hosted by Patterson Dental Supply in Charlotte, NC on June 1&2, 2018 where we will present “Tactics to START, GROW, and SELL your Group Practice or DSO.” You can find more information and register HERE. We hope to see you there as well!
To see where else we’ll be in the near future, please check our calendar for a listing of all seminars, conferences and presentations.
