The DSO: Comparing start ups to those operating and successful

January 8, 2020 News

by Bruce Bryen, CPA, CVA

The start up DSO from the perspective of owners, the management team and professional employees, has a risk in maintaining an adequate capitalization base in the short term but especially in the long term. A positive line of communication between management and the professional team is a must for the DSO. From a professional dentist’s point of view when the DSO is not funded properly, the ability to have enough supplies on hand, money for payroll and other needs frequently is lacking and the thought of the employee is, “why?”   These types of occurrences create morale issues, reliability problems and damage the reputation of the start up.  Besides requiring adequate capital, another area of concern for the start up DSO is the need for an experienced, business oriented and sound management team.  Compared to an existing well funded and expertly managed DSO, the start up may struggle to maintain its personnel, relationships with suppliers and importantly with its lenders and investors.  How many start up DSOs, similarly to start up dental practices, don’t have the proper advisors necessary to compete competitively for lack of sufficient funding?  Do the start ups have the ability to have a positive response when the need for further investment or working capital arises? What are some of the specifics missing in the start up that the thriving DSO has over come?  The following paragraphs list some of the hard ship examples and concepts for curing the problems necessary for the start up DSO to become a successful DSO.  

Some points that hinder the success of the start up DSO:

The start up DSO has incredible expenses to get its doors open in a positive manner.  Those not intimately involved with business expenses of the type needed for long term growth and private offerings to raise capital will be terribly surprised when the interviews with the professionals occur and their fee quotes are heard. Attracting investors as part of the business plan that has acquisitions as an integral ingredient for success must be accompanied by important advisory names with recognition factors as well as the experience necessary to succeed.  Experienced attorneys who know how to prepare private placement offerings do not charge inconsequential fees. Raising money has a charge as do the CPA firms and other advisors who have the experience in taking start ups and smaller businesses to the next level.  The fully operational DSO has already paid these charges and has the name recognition that goes with the attorney’s name on the papers needed for execution. The CPA firm with the experience in this type of work has a name recognition factor that assists when a potential investor looks at the financial statements.  The lenders and investors of significance want these types of expensive, experienced business people on board to assist in the approach to the start up so that the process is a smooth one.  Egos must be put aside if the DSO is going to be successful.  Lenders also have a comfort level when they recognize the names of the professional advisors of substance and experience.  If the start up DSO is composed of successful dentists who capitalized the start up and are managing it, they are used to funds being available from profits or their bankers.  When dentists are the source of funding and additional “calls,” for capital are placed, the reality is that the non sophisticated investor/dentist will probably hedge and stall prior to understanding that the “call,” is not a request but a need and demand.  This is so different from a successful DSO following a budget and sending the need for funds to its owners.  These are probably hedge fund managers, venture capital firms and individual wealthy business people who understand and want budgets and desire to see them followed in an orderly fashion. 

Lines of Communication:

Communication is typically a missing item when problem areas arise.  Successful DSOs have solid lines of communication between management and those working

at the DSO.  A reason why there may be a situation of fault in talking points may be the lack of funds available for management and the unwillingness to have honest discussions with the staff, especially the professional dental employee about the problems.  There may be an embarrassment with the directive of the owners to be vague about why there are not enough supplies on hand or why paychecks are running late or are not correct.  An adequate capitalized DSO does not have this problem.  The start up DSO may have been founded by a group of financially successful dentists who are excellent clinicians and think they are good managers.  They are learning the hard way by experience that the DSO is not like the practice they ran.  The need for funds on the scale of the DSO far outweighs that of the solo or smaller dental practice.  Telling the truth to the employees is a stressful point when it is money that is the problem.  A cure is that a line of credit can be opened if the originators of the start up DSO don’t’ want to make another capital investment or can’t.  Lenders typically require personal guarantees of owners of small businesses which may create another situation for the original investors.  Another source is to add additional investors.  This of course reduces the originators percentage of equity positions and they are usually not happy about the circumstance. This may cause them to delay in this approach. Either of these decisions is difficult but communicating the facts is critical to the success of the DSO.  If money is the issue, delaying or not acting to cure the problem immediately will cause long term losses of personnel who lose credibility in their management team.  There may be other issues than funding but without the honest communication with the management team and the employees, they will not know. 

Analysis of the management team:

The question which came first “the chicken or the egg,” has a comparison to what is more important,” the funding or the experienced management team?” Just like

the first query, the answer is almost the same in that it doesn’t matter.  Both questions and answers are extremely important.  Success is a result of both being addressed almost simultaneously.  Without the professional management team, a DSO is likely not to survive.  Regardless of how successful the dentist may have been in managing his or her own practice, the DSO is much larger with more egos to soothe than the dental practice that the investor/dentist was probably managing.  Decision making involving substantial monetary points of view, are also more intricate than in the individual practice.  The standard dental practice with even a few owners almost always had those owners egos bathed from their employees. Now the owner must reckon with the dentists who work for the DSO and their personalities.  Retaining the professional management team means that proper capitalization must be available.  The managers may be former dentists but more likely, are successful business people used to what is needed for a profitable organization to continue with its plans for growth.  It is smarter to have the investment available and the management team in place while attempting the hiring process to begin the start up DSO.  Attempting various rounds of funding while the growth is occurring without a strong performance record makes the job harder.  Properly capitalized DSOs look to venture capital firms, hedge funds, or individual investors who have business experience, not necessarily in the field of dentistry for their financial base.  These types of people will insist on good communication, a strong capital base and managers with business experience.   Organizational articles as well as shareholders and employment agreements will be prepared so that future hires will be more easily attained and expansion available with a reasonable economic base and the proper management team. The plans for expansion can not be achieved with out the management team and the necessary funding.

Disregarding the start up and selling to an existing DSO with a strong capital base and solid management team:    

DSOs look for dentists who want to sell their practices for any number of reasons. 

One may be that the selling dentist is fed up with the management time and requirements needed to have his or her practice continue to grow and remain profitable.  They may or may not be older dentists who want to retire and did not properly plan for an exit strategy.  Now that the DSO has become so popular, this can be a perfect transition situation for the dentist who wants to sell but needs a few more years of working and earning in order to retire in the manner that he or she would like to live for the rest of their lives.  The DSO gives the transitioning dentist the opportunity to sell the practice to them. The seller can work in the clinical areas of the practice and earn a reasonable amount of money for that type of effort and production including fringe benefits and bonuses.  The DSO provides all of the management services that the dentist typically detests being involved with anyway.  At an agreed upon time frame, the dentist who has sold to the DSO leaves the practice and the DSO takes over the clinical side of the practice management as well.  This creates a winning situation for the DSO as well as the transitioning dentist.  Sometimes shares in the DSO are available for the dentist who has transitioned to it.  The DSO has its management team in place and is responsible for all administrative, legal, accounting, hiring, providing personnel, purchasing and all other non clinical details.  Comparing this situation of the sale to an established DSO versus a start up, other than the glory and ego involved if the start up is successful, there is almost no question of which is the better opportunity.  The concept of growth and expansion is already at hand with the established DSO as well, compared to the start up.  With the proper capitalization, experienced management team and outside advisors who have experience working with DSOs, additions to the established DSO number of dental offices will most likely be secured, profitable and well run.  The entire process will occur according to the budget provided and will be supervised by the management team with investors happy and expecting the positive outcome.