Scaling Orthodontic Practices
How do you expand practices for improved valuations? What's attractive to OSOs?
Private practice ownership is a nirvana that many orthodontists yearn to achieve. From 80% of graduating residents’ opting to enter the workforce as entrepreneurs back in 1980, the numbers have dwindled to a mere 14% in 2021.
Most orthodontic residents today surface their desire to own a practice between 3-5 years after graduation when they have sufficient cash flows to manage debt and are confident about taking new working capital loans.
Even residents who join older orthodontists as their associates take a couple of years before turning partners. They choose to postpone shouldering entrepreneurial stress and manage student loans while evaluating fit with their host practices’ culture.
De-novo startups are cheaper to create but aren’t always the first choice among orthodontists who aren’t marketing whizzes.
The median orthodontic practice was owned by a 55-year-old white male and generated about $1.8 million in production back in 2016. The average practice overhead was 45% and generated about USD 540,000 in income for the owner-orthodontist. From there, a series of tax and investment decisions reduced the actual cash on hand the doctors took home.
When practices hit these benchmarks, orthodontists usually feel comfortable expanding to earn more. They take one of three paths to expansion -
Opening on a satellite center 1 - 1.5 days a week
Hiring an associate with or without practice expansion
Partnering with or owning a specialist office (usually a pediatric or general dental practice)
Often the decision to pursue one of these three vectors is not based on math. Expansion decisions are most often circumstantial based on inbound offers, influenced by retirement readiness, and accelerated by an urgency to prepare practice for sale.
For those orthodontists looking to sell their practice soon and attract the kind of multiples that only OSOs could afford, expansion is critical.
OSOs fundamentally work like hedge funds and are often backed by one. Hedge funds are like unregulated banks where deposits can replace by variable interest rates loans and get used up to purchase new offices and upgrade their level and volume of service.
A practice making only 1.2 million USD in revenue is unattractive to an OSO. The valuation on such a practice would be EBITDA-Doctor’s Income x 3 (upto 7). That means the highest the OSO would pay for that practice is 3 million. Even after making significant changes, a 1.2 million dollar practice won’t be able to crank out more than half-a-million dollars in profits, delaying the breakeven by 6 years for the OSO. Hedge funds can’t wait that long for breakeven periods and aim to sell their consolidated inventory within 5 years of purchase unless they can attract more new capital.
By expanding to a second or third office, orthodontists can achieve gross productions in the range of 3 to 5 million, making it really attractive and viable for OSOs to take over and manage.
My golden number for scaling up practices is “four.”
Four practices located an hour from each other in key school districts or growing suburbs will explode your exit valuations. You could also manage these four offices with 3 owner-doctor days and 4 associate days per week.
At four offices, an orthodontist can still control their systems and maintain personal relationships with referring general dentists. The only exception to the rule is when you want to expand by partnering with general dentists/pediatric dentists rather than by adding more orthodontists.
I have obviously focussed this article on scaling practices to increase practice valuations, but there are many other financial interests that could motivate expansion, including locking in referral sources, minimizing competition, leveraging economies of scale, and building equity.
I’ll finally leave you with a few orthodontic scale-ups that I adore from different parts of the US -
Despite expanding to four offices and selling her practices to SmileDoctors, Dr. Amandha Gallagher is a master at maintaining her unique brand identity.
With four offices built largely through acquisitions, Dr. Sean Holliday owns an empire in Oahu running on the most standardized systems in the industry.
With over six offices in North Bay, CA, Dr. Rael Bernstein owns two brands and still remains the most aggressive at nurturing GP relationships in the area.
Dr. Derrick Phan went from one office to four in a decade, acquiring an oral surgery and orthodontic office by circumstance during his buying spree.
Your choices to scale are personal. But the returns are definitely compelling, even if you are bad at business management. When you choose to scale, be intentional about why you are expanding. Scaling location is irreversible. Lacking clarity before you expand will hurt your peace while building your fortune. Maybe there are some things money can’t buy, and you want to afford it after all!