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Dental Service Organisations – Q2 2022 Market Update & M&A Outlook

  • Private Equity
  • Healthcare
  • North America
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Specialist

Former executive at Benevis

Agenda

  • Recent trends and developments in the US DSO (dental service organisation) market
  • Macroeconomic inflationary impact on supplier relationships and equipment prices
  • Consolidation dynamics, practice multiple trends, revenue synergies from scale, payer negotiation and referral networks
  • Vertical integration opportunities in DSO service lines and higher-margin adjacencies such as orthodontics and implants
  • 2022 outlook, highlighting technology innovation, organic market growth clip and unconsolidated regions of opportunity

Questions

Transcript

1.
What key trends and drivers have you been following in the US DSO [dental service organisation] market over the past 6-9 months or so?

Specialist (SP): A handful of items which are front of mind for me, I’ve got six on my list over here. Number one is a staffing shortage or just challenges, if you will, on staffing, and this would be comprised at all levels or all types of clinic staffing, from dentist, hygienist, to support staffing, dental assistants and front-desk individuals. The staffing challenges are real, pretty much within every DSO that I’m aware of, and are similar with other segments of the economy as well. I’ll spend a few more minutes on that in just a moment. The second big trend I’m seeing is labour cost, which goes hand in hand with staffing shortages. The cost to go and hire labour is increasing, which is putting margin pressures on a lot of dental organisations. Most are increasing their self-pay fee schedules as they can do that in real time, if you will, but if they participate with insurance networks, those costs are largely fixed, or those fees are largely fixed, and it’s a long negotiation period to go and try and drive increases on that. (1) Staffing shortages, (2) labour cost. Obviously, the two are related.

I’m also seeing, as a third trend, backlogs of patients, so patients who want to go and be seen at the dentist, maybe they delayed treatment over COVID, they’re more comfortable now in going in, but because of the staffing shortages and just the backlog of patients waiting to go and be seen, it can be hard to go and get an appointment at their preferred dentist, at their preferred practice or really at many different practices. There’s a backlog of patients and not enough capacity, available capacity in these dentist offices to go and see everyone who wants to be treated. Fourth trend I’m seeing more on a macro basis is consolidation, and we’ll definitely spend a lot more time talking about that, but the very large players are acquiring other players at all sizes, small, medium and large. The big are getting bigger, the medium-sized players are trying to get larger by acquiring the small players. At the same time, the individual practitioners are starting to go and create their own small DSOs to go ride that wave, so consolidation, if you will, at every level of the industry.

Fifth trend is a growth in multi-speciality. This has been a trend which has probably happened over the last 10 years, but I’ve definitely seen, and you’ll definitely see, general dentistry practices bringing specialists in-house to go and capture some of the value of those patient referrals, be a full-service dental home to their patient and better meet their needs and capture the value of that patient base. I’ve not seen that trend slow down. If anything, it continues to go and accelerate. The sixth and final trend which I’ll go and highlight is the introduction of industry roll-ups in the speciality arena. Obviously, in general dentistry there’s been consolidation and private equity investment and roll-up plays for 20-plus years now. In the last couple of years, there has been an entrée into the speciality world, initially within orthodontics, but it’s expanding into oral surgery and endodontics as well, with specialised players standing up new platforms to go and consolidate these verticals from scratch.

Those are the six trends I wanted to go and highlight. Just one or two additional comments on staffing shortages. One of the trends I saw, at least early on in the pandemic on the dentist side, was, going into the pandemic, there was a less than 1% unemployment rate for dentists in the country. The pandemic happened and you saw a lot of older dentists approaching retirement age accelerate their retirement plans for a couple of reasons. (1) They didn’t want to have the risk of being exposed to COVID in their practices, (2) financially, their personal balance sheets were strong, with a combination of strong housing prices and a strong stock market, and so you saw a dentist approaching retirement age accelerate those plans. You also saw a lot of part-time dentists leave the workforce for child care or COVID reasons, if kids were not in school. A lot of females or other individuals in the industry found that it didn’t make sense for them to go continue to work one, two, three days per week and left the workforce, and they have not returned at a high rate yet.

An industry and a workforce that was pretty much at full employment going into the pandemic had maybe 10% of the available dentists exit the workforce, and that’s a dentist shortage and shortfall that continues today. We’ve seen a re-entry of a small number of those folks, but definitely, net-net, there’s been a decrease in the dentists’ workforce, which is just having a trickle-down effect across the entire industry. Let me pause there, happy to answer any questions or go deeper on any of those trends which I might have highlighted.

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2.
Could you quantify any increases in materials costs we’re seeing from supply chain disruptions or inflation for dental equipment and supplies? How detrimental are these to a DSO or single clinic’s bottom line?

SP: Supplies cost for a dental practice is typically, in my experience, anywhere from 5% to 8% of revenue, so it is a material part of the cost structure, but definitely well behind labour cost in the cost structure of a dental practice. The 5-8%, our listeners might have seen different percentages. A lot of it depends on what you include or exclude. Some folks include lab fees, some don’t. Some folks include the servicing of dental equipment, some don’t, and then also based on the type of dentistry. There are certain types of dentistry like implants, for example, or clear aligners, for example, which have a much higher cost structure, but just on a traditional meat-and-potatoes general dentistry practice, I expect to see between 5% and 8%. If those costs have gone up, call it, 10% in the last year due to a lot of the supply chain challenges and other challenges which we’re talking about, a 10% increase on 5% of revenue is another 0.5%.

Based on my experience, it’s not going to make or break the P&L of a practice. There’s definitely margin compression and margin challenges there, but there also tend to be alternatives for a dental practice. For example, if you were using a middle-of-the-road brand name item supply, you could go and transfer to a generic or maybe go down a notch on the quality of the supply and not compromise patient care. We’re definitely seeing substitution trends to try and manage cost as well as maybe moving away from some of the primary suppliers or distributors like a Henry Schein or a Patterson to more of a regional supplier that might have very similar products available but have a lower cost structure and a lower overhead structure than a Fortune 500 company like a Henry Schein or like a Patterson.

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3.
What’s the trickle-down effect on some of the wholesaler-distributor relationships? Has the negotiation leverage shifted in the DSOs’ favour in the sourcing arrangements?

SP: That’s a good question. Henry Schein is one of the suppliers that I know best, and they try to go and partner with their DSOs and their dental customers, as would a Benco or as would a Patterson, but there’s only so much margin in these commodity items, so if they’re not able to absorb… the distributor is not able to go and absorb 100% or even in some cases 50% of the price increase, so it tends to be a conversation and a partnership. In my experience, working with these distributors, it tends to not just be, “Hey, based on your formulary, it’s an X% price increase, and it is what it is.” Rather, it tends to be them coming to the table with solutions on unchanged, “It’s an X% price increase, but here are a few ideas, let’s partner with you on finding some substitutes or some alternatives to help keep the cost structure in place.”

Likewise, even outside of just price, in terms of supply chain disruptions, some of the better distributors will go and be proactive with their customers, especially some of their better customers, and carve out inventory that might be in short supply and reserve it for some of their better customers or provide advance warning. “Hey, we only have a 30-day supply of this item, so here are three or four alternatives.” It tends to be more of a partnership, if you will, than just a pure commodity pricing, “X% increase, take it or leave it.” I hope that makes sense in answer to your question.

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4.
We’ve seen on earnings calls and management commentary from Henry Schein and Patterson that they’re trying to pass on some of the inflation-induced price increases to DSOs. How are DSOs responding to those price hikes? Are they accepting the higher prices or are they utilising other measures to offset that margin erosion?

SP: It’s never an easy conversation, and again it tends to be a back and forth where, as you can imagine, DSOs have profitability and EBITDA obligations that they’re trying to go and hit to their investors, so it tends to be a combination of negotiating around the price increase on the existing formulary as well as talking about substitutes, alternative generics to go and help manage cost back and forth. Net-net, the DSOs are going to see a price increase on supplies, there’s really not any way around that, but if everything is going up on average, call it, 10%, a DSO should be able to go and maybe only see a 5% increase or something less than that 10% on their supplies cost by finding substitutes, working with generics, partnering with their distributors, etc.

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5.
Do you see DSOs looking to source their own products directly and cut out the distributors over the longer term? What are the pros and cons of direct-sourcing vs utilising a wholesaler or distributor?

SP: It really varies based on the appetite of the DSO. I’ve seen small DSOs source directly, I’ve seen large DSOs choose to go and do so or not. It depends largely, in my opinion, based on both the capabilities as well as the potential cost savings. Supplies tend to be, as I mentioned, it’s not a majority share of a DSO’s cost structure. Additionally, it tends to be an item that is high complexity and low value-add in terms of, there’s a large number of SKUs involved, and DSOs tend to be in the business of supporting their doctors and clinical operations, but not necessarily sophisticated supply chain management individuals, so it depends very much on the appetite of a DSO.

I’ve seen DSOs go and segment out their cost spend and choose to take 10% of their SKUs, let’s say, which might be a higher cost, and directly source those and not others. There are also a few start-up organisations looking to help facilitate direct-sourcing for DSOs. In answer to the question in terms of longer-term, I think as there’s additional consolidation and DSOs get larger and larger, they’ve had additional capabilities to go and direct-source. I personally don’t view this as a material trend where everybody is going to be direct-sourcing in the future, I just think it’s outside the scope of the core competencies of most DSOs and they’d rather spend their management time and attention on other areas that can more directly impact their P&L than driving X% cost savings on supplies, which is already not the largest element of their cost structure.

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6.
How aggressive do you think the larger conglomerates will be in expanding their footprints inorganically given the current macroeconomic backdrop?

SP: Most, if not all, of the larger DSOs are private equity-backed and they have obligations to their investors to go and hit certain growth goals and growth targets. For the most part, 2020 was a washout for these DSOs in terms of growth activity, and they’re trying to make up for lost time. At the same time, if you’re one of the very large DSOs, 300, 500, 700-plus locations, and you’ve got commitments or goals of 10%, 15%, 20% unit growth YoY, it’s really hard to go and achieve that by purchasing individual practices one at a time or even very small groups of five, seven, 10 locations. What you’re starting to see, and my bet of what you’re going to see more of, are the very large players acquiring medium to large-size DSOs, so the 500-plus-unit DSOs not acquiring or not focusing their time on acquiring individual practices or even smaller regional practices of 10, 15, 20 locations. They’re focusing on the 100-150-location, more medium-sized DSOs or even 200-plus locations and taking big chunks and big steps forwards on the growth.

You’re seeing that already with some recent activity from Western Dental, from Heartland, etc, and I would expect to see that the top five, top 10 DSOs will just get larger by consolidating from there. The current macroeconomic environment, I don’t see that slowing down the activity any time soon. They’ve been aggressive on growth, some of the core fundamentals are still there, so I think, unless the economy enters a prolonged recession with extremely high interest rates, I would expect to see continued consolidation in that area.

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7.
How do you think the makeup of DSOs will shift by size? In your opening remarks, you said medium-sized DSOs will continue acquiring smaller ones, larger ones will expand their footprints rapidly and independent dentists will try to create small DSOs of their own. Do you see any room for the smaller regional players to coexist or will the larger practices gobble them all up? How might that materialise?

SP: I think that there’s continued creation of smaller regional players where you have individual practices either joining to go and create a DSO or an individual dentist continuing to start up a DSO from scratch and going from nothing to a small regional size. I think, ultimately, the exit strategy for most of these is to go and sell to someone larger, so there’s going to be continued growth and continued trends of larger and larger DSOs, and as new DSOs get started and grow from individual to a small regional or small regional to a medium-size, there’s just going to be a continued consolidation to create larger and larger DSOs. I still think that there’s room in the industry for small to medium-size regional players, I just think that they’re going to get continued interest for acquisition/partnering with the larger DSOs, and there’s just going to be continued consolidation into ever larger DSOs over time.

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8.
What are your thoughts on the increasing prevalence of multi-speciality practices vs pure-play dental clinics? How are clinics reshaping their procedural focuses to optimise volume mixes and maximise margin accretion?

SP: This is a trend that started 10-15 years ago. It’s either accelerated or definitely has not slowed down, but in general dentistry practice, I’ve seen that they’re sending out a lot of patients to outside specialists, and if they have geographic density and/or scale within a practice, they’re able to go and bring in a specialist, an oral surgeon, a periodontist, an orthodontist, for either part-time or full-time rotational basis to go and treat those patients in-house. It tends to be win, win, win for everybody. The patients don’t have to find another practice that might or might not accept their insurance, it’s a practice that they know and is already convenient to them and, in most cases, that they already trust. It’s a win for the practice, that they’re able to go and drive additional revenue growth and typically higher-margin speciality revenue, and it can oftentimes be a win for the specialists as well as they’re able to go and gain employment and build a practice without having to go and take a 30-year note to buy a building or start their own speciality dental practice from scratch.

It’s a trend that you’ve seen for a whole and we’ll continue to go and see. The clearest partnerships tend to be between a paediatric dentist and an orthodontist. You see a lot of paediatric dentists, either standalone practices or chains, bring on the orthodontist in-house to go and fully meet the needs of the patient in that area. I’ve seen the same in reverse where orthodontists have actually hired paediatric dentists to go and provide that care within their practice, but be the top of that sales funnel for those internal referrals to go and eventually lead from a traditional paediatric dentistry environment into orthodontic treatment.

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9.
On the valuation side, how are clinic multiples trending? I appreciate this may vary substantially by geography and practice size, but how are you viewing multiple trends for multi-speciality practices and pure-play dental clinics respectively?

SP: I’m sorry. Is the question for individual practices or is the question more for an already established group?

Third Bridge (TB): I think it’d be helpful to break it down in terms of an individual practice EBITDA multiple. We’ll say for an established group as a reference point.

SP: Individual practices are trading for anywhere from 3-8x on the general dentistry side, and, typically, there are a couple of additional EBITDA turns that you get on the speciality side. If it’s, call it, 3-8 on the general dentistry side, depending on the individual dynamics of that individual practice, you typically get a couple more turns, so call it 5-10 times for a speciality practice. On the DSO side, anywhere from 10 to 14 times is common on a general dentistry practice, lower if the growth trends are not great or if there’s not a pre-existing growth engine from de novo acquisitions, higher if there’s a strong growth profile, both same-store as well as unit growth, and a strong management team in place. Likewise for speciality, a couple of additional turns on top of that if it’s a speciality vs a general dentistry practice.

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10.
What’s the approximate margin profile breakdown within a specific practice across speciality offerings? How does profitability compare between orthodontics, endodontics, implants and other speciality procedures?

SP: A good general dentistry practice would see margins between, call it, 20% and 30%. You tend to see an additional 10-15 margin points on top of that if it’s a well-run speciality practice, so 30-45% margins tend to be common in a speciality, in a standalone speciality practice, so there’s definitely additional margin at play within the speciality environment.

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11.
Which geographies do you think are most ripe for further penetration? How are DSOs evaluating state reimbursement dynamics, patient populations and other factors when looking at new market expansion opportunities?

SP: I’ll divide it up between general dentistry and speciality dentistry. For general dentistry, there tends to be pretty good DSO activity in most every geography. I can’t speak as well about Hawaii and Alaska, but I do know that there’s DSO activity at least in Hawaii, but in the other 48 states dentistry, general dentistry specifically, is a pretty mature roll-up market, and I would not necessarily say that there is white-space opportunity out there, or at least not that I’ve seen, for de novo activity per se, at least not on large scale, or a DSO to go and get started where one didn’t exist. If you’re starting a DSO in a geography, there’s likely other DSO activity there already. Speciality, and the vertical roll-ups of speciality, tends to be a little bit more nascent and on the earlier stages.

Ortho is a little bit further along. Dedicated ortho, vertically integrated roll-ups tend to be… there are a number of players out there operating and consolidating, largely Texas and east, and there are newer folks which are starting up in real time as we speak, focusing on the southwest, especially having viewed that as having had relatively less activity, less roll-up activity in the orthodontic area. Oral surgery, endodontics, some of the other specialities, the handful of players which are out there are a bit more national and really just getting up and running for the most part in the last year or so, so there probably is a little bit more white space there, but just given some of the new start-ups and how aggressive they are and have been in some of their activity, there’s definitely not a long runway before those markets are pretty well-saturated as well.

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12.
What are the main synergies on the cost side that can be targeted to make clinics more margin-accretive post-consolidation?

SP: Everyone tends to talk about the supplies and supply savings, but as I talked about earlier, supplies tend to not be a significant part of the cost structure of a practice, so there are definitely cost savings if an individual practice transfers or consolidates or partners with a DSO. There are some cost savings, but it’s not going to make or break the economics of the deal. More of the upside opportunity tends to be on the revenue side, providing additional training and support for the existing dentists, maybe going and putting specialists in a market through a practice, maybe negotiating higher fees and fee schedules with insurance, payers, providing training to expand the scope of dentistry provided there.

I tend to see more focus on the revenue synergy upsides than on cost consolidation. The exception is if you already have an existing DSO with an existing management team that gets acquired by a larger DSO. Obviously, you typically don’t need two CEOs, two CFOs, two accounting teams, etc, and there does tend to be synergy on the G&A side if a larger DSO is acquiring another DSO that already has a pre-existing management team. It’s not 100%, but the regional operators typically stay in place, you might need some of the same accounting functions and such, but there do tend to be savings on the G&A side.

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13.
Do you have any sense of how much of a boost, perhaps in terms of practice EBITDA, can be realised from some of the training mechanisms – better reimbursement from payers and other revenue synergies? Could you quantify any uptick in terms of EBITDA per practice?

SP: That’s a good point. I know that when we were evaluating it and just in talking with other private equity firms, we would typically view there being roughly 15% upside on the revenue, so if it’s a USD 1m practice, taking it to USD 1.150m by adding providers, adding days, expanding the service line, etc, and that’s probably conservative. I know other DSOs would go and model well above a 15% top-line revenue growth. On the cost side, I’d say probably no more than a 5% or 10% cost reduction in that environment, so you would definitely get some EBITDA growth from there, but it would be kind of… it’s more on the revenue side and however aggressive a DSO is with driving revenue upside opportunities.

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14.
How do you assess Heartland, Aspen, Pacific and Western Dental’s relative business models and management styles? Who do you think has an advantage in terms of geographic makeup, speciality mix, brand reputation, ability to integrate and so on?

SP: Even though on the surface those four appear to be the big boys on the block, they definitely have nuances internally of who they are and what they look for. Aspen tends to be focused more on a de novo model, although they’re definitely starting to go and acquire, but they’re focused primarily on older patients and their dental care needs and the financing options associated with that. Western Dental, by its name, is expanding out of California on the West Coast, expanding further east. They tend to be very focused on multi-speciality, driving growth through orthodontics. Strong operators, as are all four of these. Pacific tends to operate at a slightly higher end of the market, so if Western Dental is more middle-income, if you will, style patients or even lower-income in certain markets, Pacific tends to be at a slightly more affluent scale or end of the scale, in my experience. They tend to also invest a little more in technology, I’d say, than the other four, at least than Western and Heartland, and a little bit more on the forefront of trying to partner with their doctors.

All four of these groups listed here try very hard to partner, both financially as well as professionally, formally and informally, set up partnerships with their doctors. I think Pacific is probably a little bit more successful than the other four, in my opinion. Heartland has been hyper focused on just general dentistry, they’re just now getting into speciality, and that’s almost by accident. They acquired some medium to larger-size groups that have speciality in-house and they’re realising that they don’t have necessarily that skillset in-house to go and do so, so they’re starting to go and diversify a little bit into a multi-speciality environment. Just a few words on each, but as they’re getting larger, they’re definitely getting more and more, I’d say, professionalised as they grow with more sophisticated management processes, stronger HR groups, and not that they’re moving slower, but the management styles require going through more layers of management than, by definition, a small to medium-sized DSO.

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15.
Could you break down the current supply and demand dynamics for labour in the US DSO market? What shortages are we seeing for clinical and non-clinical staff, respectively?

SP: It definitely varies by DSO, varies by geography, but I’d say, as a rule, there’s definitely a shortage. I’d say most DSOs would hire another 5% or 10% of dentists if they could find them, that there’s definitely an opportunity to go and staff up on the dentist side. On the hygienist side, there tends to be a bigger shortfall. There were, relatively speaking, more hygienists who left the labour market, who left the industry with COVID than other segments of the workforce, so most DSOs I’m aware of are very short on hygienists and would hire more if they could. If dentists are 5-10%, I’d be willing to say that hygienists are probably anywhere between 10% and 20%, and there’s definitely a significant shortage on hygienists. With regards to dental assistants, I’d say most DSOs are running light on that side. Similarly speaking, dental assistants left the industry, and even though a lot of them have experience, a lot of the junior ones were able to maybe find work in other parts of the economy outside of dentistry.

You’re also finding within the DSO space, if a DSO is too rigid on their hourly rates for a dental assistant and their wage scale for that, that there were private practices, private dentists that just became desperate and would hire a USD 15-an-hour dental assistant, they’d go and make an offer to someone for USD 20 per hour. DSOs, in my experience, were very slow to go and catch up. I’ve definitely seen an increase in the average wage scales for dental assistants, but in most cases a dental practice is running light by at least one dental assistant. If they’re used to having seven or eight, if there are multiple dentists in a practice, they might be running with six or seven and just making do. Maybe their total labour costs don’t look entirely out of whack in terms of total dollars spent, but they’re paying the assistants that they do have more on a per hour basis and have slightly fewer total headcount than they would otherwise like to have.

Front desk is a similar issue. These are customer service individuals that can go and get jobs in multiple parts of the economy, and the shortages which other segments of the economy are seeing are similarly evident in dentistry. You’re likely to see shortages there, as well as, on average, a less experienced individual working at the front desk, so just additional training required, a higher level of turnover, etc.

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16.
To what extent are the labour shortages reducing clinic volumes per day? How much of a revenue hit is there from lost visits?

SP: I’d say it’s a combination of a reduction on visits per day, especially if you’re down on hygienists, just a limited availability of hygiene appointments and/or patients splitting up, or having to split up, a hygiene appointment into two, one coming in for X-rays and a doctor exam and then coming back at a later time for hygienist or for the hygiene work. It’s definitely negatively impacting the number of patients that could be seen. I’ve seen environments where it can impact by 20% or more due to being short-staffed. Most practices are trying to go and see the same number of patients with less staff, but that leads to longer wait time. It also leads to staff burnout as they’re finding that they’re having to work harder to go and see the same number of patients, and that’s leading to turnover and other challenges. Patient demand, as I mentioned earlier, tends to still be strong, staffing is a bit light, so patients seen on a per day basis tend to be the same or maybe even higher than they were pre-pandemic. You’re seeing it with less staff, so again there tends to be a higher amount of staff burnout and staff turnover in the process.

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17.
Are there any levers that could be pulled to help mitigate staffing issues? What are DSOs doing to recruit and retain qualified staff?

SP: Obviously, there are different compensation options. (1) Increasing the hourly wages, (2) offering retention bonuses or stay bonuses, (3) offering referral bonuses if you hire… if an employee refers a future hire to them. All of those tend to not be a differentiator. Most DSOs are trying to go and sell their culture as a monetary or non-monetary reason to go and stay, so benefits. I’ve seen a big investment on the part of DSOs to make their benefits, especially medical benefits, more attractive and more affordable for staff. I’ve also seen investments in career pathing for dental assistants and other individuals that might not normally have a career path, so creating opportunity for growth, tying compensation to that growth, and providing additional training to go and diversify skillsets, so a dental assistant moving into or getting in-house training to go and become an orthodontic assistant, which has a higher hourly wage and it provides career growth, which might not be something that other dental practices or DSOs might offer. I’ve seen additional creativity on there. I think those types of programmes can go and help on the margin, but with a lot of these employees it just comes down to that hourly wage. If they can make another USD 1 per hour down the road for similar type of work, they’ll do so more times than not, unfortunately.

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18.
Are you noticing any changes in patient buying behaviour around higher-cost procedures in terms of utilising financing vs out-of-pocket payment? How might this shift in a recessionary environment?

SP: I’ll say, within dentistry, there tend to be multiple ways of treating a patient that has dental needs, and the different ways have different price points. Typically, if a patient has dental needs, and especially if they’re in pain, they’ll still go and get the dental work done, but instead of getting the, quote, unquote, gold-level option, they might downgrade to the silver-level option which might be more affordable at a lower price point. With regards to financing or out-of-pocket payments, one of the trends which has emerged in the last couple of years is just a dramatic increase in the number of third-party financing solutions focused on the dentistry space. A while ago it was CareCredit and maybe one or two other players. There’s been a dramatic introduction of a large number of different consumer financing vendors and partners that are focused on the dental space to go and help dental care become much more affordable and take that risk and that burden off of a dental practice to go and finance the dental care. That’s definitely been a big trend.

Every DSO offers some type of financing solution. Different DSOs have a different level of aggressiveness in terms of if they carry it on their own balance sheet or what types of partners that they go and work with, and I’d say that that’s probably a competitive advantage vs an individual practice. Individual practices might use CareCredit, but CareCredit has a pretty high FICO score requirement, which might not be a good option for large segments of the population. A DSO can offer more and different financing solutions and a higher level of sophistication to go and better meet a patient’s needs on the financing side.

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19.
What’s your near-term outlook for the US DSO market organic growth clip amid a lot of the factors we’ve discussed?

SP: By organic, I’m assuming we’re talking about same-store sales growth as opposed to unit growth at the DSO level. Correct?

TB: Right.

SP: I’d say the growth is going to be challenged to go and get to even double-digit growth, but I’d say low-single-digit growth is going to be common from an organic growth perspective, largely because of these staffing challenges. There already are efforts to try and raise fees and raise prices and get creative on that front to go and drive top-line growth, but there’s still, generally speaking, a capacity limitation, a shortfall on capacity. Typically, you need additional… if you’re already operating at capacity, to go and do more, you need additional dentists, additional support staff, and it really is a challenging time out there to go and achieve that.

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20.
What innovative potential are you excited about in terms of dental practice management software? How are new technologies such as AI being utilised to create efficiencies for practices?

SP: With AI specifically, the two areas of investment I’ve seen on AI are (1) monitoring phone call activity, especially on the sales side, so having real-time call monitoring by AI to go and determine how the, quote, unquote, sales effort went on the call, and if it did not result, if the call did not result in an appointment, providing real-time feedback to the manager of what that individual could have done better, as well as proposed aspects of how to go and reach back out to that patient to try to get the appointment scheduled and drive that sale. (1) At the larger DSO level, I’m seeing a lot of AI activity with call monitoring to try to improve conversion rates. I’m also seeing AI activity on the clinical side in terms of using AI to help read X-rays and other radiographs, not to take that professional judgment out of the hands of a dentist that’s examining an X-ray to go and diagnose dental issues, but rather to go and help the dentist, so help point the dentist of, “Hey, something looks off over here,” and just to make sure that the dentist has fully treatment-planned the care required. There might be additional areas, but those are two specific areas I’ve seen an increase in the activity of AI in the dental space.

With regards to dental practice management software, there are a lot of players out there. I’m not sure anybody loves their practice management system. A lot of players are almost kind of stuck with what they have. If you’re looking at it from a finance perspective, there tends to rarely be a strong financial justification to make the investment to switch from a legacy practice management system to a newer practice management system. It tends to be a pretty heavy investment of both time and resources as well as cost, and just, strategically, it tends to not be at the top of the list for a lot of these DSOs to go and do so, and so you tend to see a lot of DSOs go and kick the can on upgrading their practice management systems. Depending on the DSO, you see practice management systems which are anywhere from fair to good, but not a lot of great ones out there. There are some strong ones out there on the market that, if a DSO is getting started and they can start from scratch, they can go and investigate. My favourite at an enterprise level is likely Denticon, which is cloud-based but has good back-end enterprise reporting capabilities, but you’re not… or at least I haven’t seen a lot of DSOs upgrade or make the switch to a new practice management system just because of the time, energy, resources, management attention required to go and do so.

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21.
What needs to be done on the integration side technology-wise considering appointment scheduling, payment processing and patient record technology to streamline tech infrastructure to realise efficiencies?

SP: You typically need a standard practice management system to go and accomplish that, so that if you have a centralised call centre or a centralised billing team, to go and have those efficiencies, you need everybody in one common practice management system. You need common and standardised patient scheduling templates to go and properly operate and execute against that. There are operational needs required to go and fully optimise around a standard practice management system.

TB: I just wanted to get a better sense of what the technology requirements are on the integration side and what kind of tech integration is needed to streamline efficiencies.

SP: There’s definitely a hardware piece where you need to make sure that the dental clinic has a minimum level of hardware as well as telecom bandwidth into the practice. Depending on what you’re buying, it might be underinvested or aged, and there’s a need to go and upgrade on that, just to go and support a common practice management system. Especially as you get larger and larger, a lot of the technology needs grow as well. Sometimes on the phone system as well, depending on the strategy, there’s a need to go and upgrade the phone system as well to go and support that.

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22.
How do you see the US regulatory landscape evolving for DSOs over the mid-to-longer term? What increased scrutiny could we see around PE involvement in dentistry in general? How much of a headwind on the regulatory front do you see over the next several years?

SP: I started working in the DSO industry in 2007, and I think the headwinds that we saw in 2007 are still there today, but I’d say that the headwinds have evolved into a little bit more of a status quo. Dental boards tend to be strong and influential at a state level, and I’d say that, on average, they’ve gone from being aggressive/negative to DSOs to neutral at this point. Some states are a little bit more aggressive and anti-DSO than others, but I think the industry has evolved to a status quo recognising that DSOs are a large employer and they’re here to stay. The regulatory scrutiny was originally around ownership and what, if any, business influence there was on clinical care, not wanting business people to go and tell a clinician how to go and treat or driving unnecessary treatment just to go and increase the bottom line. Most DSOs have a compliance programme in-house to ensure that the clinical care that is being provided is clinically appropriate, and that tends to be front of mind for any private equity investor in the space as well.

With regards to regulatory scrutiny at the federal level, there’s definitely noise about private equity involvement in healthcare in general. A lot of the scrutiny is starting more in senior assisted living, nursing environments, etc, and the dental industry, through the ADSO and other organisations, is working hard to try to not have it spread, have that regulatory scrutiny spread into dentistry. I don’t think we’ve seen it spread yet, there’s always a chance, but the best defence is a strong compliance programme and just ensuring that dentists understand that there’s accountability in terms of what they clinically treatment plan and clinically treat, and that there’s a good set of checks and balances in place as well.

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23.
Is there anything we didn’t touch on that might be especially important to highlight or is underappreciated about the US DSO market?

SP: I think we’ve covered off on most of the highlights over here. I continue to go and be bullish on it. Again, I’ll say that the general dentistry DSO market is definitely more mature, the speciality is more emerging. I can see there being large players on the speciality side, but it’s definitely 10, 15, 20 years behind the general dentistry side on the consolidations side, but making up for lost time quickly.

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