The Practice Buyer's Corner - Random Musings from the Buy-Side

The purpose of this blog is to share current, real world, experiences on the topics of practice valuation, practice transition, retirement planning, and building equity value - over time - in your dental practice.

Blog By:
seanepp

Ok, we’ve covered a lot in recent weeks - debt, equity, TopCo/JV, partnership considerations, etc.  

So what about deal structuring?  
Deal structuring lays out the components of a deal and how the parties intend to fund or finance them.  The most bandied about term is “cash-at-close” (“CAC”)  - i.e. how much of the Total Enterprise Value (“TEV”) is changing hands as cash at closing compared to being taken back as debt or equity?  

You may hear buyers express this as, “We’re a XX% cash buyer.”

A key structuring consideration starts with how much secured (i.e. “bank” debt) needs to be paid off at closing to ensure clean title transfer of the goodwill and assets to the buyer.  Sometimes there is little to no debt, so this can be moot point.

More often though, the current debt weighs heavily on structuring options as it is the residual equity value beyond the debt that provides the opportunity for buyer and seller to get creative.  If net equity value is limited, structuring options may be limited or there may be no deal to be had, at least for now.

What is not spoken about as much are the financial covenants that most (all?) groups must operate within to keep their own lenders happy.  It is these covenants that are usually the primary limiting factor to CAC, followed by the secured debt conversation above.  

For example, most groups today are operating with covenant tests of < 4.5x EBITDA.  For a practice with 15% EBITDA margins, this translates to a CAC of 67.5% of revenues.

If an equity investment is part of the transaction, an important question to ask is, “Do you need my equity to fund the deal, or is my equity commitment a healthy signal of an engaged partner?”  If the bidder stumbles on an answer to this question, they’ve likely answered it.
Lastly, subordination.  Nearly every lender is going to require that seller notes, earnouts and other contingent payments are going to be subordinated to the group's senior secured debt.  What does this mean?  In a downside scenario, the senior lender is able to delay or block cash payments for a period of time until covenant issues are cured.  While there are always exceptions, this remains the rule and is not expected to change.

To wrap, “market” cash-at-close currently peaks in the mid-70% and it tends to decline from there based on platform-specific reasons - i.e. TopCo/JV model, current financial performance, liquidity concerns, covenant challenges, etc.

Remember, if any bidder is asking you to take credit or equity risk in their group or platform, you should feel emboldened to ask all the hard questions - few things should be off limits.

Stay frosty,

Sean