Five DSO Trends for the Next Five Years

The dental industry has seen several years of significant acquisition activity from both private equity firms and from large Dental Service Organizations (DSOs). With the industry primed for consolidation, the next several years should continue to see significant M&A activity including new and exciting growth opportunities.

While there are a number of large and growing DSOs, the industry remains significantly fragmented with only 7.4% of dentists affiliated with DSO per a recent American Dental Association report. What is more interesting, however is that 16.3% of dentists under the age of 35 are affiliated with DSOs. With younger dentists increasingly willing to work for DSOs, the climate is right for continued DSO growth and consolidation.

In looking at recent market activity, I anticipate five trends to stand out over the next 5 years with existing major DSOs and their investors as well as smaller groups and a new private equity base all making a meaningful impact.

1. Selected White Space Acquisitions

While not as newsworthy as a major acquisition, purchasing an individual practice or a small group of practice locations can be a meaningful way to extend an existing footprint. By acquiring practices in “white space” areas, such as Smile Brands’ recent acquisition of Johnson Family Dental locations and Western Dental’s acquisition of Choice Family Dental, these large California-based DSOs have been able to add practice locations in adjacent geographic areas to better serve their primary patient populations while leveraging existing management resources.

However, as the acquisition of a single practice can be tedious and is less impactful than a larger acquisition for a major DSO, these small acquisitions will not likely be the predominant source of growth in the years ahead.

2. Additional Private Equity Firms Entering the DSO Space

With the significant expected returns and the high valuations from recent DSO deals, an increasing number of private equity firms will continue to seek entrance into the DSO space. The 2017 acquisition of Jefferson Dental by Brentwood Associates energized the sector and highlights the expectation that a mid-sized DSO will attract material interest from both private equity firms and larger DSOs. The only limitation on private equity entrance into the space will be access to enough meaningful deals. However, I see that being addressed by trend #3 below.

3. Small Groups/DSOs to Merge (with Private Equity Support) in Next DSO Growth Wave

Investment is all about creating value and getting a meaningful return. With purchase price multiples escalating on the larger deals, the value remains in acquiring smaller groups and either growing them organically or by using them as a platform for acquisition growth.

Middle market-focused private equity firms will look to acquire practices with 5-10 locations and merge them with another comparably-sized group, thereby getting the benefit of both a larger footprint and revenue base as well as the opportunity to consolidate management and operations to maximize profitability. These newly combined DSOs can then either begin the next wave of DSO acquisition growth or they become an attractive target for larger DSOs.

4. Pediatric Dental Market Will Experience Consolidation

While general dentistry consolidation has been ongoing for several years, the pediatric dentistry market remains a highly fragmented space. Even though Pacific Dental Services has a large pediatric brand with My Kid’s Dentist and Benevis has over 120 Kool Smiles locations, overall the pediatric dental market has limited major DSO players. One DSO, Western Dental Services made two pediatric dental acquisitions: Kids Dental Kare and Children’s Dental Group (22 practice locations) in late 2017 to establish a pediatric footprint in the Southern California market.

Over the next 5 years both existing DSOs and newly-backed private equity DSOs will further consolidate the pediatric dental market. There is simply too much opportunity with limited existing pediatric DSO competition for this not to occur.

5. Mega DSOs

With groups such as Heartland, Aspen, Western Dental, Smile Brands, InterDent, Great Expressions, etc. all private equity backed and some nearing the end of traditional private equity investment cycles (typically 3-7 years), the mega-DSO merger is bound to occur. In likelihood, we will see at least a few of these over the next several years.

Once a mega-DSO is formed, accessing the public market via an initial public offering will become a much more attractive avenue for liquidity. With only one DSO currently public, Birner Dental Management (which has only 60+ locations), the public markets are not well acquainted with dental. However, a mega-DSO merger will significantly increase visibility and market acceptance.

 

While private practice dentists are not going to disappear anytime soon, it should be expected that DSO growth and consolidate will continue. Just like patients have taken their medical care from private practice to urgent care settings in large numbers, the dental industry will have similar changes. Therefore, it is imperative that any dental practice owners understand where they fit into the current marketplace and how they should plan for the years ahead to be successful.

 

Michael Roub has headed corporate development at multiple major healthcare firms including a leading DSO. Mr. Roub began his career as an investment banker with Donaldson, Lufkin & Jenrette and has more than twenty years of mergers and acquisitions expertise. Mr. Roub has a BS in Economics from the Wharton School at the University of Pennsylvania and an MBA from the University of Chicago Booth School of Business. As Managing Partner of Inflection 360, Mr. Roub advises multiple DSO clients and other healthcare businesses on strategic alternatives and M&A opportunities.
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