LEGAL CORNER
Editor’s Note: Dental transactions come in many forms, and understanding how money is structured, when it’s paid, how it’s paid, and what risks are involved, can make a meaningful difference in the outcome of a deal. In this month’s Legal Corner, the dental law team at Mandelbaum Barrett outlines the most common transaction structures and the financial terms every dentist should understand before moving forward.
Navigating Types of Dental Transactions and the Financial Terms to Know Attorney: William S. Barrett, CEO, and Melody M. Block
It is imperative that dentists ask three financial questions to ensure a deal is advantageous to them: (1) how much is being paid to the seller; (2) where is the money to pay the seller coming from; and (3) when will the seller receive payment? To determine the answers to these questions, dentists and dental specialists looking to buy or sell a practice must first understand certain financial terminology, and the types of dental transactions that are possible. We will discuss each of these below.
benefits. The potential tax benefit in seller-financed “installment sales” is the deferral of recognizing the profits of a sale over several years instead of in one tax year. Seller financing is also appealing for the parties that wish to avoid having a lender place a lien on the practice. If an associate or outsider is becoming a partner and only buying a portion of a practice, lenders frequently require a corporate guarantee to ensure they can retrieve payment from the practice if the buyer defaults on the loan. For this reason, the seller will sometimes hold a note instead of a bank to prevent the bank from placing a lien on the practice, and from pursuing payment from the practice if a buyer defaults on a loan. Instead, if a buyer defaults on monies owed to the seller on a note, the seller can take back the ownership in the practice. Earn-Out A third type of transaction is known as an earn-out. This is a transaction in which the buyer pays the seller a percentage, often 10%-20%, of the practice’s gross receipts for a specified period of time. After the closing, the buyer makes installment payments to the seller based on the practice’s performance. Consequently, earn-outs also provide an incentive for the seller to help the buyer grow and succeed post-closing as they will financially benefit from the practice’s growth in revenue. The payment term will vary from deal to deal. If earn-outs are executed correctly, everyone wins: The seller potentially gains more money than they would from a cash deal, and the buyer does not assume the risk of a loan.
Cash Deals and Bank Financing
When an outright sale occurs, the buyer pays the agreed-upon price in cash at the closing without making future payments. The funding for a cash deal will stem from a buyer’s cash savings or bank financing. Since the dental industry’s low default rate encourages lenders to pursue a business relationship with dentists, qualified buyers will likely receive the necessary financing for the
transactions they wish to pursue.
This type of transaction, known as a “cash deal,” is an excellent option for retiring dentists. However, dealing with any post-closing disputes in connection with a cash deal can be challenging since the seller already has all the money from the transaction, therefore the buyer has very little leverage. Nevertheless, cash deals can still run smoothly for all parties when executed properly with contractual safeguards in place. Seller Financing Another option for paying the purchase price is “seller financing.” Under this scenario, the seller will lend money to the buyer directly rather than the buyer seeking financing through a bank. However, this is less advantageous for a seller as payouts can often take years. On the other hand, this type of transaction incentivizes the seller to help the buyer succeed after closing because the seller has “skin in the game” and does not want to lose money on the deal if the buyer were to fail post-closing. These transactions are less common than they once were, but some sellers will agree to self-finance a deal because of the potential tax
Associate Discount Programs
Next, the parties may consider an associate discount transaction. Associate discount programs, or “sweat equity” discount programs, can be applicable
if a junior associate joins a practice but is not yet ready to buy into it. In this situation, the practice can offer a performance-based discount on a future buy-in.
This incentivizes practice growth and the associate’s direct benefit
from improving their productivity.
12 · DentalGrowthAndExit.com
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