For the last several weeks, we have been fielding calls from dentists concerned about interest rates, a looming recession and historically high inflation. They want to know what effect this has on the market for dental practices. They also want to know if this is the right time to put their practice on the market.
Interest rates have been historically very low for the last several years. The prime rate peaked in the summer of 1981at 22.75% and has declined steadily ever since. Prime has been below 4% for the last 12 years. The 2.25% increase in thePrime rate over the last several months will have an impact on the affordability of dental practices. For example; payments on a $1,000,000 loan over a 10-year amortization have risen from $9,404/month in January 2022 to $10,460/month in August 2022. This amounts to roughly $1,000/month in additional interest. While this is not a small amount, it is still not enough to dissuade someone from buying a practice. A dental practice is a long-term investment that will have the ability to pay the owner and service the debt, despite higher interest rates. Furthermore, banks are smart and do not want their clients in a tight cashflow situation that might impair their loan. As a result, they are now extending the amortization period from 10 to 12 years for many of their practice loans. That longer amortization period will reduce the payment on the loan from $10,460 to $9,099, making the practice more affordable than it was in January. The banks make more money on the longer-term loans too so it’s a win-win situation. It is expected that the Bank of Canada will continue to raise rates into the future. If or when this happens, the same bank strategy will continue. This will cause buyers to be a little more careful in the selection of their practice and it will also likely have the effect of reducing the premium over appraised value that they are willing to pay. However, it will not stop good practices from selling at good prices.
Some of our callers have indicated that this interest rate increase will not impact the DSOs (Dental Service Organizations) in the same way since the DSOs “pay with cash”. While it is accurate to say that DSOs do not have financing conditions in their offers like most individual buyers do, they are still impacted by interest rate increases. dental corp, the largest and only public DSO in Canada, had just over $1 billion in debt on its balance sheet in its most recent public filing, which is an average of $1.9M per practice they own so, the interest rate hike will have the same effect on them.
Economic forecasters are predicting that Canada will enter a mild recession in 2023 due to inflation, labour shortages and rising interest rates. Most aspects of the healthcare industry are somewhat immune to the impact of a broad-based recession. Dentistry is definitely one of the healthcare disciplines that is protected from major swings in productivity due to the repetitive nature of the industry and the fact that treatment is still necessary regardless of broader economic situations.
Look at your dental practice as an investment. If you sell your practice for $2,000,000 you will probably end up with about $1.7M after tax. If you earn an annual return of 7%,you will have pre-tax income of about $120,000. The average dental practice provides a bottom-line pre-tax net income of approximately 18% of gross. If the $2M practice in our example grossed $1.2M, it would earn $216,000 after all providers and expenses are paid. That is an excellent return that really can’t be matched by other investments you might make. Certainly, there is work involved to achieve that return and debt expenses have not been factored so it is not an apples-to-apples comparison; however, the fact remains - a dental practice is an excellent investment. This is what is attractive to all the private equity companies, DSO’s and other small aggregators to dentistry.
Dentistry is definitely one of the healthcare disciplines that is protected from major swings in productivity due to the repetitive nature of the industry and the fact that treatment is still necessary regardless of broader economic situations.
I do not believe that the decision to sell a dental practice should be influenced by interest rate fluctuations or recessionary fears. The decision to sell for most of our clients comes from the realization that they would prefer to spend time doing other things than owning, being responsible for, and managing a dental practice. They are completely aware that they are trading money for time because it is rare that any other investment will produce a better return than their dental practice.
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David Lind is a Principal and Broker of Record in Professional Practice Sales Ltd. (www.ppsales.com), which specializes in the valuation and sale of dental practices. He can be reached at (905) 472-6000 or 1-888-777-8825 or e-mail at: firstname.lastname@example.org