Your Dental Future: The Legal Path to Purchasing a Dental Practice

Steven D. Barrabee, JD

Steven D. Barrabee, JD, has represented health care providers in business transactions, entity formations, lease negotiations, business and malpractice litigation for over 35 years. Over the last decade, he has lectured on dental business law matters at the University of the Pacific and the University of California, San Francisco, Dental Schools, made presentations to local and state dental societies and published on legal issues in dentistry. Conflict of Interest Disclosure: None reported.

ABSTRACT: The dental practice purchase process requires the dentist to utilize the resources of knowledgeable professionals to identify the preferred dental practice, assess its future potential, target the right price, then document the purchase to protect the parties and allow both the buyer and the seller to transition the practice for both their benefits.

For most dentists, their professional path begins with learning the craft of dentistry in dental school followed by the introduction to their profession as an associate in a dental practice either operated by an individual practitioner or, as is becoming more common, a multi-office dental enterprise. As an associate, a dentist will likely learn the skills necessary to work in private practice including the art of diagnosis, treatment planning, patient communication, rendering of treatment and management of treatment outcomes including complications. An associate dentist is commonly responsible for managing patients but not the responsibility to own and operate a small business. The associate, whether an employee or independent contractor, does not control their own dental destiny. The dental practice owner makes decisions for the practice that determine the patients to be treated, the days of work, the insurance plans accepted, the staff who provide assistance and the nature and extent of the associate’s compensation. Formerly, most dentists desired to be their own boss and the ultimate goal was to purchase their own practice. While that is not currently true for all dentists, for those dentists who have the entrepreneurial desire, the decisions made in a dental practice purchase will have a far-reaching impact on their ultimate professional fulfillment and financial success.

A Team Approach to the Purchase of Your Practice

To meet their goals and protect themselves from common pitfalls in the dental practice purchase process, the purchasing dentist must undertake a systematic approach to the practice purchase process. A successful dental practice purchase should not be an individual endeavor. A wise dentist will be the leader of a team of knowledgeable consultants who can assist in identifying the appropriate practice to purchase, undertaking the proper analysis of the practice to determine if it is the right practice to purchase followed by proper documentation to ensure they obtain the benefit of their purchase.

Much like the decision to buy a house, the first consideration is the location of the dental practice. While it is understandable that many dentists (or their spouses) want to locate in popular and affluent cities or suburbs, the prospective purchaser must analyze whether that is the best business decision. Factors to consider when identifying the location of the dental practice should involve analysis of the number of competing dentists, income level of prospective patients, prospective fee schedules, treatment focus of the practice, likely population growth and the nature and extent of the anticipated commute. Dentists should also consider where they want to live, the cost of living and recreational opportunities. Other considerations include the availability of trained staff, ability to hire and retain professional staff including dentists and the ability to sell the practice and retire. While many dentists desire to work in major metropolitan areas, a dentist may enjoy a better standard of living with less stress in a smaller town rather than the more expensive, highly competitive major markets. One common refrain when working in a less-populated area is the greater difficulty in finding associate dentists and prospective purchasers when it is time to retire and/or sell the practice.

In assessing a location for a practice, a purchasing dentist needs to evaluate the demographic and ethnic makeup of the community in which the practice is located. Changing patient populations, including the gender and ethnic status of the community members and purchasing dentist, may affect patients’ willingness to remain in the practice or the growth potential after sale. If a community has experienced an influx of certain ethnic groups, a purchaser of that same ethnic group may have a better chance to grow the practice population pool.

Another factor in assessing location may be the availability and ability to attract and maintain well-trained staff members. In certain areas of California, particularly affluent areas, it is difficult to find welltrained staff members who can afford to live in those areas. This makes recruitment and retention of front office staff, registered dental assistants and hygienists more difficult. Moreover, even if staff candidates can be identified, their salary expectations are much higher and will adversely affect the future financial success of the practice.

Once a decision is made on a location or locations of the prospective dental practice, the dentist needs to decide whether to build a new practice, purchase an existing practice or purchase a share of an existing practice. Many associates may first discuss buying a portion of the practice in which they are currently employed. The dentist may also consider relocating in the same area as they have been working or looking for a new area to practice.

The most common way to identify a practice is to consult with practice sales brokers who are retained by practice owners to market and sell dental practices.

Once the dentist chooses the location of the practice to purchase, the next step is to identify the dental practices for sale in that area. The most common way to identify a practice is to consult with practice sales brokers who are retained by practice owners to market and sell dental practices. Other sources of dental practices for sale are advertisements in local dental society newsletters, practice consultants, word of mouth, listings by lending institutions and resources offered by dental schools.

Practice Sales Brokers

Practice sales brokers are normally hired by the dental practice seller to assist in valuing and marketing the practice, ensuring proper documentation is provided by the seller to prospective buyers and at times providing initial drafts of sales documents. Practice sales brokers may also facilitate the transaction by providing prospective buyers the names of knowledgeable professionals including accountants, attorneys and lenders who can be part of the buyer’s team. A major caveat for all buyers is that despite all the expertise of the practice sales broker, the broker is an agent of the seller and owes fiduciary duties only to the seller and not the buyer.[1] The practice sales broker as an agent owes fiduciary duties including duties of loyalty, disclosure and due care to the seller who is considered their principal.[2] This means that a prudent dental practice purchaser should assemble their own team to obtain independent advice throughout the sale process. For a buyer it is better to obtain independent advice from trained professionals to ensure that these professionals owe allegiance solely to the buyer and not to the person or entity who refers a substantial amount of clients to that person.

The Remainder of the Buyer’s Team: Accountant and Attorney

The buyer’s team should include specialized financial advisors and dentalbusiness attorneys who can assist in performing the necessary analysis of the dental practice to assess the viability of the proposed purchase and the chance for long-term financial success. While there are many business lawyers and accountants, only a few specialize in representing dental practices. These specialists are more knowledgeable in the issues important for the dental practice sale and can work more efficiently to assist in the fact-finding and documentation process. The two essential professionals that need to be retained by a seller or purchaser are an attorney and an accountant. The attorney should assist in negotiation of the transaction terms including the sales price and then draft or evaluate the asset purchase agreements including the sales contract, lease or lease assignment, associate agreement and the business-entity documents. The accountant should assist in evaluating the sales price, undertaking cash-flow projections, allocating the sales price among different asset classes, setting up business systems after sale and advising on tax ramifications of the transaction. Another professional who can provide additional assistance is a dental practice consultant. These consultants can help analyze data concerning the practice presale, identify ways to increase revenue or decrease expenses, assist in establishing or refining the delivery of business services and perform marketing of the practice.

Evaluation of the Prospective Practice: Valuation Issues

The next step once a potential practice purchase opportunity is identified is to undertake initial evaluation of the information concerning the practice to determine the amount that should be offered for its purchase. Dental practices sold by practice sales brokers and most practices sold by individuals will have been appraised to determine a proposed sales price. Appraisals are commonly performed by the practice sales brokers who have experience in assessing the value of dental practices. Surprisingly, few practice sales brokers are licensed business appraisers.

One important issue for valuation of dental practices is the assessment of past income generated by the dental practice and its potential for postexpense income, known as net income, that can be maintained or controlled by the purchasing dentist. There are two elements in determining future net income—the revenue generated by the practice and the practice expenses.

The first item frequently evaluated is the gross revenue generated by the dental treatment performed at the practice. It is easy to determine the selling dentist’s gross revenue. The selling dentist’s gross revenue will not necessarily be replicated by the purchasing dentist, as the fee schedule of the purchasing dentist may be less than that of the selling dentist.

This is particularly true for sellers who are approved providers by Delta Dental of California. Some Delta Dental member dentists, referred to as Premier providers, are authorized to bill all patients who have insurance plans denoted as Premier and Delta PPO patients at the higher Premier rates. The dentist will then be reimbursed by Delta Dental at the rate agreed to in the patient’s insurance plan and the patient will pay the balance of the fee up to the Premier plan rate. Dentists who are now purchasing dental practices and becoming Delta Dental approved providers or who are obtaining credentialing in new locations are required to bill patients at either the Premier or Delta PPO rates based on the patient’s insurance plan. A non-Premier dentist may only bill patients under the fee schedule they have for the patient’s insurance plan and may not bill patients up to the Premier fee schedule rates. This results in reduced reimbursement for Delta PPO patients. The decrease in fees for the Delta PPO patients, compared to the previous Premier fee schedule, can result in reduced fees of 25% to 50% depending on the procedure compared to the fees that could be collected by a Premier dentist. A dental practice appraisal that solely relies on past production of Premier providers will overstate the amount of fees generated for the same treatments that may be generated after the sale and thus the value of the dental practice. If the selling dentist is a Premier provider, the purchasing dentist needs to obtain information concerning the number of patients who are Delta Dental patients, which of them are insured in PPO plans and the expected decrease in fee schedules that will likely ensue.

One important issue for valuation is the assessment of past income generated by the dental practice and its potential for post-expense net income.

It is possible with substantial effort to assess the likely revenue loss arising from the change in Delta Dental reimbursement rates arising from the loss of Premier status. In a recent transaction, an astute practice sales broker who believed it was in the best interest of both the seller and buyer performed a detailed analysis to assess the potential expected revenue loss by the elimination of the seller’s Premier status. This painstaking evaluation started with using features in Dentrix software to identify the insurance plan for each Delta Dental patient. The fee schedules for the Premier and the PPO plans were compared for each procedure and the percentage reimbursement loss was calculated. A further assessment was made as to copayment amounts and the individual dentist’s collection percentage to calculate the estimated fee revenue loss. In this particular practice, the estimate was that the average change in fees expected to be received by the purchasing dentist were 32% less than that of the selling dentist. In this practice, with gross collections in a particular year of $1,093,000 of which 42% was billed for Delta Dental patients, the expected revenue loss due to the loss of Premier status was approximately $126,000. A prudent buyer should not expect that this analysis will be performed by the seller or its agent, as this assessment is normally considered the obligation of the purchasing dentist as part of their due diligence analysis. While a selling dentist or its representatives may not want to undertake this analysis to estimate future loss of insurance revenue, the disclosure of this information may result in a faster sale if it leads to the practice being appropriately priced and facilitates less uncertainty by purchasing dentists as to future revenue.

The loss of revenue arising from decreased insurance reimbursement can be offset by undertaking additional procedures that were not performed by the selling dentist (e.g., implant placement and restoration, endodontics or extractions), educating patients as to the value of additional or different procedures or material that allow additional revenue or becoming more efficient in providing greater volume of patient care. A purchasing dentist should evaluate production summaries that include cross-coding to determine the type and volume of procedures performed by the selling dentist to determine what procedures they may perform that the selling dentist did not. They should also evaluate patient recall procedures and how to improve the number of recall visits to enhance revenue. Purchasing dentists who do not analyze insurance reimbursement levels and enhancement of patient revenue sources will overpay for the practice or not plan for future revenue growth, which will lead to decreased satisfaction due to the need for increased work to generate the same production or revenue loss. Failure to compensate for lost revenue has resulted in practice bankruptcy in severe cases.

Knowing the future expected gross revenue is only a part of the initial evaluation process to assess the propriety of the sales price. The second part of the valuation analysis is the assessment of the expenses incurred by the practice. Two practices that have similar levels of gross production may have widely varying expense ratios that greatly affect practice value. The overhead expenses of a practice may vary greatly, from 45% in an extremely efficiently run practice up to 70% in a smaller or more expensive practice. Increasing overhead expenses have made small practices less attractive to purchase. An expense analysis is an essential part of the due diligence process to assess net income after expenses, which is a better indicator of a practice’s value to the dentist than gross revenue. Before an offer is made on a dental practice, a purchasing dentist, usually with the help of an accountant or dental practice consultant, should evaluate profit and loss statements and tax returns to undertake a current cash flow analysis to project future net income the dentist can expect under different revenue scenarios. This analysis should be performed based on differing assumptions as to the patient attrition percentages as patient loss invariably occurs after sale. The patient attrition percentage can range from 10% to 30% depending on a number of different factors. The most important factor can be wholesale changes of staff and practice procedures, which should be minimized in the initial year after sale. The cash flow models should assess the expected net income based on varying levels of patient retention and estimates of expected future revenue including the altered future insurance reimbursement levels.

The most important factor can be wholesale changes of staff and practice procedures, which should be minimized in the initial year after sale.

When assessing practice expense, the largest expense is normally salaries, benefits and payroll taxes, followed by rent and supply and lab expenses. Staff salaries should be compared to that of comparable offices in the same area and other localities. A dental accountant or consultant who has numerous clients throughout the region of the practice can provide guidance as to the reasonableness of staff salaries for that area. Assessment can be made if changes in personnel may eventually be warranted to increase revenue. Rent can vary greatly as well with rent payments ranging from $3,500 per month to as much as $8,000 per month, which can alter net income by over $30,000 to $50,000 per year. Supply ordering including the dental lab utilized may also result in changes in practice revenue. When assessing the selling dentist’s recent net income, the purchasing dentist will need to add the new expenses of debt service for a practice purchase loan and the projected cost, if any, of future equipment to be purchased to upgrade the office to the purchasing dentist’s desire. An assessment of future equipment purchases, particularly large items such as X-ray equipment, CERAC devices or upgrading to electronic records and video equipment, should be added to the expense projections to assess the true expected future expenses. When assessing the selling dentist’s net practice income, the purchasing dentist should calculate the salary, profit distribution, dividends, pension plan contributions and other discretionary expenses of the selling dentist. The discretionary expenses may include pension plan contributions, automobile purchase, continuing education, employment of family members, entertainment expenses, business travel, association dues and even country club memberships, all of which may be hidden in the tax return and profit and loss statements. This cash flow modeling of current expenses, projected expenses and revenue leading to projections of future net income is a true assessment of the potential value of the practice and can be used to determine the correct price to offer for the purchase of the practice. Once the cash flow analysis is performed, the buyer can then work with their attorney or other professional to negotiate the sales price.

While the long-term effect of COVID-19 infections will be unknown at the time of the publication of this article, this pandemic is introducing substantial uncertainty in the valuation process. Newly instituted procedures to reduce the chance of infection in the dental office require greater expenses for personal protective equipment, changes in scheduling patients to reduce patient proximity, time needed for disinfecting operatories and reduction of the risk of residual aerosols in the office. These scheduling changes will have an unknown effect on profitability of the practice. The pandemic may also lead to patients foregoing dental treatment due to perceived health risks or seeking less dental care due to personal financial issues. Thus, the prior valuations based on past production levels may no longer be valid. Delaying practice sales until the “new normal” for practice values is established may be necessary.

Sales with a contingent purchase price based on post-sale production are not favored by sellers; lending institutions or buyers may require such contingent purchase mechanisms to reduce the risk of purchase in these uncertain times. In some practice purchase models, a maximum agreed purchase price is established but payment is made for the seller’s goodwill based on payment of a percentage of production that can range from 10% to 20% of production from the seller’s patients received by the buyer over an agreed period of time that is often from one to five years.

Newly instituted procedures to reduce chances of infection in the dental office require greater expenses for personal protective equipment.

In a more traditional practice sale, buyers may also seek to reduce risk by seeking discounts on purchase prices. Flexibility may be required in pricing mechanism to ameliorate the risk of future profitability in these uncertain times.

Letter of Intent

Everything is subject to negotiation, including the price and all essential terms of the transaction. Frequently, the parties with the assistance of financial specialists and attorneys will enter into initial negotiations to reach preliminary understanding of the basic terms of the transaction. Thereafter, a letter of intent to purchase may be entered into that outlines the price, general terms of the asset purchase agreement and payment of a deposit toward the purchase price. It is essential to engage an attorney experienced in dental offices to assist in this process, as this document provides an outline for the eventual terms of the agreement. While normally the letter of intent is nonbinding and the deposit for the purchase is refundable if the sale is not consummated, the seller’s expectations are that the terms agreed to in the letter of intent will not be changed unless the due diligence process reveals significant unknown issues that substantially alter the value of the practice. Renegotiating terms previously agreed to as reflected in a letter of intent can lead to a discontinuation of the negotiation or loss of goodwill of the seller toward the buyer. If the letter of intent is meant to be a binding contract, it must contain the necessary contingencies or conditions that if not met can allow the buyer or seller to withdraw from the transaction without incurring any damages. Common contingencies include the right to examine financial and treatment records to complete the due diligence process, the ability to obtain a loan or seller financing to fund the purchase on terms agreeable to the buyer, the ability to obtain either a new lease for the dental office or assignment of the existing lease, and most importantly, the drafting and execution of an asset purchase agreement/sales contract agreeable to the parties. Buyers will also want a clause precluding the sellers from negotiating or selling the dental practice to a third party while the contingencies are being met.

Due Diligence

Both before and after the execution of the letter of intent, the purchasing dentist needs to undertake the process of discovering and analyzing all necessary information to determine whether they want to purchase the practice and, if so,

the terms of such purchase. This process is known as due diligence. In addition to the initial due diligence assessment previously mentioned to evaluate an appropriate offer price, further assessment of the practice is recommended. Frequently, this analysis includes evaluation of tax returns, financial statements and practice management software reports. These evaluations should assess the dental practice’s current and historical collections from dental treatment, percentage of collections for treatment billed, procedures performed, accounts receivable, age of such accounts, practice expenses, fee schedules and patient payment options. A prospective buyer also needs to analyze the trends of the practice including numbers of patients, new patients, percentage of patients on recall and current appointments scheduled. Further information to analyze includes patient demographics (age, families, insurance status), seller’s practice style (procedures performed, referral patterns), age and condition of leasehold improvements and dental equipment, status of office lease and marketing efforts.

A current or recent dental associate in the practice may hinder the transfer of the goodwill of the practice to the purchasing dentists.

A review of patient records should be undertaken to verify the adequacy of the treatment records maintained (progress notes and X-rays) and the practice style of the selling dentist. If a selling dentist is very conservative in the treatments performed, the existing patients may resist or reject a new dentist who is more aggressive in diagnosing the need for dental care. Notwithstanding, if introduced slowly with increased patient education, there may be an opportunity to identify the need for more dental treatments. If the selling dentist is more aggressive, there may be less dentistry to perform but more chance for replacement of existing restorations. The due diligence review should also assess if patients are paying their full portion of the fees. Some dentists routinely provide discounts, promotional pricing, copayment waivers, barter arrangements or guarantees. If a selling dentist utilizes these types of practices, the purchasing dentist risks losing that patient if the same types of fee reductions are not offered. This is particularly important if patient copayments are routinely waived, as such practice is illegal[3] and violates the insurance plan contractual obligations. A crucial issue in this due diligence analysis is the status of any dental associate in a practice. Under California law, there can be no valid covenant not to compete against an employee or independent contractor.[4] A current or recent dental associate in the practice may hinder the transfer of the goodwill of the practice to the purchasing dentists. While an associate dentist may be precluded from using patient lists or other trade secret information from the dental practice to solicit patients, they may still provide treatment at a dental practice that is a competitor of the selling dentist’s practice. In this era of online identities, a patient can easily identify a new location for a dentist through internet listings. The longer an associate has been affiliated with a practice, the greater risk there may be that the associate dentist has built up a relationship with the selling dentist’s patients and could entice patients to seek treatment from them at another location simply by sending a notice. Serious consideration of the presence of an associate dentist, particular one who has worked at the practice for a substantial period of time, should be undertaken prior to making any offer to purchase a dental practice.

The Asset Purchase Agreement: Documenting Representations and Obligations

After undertaking initial due diligence and agreement on the letter of intent, the next step is the creation of the asset purchase agreement also known as the sales contract. The asset purchase agreement or sales contract should be a comprehensive document setting out the obligations of the parties for the present transfer and to govern future events after the purchase is completed. Common provisions include:

• Description of the parties and precisely what is being purchased.[5]

• Price for the purchase and payment method (all cash or seller financing).

• Allocation of the purchase price between the assets to be purchased.

• Right to use seller’s name, telephone listing, referral sources and patient lists.

• Collection of seller’s accounts receivable.

• Covenants not to compete and not to solicit.

• Retreatment provisions on handling failed or imperfect dental treatment rendered by the seller.

• Completion of current treatment plans and patient scheduling following purchase.

• Transition assistance including letters of announcement or introduction.

• Seller’s representations and warranties.[6]

• Buyer’s representations and warranties.[7]

• Liability insurance.

• Custodian of patient records.

• Indemnification and holdharmless agreements.[8]

• Contingencies to purchase.[9]

• Transition obligations of seller.

• Assumption of obligations of seller.

• Handling of employees.

• Dispute resolution.

The designation and documentation of the assets being purchased, liabilities being assumed and excluded assets that are not being purchased are crucial. Many disagreements arise when the items to be purchased are not clearly disclosed, particularly as to excluded items. This includes not only tangible items, such as equipment and supplies, but also intangible items such as cash in bank accounts, telephone numbers, website domain names, internet sites such as Facebook, Yelp or Google and fictitious names used in the practice. The transfer of and use of intangible items has become more important, particularly for younger dentists.

Many disagreements arise when the items to be purchased are not clearly disclosed, particularly as to excluded items.

An important provision in the transfer of intangible assets involves the right to use the seller’s name after sale. This includes the use of the seller’s names that are imbedded in the practice’s domain name and on social media review sites. While there are no specific laws governing the length of time the seller’s name can be used, the general custom and practice is such use is limited to the time the seller remains working in the practice plus one year. Excessive use of the seller’s name beyond that time may be considered a deceptive advertising practice, which violates state law and ethical obligations.[10] California Business and Professionals Code and the CDA Code of Ethics limit deceptive advertising, and the use of a seller’s name who no longer works at the practice could be construed as deceptive or untruthful advertising. Buyers prefer to be provided the use of the seller’s domain name for the practice after sale, as they want patients searching for the seller to be directed toward the buyer’s website. Sellers understandably do not want to give up their domain names in perpetuity if they contain their own name. The same is true as to internet review sites, as the buyers want to use the seller’s reputation to steer patients to the practice after sale, and that is part of the goodwill that a buyer desires to purchase. If the seller’s domain name is based on a fictitious name for the practice, it is no problem for the seller to permanently relinquish their domain name. However, if the domain name contains the seller’s name, most sellers will only grant a license to the buyer to use their domain name for a set period of time (often for the same period of time the seller’s actual name is used in the practice) and then the buyer may set up their own domain name with an approved fictitious name or their own name. Domain names and uses of websites are important for the transition of goodwill from seller to buyer and for marketing purposes after sale.

Price Allocation

The allocation of the purchase price among the assets to be purchased may have significant tax consequence for the parties, with some of the payment amount being taxed at capital gains rate and other portions as ordinary income. Unfortunately, what is best for the seller (amount allocated to goodwill) may not be optimum for the buyer (with longer depreciation time by the buyer). Payments allocated to equipment and supplies may be expensed or depreciated more quickly by the buyer but the amount received by the seller for those assets will normally be taxed to the seller at the higher ordinary income rate. Consultation among the parties’ accountants should be undertaken to establish an allocation that can be justified if challenged and that balances the desires of the parties for the best tax effect. Normally, at least 70% or more of the sales price is allocated to goodwill with the remainder allocated to equipment, supplies and the covenant not to compete.

Covenants Precluding Competition by Sellers

Restrictive covenants, including covenants not to compete for associates, while generally held to be invalid under California law are enforceable against the seller with the sale of a dental practice in which compensation is paid for the goodwill.[11] Any such valid restrictive covenant requires that the asset purchase agreement clearly discloses the intent of the parties to sell the goodwill of the practice.[12] The best way to do this is to specifically state that goodwill is being sold and allocate a specific value to the goodwill that is being purchased. A covenant not to compete is valid against a selling dentist so long as there is a specified geographical area and the restriction is for a reasonable duration.[13] The specified geographical area is usually consistent with the area in which most of the patients of the practice reside, which may only be three or four miles in a dense metropolitan area such as San Francisco or 25 to 30 miles in less populated areas of the state. The time duration usually ranges from three to seven years. Limited exclusions, if desired from the restrictive covenants, should be considered by the seller if they plan to undertake employment around the practice such as teaching, consulting in a dental-related industry, medical legal consultation, volunteer work or other dental-related employment in the covenant not to compete area. These exclusions need to be written into the contract to be binding. Other common restrictive covenants include covenants not to solicit or treat patients of the practice by the seller or any other dentist affiliated with the seller following the sale, preclusions on referring patients to dentists other than the buyer and covenants not to solicit employees of the practice.

Retreatment: Essential Terms

Retreatment clauses are designed to establish a mechanism by which the buyer can identify and handle retreatment of work performed by the seller that prematurely fails and requires the buyer to replace. A retreatment clause ensures the buyer does not lose the goodwill of the patients as a result of imperfect treatment performed by the seller that needs to be replaced and for which the buyer could lose goodwill if they charged the patient for such retreatment. A well-crafted retreatment clause does not force the buyer to lose money to perform retreatment of past treatment they did not originally perform and to avoid malpractice lawsuits against the seller. These provisions either allow the seller to perform retreatment at the buyer’s office or allow the buyer to perform retreatment at the seller’s expense for a reduced fee to be paid by the seller and not the patient.

Promises That Must Be Kept: Warranties

Vitally important provisions of sales contracts are the representations and warranties made by each party. A welldrafted sales contract will contain an integration clause that states that the contract itself contains all enforceable provisions governing the parties and the transaction. Such a clause, with very limited exceptions, will be enforceable. It is essential for each party to make sure that all statements of fact or promises about the practice that a party wants to be enforced are included in the asset purchase agreement. The parties should assume that any oral promises or prepurchase discussions not included in the asset purchase agreement are unenforceable. Examples of the myriad important representations of the seller include:

• All assets will be transferred without any liens or encumbrances on such assets (thus all loans on practice assets will be paid off and all liens removed).

• The seller is not subject to any lawsuit concerning the assets being sold or their practice of dentistry.

• The seller’s practice was conducted consistent with all laws, rules and regulations.

• The practice assets being sold are operational and can be used for their expected purpose.

• The seller complied with employment rules for their employees and the employees have no entitlement to make any claim for breach of such rules.

• All billing for treatment has been performed consistent with insurance company rules.

• Specific information provided by the seller to the buyer is materially true and correct. Presale noncompliance with wage and hour law or insurance company billing procedures should be disclosed during the sales process, which can make the practice more difficult to sell and could create post-sale liability for the seller.

Other common restrictive covenants include covenants not to solicit or treat patients of the practice by the seller or any other dentist affiliated with the seller.

The most important representations of the buyer include their acknowledgment that they have undertaken their due diligence review of all items they desire to evaluate concerning the practice, have consulted with their advisors and are buying the practice based on such analysis and the representations made in the asset purchase agreement. Another important representation for buyers to acknowledge is that the seller is making no assurance that the buyer will be successful following the sale and there is no guarantee that the buyer will generate any specific revenue or income following the sale. It is possible that this normal representation may be altered for a period of time for sales following the COVID-19 pandemic to take into account some of the uncertainty arising from limited practice operations, and this representation may be modified to allow a different sales price based on the production generated after the sale. This will not be a preferred method, but some banks may require this type of arrangement before they will agree to loan money for the postCOVID-19 sale based on the substantial uncertainty of dental practice revenue.

Indemnification

Indemnification provisions are essential to allocate the responsibility for debts of the parties, damages for injuries to others or responsibility for taxes or other liabilities. These provisions usually require the seller to pay for any liability arising from their act or omission, provide a legal defense and protect the buyer from liability for the seller’s acts or omissions that occurred before or after the sale. The buyer is responsible to do the same for the seller for acts or omissions of the buyer after the sale is completed. The parties must be vigilant as to how such agreements are drafted, as the duty to indemnify and defend the other party arising out of litigation filed by a third party may not be covered by insurance maintained by the indemnifying party (i.e., the buyer or seller) unless that person is specifically named as a party to be insured under the insurance contract (most carriers do not offer such coverage). The unwary party may create personal responsibility to pay for defense or indemnity costs of another.

Other documents normally required in a practice sale are a bill of sale documenting what was sold, consent of spouse demonstrating their assent to the sale of community property assets, assignment of a lease and, if applicable, employment contracts for any post-sale employments.

Post-Sale Obligations

Prior to and following the sale, verification must be made that the buyer has all necessary insurance for professional liability, premises liability for office contents, workers’ compensation, life insurance, disability, business interruption and health insurance. Both the buyer and seller should be obligated to maintain their professional liability insurance so that both potentially liable parties will have insurance coverage to handle any post-sale claims of malpractice by a patient who may sue both the buyer and seller.

A dentist’s personal assets are subject to execution for unpaid debts or liabilities arising out of the operation of the noncorporate dental office.

Following the purchase, there are myriad actions to be taken including notification of the dental board of the purchase, registering a fictitious name, notifying vendors of the change in ownership, notifying the Drug Enforcement Agency, obtaining an anesthesia permit, obtaining radiation permits, transferring licenses for equipment purchased, obtaining a business license, obtaining state and federal tax identification numbers, ordering prescription pads, opening bank accounts and creating employee manuals, just to name a few. An experienced dental attorney or accountant will provide the buyer a checklist of post-sale steps necessary to properly set up the practice.

If these actions are properly performed in the purchase of a practice, the purchasing dentist can concentrate on the other important aspects for the long-term success of the practice involving quality patient care and managing patients’ needs.

Choosing the Correct Business Entity

The owner of a dental practice has the choice to own a practice as a sole proprietor, as a partnership or as a corporation. California law prohibits dentists from owning a practice as a limited liability company or a limited liability partnership. Issues to consider concerning the correct entity include tax issues and limited liability to protect the personal assets of the owner-dentist. The tax issues involving entity ownership are beyond the scope of this article and should be discussed thoroughly with the dentist’s accountants.

Owning a dental practice as a solo practitioner or with a partner provides no protection for the personal assets of the owner-dentist. A dentist’s personal assets are subject to execution for unpaid debts or liabilities arising out of the operation of the noncorporate dental office. This is particularly significant in a dental office owned as a partnership because each partner may bind the partnership and each partner is personally liable for the acts of the other partners that arise out of the operation of the partnership.[14]

The legal entity that allows a dentist to limit their liability in their dental practice is a dental corporation. A dental practice owned as a corporation may preclude personal liability of the dentist for the acts of other professionals, such as dentists who are co-shareholders or associates of the practice, for acts not performed by the owner that are not covered by insurance, which include fraud, employment wrongful termination or employment harassment. However, the personal assets of a dentist rendering treatment not adequately covered by insurance may be a source of payment arising from the treating dentist’s own malpractice regardless of incorporation.[15]

Insurance/Business Structure

Most dentists maintain malpractice and general/premises liability insurance on the dental practice. More and more dentists recognize the benefit of employee liability insurance to provide some limited protection related to employment acts. However, under California law, insurance cannot cover intentional acts. Therefore, if your partner or an associate commits intentional acts such as sexual harassment, improper touching or battery, these actions cannot be insured against. Moreover, the limits of typical coverage for employee liability insurance may be inadequate in the event of a large claim in excess of the insurance policy limits, leaving the risk of personal liability for the acts of others. In such cases, a corporate form of ownership would be beneficial.

If two or more dentists own a practice together and do not have a contract to establish the form of ownership, by statute they will be considered a partnership, which is governed by California law.16 Partnerships allow more flexibility in fashioning the working arrangements between the dentists and may allow differential allocation of profits. Partnership limitations include no limitation in liability for acts of the other partner or employees and the ability of one partner to bind the other partner. Corporations allow limited liability protection but require compliance with corporate formalities and limit how profits are shared between the shareholders. Limited liability can be created in a partnership if a partnership of professional corporations is established, i.e., each partner is a dental corporation. Whether a corporation or partnership is created, it is prudent for owner-dentists to enter into a comprehensive written agreement to outline their ownership of assets, management, expenses, profits and losses and managing partner withdrawals or practice dissolutions. The terms of a partnership agreement or shareholders agreement with a stock restriction agreement need to be set out in the agreement.

Whenever a dentist decides to open their own practice or hire another dentist, it is beneficial to speak with experienced dental attorneys and accountants to evaluate the appropriate form of entity for your practice.

Another form of ownership that is becoming more prevalent is the ownership of a practice with the assistance of a management service organization. The nature and extent to which the management service organization assists the owner-dentist varies based on the contract between the parties. It is important for the dentist who receives assistance from a management service organization to understand that only a dentist may own a dental practice. The practice of dentistry includes the diagnosis or treatment of conditions of the teeth, gums, alveolar process, jaws and associate structures but also includes the management of a dental practice.[17] Thus, the dentist owner or dentist-owned management service organization must maintain ultimate control of the clinical dental practice including the management of the dental practice. Carefully drawn contracts and maintenance of proper roles and responsibilities among the participants in a dental practice receiving the assistance of a management service organization are paramount to protect all parties to such agreements.

Conclusion

The dental practice purchase process requires the dentist to utilize the resources of knowledgeable professionals to identify the preferred dental practice, assess its future potential, target the right price, then document the purchase to protect the parties and allow both the buyer and seller to transition the practice for both their benefits. Quality presale assessment and well-drafted contracts can allow the selling and purchasing dentist to avoid pitfalls in the transition process and provide a win-win transition for the dentists and their patients.

REFERENCES

1. Civil Code Section 2295. An agent is one who represents another, a principal in dealings with third parties.

2. Civil Code Section 2322, an agent has duties of a trustee. Witkin’s California Law vol. 3 Agency Section 97 p. 143–144.

3. California Insurance Code Section 1871 et seq.; California Penal Code Section 550.

4. California Business and Professions Code Section 16600; Edwards v. Arthur Andersen LLP (2008). 44 Cal. 4th 937.

5. Common assets to be purchased include dental equipment, supplies, goodwill of the practice, patient records, covenant not to compete, transition assistance from seller, telephone number, trade name and leasehold interest.

6. Representations normally made include status of seller, absence of defects or encumbrances on assets being sold, absence of conditions that would affect goodwill, truth of disclosed documents, absence of litigation or threatened litigation, condition of practice assets, current status of office lease, status of past billing practices and truth of all representations being made.

7. Buyer’s status, performance of due diligence, ability to review all requested documents and acknowledgment that there is no guarantee of success in future practice.

8. These agreements allocate responsibility presale and post-sale.

9. Including obtaining bank loan, lease assignment, passage of state boards, analysis of records and inspection and repair of nonworking equipment.

10. California Business and Professions Code Section 650; California Dental Association Code of Ethics Section 6A.

11. California Business and Professions Code sections 16600 and 16601 allow valid covenant noncompete following sale of goodwill of a business.

12. See Hill Medical Corporation v. Wycoff (2001) 86 Cal. App. 4th 895.

13. California Business and Professions Code Section 16601.

14. California Corporation Code 16305.

15. California Civil Code Section 2343(3).

16. California Corporation Code Section 16202(a).

17. California Business and Professions Code Section 1625.

THE AUTHOR, Steven D. Barrabee, JD, can be reached at SBarrabee@professionals-law.com.