The Importance of Legal Due Diligence in Dental Transactions

Brian Colao

The dental industry is in the midst of a great evolution that is more than 10 years old. This great evolution of dentistry from solo offices and groups to DSOs has involved an unprecedented amount of mergers and acquisitions. A critical component of any merger or acquisition must be legal due diligence.

Legal due diligence is a critical part of the process whereby the buyer makes a determination as to the ultimate value of the dental organization being acquired. If the soon-to-be-acquired organization is not regulatory compliant, then that could materially affect its value and may result in a reduced purchase price or, in extreme cases, the cancellation of the transaction.

Comprehensive legal due diligence covers a number of issues, including but not limited to the organization’s:

Legal structure;

Legal agreements;

Contract compliance;

Patient and employee incentive plans; Advertising and marketing arrangements;

Patient finance arrangements; Intellectual property;

HIPAA compliance;

OSHA compliance;

Labor and employment practices;

Associate employment agreements;

Leases and other property arrangements;

Licenses permits and certifications;

Insurance coverages;

Privacy and data protection regulations;

Billing and collections practices;

Benefits plan review;

Medicaid compliance (if applicable);

Medical records compliance;

and Litigation, liens, and investigation history.

Comprehensive legal due diligence often uncovers issues that can materially affect the value of the soon-to-be-acquired dental organization, which properly results in purchase price adjustments or closing conditions that must be met for the transaction to occur.

Some commonly discovered issues are:

A Non-Compliant Legal Structure — State laws mandate that a dental organization meet certain legal requirements. Failure to properly structure a dental organization can result in civil and criminal actions as well as insurance and Medicaid claims being disallowed. Therefore it is critical that any soon-to-be-acquired organization be properly structured.

Non-Compliant Agreements — State laws regulate the relationship between 1) DSOs and dental practices, and 2) dental practices and clinical and non-clinical employees. Failure to comply with state laws can result in severe fines and penalties, as well as having to redraft agreements.

Noncompliance with Contractual Terms — It is critical that any dental organization comply with its existing agreements, or it runs the risk of lawsuits and other legal actions for breach of contract.

Non-Compliant Advertising and Marketing Programs — State and federal laws prohibit illegal advertising, marketing, and patient referral plans. It is critical that any dental organization follow these rules or risk civil and criminal actions along with class action lawsuits.

Non-Compliant Patient Finance Plans — State and federal laws require that dental organizations conduct any patient finance plans (even those that do not charge interest) in a regulatorycompliant manner. Failure to do so can result in severe civil and criminal penalties.

Failure to Document and Protect Intellectual Property — It is critical that dental organizations protect their intellectual property, including tradenames, proprietary systems, copyrights, and patients. Failure to do so can result in these rights being forfeited.

Noncompliance with HIPAA and OSHA — It is critical that all dental organizations comply with HIPAA and OSHA, and failure to do so can result in severe fines and penalties from the governments.

Noncompliance with Labor and Employment Regulations — State and federal law governs all employment and independent contractor relationships and hourly and exempt employment relationships. Likewise, associate employment agreements must protect the practice. Failure to follow the regulations can result in significant fines and penalties, and failure to protect the practice’s interest in associate contracts can have a severe impact on the value of the organization.

Problematic Leases — Leases that contain problematic terms can threaten the financial viability of the organization and the ability to grow and expand.

Failure to Obtain Licenses, Permits, Certifications, and Insurance Coverages — It is essential that every dental organization maintain all required licenses, permits, and certifications as well as maintain proper insurance. Failure to do so can dramatically affect the overall value of the organization.

Noncompliance with Privacy and Data Protection Regulations

— Failure to comply with applicable privacy and data protection regulations can make the organization extremely vulnerable.

Noncompliance Billing and Collection Practices — Failure to comply with billing and collecting regulations can dramatically lower the value of the organization.

Non-compliant Benefits Plans — Failure to comply with state and federal laws governing benefits plans can subject the organization to civil and criminal fines and penalties.

Noncompliance with Medicaid Regulations — Organizations that participate in Medicaid must comply with numerous state and federal regulations, and failure to do so can result in serious civil and criminal fines and penalties, and recoupment, all of which can significantly lower the value of the organization.

Problematic Litigation, Liens, or Investigations — Organizations that are involved in certain types of litigation or government investigations or have problematic liens can see their value dramatically reduced.

Based on the foregoing, it is imperative that any potential buyer conduct thorough legal due diligence on the potential merger or acquisition target. The failure to do so could result in the acquisition of an organization that is worth far less than the purchase price, which can have devastating consequences for would-be buyers. It is also critical that any potential buyer utilize competent legal counsel with significant experience in the dental space, or else run the risk of a negative outcome. The dental space is very specialized and unique. There are a relatively small number of law firms that truly understand the dental space, and if you use a firm that lacks experience in dental, very important due diligence and legal issues can be missed, and the buyer could end up overpaying for an asset that is worth much less.

Ideally, the buyer will conduct their due diligence early before spending significant time on the transaction so that any problematic issues can be addressed before the parties expend significant time and effort on the transaction. That way, if the issues cannot be resolved, then it is very easy for the buyer to cancel the transaction.

Conducting comprehensive legal due diligence, coupled with utilizing a law firm with significant experience in dental transactions, provides the best chance for a smooth dental transaction that is fair to the buyer.

Brian Colao is the Director of Dykema’s Dental Service Organizations Group. He has been serving the dental industry for nearly 30 years and is widely regarded as one of the foremost authorities in the United States on DSO formation, DSO business structures, DSO-related mergers and acquisitions, and the full array of regulatory compliance requirements for DSOs. Brian was named a “2019 DSO Influencer” by Group Dentistry Now.