The DSO Bubble – Part 1 of 3

Written by: Dr. David Phelps, DDS, and Alastair Macdonald


Emerging Undercurrents Threatening The DSO Boom

The reverberations of rising interest rates are rippling through the private equity markets. This includes dental service organizations, or DSOs, which have heavily relied on private equity to fuel their dramatic growth.

What will be the effect on the hitherto booming DSO sector? How are DSOs adapting to these market changes, and how will those pivots affect practitioners seeking a path to freedom from their practice?

Are we headed towards consolidation or disintegration?


The DSO Bubble – Part 1 of 3 – Emerging Undercurrents Threatening The DSO Boom

Rising rates are affecting all market sectors, including dentistry.

Rising interest rates profoundly impact all sectors of the economy, and the private equity market in dentistry is no exception.

The “greater fool” theory, which assumes someone will always be willing to pay more for aggregated portfolios of dental practices, can become precarious in a high-interest-rate environment. As interest rates rise, so does the cost of capital. This heightened cost can limit the ability of DSOs to orchestrate lucrative recap events.

Consequently, DSOs and private equity may be forced to hold on to dental practices for much longer than initially intended. This can present operational challenges, especially for organizations focused on aggregating and reselling. Some DSOs may need to be better equipped operationally to maintain their portfolios at a high level of profitability. The need to shift from a strategy of quick aggregation and sale to long-term operational management can be demanding and require a different skill set altogether. It necessitates a more sustainable approach that prioritizes leadership, culture, profitability, efficiency, and patient care over rapid turnover.

DSOs preparing to operate in this new environment may find themselves under significant financial pressure. That financial pressure can be passed on to the doctors in the form of reduced earnouts, cost cutting, and other attempts to extract more profit from practices, which, in many cases, the DSO overpaid for in the optimistic hope that multiples would keep rising indefinitely.

Due diligence is critical in this new economic environment.

There are still opportunities for the right doctor in the right circumstances. It does mean that significant due diligence is required to determine a good fit and to ensure your interests are protected in an uncertain future.

Understand that the contracts defining these deals are written by attorneys who work for private equity. They are working to ensure the best interests of their clients. This is not nefarious, but it must be understood. The following is a checklist of items to consider when evaluating any offer for your practice.

Prepare Your Practice.

To start, detach before you design.

Have at least three DSOs in the race. Handicap accordingly down to the finish line. Don’t get too attached to any offer or deal. Remember, you are the equity.

Here are some key items to carefully evaluate:

  • Get a third-party Quality of Earnings assessment. Don’t just sign off on the assessment provided by the buyer. Consider getting an evaluation that blends an average of the three ways to calculate EBITDA. The method used to calculate EBITDA could substantially impact the overall assessment and valuation of your practice.
  • Prepare your building lease beforehand. If you own the building, price the lease according to rent being a certain percentage of gross revenues. The rule of thumb is 7-9% of total facilities.
  • Align with your partner. If you have a partner, ensure that your contributions will be equal in measurable amounts and that your timeline is aligned. If your timeline is shorter than your partner’s, they may be enticed for more equity.

Evaluate the Partner.

  • Watch out for aggregator DSOs. Aggregators focus on accumulating a portfolio of practices with the primary intent of rolling them up in a larger sale to private equity. They do not intend to hold these practices for any length of time nor are they prepared with the infrastructure and ability to operate an extensive portfolio of practices profitably for an extended period.
  • Operation-focused DSOs have experience running geographically and specialty diverse practices, with degrees of complexity. They are not relying on a dramatic recap event to ensure profitability and longevity.
  • Ask for a Balance Sheet and Profit and Loss Statement. If you can’t get a copy, be cautious. Why would you consider doing business with a “partner” who wants to see all of your financials but is not willing to let you do your due diligence in kind?
  • Understand the parent financing. Where is their funding coming from? Even more importantly, what are the terms defining their debts? Ask direct questions and don’t settle for generalized answers. Also, seek specificity on where the money will come from for future promised recaps.
  • Determine whether equity will be retained in the parent group or your practice. If retained in the parent group, determine if the equity is common or preferred stock. With preferred, you can make greater demands.

If the equity will be retained in your practice specifically, consider requesting the following terminology be included in the contract: “Barring a timely recap, as intended by our sales agreement, I will retain the right of first refusal at a market appraised value.” This will ensure you more significant levels of control as an equity partner.

  • Be aware of deal fatigue, especially in the last few months and weeks of the deal. Expert negotiators may try to insert last-minute changes to the Quality of Earnings Assessment and Purchase and Sales Agreements. Accounting methods may change. Promissory Notes may be added. They may try to assure you that such changes do not have a structural impact, but beware. It would have been included in the original LOI if it did not have a structural impact.

Hopefully, these insights will help you make more informed decisions as you consider the next phase of your practice and the DSO Bubble in today’s economic environment. In the second part of this article, we’ll discuss evaluating the proposals you receive and the importance of looking at this transition in the larger context of your life, goals, and plan for what comes next.


When his young daughter was hospitalized with leukemia, Dr. David Phelps, DDS, could turn to his alternative investments, step away from his dental practice and be by her side. From this experience, he created Freedom Founders in 2012. This community helps dentists and other professionals take control of their retirement investments to produce passive cash flow, security and live life on their terms. To contact Dr. Phelps, visit

Alastair Macdonald is an ex-safari guide, African expedition leader, TEDx speaker, former co-founder and CIO of The Parallax Fund, a private investment fund, former veterinary clinic owner, and multi-location dental practice owner, investor, BJJ blackbelt, suit-loathing peregrinator, terminal optimist, spreader of stoke, student of everyone and mentor to some.