What PE Firms Look for in Dental Practice Financial Health

Private equity firms have invested billions in dental. They have learned exactly what separates a good investment from a bad one. Here is what they are looking for when they look at your practice.

The PE Perspective

Private equity has transformed the dental industry. PE-backed DSOs have acquired thousands of practices over the past decade, and the pace continues. Dentists who once assumed they would work until retirement and sell to an associate now have sophisticated financial buyers competing for their practices.

Understanding how these buyers think is essential for any practice owner considering a sale, whether that sale is imminent or years away. PE firms are professional investors. They analyze dozens of potential acquisitions for every one they close. They have learned, often through expensive mistakes, which financial indicators predict success and which predict problems.

This guide explains what PE investors actually look for when evaluating dental practice financial health. It covers the metrics they examine, the red flags that concern them, and how reconciliation quality factors into their analysis. The goal is not to help you game the system but to help you understand what matters and why.

Revenue Quality

PE firms care deeply about revenue, but not just the top-line number. They want to understand whether that revenue is real, sustainable, and collectible.

Production trends tell the first part of the story. Is production growing, stable, or declining? What is driving the trend? A practice with growing production has momentum that might continue post-acquisition. A practice with declining production raises questions about whether the slide will continue or accelerate.

But production alone is not enough. Collection rate reveals whether production converts to actual cash. A healthy practice collects 96% to 98% of adjusted production. Below 95%, something is wrong with either the billing process, the payer mix, or the patient base. PE firms will dig into collection rate trends and want to understand any deterioration.

Payer mix affects both revenue quality and risk. Heavy dependence on a single payer creates concentration risk. If that payer changes reimbursement rates or network terms, the practice's economics change with it. A diverse payer mix is more resilient and generally more attractive to buyers.

Revenue per patient indicates whether growth comes from seeing more patients or extracting more revenue from existing patients. Both can be legitimate, but they have different implications. More patients suggests market strength. More revenue per patient might reflect improved case acceptance or might reflect aggressive treatment planning that patients eventually resist.

New patient trends reveal whether the practice is building or depleting its patient base. A practice living off its existing patients without replacing attrition is slowly shrinking, even if current production looks stable. PE firms track new patient counts and retention rates to understand the underlying dynamics.

Profitability Analysis

Revenue matters, but profit matters more. PE firms are buying future cash flows, and those cash flows come from profit, not revenue.

EBITDA, earnings before interest, taxes, depreciation, and amortization, is the standard measure of practice profitability. It represents the cash the practice generates from operations before financing costs and non-cash charges. Most dental acquisitions are priced as a multiple of EBITDA, so this number directly determines purchase price.

Adjusted EBITDA goes further by adding back owner compensation and one-time expenses. A dentist-owner might pay themselves a below-market salary while taking large distributions, or might pay themselves an above-market salary to reduce taxable income. Adjustments normalize these choices to reveal the true economic profit available to a buyer.

PE firms scrutinize these adjustments carefully. Aggressive add-backs that inflate EBITDA are common in dental transactions, and experienced buyers know how to challenge them. An add-back should represent either a true one-time expense that will not recur or an expense that a new owner would not incur. Claiming ordinary business expenses as one-time is a red flag that damages credibility.

Expense ratios reveal operational efficiency. Staff costs typically run 25% to 30% of collections in a well-managed practice. Lab costs vary by procedure mix but should be consistent over time. Rent above 7% to 8% of collections limits flexibility and profitability. PE firms compare these ratios to benchmarks and investigate outliers.

Margin trends matter as much as current margins. A practice with improving margins has operational momentum. A practice with declining margins has problems that will likely continue or worsen. PE firms look at multiple years of performance to understand the trajectory, not just the snapshot.

Cash Flow Verification

Reported profits should convert to actual cash. When they do not, something is wrong.

PE firms verify that reported revenue matches bank deposits. They request bank statements and compare total deposits to reported collections. If there are significant gaps, they want to understand why. Innocent explanations exist, but so do troubling ones, and buyers have learned not to accept discrepancies without investigation.

Accounts receivable quality affects how much of reported revenue is actually collectible. AR should be current and turning over. If a significant portion is aged beyond 90 days, it probably will not be collected, and the practice's effective revenue is lower than reported. PE firms age AR, compare it to production, and assess collectibility.

Working capital tells buyers whether the practice generates cash or consumes it. A practice that needs constant cash infusions to meet payroll or pay vendors is not as valuable as one that generates surplus cash. Buyers analyze working capital trends and incorporate working capital adjustments into deal structures.

Owner distributions reveal how much cash has actually been extracted from the business. This provides a reality check on reported profitability. If the practice reports strong profits but the owner has not been able to take money out, something in the financial picture does not add up.

Reconciliation as a Quality Indicator

Here is where reconciliation quality becomes surprisingly important to PE evaluation.

Experienced buyers have learned that reconciliation quality correlates with overall practice quality. Practices that reconcile cleanly tend to have competent financial management, reliable numbers, and lower risk of post-close surprises. Practices with poor reconciliation tend to have weak controls, unreliable numbers, and hidden problems.

During due diligence, PE firms or their accountants will attempt to trace deposits to source records. They want to verify that the cash that hit the bank can be connected to specific insurance payments and patient transactions in the practice management system. Clean practices can do this easily. Messy practices cannot.

Unidentified deposits are a particular concern. Money in the bank that nobody can explain suggests either poor processes or deliberate concealment. Either explanation is bad. Poor processes mean the numbers cannot be trusted. Deliberate concealment means there is something to hide.

Reconciliation quality also indicates what the integration will look like post-acquisition. A practice with clean financials will slot smoothly into the acquirer's systems and processes. A practice with messy financials will require cleanup, retraining, and ongoing oversight. The integration cost affects what a buyer will pay.

How Financial Health Affects Valuation

Financial quality directly affects the price PE will pay.

Practices with strong, consistent EBITDA margins command premium multiples. Practices with volatile or declining profitability receive lower multiples because the future cash flows are less certain. The difference between a 5x multiple and a 6x multiple on a practice generating $500,000 in EBITDA is half a million dollars in purchase price.

Revenue quality affects multiples independently of margin. A practice with growing revenue from a diversified payer base is worth more than a practice with the same EBITDA from declining revenue concentrated with one payer. The growth practice has a better future; the declining practice has risk.

Clean financials command premiums because they reduce buyer risk. When a buyer can verify reported numbers with confidence, they do not need to discount for uncertainty. When financials are messy and numbers cannot be verified, buyers protect themselves by paying less.

Deal structure also varies with financial quality. Cleaner deals mean more cash at closing, smaller escrows, and shorter earnouts. Messier deals mean more held back pending verification, larger escrows for longer periods, and earnouts that shift risk to the seller if performance does not materialize.

Preparing for PE Evaluation

If you are considering selling to PE, preparation should begin well before you go to market. Twelve to twenty-four months of runway allows time to address issues and build a track record of clean performance.

Start by implementing daily reconciliation if you do not already. Resolve any existing unidentified deposits. Document your financial processes. Clean up accounts receivable and credit balances. Build a track record of months where the bank matches the books without unexplained variances.

Know your numbers cold. You will be asked to explain trends, anomalies, and variances. "I don't know" is not a good answer. Neither is "my office manager handles that." Owners who cannot discuss their own financials credibly lose negotiating leverage and raise concerns about what else they do not know.

Address problems before they are discovered. PE due diligence will find issues. It is better to identify and resolve them yourself, then disclose them proactively, than to have buyers discover them during investigation. Surprises kill deals or crater valuations.

Consider engaging your own accountant to conduct a quality of earnings analysis before going to market. This exercise identifies issues you can fix, builds credibility with buyers, and often accelerates due diligence because you have already done the work.

The Bottom Line

PE firms are sophisticated buyers who have seen hundreds of deals. They know what clean financials look like, and they know what problems look like when sellers try to hide them.

Practices with strong financial health, accurate records, and clean reconciliation command premium valuations and attractive deal terms. Practices with messy financials, unexplained variances, and poor documentation receive discounted offers, extensive holdbacks, and unfavorable terms, if they receive offers at all.

The work you do on financial quality is not just operational improvement. It is direct investment in your eventual exit value. Whether you plan to sell in one year or ten, building reconciliation discipline now creates optionality and value for whenever you decide to transact.

Preparing for PE evaluation? Zeldent creates the reconciliation foundation that sophisticated buyers expect. Daily automated matching, documented audit trails, and clean financials that withstand due diligence scrutiny. Whether you are planning to sell soon or building value for the future, Zeldent helps you be ready. Schedule a demo to see how we support exit readiness.