Hi Jeff and Frank,
If I may ask each of you to please take a few minutes to read this, it could be significant in the development of our mutual economic relationships.
Introduction:
I have several purposes for this letter:
(a) to confirm with you both my understanding of the framework that you have discussed together, regarding the possibility of joint ventures between us,
(b) to explore and “SWOT” this type of arrangement, with respect to my own business goals and plans, and
(c) to describe with particularity where my current business plans differ from Heartland, to help us all decide whether there is sufficient common ground to encourage such a joint venture at all, and
(d) to propose some particulars for such a venture, should it prove mutually desirable.
My understanding of the proposed relationship:
1) A management services agreement would be created between one or more of our current dental practices, and a new Heartland affiliate, with valuation of the venture based on projected cash flows, profit stream, IRR, or similar methods. It is expected that the “practice affiliation” will be valued at approximately 60% of LTM revenues, less current debt.
2) Heartland would further capitalize the venture to an extent that they would own a significant part (1/3 to 1/2) of the new venture.
3) Heartland would provide administrative and support services to the venture such as it now provides to its “owned” practices, namely team training, doctor training, team building and leadership support, consulting services, professional continuing education opportunities, human resource management, payroll and accounting services, payables, purchasing, A/R intervention support, IT, marketing, and executive support, as well as the services of Practice Administrators, RDOs, etc.
4) Heartland would be paid a percentage of “venture practice” revenues, on an ongoing basis, in exchange for it’s provision of these services.
5) The practice owner would provide professional services and local management/leadership, as well as professional recruitment and retention activities.
6) The venture may be further capitalized through loans either from Heartland, from commercial lenders, or from both, and this money would be used for expansion, or more likely acquisition of additional practices, which by application of Heartland management systems, would be expected to predictably grow in volume and profitability.
7) The venture would have buyout provisions such that either party could buy out the other, with a valuation based on similar formulation as the original valuation, with the option in the affiliate to either buy or sell.
8) Heartland would be guaranteed a minimum return rate, in the event that the buyout value of it’s share might fail to reach expected (higher) levels.
Please review this, and let me know if I have described this correctly and completely.
SWOT with respect to my own market and business:
Strengths:
Heartland has proven strengths in developing and managing a
diverse network of general dental practices.
The rapidly growing central valley area of
Weaknesses:
Nonetheless, when considering the application of Heartland’s
operational and structural architecture to the
Opportunities:
The opportunity that expansion into
Affluent and rapidly developing communities present opportunities for geometric expansion into broad markets with high potential profit margins.
To the extent that a joint venture between us may differ in particulars from the current Heartland operating model, this presents an opportunity for us to explore those variations at arms length, with minimal financial risk to your business or mine.
Threats:
My own business is rapidly growing past it’s infancy, and until my current ideas are proven out to either perform well or not, I am reluctant to change horses in midstream.
Therefore, unless we can agree to pursue this current plan at least for enough time to see if it works, it may not be appropriate for us to consider any joint venture at all, at least at this time.
Conflicts between my operating model and Heartland’s:
Emphasis on multi-doctor facilities:
Each facility is anchored by a seasoned practitioner who can serve as mentor and professional director of the activities in that facility.
On-site expertise allows the affiliated dental center to offer a wider variety of products and services, tapping more easily into higher profit margin services like orthodontics, cosmetics, sedation, and implants, with reduced risk and increased confidence.
Better retention through closer working relationships, and less disruption in the event of the loss of a doctor.
Emphasis on acquisition:
Ideally, an established practice will anchor each new multi-doctor facility, with addition of associate doctors (young and old) to fill in the remaining professional slots.
Lectures, talks, and courses on clinical and administrative topics will be used to recruit associates and identify acquisition candidates.
Acquisition of marginal or failing practices that have under-performing assets may also be used as a method of recruiting and expanding under proper circumstances.
No de novo practices with green recruits at the helm.
Emphasis on advertising:
Well-designed advertising brings in motivated buyers for high profit procedures, at a cost of approximately 10% of revenue, while public assistance programs may reduce fees by as much as 60%. Do the math.
Emphasis on space-sharing:
Utilization of a “3 doctors in 2 operatory suites” arrangement, to allow each doctor/team to see patients 4 days each week, while professional services are available to patients a full 6 days each week.
The 5th day (for each team) is available for
training and professional development activities, without losing facility
revenue or reducing the hours of availability to patients.
Team configuration:
Practice Administrator (PA) personnel and functions can be dedicated in the facility, with increased communication, closer team relationships, reduced travel, and enhanced team performance.
Each doctor can have a dedicated team of clinical and business assistants to promote easy communication and doctor loyalty, while other teams in the same facility can provide flexible support to fill in during vacancies, vacations, sick days, or other short term capacity needs.
Executive level dental professional:
I would want to create an executive level position of “Chief Professional Officer” (or some sort of similar title). For obvious reasons, the initial occupant would be me (or Dr. Nelson, or Dr. Marut, or Dr. Gibree, respectively for their own joint ventures).
The CPO would govern and administer the professional activities of the network.
Under the CPO, similar positions for hygiene and dental assistants would coordinate the recruiting, retention, supervision, evaluation, training, credentialing, compensation, and discipline of professional personnel in each category.
This would, by necessity, add a layer of cost that Heartland does not establish, and thus it may be profit percentages may be reduced. In return, however, gross profit dollars may be expected to rise, as the dedicated efforts of paid mentors and clinical coaches would be expected to increase production by far more than their salaries would demand.
I would compensate the entire “chain of command” in the professional arena with a full 5% of collected revenues for the group. Likely this total amount would be allocated in such a manner as to encourage each level of the organization to maximize the performance of their team, facility, area, district, or network, respectively.
In addition, any compensation derived to the professional “chain of command” through public or professional lectures or continuing education would be part of their overall compensation package. This would encourage public speaking, which in turn enhances our reputation and our recruitment activities.
Emphasis on clinical efficiency:
The Professional Director would be available for consistent and repetitive training in clinical efficiency. In conjunction with the hygiene and DA coaches, it is expected that production could be significantly and rapidly increased. Starting from the initial examination and continuing through deliver of final restorations, a clear and consistent focus on efficiency and effectiveness should pay off handsomely.
Emphasis on digital technologies:
From digital x-rays to automated statistical reporting, a greater emphasis on leveraging computer technologies should be a hallmark of this venture.
More than likely, a move away from Dentrix will be engineered to allow more flexibility and customization of a proprietary data system that is open-source and open-data. The look and feel to end users should be similarly easy to use.
The automated collection of MAPS type data should be encouraged, as well as the development of collected performance data from the various facilities, departments, and individual employees, as a means of identifying and promoting best practices in all key functions.
Additional, internet based technologies, including video conferencing, live presentation feeds, video learning and clinical case collaboration, as well as any of a host of other clinical and business enterprise functions, may be enhanced by evolving inexpensive technologies, toward the goal of improving corporate communication and performance.
Emphasis on equity sharing:
Early equity opportunities for associates and team members should enhance retention, and promote a spirit of ownership. The current equity structure of the company is not as important (since it can be equaled out in the valuation), but a commitment to some sort of “sweat equity” sharing from top to bottom is an important part of our company culture that would stimulate rebellion if not continued.
The total amounts of shared equity may be small, but the program should allow all team members to benefit, after an initial one-year period of employment.
In addition, shares may be issued for cash or in-kind investment, either directly, or in exchange for practice assets of affiliating practices. The exact nature of these programs is something we’ll have to review, but for now just keep in mind that there is an opportunity for affiliated doctors to buy in, or trade for assets when they join.
Branded stores:
I believe that this market will be very receptive to branded dental offices, and the potential for marketing and advertising leverage is staggering.
More than perhaps any other feature of my current business model, this is controversial.
Nobody has ever created a brand of dental practice that is service oriented, though some of the established brands are trying to convert their image to compete in the service sector.
This would require either a Heartland brand, the continuance and expansion of the Apollonia brand, or the creation of some new brand. Either way, it represents a big departure from the current Heartland business model.
While perhaps perceived as risky, it has the capacity for much bigger payoff in network growth, recruitment, marketing, sales, professional relations, and valuation multiples.
This deserves serious thought.
Existing share structure:
Currently, my company issues two classes of shares.
The Class A shares are restricted to licensed dentists who operate affiliated practices. This class elects 4 of 9 directors. 10,000,000 shares authorized, none issued, but I would exchange my class B shares for class A before any transaction with Heartland.
The Class B shares are otherwise equal, share for share. 100,000,000 authorized, and around 7,000,000 issued, the overwhelming majority to me, though there are probably 20 other holders of small numbers of shares (mostly current and former employees).
There is a pretty standard Buy/Sell Agreement that binds all shareholders.
Are these differences “Deal Killers”?
These differences may prove to be strengths or weaknesses, only time will tell.
Indeed, if our approach proves out, these ideas may become incorporated into the greater Heartland culture. Or, they may prove inferior, and be abandoned to the dustbin without remorse.
But I do want to give these ideas a go in the marketplace, and so far it seems that they are being well received.
And so, it might be that Heartland would be better served to wait for more definitive operating results before planning any joint ventures with me (us).
Additionally, although my small enterprise is growing rapidly, it would barely show equity by most measures, and is just passing into black ink after three years in the red. As a result, valuation would be a point of contention, as I would seek to use pro forma numbers for 2005 as a more realistic measure of current value.
So again, it may not be appropriate for Heartland to throw money or commitment into this venture, in it’s current state of development.
And, of course, if we tried to develop some other venture together that was more similar to the current Heartland, we would have non-compete issues as long as our days on this earth.
Fortunately, there is no pressing need for us to move quickly. There isn’t much need for immediate cash, as the flagship facility as already built is sufficient to grow another 300% without additional capital investment. After that, or if external expansion were accelerated, then additional capital may be required, depending on the rate of growth.
Conclusion and suggestions:
In addressing these issues, I have the following proposal for your review:
First,
that we discuss a relationship that is intended
to ripen some time in the future, perhaps an effective date of
Second, that we determine that 60% of LTM revenues will be the valuation that will be applied at that time, giving me another year of growth before undervaluing my enterprise because of it’s youth;
Third, that we define and agree that Heartland will provide the enterprise with the full and complete range of services it now provides it’s owned practices, for a fee of 5% of affiliated practice cash revenues on an ongoing basis;
Fourth, that Heartland, at it’s sole discretion, may purchase as much or as little of my un-issued stock (class B) as you may wish, at any time after the effective date and during the 5 year term thereafter;
Fifth, that at the end of the term, I will have the right to “call” Heartland’s shares, with a valuation based on the same 60% of LTM revenues, and otherwise Heartland will have the right to “call” all my outstanding shares at the same valuation;
Sixth, that Heartland will be guaranteed an annualized return of 12% on any “called” shares, in the event that enterprise valuation is insufficient;
Seventh, that any additional loan capital provided by Heartland will be at reasonable commercial rates,
Eighth, that an office of the Chief Professional Officer be established, with responsibility for all professional activities within the network, and that the office be funded with 5% of all affiliated practice revenues for compensation all the way up and down the chain of command;
Ninth, that earned profits from the enterprise will be reinvested locally, rather than paid as dividends to Heartland;
Tenth, that no additional capital be spent for improvements or acquisitions without approval from Heartland;
Eleventh, that the current program of equity sharing be continued, and that other cash or in-kind investment opportunities continue (subject to your review and approval, of course);
Twelfth, that after the term, all Heartland assets will transfer to me, and you will all be my slaves (just seeing if you are paying attention).
Please, both of you, give this some review.
If I’ve got it wrong, correct me.
And give me some feedback on whether this looks like a thing worth doing.
Yours in better dental health,
Neil