Dental Clinic Business Succession: Key M&A Issues and Success Factors

Business succession for dental clinics presents unique issues distinct from general healthcare facility M&A. M&A can be an effective solution for many dental clinics facing challenges such as a lack of successors, increasing burdens from capital investment, and intensifying competition. However, specialized knowledge is essential regarding medical corporation systems, the presence or absence of equity stakes, medical fees, and licensing. This article explains the key M&A issues in dental clinic business succession and the points for achieving success.

Differences in Succession Based on Corporate Structure: Medical Corporation vs. Individual Practice

When considering business succession for a dental clinic, the first point of contact is whether the entity to be succeeded is a “medical corporation” or an “individual (dentist).” The M&A issues and procedures differ significantly for each.

For Individually Practicing Dental Clinics
Generally, the succession of an individual practice centers on the sale and purchase of business assets (equipment, supplies, pharmaceuticals, etc.) and the transfer of debts and lease agreements. Crucially, the succession of medical fee claims, past reimbursement claim statements (receipts), and, most importantly, the notification of establishment and changes to various licenses with public health centers and other authorities are involved. Particularly, if the succession involves transitioning from an individual practice to a medical corporation, processes such as establishing a medical corporation and subsequent business transfer become necessary, making it more complex.

For Medical Corporations (with or without equity stakes)
For medical corporations, the nature of succession varies depending on their structure. In “medical corporations with equity stakes,” which were once mainstream, succession primarily involves the transfer or inheritance of membership stakes (equity). The valuation of these “stakes” is extremely difficult and significantly impacts tax-related issues (gift tax, capital gains tax, etc.) in M&A. In “medical corporations without equity stakes” (similar to NPO structures), which are increasing in recent years, there is no concept of buying or selling stakes. Instead, management rights and the business are succeeded through changes in the representative director or board members, approval at the general meeting of members, and amendments to the articles of incorporation. In such cases, instead of an individual dentist inheriting the practice, the business might be transferred to a successor medical corporation or a specific business entity. Furthermore, special corporate forms like social medical corporations and specific medical corporations also exist, each with its own considerations during succession.

Regardless of the structure, smooth transfer of essential elements for business continuity, such as medical fee claims, patient information, employee employment, and the role in regional healthcare, is required. Especially in dental clinics, continuous investment in the latest equipment is often necessary, and M&A can frequently be a significant motivator for fundraising or improving operational efficiency.

Main Differences in Succession by Corporate Structure

Item	Individually Practicing Dental Clinic	Medical Corporation with Equity Stakes	Medical Corporation without Equity Stakes
Succession Target	Business assets, practice rights	Membership stakes, business assets	Management rights, business assets
Main Procedures	Asset sale, license changes	Stake transfer/inheritance, corporate registration	Change of representative director/board members, amendment of articles of incorporation
Difficulty in Valuation	Asset valuation	Stake valuation (complex)	Business/asset valuation
Tax Issues	Capital gains tax	Stake valuation tax (gift/inheritance tax), capital gains tax	Capital gains tax, business tax
Licenses	Establishment notification, various notifications	Medical corporation licenses	Medical corporation licenses
Flexibility of Succession	Relatively high	Agreement with stake owners is crucial	Approval of board of directors/general meeting of members

Specific Valuation and Taxation Issues in Dental Clinic M&A

Dental clinic M&A, particularly the succession of medical corporations or individual practices, involves numerous valuation and taxation issues that differ from general business succession. Accurately understanding and addressing these is key to a smooth M&A process.

Valuation of Equity Stakes
For “medical corporations with equity stakes,” the valuation of these “stakes” can be said to determine the success or failure of the M&A. The valuation of stakes is calculated not only based on the corporation’s net assets (assets minus liabilities) but also by considering future profitability, brand value, location, and even the impact of medical fee revisions. This valuation forms the basis for the transfer price. However, discrepancies often arise between the valuation methods under inheritance tax law and corporate tax law, and actual market prices. This carries risks of undeclared tax, overvaluation, or undervaluation. Careful valuation by experts (CPAs, M&A advisors) is essential.

Refund of Funds, etc.
“Funds” collected by medical corporations from directors, etc., at the time of establishment, unlike equity stakes, are treated as liabilities with a repayment obligation (or as capital reserves, etc.). How these funds are handled during M&A (whether they are refunded or succeeded) affects the transfer price and taxation, and must be clearly defined in the contract. The refund of funds may or may not be deductible for tax purposes, making collaboration with experts crucial.

Medical Fee Claims and Reimbursement Statements
Medical fee claims, the core of a dental clinic’s revenue, are included in the assets subject to M&A. The exact amount of claims as of the M&A execution date must be accurately determined and reflected in the transfer price. Past reimbursement claim statements (receipts) serve as important documents for understanding the clinic’s treatment history and patient demographics. During M&A due diligence (DD), a thorough review of these documents to identify any omissions in medical fee calculation or fraudulent claims can prevent future risks.

Valuation of Equipment and Machinery
Dental clinics are an industry requiring continuous, high-value capital investment in equipment such as X-ray machines, dental units, and sterilizers. The fair market valuation of this equipment significantly impacts the calculation of the transfer price in M&A. An appropriate valuation must be made considering transaction prices in the used market, remaining useful life, and maintenance status. The cost of updating aging equipment should also be considered as a post-acquisition risk.

Capital Gains Tax
In the succession of individual practices or the transfer of equity stakes in medical corporations, income tax (or corporate tax) is levied on the “capital gains” calculated by subtracting acquisition costs and transfer expenses from the transfer price. There is a risk of unexpectedly high taxes, especially if equity stakes are not valued appropriately. While tax relief measures such as the special provision for the replacement of specific business assets exist, their application requirements are strict, necessitating consultation with experts.

Transfer of Licenses and Notifications, and the Medical Fee System

To ensure successful M&A of dental clinics, not only the valuation of the business itself but also the transfer of “licenses and notifications” essential for business continuity and an understanding of the medical fee system are extremely important. Failure in these areas can even lead to the suspension of the clinic’s operations.

Transfer of Licenses and Notifications
The establishment and operation of dental clinics require a wide range of licenses and notifications, including the “Notification of Clinic Establishment” to the public health center, “Application for Designation as an Insured Medical Institution” to the regional bureau of health and welfare, and notifications related to X-ray equipment installation. When the form of practice changes, such as from an individual practice to a medical corporation, or from one medical corporation to another, new applications and designations are generally required. Whether the buyer (successor) can smoothly obtain these licenses and designations is a prerequisite for M&A. In particular, designation as an insured medical institution is essential for receiving medical fees, and failure to obtain it can significantly increase the likelihood of the M&A failing. Since the qualifications of the buyer and facility requirements are assessed, thorough prior verification is necessary. M&A contracts typically include these licenses and designations as a condition precedent (closing condition).

Understanding the Medical Fee System
The revenue of dental clinics is almost entirely derived from medical fees. These fees are based on the “Health Insurance Act” and “Medical Insurance System” set by the government and are subject to periodic revisions. When considering M&A, it is crucial to accurately understand the current medical fee structure and predict the impact of future revisions. For example, changes in insurance coverage or points for specific dental treatments (implants, orthodontics, etc.) or evaluations of advanced medical technologies can directly affect the clinic’s revenue structure. Buyers must thoroughly understand, through DD (due diligence), which medical fee items contribute to the clinic’s revenue and how revenue might fluctuate due to future medical fee revisions. Furthermore, verification of facility standards and eligibility for fee calculation must not be overlooked.

Relationship with Regional Healthcare Plans
In recent years, the promotion of regional healthcare plans has led to the functional differentiation and collaboration of medical institutions. Dental clinic M&A may also be subject to scrutiny regarding its role and function within these regional healthcare plans. For instance, if a particular region is deemed to have an oversupply of dental care provision, it may become more difficult to establish new clinics or expand businesses through M&A. When considering succession, understanding the healthcare provision system in the relevant region and future trends in regional healthcare plans, and considering the impact of M&A on regional healthcare, will lead to long-term success.

Importance of Due Diligence (DD) in M&A

In dental clinic M&A, due diligence (DD) is an extremely important process for the buyer to accurately grasp the target clinic’s value and risks. Neglecting DD can lead to the discovery of unexpected problems after the M&A, potentially resulting in significant losses. DD conducted by experts familiar with the unique issues of healthcare institutions is particularly essential.

Financial DD
Financial DD involves a thorough review of the target clinic’s financial statements (income statement, balance sheet, cash flow statement) for the past several years to analyze profitability, financial stability, and cash flow. In particular, it involves detailed verification of medical fee billing and collection status, the presence and terms of loans, and the valuation of fixed assets (equipment, land, buildings). The objective is to identify any abnormal profit/loss fluctuations or hidden off-balance-sheet liabilities (past unpaid expenses, litigation risks, etc.).

Legal DD
Legal DD investigates the legal rights and obligations related to the target clinic. Specifically, it verifies the validity of clinic establishment permits, designations as insured medical institutions, various notifications, the terms of lease agreements, employment contracts with staff, history of administrative actions, and the presence of lawsuits or disputes. Verification of whether licenses are properly obtained and maintained, and whether a compliance system is in place, is particularly crucial in healthcare institution M&A.

Tax DD
Tax DD verifies the appropriateness of tax filings and the absence of tax risks. It involves a detailed examination of past tax audit history, unpaid corporate taxes, and the reasonableness of deferred tax assets. It particularly focuses on investigating tax risks related to the valuation of equity stakes in medical corporations with equity stakes and the handling of funds. A preliminary simulation of post-M&A tax implications (capital gains tax, consumption tax, etc.) is also conducted.

Medical DD
This DD is specific to healthcare institution M&A and evaluates treatment content, medical fee calculation status, compliance with facility standards, maintenance and management of medical equipment, patient information management systems, infection control, and medical accident prevention systems from a professional perspective. It assesses whether there are any omissions or inappropriate calculations in medical fee claims and the potential impact of future medical fee revisions. The quality of the clinic’s medical services and its reputation may also be considered.

By conducting these DDs in collaboration with experts (M&A advisors, CPAs, tax accountants, lawyers, medical consultants, etc.), buyers can accurately grasp the true value and potential risks of the target clinic, enabling them to proceed with the M&A on more favorable terms.

Main Check Items for Due Diligence (DD)

DD Type	Main Investigation Content	Specific Checks for Healthcare Institutions
Financial DD	Profitability, cost structure, assets/liabilities, cash flow, loans	Medical fee collection rates, accounts receivable, inventory management of pharmaceuticals/materials
Legal DD	Licenses, contractual relationships, lawsuits/disputes, compliance	Validity of establishment notification, insured medical institution designation, various notifications, personal information protection system
Tax DD	Appropriateness of tax filings, tax risks, past tax audits	Equity stake valuation, handling of funds, consumption tax, withholding tax
Medical DD	Treatment content, medical equipment, facility standards, medical safety, quality	Appropriateness of medical fee calculation, compliance with facility standards, medical accident prevention system, infection control

Importance of Successor Training and Matching

While M&A is undoubtedly an effective means for dental clinic business succession, if the goal of succession is “business continuity and development,” then successor training and appropriate matching are extremely important. Especially for dental clinics rooted in their communities, it is required not only to transfer equipment and patients but also to pass on the clinic’s medical philosophy and patient trust relationships to the next generation.

Internal vs. External Succession
Methods for finding a successor can be broadly divided into “internal succession” and “external succession.” Internal succession involves selecting and training a successor from among the clinic’s employed doctors or staff. In this case, management rights are gradually transferred through measures such as transferring equity stakes to a non-family employed doctor, handing over the role of representative director, and supporting the transition to a medical corporation. External succession involves transferring the clinic to an outside medical corporation or an individual dentist, which is the typical form of M&A. Regardless of the method chosen, the successor candidate’s qualifications, management ability, and ability to share the clinic’s philosophy are crucial for successful succession.

Key Points for Successor Training
Successor training requires time and cost. It is effective to provide opportunities for the clinic director to acquire knowledge in management, finance, and law, or to have them gain experience in planning and executing management strategies with the support of external experts (M&A advisors, tax accountants, consultants, etc.). Furthermore, communication skills with patients and local residents, and leadership to unite and motivate staff, are indispensable qualities for a successor.

Difficulties in Matching and the Role of Experts
Finding a suitable successor candidate is not easy. Especially in finding candidates that match desired conditions (location, scale, treatment scope, transfer price, etc.), extensive networks and information gathering capabilities are necessary. This is where the role of experts such as M&A intermediaries and M&A advisors becomes important. They provide access to non-public deal information, coordinate the desired conditions of both buyers and sellers, and facilitate smooth negotiations. Moreover, experts specializing in healthcare institution M&A possess extensive knowledge of medical corporation operations and licensing, providing smoother matching and succession process support.

Employee Employment and Motivation Maintenance
Business succession significantly impacts not only the management but also the employees (dental hygienists, dental assistants, reception staff, etc.) working there. It is desirable for the buyer (successor) to continue employing the staff and maintain their previous working conditions as much as possible. Alleviating employee concerns and maintaining their motivation are essential for the smooth continuity of the clinic’s operations. Discussing employee explanations and employment conditions from the early stages of M&A can prevent post-succession troubles.

Conclusion: Proceeding with Dental Clinic Business Succession with Experts

Due to its specialized nature, dental clinic business succession involves many unique issues and complex procedures. Numerous challenges must be overcome, including the valuation of equity stakes, refund of funds, transfer of licenses, compliance with the medical fee system, and the clinic’s role in regional healthcare. Proceeding with these challenges based on simplistic generalities or self-judgment can increase future risks. Leveraging the knowledge and experience of experts (M&A advisors, tax accountants, lawyers, etc.) and carefully examining each issue from an objective perspective will pave the way to success. At M&A Medical, experts well-versed in M&A and business succession for healthcare institutions offer comprehensive support, from proposing the optimal M&A strategy tailored to your clinic’s situation to its execution. Please begin by discussing your clinic’s challenges during a free consultation.